Saturday, April 14, 2012

What Else Ya Got?

As no doubt everyone knows by now, the Antitrust Division of the Department of Justice filed a lawsuit against Apple and five book publishers (three of whom simultaneously settled by entering into a consent agreement with the Division), alleging that the firms colluded to raise retail prices of ebooks.*

The complaint has a number of specific allegations, including a "most-favored nations" requirement (publishers can't sell ebooks elsewhere for less than they sell via Apple's iBooks store), but the basic story is that the publishers were unhappy that Amazon built a large - around 90% - share of the ebook market by aggressively pricing ebooks, often below wholesale cost, thereby threatening the pricing structure of physical copies of the books. Apple offered a different pricing model, in which publishers would set the retail price of ebooks and Apple would take a 30% cut of that price. This allowed the publishers to increase the retail price of books sold through iBooks and reduced the publishers' dependence on Amazon. However, the complaint continues, no publisher was willing to do this alone; meetings among the publishers and assurances by Apple that all the publishers would be on board were required to convince all five to agree to Apple's proposed agency model.

The complaint details meetings among the publishers - at tony New York City restaurants, no less, prompting some readers to suggest that the government is trying to out-compete Zagat's - where, it is alleged, the publishers conspired to find ways that, collectively, they could gain the upper hand over Amazon and get rid of the $9.99 price point for ebooks. One possibility discussed was the agency model. Consequently, the government's case against the publishers is fairly well-specified in the complaint. In contrast, the evidence against Apple seems quite weak.

Apple's role seems to be two-fold: first, Apple insisted on the agency model - the same agency model it uses for its iOS and Mac app stores, so this wasn't something Apple cooked up for the book publishers - and, second, Apple, in negotiating with each publisher, made assurances that the other publishers would be on board for similar terms.

Apple's insistence on the agency model shouldn't be either surprising or problematic. Apple chose a different approach to retailing products than did Amazon, and applying the same model to books as it uses elsewhere was a logical step. One could criticize's Apple's 30% commission as being too high, but it's hard to argue that Apple has market power in the ebook market, when estimates are that Amazon sells about 60% and Barnes & Noble another 25-30% of ebooks. Furthermore, because Amazon sells stand-alone Kindle readers, and doubtless has sold substantially more Kindle readers than Apple has sold iPads, Apple can never exclude Amazon from the ebook market (rendering irrelevant comparisons to Microsoft's actions with respect to Internet Explorer - another dubious antitrust case, to be sure).

More troubling is Apple's role as mediator among the publishers. But this, too, should not be problematic. Apple was trying to start a new virtual bookstore, and could not launch an effective product without having available a substantial proportion of best-selling books. Apple had a legitimate business interest in ensuring that the iBook store opened with books available from multiple publishers. Similarly, no publisher would have a serious interest in Apple's agency model - annoying Amazon, the largest purchaser of both ebooks and conventional books - without assurances that other publishers were along for the ride. Thus, Apple's assurances that other publishers were in similar negotiations with Apple, and on similar terms, was almost surely necessary for a successful launch of iBooks.

The idea that Apple benefits from higher ebook prices needs to be carefully examined. Because Apple receives 30% of the price of an ebook, higher prices do benefit Apple. At the same time, however, Apple earns substantially higher margins by selling hardware, so it's not at all clear that Apple's incentives are aligned with those of book publishers. (For one thing, Apple receives no revenue from hardback or paperback sales, so Apple (1) has no interest in maintaining higher prices of physical copies and (2) has every incentive to increase sales of ebooks.)

Antitrust enforcers rightly take a dim view of restrictions enacted by firms with market power, as those firms have an incentive to maintain their market power by excluding competitors, and often have the ability to do so profitably. In this case, however, Apple created a new competitor, the effect of which was to reduce the market power of the entrenched ebook seller, Amazon. Nothing in Apple's agreements with publishers prevented publishers from discounting titles, as long as discounts to other sellers were also reflected in the price in the iBooks store. (As I read the complaint, the various pricing tiers were price caps, not floors, for various book categories.)

It's a little disturbing that the Antitrust Division would include Apple in its list of defendants. The signal it sends to firms is that it's dangerous to buck the status quo. A cynic might think that the Division was more interested in generating headlines, and that an antitrust case against Apple was more headline-grabbing than a case against just the publishers.


*Opinions here are my own, not my employer's, etc.

No comments: