Obama's victory spells bad news for Apple, Macmillan and Pearson

Historically, Republican administrations have been far less aggressive in prosecuting antitrust cases than Democratic ones. Had Mitt Romney won last night, it's likely that the eBook price-fixing case against Apple, Macmillan and Pearson would have been settled on terms far more favorable to the companies, or would have been dropped altogether. That may have been one reason why the three companies refused to settle with the U.S. Justice Department--they thought that they could get far better terms by waiting a few months for a Romney administration. However, with President Obama's reelection, the Justice Department will continue to pursue its case, and will almost certainly make settlement on the same or similar terms as Hachette, HarperCollins and Simon & Schuster a condition for approval of the Penguin-Random House merger. All of this makes a settlement by Macmillan much more likely. At that point, Apple won't matter, because all of the Big 6 will be prohibited from accepting Apple's terms.

Penguin Random House: The Aftermath

Earlier this week, Pearson and Bertelsmann confirmed that they intend to merge Penguin and all of Random House except for its German-language business into a new joint venture, to be named Penguin Random House. (No Random Penguin or Penguin House for us.) Shortly before the deal was announced, word leaked out that News Corp. was considering making an offer to acquire Penguin, but the terms of the Pearson-Bertelsmann deal mean that Pearson can't consider any other offer.

I believe that, three to five years from now, the publishing industry will look much like the recording industry does today, with the Big 6 becoming the Big 3. In fact, it was Bertelsmann's experience in its joint venture with Sony Music that's said by some to be the reason that the company insisted on having a majority interest in its joint venture with Pearson. Its joint venture with Sony was 50:50, and differences in objectives and strategies between the two companies eventually led Bertelsmann to sell its recorded music business to Sony.

If the publishing industry looks like the recording business in a few years, here's a preview of the likely winners and losers:

• Publisher employees: The biggest reason for publisher consolidation is cost reduction. Penguin and Random House, and other consolidating publishers after them, will get rid of redundant distribution facilities and most of the people who work in them. In addition, they'll consolidate cross-imprint functions, such as sales, marketing, copy editing, production and design. That will put a lot of talented professionals on the street, and with fewer big publishers, there will be fewer places for them to look for work.
• Authors: Despite what Penguin and Random House have said, it's inevitable that they, and other consolidating publishers, will reorganize their imprints. Some imprints will be discontinued, and their authors will be moved to other imprints or dropped. The same thing will happen to the editors at the imprints--many will be laid off.
  
  Author acquisition will be dramatically affected. The Big 3 recording companies have all but discontinued their formal A&R (Artists & Repertoire) operations that sent people into the boondocks in order to find new artists. Their equivalents in publishing are acquisitions editors, and many of them will find themselves without jobs. The big publishers will increasingly focus on successful self-publishers as their "farm teams", and will pay big money to poach bestselling authors from each other. For their part, bestselling authors will have less loyalty to publishers, because many of their editors will be gone.
• Retailers: Some industry pundits have speculated that consolidation of the top publishers would give them more clout with retailers such as Amazon and Barnes & Noble. If the recording business is any indicator, they're wrong. Just as with books, the music retailing business consolidated, and highly influential retailers such as Tower Records, Musicland, Wherehouse and Virgin Music are gone (Virgin has closed its U.S. stores but still operates in other countries.) Music retailing in the U.S. is dominated by Apple, and the consolidation of the Big 6 recording companies into the Big 3 has given the surviving record companies little or no additional leverage with Apple or Walmart.
  
  It's unlikely that mergers between the Big 6 publishers will give them any more negotiating power with Amazon, Apple, Barnes & Noble or Kobo. The publishers will continue to depend on the retailers for the vast majority of their revenue, and the U.S. Justice Department will be watching over their shoulders in order to prevent more shenanigans like organized price-fixing.
• Independent Publishers: Independents will actually be helped by publisher consolidation, for several reasons. First, many talented publishing professionals who ordinarily wouldn't have considered working for smaller publishers, or working as freelancers, will become available to independents. Second, some of those professionals will set up their own independent publishing companies. Third, the authors that are shed from the rosters of the consolidating publishers will become available to the independents. Fourth, authors who might have been discovered and developed by the top publishers will instead go to independents. Fifth, with fewer titles coming from the big publishers, retailers will have more shelf space (real or virtual) to devote to independents.
• Self-Publishers: The big publishers will increasingly recruit successful self-publishers to fill their rosters and compensate for the loss of acquisitions editors. The success of the 50 Shades trilogy has eliminated any remaining stigma from self-publishing authors. Big publishers now know that success as a self-publisher is a very strong indicator of marketability--and it eliminates the cost of spending years to develop a promising author.
• Agents: Consolidation of the Big 6 will spell problems for literary agents. They'll have fewer authors on the rosters of the top publishers, and thus, fewer opportunities to earn commissions from big advances and royalty payments. They'll have to devote more of their time to independent publishers, which generally pay lower advances and generate lower royalties for their clients. And, they'll have to compete with other agents to represent successful self-publishers, meaning that they'll have to accept lower commissions.
• Consultants: Publishing consultants who have spent their entire careers in the publishing industry are going to find it hard to adjust to publisher consolidation. Consultants with contracts with two publishers that consolidate into one will have one of their two contracts cancelled, and the surviving contract will be closely scrutinized. (I saw this happen first-hand as the IPTV industry went through massive consolidation starting in 2008.) Publishing consultants will have to shift their focus to independent publishers, which have much smaller budgets than the Big 6.

In short, independent publishers are about the only group that will be a clear winner from publisher consolidation, followed by successful self-publishers. Everyone else will end up either neutral or a loser as a result of consolidation. 

Kno moves into K-12 market: Expansion or act of desperation?

AllThingsD reports that Kno, a college eTextbook rental company, has struck a deal with Houghton Mifflin Harcourt to distribute its eTextbooks to the K-12 market. The titles will be rented for a one-year period for $9.99 or less, and will work on iPads and the web. Kno plans to release eReaders for Android and Microsoft Windows 7 (and presumably 8) later this year. The company is negotiating with McGraw-Hill and Pearson to distribute their K-12 eTextbooks.

The obvious hole in this strategy is that most K-12 schools directly supply textbooks to students (either at no cost or in exchange for a small activity fee,) so convincing parents to rent eTextbooks, and school districts to switch to renting eTextbooks instead of buying print, is going to take a lot of work. In addition, moving into the K-12 market indicates some desperation on Kno's part. It suggests that Kno isn't meeting its sales objectives, and needs to find new sources of revenue.

Update, August 8, 2012: Kno has launched its K-12 eTextbook rental program on its website. The biggest reason why parents should rent eTextbooks when they get them for free from their school is...wait for it...print textbooks are too heavy! Why, did you know that carrying a 12-pound backpack during a school year puts a cumulative load of over 20,000 pounds on your child's body--the equivalent of six mid-sized cars? And, given the epidemic of obese children and Type 2 diabetes starting in childhood, along with cutbacks in physical education programs, there's absolutely no reason for children to get exercise. Let's protect their delicate backs.

Print textbooks are too heavy? Seriously? 

Pearson acquires Author Solutions for $116 million

Pearson reports that it has acquired self-publishing company Author Solutions, based in Bloomington, IN, for $116 million in cash. Author Solutions was owned by California-based Bertram Capital. Its back office and technology operations will be taken over by Penguin, but the company will be run as an independent business within Penguin.

Author Solutions has published more than 190,000 print and eBooks for 150,000 authors. Its 2011 revenues were approximately $100 million, split across publishing, marketing and distribution services. The company has approximately 1,600 employees, located primarily in Bloomington and Cebu City, in the Philippines, with a small office in Indianapolis. Penguin will expense the costs of integrating Author Solutions in 2012 and expects the acquisition to be accretive to earnings in 2013.

This is obviously a way for Penguin to profit from the growth in self-publishing, as well as an opportunity to use Author Solutions as a "farm club" for identifying new authors for Penguin's imprints.

David vs. Goliath? How about Goliath vs. Goliath?

In the U.S. Federal, state, and private eBook price-fixing lawsuits against Apple and five of the Big 6 publishers, some observers have equated the battle to David vs. Goliath. The defendants are David and Goliath is Amazon, which, they argue, would have monopolized eBooks and wiped out the publishers if they hadn't imposed agency pricing. The problem with both the analogy and the rationalization is that most of the Davids are actually Goliaths. Here's a rundown:

• Apple: Until recently, it was the most valuable company in the world, with $100 billion of cash and equivalents on its balance sheet and profit margins that Amazon, and the other defendants, would kill for. 2011 revenues: $108.25 billion.
• Hachette: The second-largest publisher in the world, and a division of Lagardère Group, which owns magazines including ELLE and Paris Match, a variety of television broadcasters in Europe, a network of duty-free shops, and 7.5% of EADS, which is the parent company of Airbus. Parent company 2011 revenues: $10.02 billion.
• HarperCollins: A division of News Corporation, which owns Fox, The Wall Street Journal (which has been one of the most vocal critics of the Justice Department's lawsuit,) the New York Post, a bunch of newspapers in the U.K. (which are embroiled in an ever-widening phone hacking scandal,) newspapers and broadcasters in Australia, 39.1% of British Sky Broadcasting, and a lot more. Parent company 2011 revenues: $33.4 billion.
• Macmillan: A division of Georg von Holtzbrinck Publishing Group, owner of Macmillan Education, Nature, Scientific American, several German publishers and the newspaper Die Zeit. Privately held; parent company 2010 revenues: $2.98 billion.
• Penguin: A division of Pearson PLC, the world's largest education and trade book publisher; owns Pearson Education, the Financial Times and 50% of The Economist. Parent company 2011 revenues: $9.45 billion.
• Simon & Schuster: A division of CBS Corporation, which owns the CBS television network, multiple television and radio stations in the U.S., Showtime, CBS Television Distribution (which used to syndicate Oprah and still syndicates Dr. Phil and other shows,) and CBS Interactive (which owns CNET among other Internet properties.) Parent company 2011 revenues: $14.2 billion.

Amazon is certainly no slouch; its 2011 revenues were $48 billion. However, that compares to total revenues of the defendants of $178.3 billion. Even if you leave Apple out of the comparison, the parents of the five publishers had revenues of $70 billion. You can argue that publishing is only a small portion of the revenues of some of the parent companies, but books only represent a small portion of Amazon's revenues as well. In 2011, Amazon's media sales, which include books. music and video, were $6.01 billion--12.5% of the company's total revenues.

In short, the conflicts between the five publishers and Amazon aren't David vs. Goliath--they're actually Goliath vs. Goliath. When Apple is added into the mix, it's Amazon that could justifiably be called David.

Apple's eTextbook announcements: Far from a slam dunk

This morning, Apple announced:

• A new version of iBooks that supports eTextbooks.
• Distribution agreements with five textbook publishers (Pearson, McGraw-Hill, Houghton Mifflin Harcourt, DK and the E.O. Wilson foundation) covering 90% of the high school market.
• eTextbooks priced at $14.99 (U.S.) or less.
• A free eTextbook editing application for OS X called iBooks Author.
• A revamped version of iTunes U for higher education, with a dedicated iOS app.

Apple's announcements could be very important, but the company has a long way to go, for several reasons:

• Apple's focusing on the high school market, not colleges and universities, and it's trying to convince parents and students to purchase eTextbooks directly from Apple. In most U.S. schools and districts, students get their textbooks from the school, either at no charge or as part of an activities fee. Why would parents who don't have to pay for textbooks now or get them automatically start paying for them? Thus, Apple's plan only impacts those parents and students who have to pay for their textbooks now.
• Parents also have to be willing to buy an iPad for their child. That cuts out low-income and many middle-income families.
• There are currently only eight titles in Apple's eTextbook collection--not even enough to be called a good start.
• Although iBooks Author creates eBooks that are based on EPUB 2.0, it uses Apple's proprietary extensions for supporting multimedia, animation and JavaScript-based new features. Thus, titles created with iBooks Author can only be used in iBooks. (This might change in the future, when Apple fully implements EPUB 3 in both iBooks and iBooks Author.)
• If you use iBooks Author and create eBooks that you intend to sell, according to the EULA for the software, you are prohibited from selling the eBooks anywhere except through Apple.

Apple's decision to focus on high school textbooks before going after the college market is questionable: College students pay far more for textbooks than do high schoolers, and parents are far more likely to purchase a tablet for a new college student than for a high school student. However, that's not the most important reason why I believe that Apple will have an uphill battle. When Apple launched the iBookstore initially, with the support of five of the "Big 6" trade publishers and the agency pricing model to eliminate Amazon's price advantage, it looked as though Apple would eventually become as dominant in eBooks as it already was in music. The results, however, have been far from what Apple and its boosters expected.

Even today, Apple has a minuscule share of the U.S. eBook market, far below those of Amazon and Barnes & Noble. Apple's eBooks can only be used on Apple's devices, while Amazon's and Barnes & Noble's eBooks can be be used on those companies' popular eReaders and tablets, as well as with software eReaders on PCs, tablets and smartphones. Amazon in particular has set up an effective self-publishing program for authors, while Apple is just taking the first tentative steps today.

In short, Apple's new eTextbook initiative could make a big difference eventually, but it's far from a slam dunk.