Amazon Is Going All Netflix on Book Publishers

Bloomberg View , July 17, 2014

Amazon has been quietly testing a Kindle subscription service offering an unlimited number of digital books for $9.99 a month, the tech site Gigaom reported yesterday. The bundled pricing model makes a lot of sense, but it’s hard to pull off. Publishers hate it, and the contracts governing author royalties tend not to accommodate it very well.

But as Apple Inc.’s agreement to pay up to $450 million to settle the federal and state cases against it for fixing e-book prices joins earlier settlements by publishers, the book-pricing environment is in flux. As an author and a reader, I hope Amazon can make all-you-can-read work.

Since September 2012, three large publishers -- Hachette, HarperCollins and Simon & Schuster -- have been under an antitrust agreement that forbids them to restrict retail e-book prices. That deal expires in September, which explains why Amazon and Hachette have been in such brutal negotiations the past few months. (Macmillan, the final publisher involved in the suit, reached a similar agreement in February 2013.) Simon & Schuster is now in talks with Amazon as well, Les Moonves, chief executive of parent company CBS Corp., disclosed on Tuesday.

News of the Kindle subscription model suggests just what may be at stake. Publishers led by Hachette, whose Amazon contract is up first, want to get back their control over retail prices. Amazon wants to maintain its ability not just to cut prices but to experiment with entirely new models. Bundling e-books in a subscription the way Amazon Prime or Netflix bundles video is a promising model.

As I wrote in a 2011 column about an earlier Amazon venture in bundling:

Bundling eliminates some of the statistical variation and unpredictability in consumer behavior. The differences from person to person and book to book cancel each other out.
“It is easier for a seller to predict how a consumer will value a collection of goods than it is to value any good individually,” wrote [Erik] Brynjolfsson, who directs the Massachusetts Institute of Technology’s Center for Digital Business, and Yannis Bakos of New York University’s Stern School of Business in a 2000 Marketing Science article. They noted that, “at the optimal price, more consumers will find the bundle worth buying than would have bought the same goods sold separately. Because of the predictive value of bundling, large aggregators will often be more profitable than small aggregators, including sellers of single goods”…
The pie gets bigger not only because the bundler can more accurately choose prices but because the bigger the bundle, the more valuable it is to consumers. Variety itself is worth something. For digital goods, where the cost of selling one more copy is nearly zero, Brynjolfsson suggests, the way to maximize both profit and revenue is to bundle as many titles as possible. (There may be a few exceptions, like the boxing matches sold on pay-per-view, that are extremely valuable to a small market segment and worth almost nothing to everyone else.)

Back then, Amazon had arranged to pay publishers such as the Lonely Planet Guides a flat fee for the right to put their titles in its “lending library,” which offers unlimited reading to Amazon Prime members who own Kindle devices. But most publishers had rejected that arrangement. Amazon added some titles to the lending library by paying wholesale prices and taking a loss, but couldn’t include books from the “Big Six” publishers (now Big Five, with the merger of Random House and Penguin). Under the “agency model,” kicking back a percentage to the seller, those publishers controlled retail prices. The soon-to-expire antitrust agreement forbade that arrangement.

“Amazon officials likely see the current negotiations as their best chance to push for the end of agency pricing for e-books, and are apparently prepared to bring to bear all the pressure they can on publishers -- whether on the Kindle side, or print,” opined Publisher’s Weekly in an article on the Hachette negotiations.

If Amazon manages to do away with (or perhaps limit) the agency model, it will then face the problem of how to compensate authors in an all-you-can-read rental model. Given the value of variety, a book can make a bundle more valuable even without selling a single copy. Should authors be compensated by how many copies they sell? Or should they get some kind of flat fee just for joining up? And will authors themselves, rather than publishers, have any say in the matter?