Amazon vs. Macmillan: Something's Rotten in the State of E-book Pricing

The world (ok, really just a bunch of geek bloggers) errupted over the whole Amazon versus Macmillan spat, didn't it?  Some authors got particularly upset (see the TeleRead post below for links). Steven Pearlstein's Washington Post article is probably the best brief overview of the facts.

As far as analysis, the blogokatamari (am I allowed to translate that as, "blogoclod"?) has, as it so often does in matters best analyzed through economics, in most cases entirely missed the point. So far, of the dozens of posts I've read, only Chris Meadows at TeleRead and Lynne Kiesling at Knowlege Problem appear to have any real insight into the economic forces at work here. (And yes, Lynne, I love the word kerfuffle too. Didn't this one produce a brouhaha!)

Let's review the story so far, and please correct me if I've made an error here.

Macmillan has been "selling e-books" to Amazon. I put that in quotes because, of course, Macmillan sends over a single digital copy and allows Amazon to duplicate that copy as it sells it to a customer, modifying the copy to include the DRM specific to that customer.

Up to this point, as with hardcover books, Macmillan charged Amazon a fixed wholesale price for the e-book, which presumably they believed covered their costs. I understand that they also had a recommended retail price for the book, which I believe is also typically the price used when calculating authors' royalties (which are usually specified as a percentage of some price). It seems in this case that for many bestsellers Macmillian was charging a wholesale price of $12-14, and presumably the RRP was something like $24.99. Amazon, however, was selling the e-books for $9.99, and taking a loss on each one.

Macmillan, for whatever reasons (we can discuss that later), would prefer and has succeeded in pressing upon Amazon a replacement of this wholesale/retail system with an "agency model," whereby Macmillan sets the retail price, and Amazon pays 70% of that to Macmillan, keeping 30% for itself. Macmillian has stated that it will set its retail prices generally around the mid-teens, e.g., $15.95.

But wait a second. 70% of $15.95 is about $11, which is less than the $12-14 that the publisher was making before. And Lord help us if a book's retail price is set at only 30% more than the $9.99 Amazon was charging: now the publisher makes barely more than $9.

So a publisher is willing to butt heads with a retailer in order not only to have the retailer make more money on each item than it used to be losing, but is also pushing to take a cut in how much money it makes to do so?

I don't know about you, but this strikes me as odd. In fact, it makes certain castles in Denmark start to smell rather sweet.

So what's going on? Macmillan is obviously trying to introduce resale price maintenance here. (And they appear to have successfully done so. Other publishers are following along.) I'm not definitively against that, either; I actually have rather mixed feelings about where and when this can be helpful or harmful to consumers, the market and the economy in general. (Here you might find some interesting insight into the advantages of resale price maintenance.)

But here's where I have some sympathy for Amazon. Macmillan must have known what they were doing. You don't, as a company, blithely give up revenue because you feel it will make the world a better place and unicorns will pop out of rainbows and nuzzle you. You need a reasonably sophisticated analysis, good foresight and a fair amount of guts to give up immediate revenue in order to take a larger market later. I was amazed that a public company could even do this, until I found out that Macmillan is privately held. (Poor Amazon. Being public, they stand little chance. Bezos must be fuming right now.)

And if Macmillan knew what they were doing, they knew that by trying to move to the agency model they were quite directly attacking Amazon itself.

Amazon, not surprisingly, is a company in which information technology weighs heavily. If you think about it, one of the main things they do is replace floorspace, shelves and sales clerks with automation. If they do this well, they can do better than their competitors at giving a shopper a happy experience at minimal cost (to Amazon), which means that they can also sell the item for a little less money than their competitors and still make a profit. Replacing expensive people with cheap robots is a well-known route to making consumers happy (via lower prices), certain company stockholders happy (they own stock in the company that did this), and improving the economy. (Well, that last one is a long and complex argument, so either take my word for it or drop it.)

So when Macmillan tries to fix Amazon's margin, they're directly attacking one of the main things Amazon does. They're saying, "even if you can do the same thing for less money, you may not pass the savings on to your customers." What's gotten into their heads?

Not to mention the heads of the authors supporting Macmillan. Do they not realize that Macmillan is pushing to make less money from the books they're selling to Amazon? Surely the authors don't seriously believe that, when Macmillian is bringing in less revenue for a book, they're going to give the author more  money.

At any rate, if there's some truly brilliant business strategy behind this move, it seems that Random House isn't seeing it.

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