Publishers v Libraries: searching for middle ground

Today I did some groundwork. I actually went to Bethesda Public Library and asked the librarian about their ebook offerings. When I asked her why they only had about 2,000 titles compared to countless print titles, she told me basically what I already knew: “Publisher’s don’t want ebooks to be given away, they want people to buy them, so they make it a little harder for libraries to get them.”

She then told me about the IT problems we are all familiar with, namely:

  • each different reading device entails a different selection of titles
  • certain formats (namely the Kindle) require third-party accounts or software
  • instructions for borrowing are confusing and often difficult
  • Only one copy can be lent at a time

She said soon they would be getting funding to get one of each type of reading device so that they could provide in-house instructions for patrons wishing to borrow ebooks. “But it takes so long to go over, we would probably have a line out the door” she tells me. And other than that, there are no forthcoming changes in e-lending to speak of.

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It’s pretty obvious that libraries are on the brick wall side of publisher’s walled ebook gardens. Publisher’s ultimate fear is that library distribution will cannibalize sales. But recently critics have been questioning how scary publisher’s nightmare of ‘cannibalism’ really is. (For example, see Peter Brantley’s post in PWxyz Authors: say yes to libraries! or Jane Litte in Dear Author The biggest threat to publishing isn’t Amazon; it’s Angry Birds (why publishers should invest in libraries) ). The brunt of the argument, for which there is significant evidence, is that libraries actually help build greater awareness of titles (leading to sales down the road) and foster more reading in younger age groups (think lifetime customer value for publishers).

This runs down the same vein as another hot topic in publishing–DRM or no DRM? The argument in favor of increased e-lending is essentially the same as the argument against DRM: the more freely content is distributed, the more people it will reach, and the more people who will pay for it. Recent successes by companies like Smashwords are starting to confirm this with regard to DRM. (And honestly, I’ve yet to read any convincing argument that supports the use of DRM). So why not apply that success to libraries?

The status quo never changes without a struggle. I think publishers are too concerned with protecting paradigms of the past and staying in their comfort zone, and are not looking enough to the future. They want ebooks to be just like pbooks, when in reality ebooks and econtent are flipping the old paradigms on their ears. Some people get it. Others don’t.  Protecting e-content might be a good strategy in the short term, but in the long term, dinosaurs will die.

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With regard to the short term, where dinosaurs can keep on living in blissful ignorance, some middle ground has to be reached. But it seems like both sides are being too demanding as well as failing to understand each other’s needs. No one is going to get exactly what they want right away, and that reality has to be dealt with. The first step is to communicate. Thankfully, the UK has recently made arrangements to foster communication between publishers and libraries. The next step is harder: compromise. I agree with this author:

you both knock 50% off your lists and realize from that 50% remaining on each list, you’ll probably only get 50% of that, so 25% from each side…. It’s better then nothing and achieves more then ultimatums and demands…

And what’s in the 25%? Well, who knows until they’ve communicated? But just for fun, I’ll hypothesize. What can libraries offer publishers in exchange for less stringency on e-lending?

Well, one idea is reader data. Reader data can be a great tool for publishers for the same reasons as customer data are useful in other industries. So it seems viable to me that if publishers gave libraries better access to titles in exchange for allowing them to track reader data (already commonplace with for-profit ebooks) then the two might be able to compromise. Publisher’s get a tangible return (data), and libraries have a little easier time with e-lending. All in all, libraries could actually prove to be a useful laboratory for publishers.

Just an idea 🙂

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Approaching perfect competition? Thoughts on the limitations of digital content pricing

From Why the Web will gut paid e-books and apps, and why free can pay for authors and publishers:

Selling digital content at any price above zero is not sustainable: the Web is cheaper for readers, cheaper for writers and publishers, and far more discoverable and shareable than the squabbling hermit kingdoms of e-books and apps.  For both authors and publishers, the best strategy is to distribute for free and find another way to pay the bills.

This post got me thinking a little bit about the pricing of ebooks. Essentially, the author’s argument is that, since the marginal cost of ebook production is nil, market forces will (eventually) force publishers to give away ebook content for free. That is, publishers who do charge for content will not survive due to the barrage of free content providers with alternate revenue schemes.

This is thought provoking, but not entirely correct. I believe the post goes astray by confusing price with economic profit. If the post were to argue that publishers will be forced to earn zero economic profit, I might agree more.

Let me qualify that. “Economic” profit is not “accounting” profit (i.e. total revenue minus total cost). Economic profit refers to any profits earned in addition to those that are needed to offset the opportunity cost of the primary stakeholders. So if you are exactly covering your costs, and making exactly enough to live, you have zero economic profit. If you could do better spending your efforts elsewhere, you are in the red. The textbook example of an industry where each firm earns zero economic profit (referred to as an industry in “perfect competition“) is hay farming. Hay is a homogeneous product, and any hay farmer can sell as much hay as they would like at the prevailing market price but no single farmer can affect that price. If the price goes up, economic profits may be earned in the short term, but the higher price draws more competitors to the industry until economic profits again fall to zero in the long run.

Of course, digital content is nothing like hay–it is far from homogenous. If an individual hay farmer attempts to sell his hay at $6/bail when the market price is $4, he will sell zero bails. This is not true for a publisher, who has different styles and qualities of content that cannot be provided by other firms, and thus has some market power. And so the publishing industry can be characterized as what economists call “monopolistic competition”–an industry with heterogeneous products for which there are many substitutes. Depending on which type of content you provide, there can be relatively few or many substitutes for your product, and your content may be more or less distinctive from other products.

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Industry modeling has limitations, but nonetheless can provide insight to how goods and services are priced. The key factor in this model is the uniqueness of content. For example, a news website that offers more or less the same quality and information as a thousand other sites will not be able to command a high subscription fee (if it can charge a fee at all). Conversely, The Economist can charge a higher price because it is more specialized, branded, and well-reputed. Customers across all industries pay for things like specialized products, brand name, and good reputation. The implication is the wider the availability of similar products, the lower margin any firm can feasibly ask for.

The post I mentioned above argues that neither of these firms will be able to charge for their content. In the long-run, all content must be given away. Au contraire. While run-of-the-mill content or perhaps new authors might be best suited by allowing free content downloads, publishers with higher quality, more specialized products will certainly be able to command a positive price margin–as long as there is a market for their products.

But the question is, how high of a margin might they charge? Too high of a margin will draw new competitors into the market, and too low of a margin and all of a sudden you’re going under.

And now we’re coming full circle. Patokallio (the author of the post) argues that free content from the internet will “gut” paid ebooks and apps. This is certainly true–for the ebooks and apps that have many substitutes and offer more or less homogenous content. As the availability of free content on the web increases, this tier of publishing will start to rely on other revenue streams to keep going. Publishers will have to find a way to cover the costs (advertising, associated product merchandising, etc), but will probably only earn a very low margin–or, in other words, zero economic profit. The “perfect competition” model provides insight here.

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But now the margin on specialized sales is being driven down too, to the point where they may begin to resemble perfect competition as well. The downward-driving force is piracy. I can tell you from real life experience on a college campus that bootleg etextbooks are definitely available. Computer software is the same deal. Of course, not everyone is willing to be a pirate. Many people willingly pay. But it is intuitively easy to see that the higher margin publishers charge, the more people will resort to piracy. Thus, piracy exhibits downward pressure on price-cost margin, even in specialized niche markets.

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So, again, the ultimate balancing act is, what margin can I charge for content? The answer is, a higher margin for content with fewer substitutes, and a lower margin for content with more substitutes. Our dilemma here, aptly pointed out by the aforementioned post, and expanded upon slightly in this post, is that margins are being driven down across the board–regardless of the level of heterogeneity! This is a big problem for publishers, who once enjoyed some degree of monopoly power over their content, and are now being driven to a level of the barest subsistence–zero economic profit!

Sounds like a boatload of bad news. I have two tidbits that might brighten your day, and maybe you already knew them. The first thing is that lower economic profits for firms directly translates to higher consumer surplus for customers. That’s right, at least the customers are benefiting. This might not seem like much consolation to publishers, except that as price margins go down, the substitution effect takes place. Thus, a cheaper price for content means that more people will purchase it, and then publishers have some opportunity to make up for lost price margin with increased volume. In a way, lowering price is like paying for marketing. Profits will probably still decrease, but more people will be reading ebooks, so you might count that as a win!

The other tidbit is that specialized publishers and authors should survive the “web gut” pretty well. Price margins may be driven down by piracy or other free content, but people will always be willing to pay for content they put a high value on. This is good news for the small publishers who serve a more specialized market. The narrower the market, the less price elasticity, and the higher margin that can be charged. Big publishers would also be wise to segregate markets into the smallest parcels possible. Specialization and division of labor–principles dating back to Adam Smith–should be of some use here.

To sum it all up, the equilibrium price for some ebooks and apps will be free, but certainly not for all of them. However, piracy and the availability of substitutes put serious limitations on how much publishers can charge for content. Publishing profits should be shrinking, and volume should be increasing. That’s my prediction for the medium-term.

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A dated but good analogy

I know this reference is a little dated, but I still see this ringing true: (from Piracy is Progressive Taxation)

In looking at online content subscription services, analogies with television are instructive… Revenue from “basic cable” has been supplemented by various aggregated premium channels. HBO, one of those channels, is now television’s most profitable network. Meanwhile, over on the internet, people pay their ISP $19.95/month for the equivalent of “basic cable”, and an ideal opportunity for a premium channel, a music download service, has gone begging for lack of vision on the part of existing music publishers.

Another lesson from television is that people prefer subscriptions to pay-per-view, except for very special events. What’s more, they prefer subscriptions to larger collections of content, rather than single channels. So, people subscribe to “the movie package,” “the sports package” and so on. The recording industry’s “per song” trial balloons may work, but I predict that in the long term, an “all-you-can-eat” monthly subscription service (perhaps segmented by musical genre) will prevail in the marketplace.

And it could be a good business model for ebooks. Your thoughts?

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July 8, 2012 · 8:53 pm

One way to sell ebooks

Make them really cheap. These guys have figured out a way. Check it out:

At OnlyIndie.com, every new book starts at $0. The first 15 downloads are free and every download after that is a penny more, up to a maximum of $7.98, a number chosen by the site’s founders in response to what they see as too-high e-book prices at other retailers. If a book isn’t downloaded for 24 hours, its price begins to slowly drop per an algorithm designed to take 100 days to bring the price back to $0.

…Gajda, 31, and his two co-founders reach out to authors personally to ask them to put their books up for sale on the site. Each book is vetted by hand. The company wants authors to feel as if they are being attended to personally and has no immediate plans to scale the business quickly.

Hat tip to Jeremy Greenfield for the pointer, and more on this later.

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Why ebooks have to be different from print books

In an earlier post, I made the claim that ebooks must present a different experience for the user than pbooks in order to continue growing on the market. It might be obvious, but I want to tell you why I made that claim. I think this table says it well:

(source)

People aren’t saying they don’t enjoy ebook content, they just aren’t seeing why they should switch over. They have to buy an expensive device, they’re not sure about reading from a screen–why not just get the regular old book? It’s not going to be easy to change that status quo. Publisher’s need to segregate the ebook market from the pbook market so that they face less elastic demand, allowing them more control over pricing. Two different products have two different demand curves and may charge different prices. The key is to separate them. They are currently being mashed together.

Just look at the responses in the survey–ebooks are compared against a standard of pbooks. Pbooks aren’t going to go away anytime soon, so ebooks have to offer something new. Publishers have to change the game. My previous post outlines one possible direction that could go in. But c’mon, books are centuries old, ereaders are cutting-edge. There should be no comparison. Whoever segregates the markets between ebooks and pbooks will be able to reap the benefits of price discrimination.

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Who says print books are becoming obsolete?

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Remember your customer

My thoughts on the Apple/Amazon/Big 6 business model clash:

If publishers successfully force agency pricing  on Amazon (which appears to be happening), it will certainly be to the detriment of consumers. Publishers will raise prices in the name of reasserting the “true value” of their works, and less people will buy ebooks. Simple supply and demand.

Amazon selling ebooks at $9.99 (below cost) benefits consumers at the expense of competing retailers and weakens publisher’s control over pricing. Yet if Amazon’s strategy proves sustainable (that is, if Amazon can offset losses on bestsellers by raising prices of other ebooks), it will almost certainly lead to increased sales in the long run for publishers. Again, lower price=higher quantity demanded.

Then again, if Amazon’s model proves unsustainable, it will be just that. Nonetheless, in the short term, the strategy is akin to putting money directly into consumers pockets, while publishers are still getting paid for their titles. Amazon is accepting the losses intentionally and with full responsibility. What’s the problem with a little free money, folks?

Some people say this is predatory pricing–after Amazon drives all competitors out of the market they will raise prices and reap monopoly profits. Since there appears to be no long-term barriers to entry in the ebook retail market, I don’t give this threat much credit. If Amazon were to attempt this, a new competitor would enter the market after prices were raised and Amazon would be forced to keep predating, suffering even more losses.

I opine that publishers want to move to the new agency model so they can collectively raise prices. If there is monopoly power to be had, it is from collusion between the Big 6 conspiring to raise prices and lower output–the polar opposite of Amazon’s strategy. This would increase profits and lessen the likelihood of DRM breach.

But it is important to remember that the reason any business exists is to serve the customer. Ultimately, the most successful business will be that which best serves the needs of their customers. Ebook retailers have two “customer” groups: publishers (who consume retail services) and readers (who consume the end product). Apple is appealing to the former, Amazon is appealing to the latter. Because readers are the be-all-end-all customers, Amazon’s model should (if it could be proven sustainable) win the day.

For those of you pointing the finger at Amazon, shouting “monopoly!”, you should remember your customer. In the end, the better business is that which better serves the customer.

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