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Summary:

A class-action lawsuit alleges that Apple conspired with the book industry to implement the “agency model” of pricing, which has kept e-book prices high. But was this an actual conspiracy, or just an attempt by Apple and publishers to compete with Amazon’s dominance in the market?

While everyone is consumed with deciphering how Google’s bid to acquire Motorola will affect Apple’s (a aapl) dominance in the smartphone market, Apple has other fights on its hands elsewhere. Among them is a class-action lawsuit filed recently that alleges the company conspired with major book publishers to keep e-book prices high, by implementing the so-called “agency model,” which allowed publishers to set the price instead of Apple. But was this an actual conspiracy, or was it just a way for Apple and the publishers to compete with Amazon’s dominance over the growing market for electronic books?

The seeds for this particular battle were sown early in 2010, after Apple launched the iPad with its built-in iBooks library application. At the time, Amazon was fighting with a number of publishers — including Macmillan — over what prices it could charge for e-book versions of their titles. The online-retailing giant, which dominated the electronic book market thanks to its Kindle reader, wanted to keep prices no higher than $9.99, but Macmillan and other publishers wanted to maintain a pricing structure that was tied to their traditional print business, with prices starting at around $14.99, then declining over time as new versions of the book were released.

At one point, Amazon actually yanked all the electronic versions of Macmillan’s titles from its online store as a way of punishing the publisher, which took out a full-page ad accusing Amazon of unfair behavior. Eventually, Amazon relented and restored the publisher’s books, but the atmosphere in the industry remained tense.

Apple changed the balance of power

Then along came Apple and the iPad. As a way of getting publishers on board with the new device, which the company hoped would allow it to compete with the Kindle as an e-reader, Apple agreed to the “agency model” for pricing. This gave Macmillan and other publishers exactly what they wanted — namely, the ability to set whatever prices they chose, instead of having to make do with whatever retailers like Amazon decided they should get. As the class-action claim (PDF link) describes it:

The Publisher Defendants and Apple implemented this unlawful agreement and combination on or before January 2010, when five of the six major book publishers of fiction and nonfiction works almost simultaneously announced that they were switching from a wholesale pricing model to an Agency model for eBook sales.

The class-action suit from Hagens Berman in California isn’t the only attempt to challenge the agency model: European antitrust authorities have also investigated whether there has been collusion to keep prices high — including conducting raids on publishing houses — and the attorney-general in Texas has looked into the issue as well.

So is there any merit to these charges? The easiest answer is yes and no. There’s no question that when Apple appeared on the market, book publishers were desperately trying to maintain some kind of pricing control over the new field of e-books, because they were afraid that this new digital format would mean permanently lower prices. The class-action suit (which Patently Apple described in more detail in a recent post) puts it this way:

[P]ublishers quickly realized that if market forces were allowed to prevail too quickly, these efficiency enhancing characteristics would rapidly lead to lower consumer prices, improved consumer welfare, and threaten the current business model and available surplus (profit margins).

The arrival of Apple and its new iPad provided the perfect rationale for pushing the agency model of pricing: the consumer electronics company needed some way of breaking into the market Amazon effectively controlled, and having a number of major publishers onside gave it a substantial push in that direction.

Apple competing against its own strategy

Ironically, this put Apple in the exact opposite position to the one it was in with the major record labels when it dominated the electronic music market with the iPod and iTunes: in that case, Apple did exactly what Amazon tried to do with books, by dictating the price that labels could charge for their songs. Only when it had become the default online store for the entire music industry did Apple eventually relent and start allowing record labels to charge different amounts for songs in their catalogue.

One thing the class-action lawsuit leaves out of the equation is the rationale behind Amazon’s push to keep prices for e-books low, which was similar to the reason Apple tried to keep the price of electronic songs low: namely, an attempt to use those low prices for content to spur sales of the actual money-making element in the market — the hardware. Just as Apple used low song prices to subsidize sales of iPods, Amazon wanted to keep e-book prices low in order in part to convince more consumers to buy Kindle e-readers.

Did the publishers achieve what they wanted with the agency model? According to the class-action lawsuit, they did. The suit says:

As a direct result of this anticompetitive conduct as intended by the conspiracy, the price of eBooks has soared. The price of new bestselling eBooks increased to an average of $12-$15 – an increase of 33 to 50 percent. The price of an eBook in many cases now approaches – or even exceeds – the price of the same book in paper even though there are almost no incremental costs to produce each additional eBook unit.

If prices are high, is there a conspiracy?

So if prices have gone up or stayed high, then there must have been a conspiracy or collusion by the publishers, right? Not necessarily — at least, not by the standards required to make a case under the Sherman antitrust act. While it’s true the publishers may have tried to implement the agency model collectively, they could easily argue that this was the only means they had to protect their declining business from Amazon’s price-cutting attempts. In that scenario, Amazon would be the one that behaved badly, by using its dominance in the e-book reader market to force publishers to cut their profits.

In that version of the story, Apple looks like the savior of the poor publishers. And Apple itself is more like the underdog in this tale — although it’s a massive hardware and software company, it had virtually no presence in the e-book business before the iPad came along, and no real chips to play apart from its support for the agency model. Like the publishers, Apple could easily argue that it had to take the steps it did to compete with Amazon, which dominated the e-book market and was calling all the shots. Apple could also point out that despite its best efforts, Amazon still dominates the e-book market.

In the long run, it seems likely that book publishers will have to relent on their pricing demands, if only because market forces will make it obvious that consumers want to pay less for e-books — and they have other places to go for low-priced books, including Amazon’s Kindle Singles program and the rising ranks of self-publishers. In that sense, the agency model seems less like some elaborate conspiracy to control the market and more like a desperate move by a fading industry.

Post and thumbnail photos courtesy of Flickr users Mark Strozier and Jennie Moo

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  1. Wildstar Beaumont Tuesday, August 16, 2011

    against all the rules of open competition the prices of ebooks skyrocketed after Apple entered the game. From a consumer point of view it was a misfortune. The feeling is surely that Apple banded with the publishers

    1. Thanks for the comment — I agree there is a feeling that there was collusion, but proving that in court could be difficult to impossible. In any case, I think the publishers are fighting a losing battle in the long term, so the consumer will win eventually regardless of the outcome of the case.

  2. Lucian Armasu Tuesday, August 16, 2011

    As far as I know, Amazon was losing $3-$4 for each ebook sold for $10. They still gave the publishers as much as they wanted, but they subsidized their own retail price, in order to jumpstart the ebook market, and also their Kindle platform/device.

    And I found a source, too:

    “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.”

    http://www.newyorker.com/reporting/2010/04/26/100426fa_fact_auletta#ixzz1FvaEG1y0

    And I’m pretty sure that having all the publishers in the industry joining up to raise prices, is colluding. It’s being done in the detriment of the consumer, and it’s about either forcing the prices to stay the same for a longer period of time, or raising them. If that is not price fixing, then I don’t know what is.

  3. Hey, collusion is the time-honored American business model. The little guy always loses, because he’s got no clout. Our government is in bed with lobbyists to the detriment of the little guy. You got a problem with that?

    So do I.

    Sunny Guy

  4. MichaelBrianBentley Tuesday, August 16, 2011

    It’ll be collusion if the plaintiff can show sufficient evidence in court, but I think the chance for that is slim. I think instead that Apple decided how they were going to set up pricing, based partly on what they were reading in the media, well before they started to talk to any publishers, and in fact told publishers what Apple’s terms would be. Apple in fact probably had to convince some of the publishers, because who knows how Amazon would react, and Amazon sells a lot of e and regular books for them.

    Apple occasionally does their homework when setting something up like this, I think because billions of dollars are at play, and it makes fiscal sense. There obviously was a public war going on. Apple wanted to get a foothold in the ebook market with a limited number of deployed iPads costing over twice as much as Kindles. So how do you make that work? Throw some dice? Nuh-uh. C’mon, there’s no way Apple didn’t already figure out what they wanted to do before starting that conversation.

    Apple makes a lot of money selling iDevices, it doesn’t make anywhere near as much selling content for iDevices.

  5. This is why I think Apple is in trouble on this…..

    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.”

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