Passive Guy found an interesting article while reading the Connecticut Law Tribune over the weekend.
He knows many of his visitors have already read Little Connecticut’s Big Role In E-Book Case, but some of you thought, “I’ll skip the Connecticut Law Tribune this time because I know PG will read it and tell me if it contains anything interesting.”
As background, in addition to the antitrust suit filed by the Department of Justice regarding ebook price-fixing among Apple and the Agency Five and the class-action suit filed earlier on behalf of consumers against the same group, 16 states have also filed an antitrust suit against Apple and the Agency Five, alleging consumers in their states had to pay millions of dollars in additional costs because of ebook price-fixing.
Connecticut is one of the states involved in the suit and, evidently, may have been the first or one of the first to smell something wrong.
What triggered the interest of the Connecticut Antitrust Division? An article in The New Yorker on April 26, 2010, by Ken Auleta started the antitrust investigation that ended up with Apple and the Agency Five being sued by practically the whole world.
Here’s the story from the Connecticut Law Tribune:
“This one wasn’t something exotic like an inside source,” [Connecticut antitrust chief Cole] said. “Sometimes some of our best cases come from [articles in] the newspapers. We’re always scouring national newspapers and the Hartford Courant and sometimes trade rags” for signs of anti-competitive market manipulations.
Early 2010 was not a happy time for the U.S. book publishing industry. Its sales growth rate had been a mere 1.6 percent over the previous six years, with profit margins falling. Some publishers were hanging their hopes on the first new type of book since Gutenberg, the e-book reader, and technology-drenched tablets like the Apple iPad.
Cole’s reading at the time included an April 26, 2010 New Yorker article by investigative reporter Ken Auletta, “Publish or Perish — can the iPad topple the Kindle, and save the book business?” The article began with the Jan. 27, 2010 unveiling of the iPad in downtown San Francisco 90 days earlier.
Reporter Auletta practically drew a treasure map for the antitrust investigators. He quoted Apple CEO Steve Jobs demonstrating a $14.99 eBook purchase, and remarking that that the $9.99 standard Amazon price wouldn’t necessarily be around indefinitely. “Publishers may withhold their books from Amazon,” Jobs said. “They’re unhappy.”
It was an open secret that the CEO publishers regularly dined together — without their lawyers — at some of New York’s fanciest restaurants, and freely discussed what was on their minds. Not long after Auletta’s article appeared, according to the state and federal antitrust complaints filed last week, Apple and the five publishers changed their method of selling e-books to retailers. Originally, it had been a standard wholesale distribution, with the retailer setting the selling price. That had allowed Amazon to uniformly offer New York Times bestseller titles for $9.99 — even if it had to do so as a loss leader.
Under the new “agency” agreements which the publishers presented to Amazon and other retailers, the publisher would set the selling price and the retail selling “agent” would get a percentage commission of about 30 percent.
Cole explained how these developments unfolded. “The agency model in and of itself is not illegal,” he said. “But what really caught our eye was the fact that most of these publishers, especially of New York Times bestsellers, shifted [selling methods] pretty much at the exact same time. So that’s red flag number one.”
The regulators were trying to decide whether the contract changes were coincidence or a plan, and to Cole, it certainly looked coordinated. “Red flag number two was, boom, prices for NYT bestsellers on the Amazon web site, and elsewhere, shot up to $12.99 or $14.99.” As a percentage — 30 to 50 percent — “it is a lot of money,” said Cole.
. . . .
To start an antitrust investigation, the AG’s office by law needs to have a “reason to believe,” and these two red flags were plenty, Cole said. “We read that and said well, this could be a problem. Let’s dig in.”
. . . .
The Sherman Antitrust Act has been around since the 1890’s and came about because railroad barons sat in back rooms, smoking cigars and divvying up the market, he noted. “So what happened here? You had the key people from the big [publishing] companies. They weren’t in the back room smoking cigars; they were at the Picholine restaurant in New York City, in the wine cellar, doing the same thing,” said Cole. “To me it’s not a lot different between 1890s and 2010, other than the year. It’s the same conduct, but it’s not railroads and oil — it’s eBooks.”
Link to the rest at the Connecticut Law Tribune
Here are some excerpts from the New Yorker article that started the investigation:
On the morning of January 27th—an aeon ago, in tech time—Steve Jobs was to appear at the Yerba Buena Center for the Arts, in downtown San Francisco, to unveil Apple’s new device, the iPad. Although speculation about the device had been intense, few in the audience knew yet what it was called or exactly what it would do, and there was a feeling of expectation in the room worthy of the line outside the grotto at Lourdes. Hundreds of journalists and invited guests, including Al Gore, Yo-Yo Ma, and Robert Iger, the C.E.O. of Disney, milled around the theatre, waiting for Jobs to appear. The sound system had been playing a medley of Bob Dylan songs; it went quiet as the lights came up onstage and Jobs walked out, to the crowd’s applause.
In the weeks before, the book industry had been full of unaccustomed optimism; in some publishing circles, the device had been referred to as “the Jesus tablet.” The industry was desperate for a savior. Between 2002 and 2008, annual sales had grown just 1.6 per cent, and profit margins were shrinking. Like other struggling businesses, publishers had slashed expenditures, laying off editors and publicists and taking fewer chances on unknown writers.
The industry’s great hope was that the iPad would bring electronic books to the masses—and help make them profitable. E-books are booming. Although they account for only an estimated three to five per cent of the market, their sales increased a hundred and seventy-seven per cent in 2009, and it was projected that they would eventually account for between twenty-five and fifty per cent of all books sold. But publishers were concerned that lower prices would decimate their profits. Amazon had been buying many e-books from publishers for about thirteen dollars and selling them for $9.99, taking a loss on each book in order to gain market share and encourage sales of its electronic reading device, the Kindle. By the end of last year, Amazon accounted for an estimated eighty per cent of all electronic-book sales, and $9.99 seemed to be established as the price of an e-book. Publishers were panicked. David Young, the chairman and C.E.O. of Hachette Book Group USA, said, “The big concern—and it’s a massive concern—is the $9.99 pricing point. If it’s allowed to take hold in the consumer’s mind that a book is worth ten bucks, to my mind it’s game over for this business.”
At the Yerba Buena Center, it took a while for Jobs to mention books, and when he did he said that “Amazon has done a great job” with its Kindle. “We’re going to stand on their shoulders and go a little bit farther.” It would probably have been more accurate to say that Jobs planned to stand on Amazon’s neck and press down hard, with publishers applauding. The decision to enter publishing was a reversal for Jobs, who two years ago said that the book business was unsalvageable. “It doesn’t matter how good or bad the product is, the fact is that people don’t read anymore,” he said. “Forty per cent of the people in the U.S. read one book or less last year.” But if reading books was low on the list of things that the iPad could do, it was nonetheless on the list, which meant that Amazon had become a competitor. “There’s a lot of heat between Apple and Amazon and Google,” an adviser to Jobs said. “Steve expresses contempt for everyone—unless he’s controlling them.” An Apple insider said, “He thinks Amazon is stupid, and made a terrible mistake insisting that books should be priced at $9.99.”
Onstage, Jobs made it clear that he would present Amazon and its C.E.O., Jeff Bezos, with a serious challenge. He told the crowd that five of the “big six” publishers had agreed to sell their e-books through Apple’s iBooks store, which would open in April. And he said that Apple, through its iTunes and Apple stores, had access to a hundred and twenty-five million credit cards, which would make it easy for consumers to buy books on impulse. The iPad was clearly a more versatile device: it would provide color and full audio and video, while the Kindle could display only black-and-white text.
. . . .
Jobs, circling the room, stopped at one of several tables piled with iPads to talk with Walt Mossberg, the Wall Street Journal’s personal-technology columnist. Onstage, Jobs, demonstrating how Apple would sell books, had selected Edward Kennedy’s “True Compass” and clicked on a “buy” icon with the price $14.99 next to it. Why, Mossberg asked, should consumers “pay Apple $14.99 when they can buy the same book from Amazon for $9.99?”
“That won’t be the case,” Jobs said, seeming implacably confident. “The price will be the same.” Mossberg asked him to explain. Why would Amazon increase prices, when consumers were buying so many books? “Publishers may withhold their books from Amazon,” Jobs said. “They’re unhappy.”
. . . .
E-books called the whole system into question. If there was no physical book, what would determine the price? Most publishers agreed, with some uncertainty, to give authors a royalty of twenty-five per cent, and began a long series of negotiations with Amazon over pricing. For months before [Macmillan CEO] Sargent’s visit, the publishers had talked about imposing an “agency model” for e-books. Under such a model, the publisher would be considered the seller, and an online vender like Amazon would act as an “agent,” in exchange for a thirty-per-cent fee. Yet none of the publishers seemed to think that they could act alone, and if they presented a unified demand to Amazon they risked being charged with price-fixing and collusion.
. . . .
Madeline McIntosh, who is Random House’s president for sales, operations, and digital, has worked for both Amazon and book publishers, and finds the two strikingly different. “I think we, as an industry, do a lot of talking,” she said of publishers. “We expect to have open dialogue. It’s a culture of lunches. Amazon doesn’t play in that culture.” It has “an incredible discipline of answering questions by looking at the math, looking at the numbers, looking at the data. . . . That’s a pretty big culture clash with the word-and-persuasion-driven lunch culture, the author-oriented culture.”
Most publishers mistrust Amazon and think it is unnecessarily secretive. It won’t tell them details about customer habits, or the number of Kindles sold, or what it costs to make a Kindle. It won’t even disclose the percentage of revenues its book sales represent, saying only that “media”—movies, music, and books—accounted for fifty-two per cent of sales in 2009.
Publishers say that the negotiations with Apple were less contentious. There were arguments over the price of e-books, with publishers wanting the top price set at seventeen dollars and Apple insisting on fifteen. “Once Apple had determined that they were going to accept the agency model,” a publisher said, “they were very tough: Take it or leave it.” But the Apple people “had a much more agreeable feel than Amazon did. They said they would share some consumer data about buying e-books. We have no such data from Amazon.”
Link to the rest at the New Yorker
One of the things all these antitrust actions have confirmed for PG is that top-level publishing executives are shockingly unsophisticated and ignorant of basic Big Business 101 issues. They may cut a sophisticated path through the Manhattan literary world, but the behavior that triggered these antitrust suits makes them look like hicks from East Tumbleweed.
PG is not an antitrust expert, but everybody knows Rule 1 for avoiding a nasty experience with the Department of Justice antitrust division is:
If you are the CEO of a major company, you never, never, never, never talk about pricing with the CEO of another major company who is your competitor.
From a legal standpoint, getting together with other major publishing CEO’s in a private room to talk about anything is about as stupid as walking out of your coop on the Upper East Side without your pants/skirt on.
PG also wonders what in hell the General Counsel and outside law firms of these publishers were thinking. If it was an “open secret” that these CEO’s dined together, where was the lawyer saying, “You’re going to get us sued and your lovely little dinners will cost this company a bazillion dollars!”
Does this mean CEO’s can never meet? Not always, but pretty much.
If the CEO’s of the Big Six need to meet for some pressing purpose, here are a few of the things necessary to minimize the chances of an antitrust suit:
1. They never meet alone. Each CEO brings at least one lawyer and several staffers with him/her.
2. At least one of the people who comes with each CEO takes detailed notes of everything that is discussed.
3. It is probably safer for all if the entire meeting is audio recorded with each company receiving a copy of the recording for its confidential files.
4. At the beginning of the meeting, someone states the ground rules, one of which will be that nobody will talk about pricing, concerted actions against a competitor, supplier, retailer, etc.
5. If anybody mentions pricing, they’re warned that this topic is off-limits. If pricing is mentioned again, a smart CEO will get up and, with his/her people, leave the meeting. Counsel will probably draft a follow-up letter to all other participants confirming that everybody from XYZ company left when pricing was mentioned and confirming that XYZ has not discussed any pricing agreement and will never do so.
Just a few of PG’s extraordinarily unostentatious opinions.
Any of which could be wrong.