Apple and Random House: New Partners

Show us a publisher that is clinging to a traditional business model, and we’ll show you one that is embracing the future.

Consider the newspaper industry, for instance. The Christian Science Monitor, a global paper that first emerged in 1908 (when the cursed Chicago Cubs last won baseball’s World Series), recently abandoned its daily subscription edition and adopted a continuous 24/7 cycle of free online postings. On the other hand, Rupert Murdoch‘s The Daily continues to cling to a daily delivery, subscription based business model, even though its deliveries are made electronically via Apple iPads.

Likewise, consider the magazine industry. The venerable Time continues to promote its glossy national news weekly as its flagship publication. But its traditional rival Newsweek is about to be relaunched as a companion product for the web-only The Daily Beast, and The Atlantic (which was created in Boston in 1857 as a literary journal) has been reborn as a Washington-based home of political bloggers.

And what of the book industry? Until this past week, five of the “big six” book publishers had embraced Apple’s new business model for e-book sales via its iPad tablet. But Random House, the largest book publisher of them all, valiantly refused to sign on to Apple’s new business model …

… until Steve Jobs prepared to take the stage to introduce the snazzy new iPad 2.

Wholesalers and Retailers

Traditional retailers such as Barnes & Noble and Borders usually purchase their merchandise from publishers at wholesale prices and then mark up (or discount) their customer retail prices to whatever the market will bear. This model tends to serves both entities well; after all, publishers can restart their printing presses whenever new orders arrive from retailers, and can generally rely on wholesale revenues to cover their operating costs. And retailers can respond to variations in market demand by modifying their retail prices, thus maintaining some control over their own revenue streams.

Apple, however, insisted on a new business model for e-books when it introduced its iPad last year. Instead of paying publishers for distribution rights up front and then managing the retail prices that are charged to retail customers, Apple negotiated retail prices with publishers up front and then agreed to share customer revenues on a 30 / 70 basis. In other words, Apple abandoned the retailer’s traditional right to discount book merchandise, while avoiding the concomitant cash flow burden of paying wholesale prices up front to acquire products for resale.

Most publishers, lusting after the promise of future profits from e-book sales on Apple iPads, simply fell into line and acquiesced to Steve Jobs’ demands. But Random House initially refused to do so; it insisted on withholding its e-books from the iPad retail platform. This past Thursday, though, Random House finally lost its nerve.

Agents and Partners

Steve Jobs made Random House’s commitment about the iPad a key part of his splashy introductory public demonstration of the iPad2. Many believe that Apple was feeling pressure to make the iPad 2 as attractive as possible, given the flood of competitor products that are now challenging the iPad for supremacy in the tablet market. Thus, Apple arguably needed Random House as much as the publisher needed the technology firm.

It wasn’t clear, however, who would blink first in the weeks leading up to the iPad 2 announcement: Random House, the only holdout publisher from the iPad platform because of its dissatisfaction with Apple’s 30 / 70 business model, or Apple, a vendor that was competing with the Amazon Kindle and other e-book readers. Apple was arguably in a difficult position, not being able to offer readers the written works of President Barack Obama, John Grisham, and other famous authors publishing under the Random House umbrella.

Ultimately, it was Random House who blinked first; it simply agreed to accept Apple’s standard contract terms. The industry is now referring to those terms as an “agent model” because Apple has become a sales agent of the publishing houses, compensated on a commission basis. In other words, Apple has forced its content producers to accept it as a junior partner on all book sales.

Back From The Dead?

Interestingly, as new book publishers and online retailers settle their differences and adapt to the emerging environment of e-books, some tiny independent booksellers – written off as relics of a bygone age just a few years ago – are learning to survive by trading used books, staging community events, and selling ancillary merchandise. Apparently, the challenges faced by traditional book stores like Borders and Barnes & Noble are creating market space for small and nimble competitors to establish their own strategic niches.

As long as reading remains a hobby, a pastime, and an avocation for millions of American bibliophiles, there will always be publishers and retailers to serve them. Nevertheless, with the rise of the agency model, the distinction between the producers and the purveyors of written material will likely continue to blur.