04.11.12

Amazon Is the Big Winner in Justice Dept. Suit Against Apple and 5 Publishers

A price-fixing lawsuit against the computer giant and publishers will have a far-reaching effect on the future of e-books, but is a ‘predatory’ online retailer the big winner? Jimmy So reports.

They called it “the Jesus tablet.” When Apple introduced the iPad on Jan. 27, 2010, some in the publishing industry thought a messiah had arrived to take on the enemy: Amazon.

Under a “wholesale model,” Amazon had been ordering e-books for about $13 and selling them for $9.99, taking a loss in order to get customers to buy other stuff, like the Kindle. When Walmart took on Amazon in 2009 and the two repeatedly marked down the prices of bestsellers—hard, physical book copies—they were able to get away with it also because Walmart’s real motive was to lure people online to sell them more expensive products.

Neither of the players lost in this price war; even the customers won. But there were losers: booksellers, both large chains and independent stores, were going under. Profit margins were shrinking for publishers. David Young, the chairman and CEO of Hachette, told The New Yorker’s Ken Auletta, “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 10 bucks, to my mind it’s game over for this business.”

Apple didn’t want to get into a price war with Amazon. For one thing, it didn’t need cheap books to entice readers into buying iPads—the product was doing just fine. Instead, Apple reportedly convinced five of the six big publishing conglomerates (Penguin, Simon and Schuster, HarperCollins, Macmillan, Hachette) to set up an “agency model” for e-book sales. It offered to allow the publishers to set whatever price they want, as long as Apple got a 30 percent commission. And because publishers had to offer the same contract to all “like” retailers (Apple and Amazon), the big five asked Amazon to take it or leave it; Amazon balked at first, but ultimately took it. That is why most e-books cost $12.99, and publishers and bookstores rejoiced.

The problem was that if Apple and the publishers did agree to set a price, this was illegal. The U.S. Department of Justice today filed an antitrust lawsuit against Apple and the five publishers, alleging price fixing.

“If that’s true, that’s a ringleader organizing a price-fixing conspiracy among a bunch of horizontal price fixers,” said F.M. Scherer, professor emeritus at Harvard’s Kennedy School, and an expert in antitrust law. “Let’s just say a friend of mine who did something like that spent two years in jail.”

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Economist Zachary Karabell discusses how ebooks are disruptive to book publishing, but will ultimately bring in big profits

No surprise, then, that shortly after the suit was filed, Simon and Schuster, Hachette, and HarperCollins reportedly agreed to a settlement. To antitrust lawyers, this was an open-and-shut case. (Readers of the American Antitrust Institute’s e-bulletin posted comments like, “Where the hell were Apple’s lawyers?”)

Under the settlement terms, current contracts with Apple will be terminated, and new ones will be negotiated, likely cutting the $12.99 price tag of e-books. E-bookstores, including Amazon, will be—must be, under the terms—permitted to discount their prices.

The most likely outcome will be cheaper e-books. How much cheaper will depend on whether Apple would want to fight Amazon to maintain competitiveness. Drew Herdener, a spokesperson for Amazon, said, “We look forward to being allowed to lower prices on more Kindle books.”

The most likely outcome will be cheaper e-books. How much cheaper will depend on whether Apple would want to fight Amazon to maintain competitiveness.

But Apple, Penguin, and Macmillan have reportedly rejected settlement talks. It seems they are ready to take a stand on the issue. John Sargent, the CEO of Macmillan, today published a letter insisting that he did not act illegally, and there was no collusion. Sargent claimed that he arrived at the decision to go to the agency model at 4 a.m. on an exercise bike in his basement. “It remains the loneliest decision I have ever made, and I see no reason to go back on it now,” he wrote. He refused the settlement terms because, he said, “The terms could have allowed Amazon to recover the monopoly position it had been building before our switch to the agency model.”

Joe Wikert, the general manager and publisher of O’Reilly Media, which publishes about 200 e-books a year, said that if there was indeed a meeting of the minds, then the parties in the suit were, of course, guilty as charged. “But the fact that a whole bunch of them at a time decided to adopt the agency model for the sake of the future of the business, I don’t see how this is collusion.”

“It feels like the Justice Department is solving a mythical problem and creating a bigger predator in this way,” Wikert said, referring to Amazon. If the settlement allows Amazon to return to its $9.99 model, Wikert said that the brand—most importantly, the author’s name—would be cheapened.

Scott Turow, president of the Authors Guild, agrees. “Amazon’s predatory pricing would shield it from e-book competitors that lacked Amazon’s deep pockets,” Turow wrote on his blog last month. “The irony bites hard: our government may be on the verge of killing real competition in order to save the appearance of competition.”

Scherer, however, wonders if Apple and the publishers could have gone at it a different way. “The way to fight that would be to bring a predatory-pricing case against Amazon,” he said. The chances of winning would be low, he concedes, but it would be nowhere near illegal.