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Did the Agency Model Lead to Cheap eReaders?

September 7th, 2012 by · 33 Comments · opinion

I was thinking back over the Amazon event yesterday when I realized that Jeff Bezos had parceled out some background details on the whole agency pricing, anti-trust situation and I’m not sure anyone has connected the one with the other.

If you’ve been following the anti-trust lawsuit then you probably know that much of the publishing industry has spoken up on behalf of the conspirators. Many, many of the commenters have asked Judge Cote to not end the agency pricing model, where publishers control the sale price of ebooks, because of what they feared Amazon would do. With the settlement now certified by the judge, lots of people expect Amazon to now cut ebook prices in order to seize market share and drive out the competition, after which it is assumed that Amazon will jack up prices again.

If you paid attention to the presentation today then you could have picked up hints that arguably those fears are ungrounded.

At one point in the presentation Jeff Bezos explicitly spells out Amazon’s current business model for the Kindle and Kindle Fire, and it’s pretty simple. They sell hardware cheap in order to get you in the door, after which Amazon makes up the difference and all their profit by selling you content. The Kindle Fire is a portal through which Amazon sells stuff; that’s why the original sold for so close to the BOM.

Now, this has been Amazon’s business model since at least last September, when they unveiled the Kindle Fire and cheap new Kindles. And in fact a number of bloggers figured this out both before and after that launch event. Some even predicted it several months in advance.

With that in mind, have you considered what this business model means for ebook prices? I would think now that Amazon is using ebooks to subsidize hardware sales it means they likely won’t be using such deep discounts any more. (Actually, i don’t think Amazon ever discounted ebook prices nearly as much as some now believe; the horror of the tale has grown in the retelling. But that’s another post.)

But if Amazon isn’t going to use deep discounting then all of those fears are bunk. What’s more, they were bunk at the time they were first expressed, considering that they were penned months after the Kindle Fire launched. This is one of the issues that Bob Kohn raised in his 5 page comic, and as you can see there’s little evidence to support the belief.

So the next question that comes to mind is: When did Amazon decide to adopt this model?

At the very least it had to have happened long enough after the launch of the Kindle that publishers had time to panic of the deep discount pricing model. As one reader pointed out in the comments, Amazon launched the Kindle with $9.99 best sellers as a selling point.

It’s my guess that Amazon happened upon the idea in 2010. I’d pin the date down to some time  right after Agency Pricing was foisted upon them and right before Amazon got into that ereader price war with B&N. Once Amazon had the K2 priced near cost and ebook prices which they couldn’t discount, it made a lot of sense for Amazon to use one to support the other.

So yes, I think Agency Pricing is the reason that ereaders are so cheap today. If I’m right then the Price Fix 6 are also to blame for all the many companies who got out of the ereader market in 2010. As a consequence of their attempt to hobble Amazon, these 5 publishers may have been responsible for killing off a number of Amazon’s potential competitors and thus making it easier for Amazon to dominate the market.

What do you think?

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33 Comments so far ↓

  • Timothy Wilhoit

    When did Amazon begin the $9.99 pricing? When the K1 launched in 2007. It makes sense because 1) there was essentially NO ebook sales at the time and 2) they were trying to sell a $400 gadget that could only be used to read ebooks. Sony was rather ineffective, they weren’t about them. They had to do some rather heavy lifting to get people to purchase that $400 reader. Here is an archive from 12/17/07:
    http://web.archive.org/web/20071217051817/www.amazon.com/Kindle-Amazons-Wireless-Reading-Device/dp/B000FI73MA
    Scrolling down, under Product Overview, you find: “New York Times® Best Sellers and all New Releases $9.99, unless marked otherwise.” Amazon wasn’t trying to be a monopolist and corner the market, they were trying to create one. They sold all the first batch of K1s in short order. They weren’t expecting that. :)

    • Timothy Wilhoit

      “Sony was rather ineffective, they weren’t *worried* about them.

    • Nate Hoffelder

      You just proved my point. Thanks.

      • =X=

        This article commits the classic mistake of historical correlation w/o the right data. A concept Nassim Taleb writes about in his book Black Swan.

        FjTorres has is half correct. The true catalyst for cheaper eReaders was the price war Amazon and B&N had. Far before the Agency model was even conceived, the first major price slash that occurred on the Kindle was the introduction to the first Nook. Each of these vendors where in a race to best the other.

        What killed the eReader business was the introduction of the Nook Color. Not only was this model priced the same as other eInk devices it was also more capable and

        Where Torres is wrong is on Amazon’s grand marketing scheme. B&N was the company that initiated the subsidized model of a low cost tablet and product tie in. However they executed poorly where Amazon did not. They learned from B&N mistakes and incorporated a solid solution.

        • fjtorres

          Not looking for a fight since we agree on the basics, but the Nook Color was introduced in October 2010 and shipped in December.
          This might have delivered the coup d’grace to the hardware-only vendors but by then there were precious few in the game anyway.
          What I remember is that Samsung, Asus, Acer, and iRiver were all among the CES 2010 hopefuls who shipped eink product everywhere but the US because of the price reset. Their products were conceived to sell at normal CE profit margins as standalone hardware and were designed to sell in the $200-300 range. Total non-starters in a market saturated with $150 readers generating at best low single-digit margins because *they* were designed as storefronts to ebookstores.
          Where the Nook Color impacted the market was in foreclosing the Pandigital and Literati-class LCD readers. This in turn forced the asian generic oems to focus on android crap pads which put further pressure on the generic ebook readers.
          By CES 2011 (attendance at which was determined months before the Nook Color was announced) there were only a handful of ebook exhibitors at CES, a sign most of the hardware-only crowd had given up on North America.
          I agree that B&N hasn’t executed as well as Amazon but they are handicapped by the need to accomodate the B&M side of the company and because the Nook guys are overly focused on hardware. Looking at the Amazon dog and pony show, Amazon brought out state of the art hardware but Bezos spent *more* time talking up the software and services; you’ll never catch B&N doing that at a Nook intro. Mostly because they don’t have the services. But their software, while actually decent, rarely gets the spotlight. At Nook, it’s all about the Touchscreen (2011) and the Glow light (2012). They give me the impression that at budget allocation time the hardware guys get first dibs, the Nook software guys get a decent cut, but the Nook store guys get leftovers.
          Add it up and they always end up being competitive with Amazon but unable to make up any ground. Competitive just isn’t enough, Price fix or no price fix.

      • Mind the Rant

        I’m confused — how did Mr. Wilhoit prove your point?

        In your blog you state: “Do you remember all those adverts touting the Kindle’s $9.99 ebooks? That’s what publishers feared.

        It’s my guess that Amazon stumbled upon the idea in 2010.”

        The link to the Internet Archive Wayback Machine that Mr. Wilhoit provides makes clear that Amazon had the $9.99 book idea from the time it began selling the first Kindle during the 2007 holiday shopping season. One of the Kindle feature bullets on the page reads:

        “* New York Times® Best Sellers and all New Releases $9.99, unless marked otherwise.”

        So, again, how does that prove your point that Amazon had the $9.99 book idea in 2010?

  • fjtorres

    We’ve discussed this before: It all goes back to the five hour price war.
    B&N was afraid of Kobo+Borders and cut prices to the bone counting on the Agency bounty.
    Amazon countered.
    Between the two, they squeezed the hardware-only vendors out of the North American market and with them, any hope for generic ePub ebookstores.
    With limited competition in hardware *and* ebooks, and a primary opponent they outclassed, Amazon had no need to fight to protect their 60%-plus market share. Note that, for all of B&N’s manuevering, their market share numbers (and Amazon’s) remain where they where the day of the Five Hour Price war.
    As we’ve all said repeatedly, the Agency conspiracy *froze* the ebook industry into walled-garden domination and guaranteed Amazon a nice and tidy two-thirds market share of North America and a solid springboard for rapid worldwide expansion.
    Amazon made a public production of fighting Agency and then quietly moved on once they realized it helped small and independent publishers and self-publishers, and it let *them* move into publishing. If the conspirators wanted to donate market share to their competitors with high prices, Amazon would join in on the fun.
    The other thing the Agency conspiracy did was bring Apple into Amazon’s game.
    So, of course, Amazon–a retailer with a technology company hidden in the basement–decided to return the favor and get into Apple’s game.
    Now, it generally takes about two years for a tech company to launch a new product line and do the job right; Amazon took a few shortcuts to launch in 2011–going with Android instead of a Linux variant, using a variation of the Playbook tablet design–but that was just to get in the game.
    Yesterday we saw the first *real* Fires.
    And we saw a hint of what Amazon in-house design can do.
    They’re using in-house capacitance film tech, in-house light-guide tech, in-house LTE modem, in-house antenna design. They farmed out the audio to a “name” contractor butt there is a lot of Amazon-proprietary tech in the new Kindles. And that is before the targetted software and services innovations.
    Amazon is not just repackaging components and ODM ideas, they are playing at Apple, Microsoft, and Google/Motorola level with both proprietary software and services and hardware. Everybody else, from Kobo to the asian hardware giants are a whole tier below.
    What Amazon did yesterday was show what their tech boys in the basement can do.
    The Agency conspirators giftwrapped the north american ebook market to Amazon and with that as a beach-head they now have a position to take a crack at growing their walled-garden ecosystem into video and casual gaming.
    Suddenly, the Amazon phone looks inevitable.
    And afterwards, a TV set-top box for a crack at a market even Apple hasn’t been able to dent.
    Take a bow, Agency Conspirators: you gave Amazon the means to go after a whole new growth market without risking their ebook empire.
    Their stock price thanks you.

  • Epsilon

    “…after which Amazon makes up the difference and all their profit by selling you content.”

    They have a P/E of 306.19. What “profit” you speakin’ of?

  • DavidW

    No, this article is wrong. Early adopters always have to pay a large amount because companies need to pay off the r&d expenses of the new device (true for any device). After that the price drops to find that sweet spot on the supply/demand curve. If you remember early on, when people were interviewed, they thought that the kindle was cool but there was no way they would pay so much for it, they would rather read paper books. Obviously the demand was so high for a low priced ereader that the price war with B&N was inevitable.

    As for agency pricing, amazon would earn more revenue from lower price points, because remember we are on the wrong side of the supply demand curve. Agency pricing doesn’t help anyone. Paying customers have to pay more, while publishers and distributors earn less. Publishers demanded the agency model not for short term profits, but for a long term goal of changing price expectations of ebooks.

    Agency pricing did not help Amazon. Amazon went from 80% marketshare to 60%. And it wasn’t the driving force either. Lowering price points on ereaders (which would be eventually forced down by tablets anyway) is just simple economics. Were it not for agency pricing, amazon would have crushed BN and Kobo under heel already and monopolized the market. And we still would have cheap ereaders, because it would still be in their interest to lower the price point.

    • fjtorres

      Amazon went from 80% to 60%… in the first quarter of 2010.
      *Before* the Agency Conspiracy went live.
      Since then they and B&N have been locked at 60% and 25%.
      Agency had no measurable effect on B&N’s market share, only on their revenue.

    • Peter

      What you’re saying about technology markets is correct. Early adopters needed low ebook prices to stomach the high cost of the new technology, later adopters read fewer books and were more interested in the now cheaper hardware.

      It’s a textbook case of “crossing the chasm”.

      But that doesn’t mean the agency model didn’t matter. If the agency model hadn’t allowed the prices to shift ereaders would have become stuck as a niche product. It’s just a different way of looking at it.

  • Thomas

    I think that the dozens of cheap tablets put on the market had more to do with killing the ereader market than anything else. When you can buy a reliable android tablet for less than $100 that can run apps from all the assorted booksellers, spending nearly as much for a more limited ereader doesn’t sound like much of a deal.

    • Nate Hoffelder

      The US ereader market died in 2010 – before there were any decent cheap tablets. Okay there were several crappy tablets under $200, but they were still crap.

      • fjtorres

        Correct. CES 2010 had 200 ebook readers.
        Maybe 3 made it to the US.
        The five hour price war killed the market for non-walled garden readers.

      • =X=

        Wrong. What killed the eReader was the nookColor. It changed the whole ball game it was a great tablet at a great price point $250. For the majority of the folks it offered everything eInk device offered and more (Magazines, eBooks, apps, and movies) at a similar price point. It was also what changed the marketing strategy for most eReader companies. I guess if folks argued it was the iPad I wouldn’t disagree too much.

        • Nate Hoffelder

          Nope.

          Samsung dropped out of the US market long before the Nook Color was released. Pandigital (the first to offer an enhanced ereader) started changing their devices over to Android tablets before the NC launched. Audiovox gave up on the RCA Lexi long before the NC launched. And Skytex changed directions form offering ereaders to selling Android tablets before the NC launched; their first tablet was announced before the NC.

          There’s a heck of a lot of ereaders that showed up in 2010 and then vanished long before the Nook Color could have had an effect.

          • Peter

            What killed the ereader was the fact that tablets were more profitable.

          • Nate Hoffelder

            That was certainly true after the ereader price war but not before. Remember, in 2009 there was no tablet market as we know it today. Same goes for most of 2010 (aside from the iPad). eReaders were the not new thing at the time, and everyone was going to make one (or 4).

  • Peter

    Isn’t this what I’ve been saying all along?

    Incidentally, Amazon has no coherent business model.

    They just ape what the competition is doing and presume they can do it $10-$20 cheaper because “look ma, no stores!”.

    Barnes and Noble invented the model- Amazon stumbled onto it by copycat-ing and is just now figuring out the point.

    Moving forward, I’m guessing that we’ll now see an entirely new business model emerge, neither agency nor wholesale.

    This one will involve publishers directly subsidizing tablet/ereader production, and ereader companies in return will heavily promoting books from the partner publishers. The DOJ said both these things are okay (it’s in the settlement).

    I’m working on a Kohn style cartoon to explain it. For real.

    • Nate Hoffelder

      It’s certainly possible that B&N came up with the device as portal idea originally, yes. But you would have to agree that Amazon is doing it better.

      • Peter

        Nope. Not from the perspective of their own self-interest.

        Barnes and Noble is pushing the disruptive pricing back into the technology market, in the process defending profit margins at their stores. Bottom line: reversing a downward trend in earnings and attracting large investments from Microsoft and Liberty instead of going bankrupt like everyone thought they would.

        Amazon is cannibalizing their own electronics, music, and dvd segments sales with giveaways and alienating potential AWS customers. Bottom line: they’ve blown billions in profits they should have had.

        From a consumer perspective, I guess you could say Amazon is the more appealing product.

        • Nate Hoffelder

          Amazon’s own self-interest (as they see it) is in offering the consumer the best experience, so you are probably wrong there. And I don’t think they’re undercutting DVD and other content sales nearly as much as you think; Amazon is a huge marketplace for 3rd party sellers mp3 had already undercut CD sales. Also, the DVD market itself is dying off – Blu-ray included.

          And I really think you’re overestimating how much Amazon discounts content prices. Given that Bezos said yesterday content is the bread and butter I seriously doubt they’d undercut themselves too much.

          • fjtorres

            Just because others can’t make money at Amazon’s price points doesn’t ean Amazon can’t. And the Judge at the price fix trial made it crystal clear yesterday: Amazon has never lost money in the ebook business.

          • Fbone

            I believe the Judge said on “ebooks” not the whole “business.” Hardware wasn’t included in the DOJ documents. Amazon doesn’t separate the Kindle from their other revenue figures even in their 10K filings.

          • Nate Hoffelder

            True, but my point is that I don’t think Amazon is discounting nearly as much as many assume.

          • Fbone

            RE: Nate

            Amazon’s EBIT margin is only 1.4%
            Apple’s is 36.1%

            Amazon may not be heavily discounting but not all departments are profitable. Average margin on a $9.99 ebook is 14 cents.

          • fjtorres

            Okay. Narrow it down just to ebooks. Even better then, cause nobody whines about “predator pricing of readers”. All the BPH apologists whine about is that “Amazon sells ebooks at a loss”. Well, the judge said clearly: “Shut up!” :)
            Maybe we can move on to other secondary topics like world hunger and the euro collapse that never arrives. ;)
            Look, Amazon is what it is: a lean, low-margin growth-focused company. As long as they pay the bills and have some money left over, they are fine. If some investors feel like bidding up their stock, that is the investors’ problem. Just as whether Apple stock hits a thousand is the investors’ problem.
            For consumers the only thing that matters is that they have good products at a good price with excellent service. And that they are not goingto vanish in a puff of fire and brimstone any day soon, if ever. They are, as much as Apple, Google, and Microsoft, a part of the landscape.

          • Fbone

            Mr Bezos spent considerable time at the press event discussing content. And how it’s all about distributing content.

            Whether Amazon was discounting prior to Agency or not is no longer important. It’s what they do afterwards and from the event it seems they need to sell content because they expect some profits. Thus, no heavy discounting in the future.

            Of course, we may never know if the publisher’s don’t publicly release wholesale pricing. All Amazon has to do it gives us the illusion of discounts and big sale pricing to make people happy.

    • Ray Kumar

      @Peter: “I’m guessing that we’ll now see an entirely new business model emerge, neither agency nor wholesale.”
      Yes.
      Why bother with agency model, wholesale model etc. and instead publishers set themselves up as Marketplace Merchants as all that is needed is a platform to host the content, manage DRM, process payment and advertise/promote etc.. the kind of stuff which fits Google’s biz model of an advertising portal and also dovetails with Facebook’s monetization efforts. The publishers and authors could also establish their own collaborative eBook portal and simply pay commissions to sales coming from affiliate’s referral links.

      The digitization of books might turn out to be a net negative for Amazon as the logistics for eBook distribution is much easier than for the physical version where Amazon managed to smother its B&M competitors by virtue of its superior inventory depth and breadth, order fulfillment, payment processing and a great online platform for review and discovery.

      • Frank Skornia

        “Why bother with agency model, wholesale model etc. and instead publishers set themselves up as Marketplace Merchants as all that is needed is a platform to host the content, manage DRM, process payment and advertise/promote etc.”

        One of the problems with this is that it would significantly fragment the eBook market – more than it is now between formats, platforms, etc. Think about it from a potential reader’s perspective. If a reader is not looking for a specific book (merely browsing for a good read), they would have to visit at least half a dozen separate sites to see what is available – and that isn’t including the smaller publishers and indies.

        Furthermore, publishers have a branding problem. People don’t buy books based on the publisher, they buy based on title, author, and series. Publishers have spent huge amounts of effort, pushing their authors as the brand. Readers buy James Patterson, George RR Martin, and Stephanie Meyer; the don’t buy Macmillan or Random House. I’m going to ignore the increased complexity of dealing with imprints as brands.

        While you suggestion would be in the best interests of the publishers increasing their control on the marketplace, I think there are far too many obstacles to overcome that would merely injure the industry further in the consumer’s mindset.

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  • Nick

    This began in the Garden of Eden when Satan tempted Eve: “You shall be like God. If he or she doesn’t immediately accept it, don’t be discouraged. Some will even consist of perches where your feline can sleep and you can find others that have hanging toys built regularly into them.

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