Judge Cote

The totality of the relationship is what matters


Like a marriage, relationships between people and companies are seldom made or broken on the back of one transaction or one kind of transaction. They are bigger and more complicated than that. That point was driven home in my house over the weekend by the dustup between Time Warner Cable and CBS, which resulted in both our local Channel 2 and Showtime being removed from our service. That meant that Martha couldn’t see the last episode of “Dexter”, a show she has loyally followed for years.

Although, as of this morning, it is still not clear to us whether CBS pulled their programming as a negotiating ploy or whether Time Warner booted it to strengthen their own hand, it seems evident that the broadcast networks want to move to pay-channel remuneration from the cable systems that use them, among other programming, to get us to use their services and pay their bills. (In our case, that’s north of $300 a month for TV, internet, and telephone service.) Pulling just one brick out of that wall — the CBS-owned programming — has us immediately questioning the whole bundle.

We say we’re confused about this because TW customer service, and some news reports, said that CBS pulled the programming. But the Times contradicts that.

“Indeed, timing seems to be the dominant factor driving the dispute. CBS has continued to insist that it would make its programs available to the cable company throughout the negotiations and that the cable company acted now to remove them from its service because Time Warner Cable would lose leverage as the football season got closer — a point the cable executives do not dispute. They acknowledge they need to push the issue now.”

I remember that when we had RCN — an alternative provider — one “price” we paid was that we didn’t get Channel One, a NY news channel. We didn’t switch to Time Warner for that reason (I can’t remember what the motivation was; probably a price offer at the time) but we weren’t losing popular series or can’t-miss sports like Tiger Woods’s golf victory yesterday or the NFL games coming on CBS.

My reaction was anti-Time Warner immediately, and to start investigating alternatives. But since some accounts suggested that CBS had pulled the programming to gain the edge in negotiating, Martha reserved a large part of her annoyance for them. If they can pull programming she’s been following closely for years in this way, she reasoned, then she can’t trust them not to do it again. Her solution is to reconsider becoming loyal to any CBS (or Showtime) series in the future. She says she will immediately stop watching “Ray Donovan” for that reason.

But I think it is easier for her to find substitute dramatic series than it is for me to find a substitute for NFL football. Both of us are annoyed at the moment, but how we respond depends on the totality of our relationship with CBS. CBS is apparently counting on us to punish Time Warner, reasoning that TW is producing a large-scale relationship on the back of their programming.

Publishers will want to watch how this plays out. CBS really has a small fraction of the total possible programming, comparable to the sliver a large-ish but not supersized publisher might have. The new Penguin Random House combination, on the other hand, has about half the most commercial book titles in the marketplace. How will anybody run a functioning bookstore without those titles? (In fact, Amazon backed down from its own mini-boycott of Macmillan in 2010 because it would have upset the totality of their relationship with their customers.)

This “totality of the relationship” point is going to become more important to us, but it is not new. In 2010, when five of the Big Six publishers had gone to Agency pricing — reducing their revenue-per-ebook-sold in a vain attempt to re-engineer the ebook marketplace into one  in which publishers controlled the selling price — a sales executive at one of them was querulous about B&N’s apparently unwillingness to “punish” Random House for continuing wholesale terms. “We largely did this for B&N,” was the executive’s complaint. He really couldn’t understand why B&N was, effectively, letting Random House “get away” with staying out, effectively gaming the change to its own advantage.

Of course, the fact that B&N lived with Random House’s ebook selling policy was not because they weren’t unhappy with it. It was because so much else in their relationship worked so well. With Random House having invested in systems that enabled them to provide vendor-managed inventory, they were probably B&N’s most profitable trading partner. B&N wasn’t going to cut off its nose to spite its face. On the whole, they did well in the Random House relationship, even if a high-profile component of it wasn’t to their liking.

The same principle applied, in different ways, when Apple started to enforce its requirement that in-app sales pay a 30% “toll” to Apple. Since that requirement would have effectively made profitable ebook sales impossible, the other ebook vendors — Kindle, Nook, Kobo, and others — complied by taking the direct link to their stores out of their apps. So, from that day (until now), you can only buy ebooks for iOS devices directly from the app if you’re buying from iBookstore. That’s annoying, and it certainly has had the effect of increasing sales at the iBookstore at the expense of their competitors for readers using iPads or iPhones to read books. (iBookstore share has reportedly jumped since then. Of course, they also have added Random House titles, which they didn’t have at the beginning and which certainly diminished the totality of their customer relationship until they did.)

But many iOS-device customers who are satisfied with the totality of their experience with Kindle or Nook or Kobo continue to shop with them, even if it is less convenient. And Apple has apparently decided satisfaction with the total iOS experience might be too badly damaged if they took the step of prohibiting the apps for other platforms entirely.

One senior executive from a big publisher was recently expressing frustration at what it took to set up a functioning direct relationship with consumers, opining that publishers couldn’t sell ebooks profitably one-at-a-time. Only a subscription model of some kind could work. That’s likely to be true, but underscores again that there needs to be a relationship larger than individual transactions to enable individual transactions.

Amazon has operated on this principle for a long time; it is the core of the logic behind Amazon Prime, which entices a customer to stay loyal with a variety of incentives, the most obvious of which is “free” shipping.

And that brings me to a point worth considering in today’s news about the evolving ebook marketplace. The Department of Justice has asked for changes that are intended to be punitive to Apple. Certainly the suggestion that Apple be forced to allow in-app sales without compensation would be. It is likely that iBookstore sales will suffer almost immediately if they are no longer the only ebook vendor on iOS devices with a link straight to the store from within the app.

But with the DoJ’s desire to totally liberate the book marketplace from price controls, they could also be setting up the whole incumbent ebook business, including Amazon and the others as well as Apple, for an entirely new kind of competition based on total relationships that aren’t being contemplated.

(Caution: this coming bit of future-think will only work effectively for ebooks in a DRM-free environment. My own hunch is that DRM-free is coming before long for unagented and midlist books, particularly those of an instructional nature. It should be noted that F+W Media, one of the largest active “books to use rather than read” publishers, already sells DRM-free.)

Let’s say you’re a seller of home improvement tools, fixtures, and services, like Home Depot or Lowe’s. Wouldn’t you like to have all the searching for books on those subjects taking place on your site, so you knew who was looking for new bathroom fixtures and who was looking for robin’s egg blue paint? What if you made your site a destination for that kind of searching by offering no-margin pricing on all books in that category, combined with enhanced metadata for those titles in the subject area(s) that matter to them? (Metadata enhancements will come from the knowledge of the specialists at a vertical retailer who think about what is in a book differently than a book publisher or retailer would.) How about if you sweetened the pot further by offering customers a credit on their purchase of a sink or a can of paint based on their book and ebook purchases?

Or let’s say you’re a law firm that specializes in bankruptcies and divorces. You could do the same thing, perhaps enhanced with your lawyers’ (and their clients’) highly relevant commentary on whether one book or another was particularly useful in a real-life circumstance.

On the hard-copy side, these vendors can set themselves up with Ingram or Baker & Taylor to fulfill print as well. But since margin-free transactions are baked into the strategy, whether or not they make the sale wouldn’t be the central concern. They want the interested traffic and the information that come from the searches. That’s the payoff.

(At the moment, there is a below-cost selling war on print taking place between Overstock.com and Amazon.com, sparked by Overstock.com’s announcement that they’d sell at 10 percent below Amazon’s prices. This is an attention-grabbing device for Overstock.com, not a sustainable strategy, and Amazon is demonstrating that by driving many books into a downward pricing spiral in response. The most damaged parties will be BN.com, and all the bookstores. Overstock will gain some share, but mostly at the expense of those who don’t have the breadth of total experience being provided by Amazon, which will be everybody else that sells books. Amazon will just use the challenge as an opportunity to demonstrate again that they won’t be undersold.)

Whatever you sell, the books on the subject are of interest to the customers for your goods. If the ebook marketplace is further court-mandated into unprofitability, it is probably just a matter of time before books which are used rather than read will become part of the “totality of the relationship” with a vendor who doesn’t sell books for a living. They’ll be the ones who can benefit from being the front end.

And that is a sustainable reason that selling books for a living is going to continue getting harder to do.

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Hats off to Amazon


When the story of how Amazon came to dominate the consumer book business is written ten years from now, there will need to be a chapter entitled “September 6, 2012″.

Of course, that was the day that Judge Cote approved the settlement agreed to by HarperCollins, Hachette, and Simon & Schuster and began the process of undoing the publisher price-setting regime that was established by the agency model. This is actually designed to unleash broad and deep discounting in the ebook marketplace and I think we’ll see evidence very soon that it will succeed in that objective beyond anybody’s wildest dreams. (I have repeatedly expressed my concerns about what I think are inevitable consequences of that achievement.)

But that’s not all Amazon accomplished on September 6, 2012. It’s not nearly all. In fact, the only thing that wasn’t good for Amazon about the Judge’s announcement was that it stole a lot of the attention from what they can accomplish without the government’s help.

One day after scrappy competitor Kobo tried to upstage them by announcing their own updated suite of devices, Amazon did a combination of outperforming and underpricing the device competition from them, as well as from NOOK, Apple, and Google. Even the device innovation wasn’t what most impressed me. There were several other innovations that raise the bar substantially for everybody competing with the Kindle ecosystem.

1. Leveraging their ownership of Audible, the dominant player in downloadable audiobooks, Amazon has introduced a Whispersync feature that enables seamless switching between reading an ebook and listening to the audiobook version. One of my sisters-in-law, who is both a teacher of reading-challenged kids and an adjunct professor teaching others who do the same, had asked me a few months ago why nobody had done this. I asked around and was told “it is complicated.” Publishers can’t do it because they don’t control the delivery ecosystems. Other ebook retailers can’t do it because they don’t deliver audio.

Only Amazon could do it. Now they have.

1A. In addition to the use of Whispersync to allow seamless toggling between reading and listening, Kindle introduced a feature called “Immersion Reading” that allows you to read and listen at the same time.

Does everybody notice that this creates a real reason to buy both an audiobook and an ebook of the same title? Seems like that is something all authors and publishers can celebrate.

This specific innovation is particularly ironic if we remember some history. In the early days of the Kindle, Amazon wanted to put in a text-to-speech capability that would deliver an audiobook by automation of every ebook. Agents and publishers balked because of the obvious rights issues; audiobooks are a separate profit center for everybody and nobody with a commercial interest wanted to see that threatened, even though others thought that the automated delivery wouldn’t really satisfy an audiobook customer.

Nobody will have a problem with this solution, though. The consumer buys twice.

And, incidentally, somebody else can write a whole blog post on how this suite of capabilities can be used as an opportunity-creator in the college and school markets!

2. Leveraging their ownership of IMDb (the movie and TV database), Amazon is enhancing the experience of watching video by making information about the film and its personnel available at a click. Last month bloggers were explaining that Google bought Frommer’s from Wiley because they wanted to turn content into metadata. Now Amazon is clearly demonstrating exactly why that’s useful and important.

3. Leveraging their publishing capabilities and their role as the only retailer with an audience large enough to deliver a critical mass of readers all by itself, they are introducing serialization by subscription with Kindle Serials. The initial foray is modest: a selection of eight very low-priced serial novels delivered in chunks of at least 10,000 words. But this “tests” the model of getting people to buy something up front knowing in advance that it will come in stages.

(When I explored the viability of subscription models for ebooks, I speculated that the only one that could really pull it off for general reading would be Amazon. Consider the camel’s nose to have now officially penetrated the tent.)

On one hand, this recalls the success of the self-published novellas-cum-novel called “Wool” by Hugh Howey. But it also could be the foundation for something like Dominique Raccah’s “agile publishing” model, which is an active experiment now at her company, Sourcebooks, with author David Houle. Amazon would have the great advantage of a much larger audience to “invite” into an experiment of that kind and, when you are doing something dependent on participation for success, having more people to appeal to at the outset is a huge advantage.

4. Amazon is subsidizing all their devices with ads served as screen savers. They were initially planning to change the previous practice of offering higher pricing that enabled consumers to avoid the advertisements. Their first announcement was that Amazon had gone all in with all their devices coming with advertising and without a “pay more” option to avoid it. Although the initial reaction to this apparently forced a change, and they’re now offering the Kindle Fire without ads for $15 more, this still opens up a series of other thoughts and questions.

How can anybody compete on device pricing with a competitor that not only has the most direct contact with buying-and-paying customers but which is also bringing in ad dollars to subsidize a cheaper retail price?

Does this mean that Amazon “knows” that by far most consumers elected to save the money and don’t care about the ads?

Are they building a priceless communication network to promote content and to charge content creators for the next generation equivalent of store windows and front tables?

I thought Google was the champion of advertising. Why didn’t they figure this out first for the Nexus 7?

5. Amazon’s X-Ray feature, which basically collects core metadata (characters, scenes) from books and movies, is a building block to ultimately deliver summaries and outlines that could be an exciting additional unique capability of the platform. It could perhaps even be a start on generating automation-assisted “Cliffs Notes”-type content that could ultimately command a separate purchase fee.

6. Amazon has built a parental control capability into their Kindle ecosystem called FreeTime so that kids can use the device and even obtain content but only in approved ways. There are fledgling initiatives like Storia from Scholastic and the longstanding PBS brand Reading Rainbow for which one of the core propositions is creating a reading environment for kids with adult controls. These kid-centric platforms are obviously designed to present environments that parents and teachers will find superior to what they use themselves for the purpose of enabling kids’ reading. They suddenly have some serious competition from the most popular platform already out there.

And Amazon has built in what is perhaps a killer app that the others probably can’t even contemplate: they can apparently control the amount of time a kid can spend doing various activities on the device, so parents can mandate a ratio of reading time to movie time to game-playing time. I’m sure more than a few parents will say “wow!” to that.

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Judge Cote’s decision is also very good news for Amazon, and it was what reporters called to talk about on the day of the press conference that announced all of the above. Michael Cader’s very thorough analysis (on which I have written a few more words below) spells out what we don’t yet know about the speed and complexity of implementation, starting with whether an appeal will be heard and whether implementation will be delayed pending that appeal.

But it would seem that the chances are good that many of the controls that prevented Amazon from discounting high-profile books for the past 18 months will come off a month, or maybe two months, before Christmas.

I think that Amazon will discount aggressively. Their “brand” is, among other things, very much about “low prices for the consumer”. And they have always used price as a tool to build market share. Expect them to lead the way.

The price-setting won’t be done by humans; it will be done by bots and algorithms, responding to what is happening in the marketplace among their competitors every day. Amazon is very good at this; they’ve been doing it for years. Presumably, BN.com has a similar set of skills and tools. Presumably everybody except Apple had to price at least their wholesale-purchased books competitively.

Apple was protected by the MFNs that remain in place for all but the settling publishers. But without that protection, how will Apple compete? They’ve never had to do competitive pricing of commodity products before. I will be very impressed if Apple can get through the price fights about to take place without an obvious black eye. They haven’t been training for this.

Overall, this should mean another surge of growth in the ebook market, which had seen a serious dropoff in its growth rate over the past year. We won’t be seeing ebooks doubling share annually again, but we’re about to see digital priced aggressively in ways that will make any regular consumer of print wonder whether they should consider making the shift that so many heavy readers have already made.

When the settlement is implemented, the three settling publishers will have their book prices cut by retailers, whatever they decide about setting list prices and however they negotiate the next round of commercial terms. But the three publishers still permitted to use agency pricing — Random House and the continuing litigants Macmillan and Penguin — will probably find that they are forced to lower the prices they set to keep their big books competitive. At least that would be my expectation. It will be beyond interesting to see how this plays out over the next few months.

Pardon a plug here for my Publishers Launch Conferences partner, Michael Cader, and his skills as the indispensible reporter on the publishing scene. His four posts on Friday: on the Judge’s ruling, on what happens next as a result, on their new hardware, and on the various reading and consumption features that were the subject of most of this post, comprised — by far — the clearest and most thorough explanation of a staggering array of complex information. Of course, Michael is more than a reporter on the industry; he’s been a player in it for 25 years.

I really don’t understand how reporters who don’t have the benefit of that background can justify not reading him. (You hit a pay wall it takes $20 a month to scale if you are not a subscriber. Just about everybody making a living in trade publishing has no trouble with the value proposition.) They’d all certainly be doing their jobs better if they did.

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Letter to the DoJ about the collusion lawsuit and settlement


23 May 2012

John Read, Esq.
Chief, Litigation III Section
Antitrust Division
U.S. Department of Justice
450 5th Street, NW, Suite 4000
Washington, DC 20530

Dear Mr. Read,

I am submitting by way of this letter two concerns that I hope will be taken into account concerning the DoJ’s complaint against Apple and five publishers, as well as the settlement agreements negotiated and now being considered by the Court.

One concern is the danger of introducing an enormous imbalance to the publishing business, which will ultimately hurt all authors and readers, through the Government’s apparent rejection of the idea of uniform pricing of the sale of individual ebooks across all Internet retail sites.

The other pertains specifically to the settlement agreement, in particular the need for detailed consideration of how one of its central operative provisions will be enforced and executed, which I believe is not reflected in the documents filed so far.

I have read Judge Cote’s decision dated May 15, 2012, which was a powerful impetus to me to write this letter. I was deeply impressed with the evident care she took in reviewing the parties’ submissions. But I also feel that the decision was at least partly based on profoundly incorrect premises that I can only conclude arose out of a failure of the parties to convey important realities that are characteristic of the book publishing industry.

I do not pretend to have information on the alleged facts of collusion or any expertise on the law regarding collusion or antitrust. My expertise is in the book business, and particularly in how digital change affects it. I offer the thoughts set out below as a publishing consultant (and also as an author) with 50 years of experience in all aspects of the book business. My first real summer job was in a major bookstore in 1962. My father was in the industry before me. I have spent the last 20 years largely immersed in the industry’s transition to digital media, speaking at and organizing numerous conferences throughout that time on this subject. The primary focus of my work is to help the different players in the publishing industry figure out where today’s developments will lead us tomorrow. I hope the DoJ and the Court will value these thoughts as coming from somebody who has given them in-depth consideration for many years.

My first concern is that there is a failure of recognition of the necessity for price-setting of individual titles across the ebook supply chain. Indeed, only by eliminating price as a basis of competition can we ultimately have balanced competition in the real world of publishing as digital change has remade it.

And, in fact, that reality has been demonstrated by the shifts in market share that have taken place since agency pricing was introduced. There is a far more diverse ebook ecosystem now, offering far more purchasing choices for consumers, than there was before agency. And there has been innovation, specifically Barnes & Noble’s introduction of Nook devices that have delivered previously unavailable features, that also would have been less likely without agency pricing.

Before ebooks, retail booksellers needed publishers to provide them with product to sell, and publishers needed booksellers to give publishers orderly access to the buying public. That was true when Amazon began as a print book retailer in 1995. At the time it began, the only way to be a successful book retailer online was to supply titles across all publishers. When the idea of purchasing books online was new and the number of people to whom it was available was far smaller than it is today, only a source with the full range of choice could attract a substantial customer base.

In the years before ebooks became commercially important, Amazon established a dominant position in the online retailing of books, and in doing so it also created a huge database of book-purchasing customers. This helped Amazon considerably to become the most influential force in jump-starting the ebook revolution, starting with the introduction of the Kindle in November, 2007. It was well documented to the Court how Amazon used loss-leader discounting of ebooks as an important tool to build that marketplace. The Court is also clearly aware that Amazon is able to support this discounting because of resources stemming from its considerable size and diversity that none of its competitors can match.

But the imbalance I want to call to the court’s attention is not about the fact that Amazon sells many things besides books and most of its competitors in the book marketplace do not.

As more and more sales have shifted online and the physical store business has become correspondingly less important, publishers have come to understand that they must develop and maintain direct customer contact with readers. In the print and bookstore era before Facebook and Twitter, this was not necessary, nor was it really possible. Suddenly, it is essential.

Indeed, it is precisely that direct customer contact, developed over 17 years as a retailer, that Amazon uses as a primary tool in its individual title marketing. Indeed, as you know, Amazon is now itself a publisher, using direct customer contacts to sell its own titles to consumers. In fact, Amazon’s customer database from its retail business (which goes beyond merely its book purchasers, since it sells almost everything) and the communication network it enables are extremely powerful. Using it as their core marketing tool, Amazon is succeeding at signing authors away from major houses even though it can’t deliver sales to physical stores, which have largely said they won’t stock books coming from their online competitor.

And therein lies the imbalance. The publisher of the future must be able to sell direct. With Amazon as their single biggest wholesale customer, that puts publishers in a Catch-22. If they sell direct at full price, Amazon will undercut them and make them look foolish to their customers. But if publishers discount, they invite a double-whammy. Amazon can still out-discount them, but Amazon (and other retailers) might also insist that the wholesale prices at which Amazon purchases from publishers, which are based on discounts-from-retail, be based on the price the publisher is actually selling for.

So, without a publisher-set price that is honored by everybody, including the publisher, Amazon will effectively be the only general publisher that can sell direct. This will materially disadvantage all publishers in competing with Amazon for authors, and the handicap will become increasingly severe as the sales continue to shift, as they will, away from physical stores and to online purchasing.

In a nutshell, without uniform retail pricing, Amazon can effectively disintermediate the publishers, but the publishers can’t effectively disintermediate Amazon.

My second concern relates to the terms of the proposed settlement with three publishers which the Court is being asked to approve. In apparent partial recognition of the dangers of discounting by retailers, particularly the deep-pocketed Amazon, the settlement limits a store’s discounting to the total amount of margin it earns from a publisher within a year. As I understand it, that means that if a store were to sell $10-million of a publisher’s books in a year, the store could not discount more than the $3 million margin (assuming a 30% agency “commission”) it would have earned across all the sales it made.

This isn’t bad as a principle, and perhaps some variation of it could even address the concern I express about enabling publishers to sell direct. However, translating the principle into action is complicated. It will require reliable data collection, forecasting, and some means of enforcement. I see none of those elements spelled out in the settlement agreement.

At a minimum, it would seem that ebook retailers would have to report actual sales prices of all relevant transactions to the publishers, or have them summarized in a clearly defined and agreed-upon way. This is not data that any retailer, to my knowledge, now shares with its trading partners although, of course, the publishers monitor prices for compliance with publisher-set agency prices.

But even with the data being provided, when one comes to the last period of the year it will require forecasting and close monitoring to keep track of where things stand in every instance where a retailer is anywhere close to its contractual limit with any publisher.

And, then, what is the penalty if a retailer exceeds its discounting allowance? And who gets compensated? The publisher? Other competing retailers? The other publishers whose sales were compromised by the excessive discounts given to a competitor’s ebooks?

In the extremely contentious environment that exists in our business at the moment, I submit that these matters need to be clearly defined in advance if there is any hope for this solution to lead to anything except more litigation.

I very much hope the Department of Justice and the Court will ensure that these points are taken into account before any further binding action is taken, which could have long-term and high disruptive impact on the publishing industry.

Thank you for your consideration.

Sincerely,

 

Mike Shatzkin
Founder & CEO

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