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Inside the DOJ's ebook price-fixing case against Apple: an analysis

ipad ibookstore

We just got our hands on the DOJ's antitrust complaint against Apple and seven major publishers, including HarperCollins, Penguin, Simon & Schuster, and Macmillan, and it's rather something: the government alleges that the publishing industry openly colluded to raise ebook prices and end Amazon's dominance, and that Apple was a willing participant in the scheme. What's more, the alleged conspiracy sounds like it was actually quite a conspiracy, with secret CEO meetings in private New York dining rooms and promises made to bosses up and down the chain. It's all quite juicy, so let's dig in.

  • Although Apple is listed as the first defendant, the bulk of the case is really about the publishers involved: Hachette, HarperCollins, Macmillan, Penguin, and Simon & Schuster. According to the government, these publishers greatly feared Amazon's $9.99 Kindle book prices, which they called "wretched," and worked for years on a scheme to raise prices and limit competition. They also feared that consumers would get used to paying $9.99 for bestsellers and ultimately decrease publishing profits.
  • Apple was more than willing to help; it wanted favorable deals as it entered the ebook market combined with higher margins on more-expensive products.
  • The DOJ is blunt about this alignment of interests between Apple and the publishers: it claims the publishers "teamed up" with Apple to make sure "retail price competition would cease... and Apple would be guaranteed a 30 percent 'commission' on each ebook sold."
"Without a critical mass behind us Amazon won't negotiate."
  • The DOJ claims that Apple's new "agency model" of publishing is the result of this agreement: under the previous wholesale model, the publishers sold books at wholesale to retailers like Amazon, who then set whatever prices they wanted — like the hated $9.99 bestseller price. Under the agency model, the publishers set the prices, and Apple simply took a 30 percent cut. Once control of retail pricing was taken away from the open market and consolidated into the hands of just a few publishers, they quickly acted to raise prices.
  • The DOJ also claims that the publishers knew they individually had no bargaining power with Amazon, so they needed to work together. "Without a critical mass behind us Amazon won't 'negotiate'," wrote one publishing executive.

Here's where it gets a little crazy: the DOJ alleges that from around September of 2008 to sometime in 2009, all the publishing CEOs would gather in the "private dining rooms of upscale Manhattan restaurants" and talk business — specifically, how to handle Amazon. The most common of these private rooms was called "The Chef's Wine Cellar," in a restaurant called Picholene, but some were also held in a restaurant called Alto.

"Our goal is to force Amazon to return to acceptable sales prices."
  • In late 2009 the publishers decided upon the agency model as their preferred tactic against Amazon. The emails about it were pretty blunt: "Our goal is to force Amazon to return to acceptable sales prices through the establishment of agency contracts in the USA."
  • Earlier in 2009, Apple was thinking about ebooks sales of its own. iTunes boss Eddy Cue sent Steve Jobs an email saying "at this point it would be very easy for us to compete and I think trounce Amazon by opening up our own ebook store." Apple also allegedly thought about illegally "dividing up" the digital media market with Amazon — Apple would sell music and movies, and Amazon would sell books. This obviously didn't happen.
  • Apple decided that it didn't want to give up 30 percent of ebook sales, though, and it instead decided to allow the publishers to use iBooks and the iPad as significant leverage against Amazon and force the agency model onto the industry. Steve Jobs was allegedly quite blunt about how these negotiations should go: either the other retailers would agree to the agency model, or the publishers would say "we're not going to give you the books." The fear of Apple getting popular new books exclusively was apparently enough to force Amazon and others into agency deals.
  • Jobs also knew that the agency model would serve to raise prices, saying, "you set the price, and we get our 30 percent, and yes, the customer pays a little more, but that's what you want anyway."
  • After a series of meetings with publishers, Eddy Cue reported back to Steve Jobs that the industry saw Apple as "solving the Amazon problem." The only problem was that Apple's proposed prices were too low.
  • Apple also knew it was in a unique situation as the only company that could provide leverage against Amazon, so it pushed for higher commissions as well — 30 percent is "significantly" higher than average. In the end, the publishers got higher prices and Apple got higher commissions.
"You set the price, and we get our 30 percent, and yes, the customer pays a little more, but that's what you want anyway."
  • Apple also swung its weight around by demanding "most favored nation" clauses that required each publisher to match iBookstore prices with the lowest prices from other competitors — even where they didn't set prices. According to the DOJ, this "was designed to protect Apple from having to compete on price at all," while still netting the company a commission.
  • The DOJ says Apple "knowingly served as a critical conspiracy participant" by promising all the publishers the exact same deal and keeping everyone informed about the status of negotiations. When Penguin explicitly said that it wouldn't sign unless at least three other companies signed, Apple "supplied the needed assurances."
  • To persuade other publishers, Steve Jobs himself had to get involved. He wrote an email to one publishing CEO saying that the only existing choices were to "keep going with Amazon at $9.99" or "hold back your books." He then offered a third choice: "Throw in with Apple and see if we can all make a go of this to create a real mainstream ebooks market at $12.99 and $14.99."
Screen_shot_2012-04-11_at_12
  • In case you're wondering how seriously the DOJ is taking this case, the evidence in the complaint includes details of when publishing CEOs called each other and for how long. Yes, the government went and got phone records.
  • Apple's US agency deals all took effect on April 3, 2010 with the release of the original iPad.
  • Every other major ebook retailer was forced into agency deals within four months, including Amazon. The key provision was Apple's "most favored nation" pricing clause — Eddy Cue told Apple exec Pete Alcorn that "any decent MFN forces the model."
Within four months of the iPad launch, every major ebook retailer was on the agency model
  • That doesn't mean negotiations with Amazon were easy: after Macmillan couldn't get the deal it wanted, it pulled its books from Amazon. The rest of the publishers rallied to support the company, sending emails that said "I can ensure [sic] you that you are not going to find your company alone in the battle." Two days later, Amazon caved.
  • And, of course, ebook prices have now risen — most Amazon Kindle books now start at $12.99, just as the publishers wanted.

So! That's quite a story, if it's all true — and it appears that the government has quite a case, as Simon & Schuster, Hachette, and HarperCollins have all quickly settled. Apple and the others appear to be in for the long haul, so we'll see how they respond in the coming weeks. In the meantime, we're very curious to see how this all affects the Apple / Amazon relationship, as the two biggest players in digital media appear to be a lot nastier to each other behind the scenes than we previously knew.

The Verge
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