Today’s guest writer, Jim Fallone who has worked in the publishing industry for many years contemplates the mistakes the publishing world is making with ereaders and ebooks, and has some interesting thoughts on the topic.
Publishing’s Old and Dusty Concept of Perceived Value is Keeping it from Embracing the Digital Age
By Jim Fallone
The Publishing Industry is undergoing a massive shift in revenue streams right now and its inability to understand it has already claimed its second largest book retailer and devalued the perceived value of a bestseller from $27.99 to $9.99. Borders miscalculated the consumer’s readiness to adopt the format and had no stake in the game to offset the loss in print sales. The Publisher’s greed and fear caused them to abandon windowing which was effective in managing perceived value down the format chain to the mass market which early on is where front list ebooks might have simply replaced mass market paperbacks. Instead publishers agreed to sell new bestsellers in ebook format concurrent with the hardback assuming that the perceived value of the ebook would be “worth” more than $9.99. Initially they felt that the value would be related to the physical artifact. But in a digital world we are faced with the challenge of placing a value on things that cease to exist when the power is turned off. One reason the web is filled with free information, tools, and entertainment is that as humans we find it hard to attribute tangible value to intangible things. This is not only because of lower production costs, it’s that people just don’t perceive value online the same way they do in the real world. (How many times have you asked yourself is Photoshop really worth $699?) With ebooks unless someone clicks a download button the book does not exist. It is just a single unopened zip file on a server somewhere. So with ebooks the “right” retail is whatever it takes to get the customer to click a button.
According to Billboard Lady Gaga‘s Born This Way sold 1.1 million copies in a single week. Even excluding the estimated 430,000 digital downloads sold for $0.99 by Amazon (at a $7.40 loss) she still sold four-and-a-half times as many records as Brad Paisley whose new album was a distant second. In a Wall Street Journal interview when asked if considering her phenomenal popularity she thought her album was worth more than $0.99. Her answer was surprising.
“No. I absolutely do not, especially for MP3s and digital music. It’s invisible, it’s in space. If anything, I applaud a company like Amazon for equating the value of digital versus the physical copy, and giving the opportunity to everyone to buy music. It also wasn’t really 99 cents, because Amazon paid the difference on all of those purchases as part of their promotional campaign for one of their new services.”
Whether the Amazon promotion was profitable or not is not the issue here. What should catch out attention is that even a savvy artist like Lady Gaga has an issue in valuing something digital that seems less permanent or less “real.” That is the core issue that is influencing the pricing challenges we are seeing in the publishing world right now. That value shift is what publishers struggle with as they try to price ebooks in a way that does not under cut the value of print books. Of course how we assign that value depends on each publisher’s situation, goals, and perspective and whether they are a self-published author or a German Multinational Corporation. But the answer will be a key to determine how well a Publisher can adapt to this new and alien digital world.
Agency Model for ebook pricing:
Historically modern print books are pre-priced by the publisher. The value is there for the consumer to see in black and white. Publishers were protected from consumer’s value perception because the retailer bore the brunt of the discount devaluation. But now faced with a digital tsunami the buffer zone of the retailer is more opaque. The Big 6 in an attempt to stop the devaluation of books came up with The Agency Model. Now they have made themselves responsible for setting pricing instead of letting the retailers battle it out. Now they have no choice but to set Strategic Price Strategies as part of their marketing. But now traditional pricing strategies are no longer applicable in a digital world.
Three ways to price goods:
In general there are 3 basic strategies: Cost-based, Competition-based, and Value-based. Publishers since Gutenberg have operated on a Cost-based strategy where pricing is based on making a given margin over and above costs of manufacturing, marketing and distribution. It is a basic break even formula: Price = variable costs + fixed costs / quantity.
The Competition-based price strategy is a competitive strategy based on “attack/defense moves” of competitors against a given brand. This strategy was really introduced to publishing by the chain book retailers Waldenbooks and Barnes & Noble in the 1980s with their discount wars on New York Times best-sellers. Initially this was funded by publishers with coop funds but as the war escalated and it spread to increasing percentages of inventory the retailers began to supplement the discounts with their own margins. Amazon then used this strategy to effectively stake a claim in the print book space against Borders and Barnes & Noble by relying on the margin advantage they had by not having any store real estate overhead to offset. Amazon was willing to give up margin to the point of loss to insure customer migration from brick and mortar stores. Amazon offset some of this margin loss through ad click revenue and expanding beyond books. Publishers on the other hand continued to use the basic Cost-based strategy leaving the techniques of a Competition-based strategy such as Parity, Premium and Discount Pricing, to the retailers and stuck with the tried and true Cost-based technique of a Break Even P&Ls. (profit and loss).
But ebooks don’t follow the same P&L model as print books. With print books sales tend to decline over the life of the product and shorter reprint print runs cause unit costs to increase limiting any opportunity to experiment with lower price models. With ebooks however after the initial new release phase there are no more significant costs of goods. Once you cover the cost of conversion and a targeted percentage to overhead contribution you have no more costs. Setting a retail price on backlist no longer involves the traditional ratio to cost of goods. You no longer have to declare a book out of print because you cannot afford to reprint it. Instead every sale becomes part of a singular and constant revenue stream. Your goal now becomes keeping the volume of the stream high enough to generate revenue above operating overhead. The concept of a “unit” means nothing since you are just downloading the same file over and over again. For digital backlist retail becomes untethered from any unit cost.
This now opens up the possibility for publishers of the third price strategy – Value-based pricing. Value-based pricing is based on the value of a brand as perceived by the consumer. The value perceived by the consumer has little to do with the cost of manufacturing, marketing or distribution. This strategy is most often associated with marketing-led organizations and tends to focus organizations on maximizing the value creation process. In other words you are selling the deal rather than the product itself. Self-published authors seem more receptive to this pricing strategy than traditional Trade Publishers. One reason I think is that authors are used to the concept of selling their idea or content instead of a physical product. They already in essence are selling an intangible product; the author is paid for a digital file (manuscript) at a variable price based purely on perceived value. Traditional Publishers on the other hand are not used to thinking of the product as content disembodied from a physical good – this is new territory for them.
Untethered by cost of goods the Value-price strategy opens up techniques like Elasticity where the pricing decision is based on a calculation derived from the sensitivity of volume to price change. By simulating different price scenarios it is possible to set the optimal price to the one that maximizes expected revenue and profit. Under this strategy $0.99 is a very valid price point if it increases your revenue stream enough to generate more profit than a higher retail selling at a slower volume. This price is going to be different for everyone depending on their situation and the consumers perceived value of the book. For example if you are a relatively unknown author you may strategically be motivated to try some very low pricing to increase volume and encourage more people to read and sample your work. Another technique of Value-based pricing is Buy-Response where price comes from market research estimating the consumer’s intention to buy at different price levels. The outcome is a quantification of perceived value. Publishers need to be aggressively experimenting with price and begin building more quantifiable data. We may find for example that certain set prices work differently depending on the time of year. Ebook value may be seasonal, increasing during high volume 4th Quarter and lowering during slower seasons.
Other ways to make sales:
Once a publisher has covered the modest cost of conversion and targeted contribution to overhead during its New Release period and then becomes backlist the ebook is liberated from the cost of production and distribution. Value becomes relative and we can leverage it to open up new tools and techniques that suddenly become more viable such as Volume Driven Bundling – buy one book for $9.99, two books for $4.99 each, or three books for $2.99 each. Each option has almost the exact same total revenue generated but the goal is to get the consumer to make a $9.00 transaction not sell a specific number of units. The cost of goods on the backlist is zero for each transaction but three-for-$2.99 will generate a much higher response rate and thus a higher total revenue volume. We see an extension of this is strategy in the experiments with Netflix-like subscription models where the consumer value proposition is based on a monthly charge for access to a complete library divorced from any unit transaction. More people may pay $9.99 a month for access to unlimited ebooks than would spend buying individual ebooks at $9.99 each over the same period. It is not as outlandish as you think when you see Pandora, Spotify and other music services becoming important revenue generators for the music industry. As we begin to see more digital convergence under the cloud all content begins to merge as part of the stream. It would not be unfathomable to see a scenario where books become part of our basic broadband service. Perhaps we will see experiments with a merit based structure like cable companies do now with one monthly price for access to basic midlist titles and a premium tier top authors or for early access to big titles. The latest Stephen King novel may be accessed no differently than the latest episode of Haven, the TV show based on his work. I already can see pictures from my Flickr, look up my phone bill on my TV and I can watch my TV on my iPad and smart phone. It is not a big jump to see a day were publishers and authors see their revenue not as sales and royalty but as prorated percentages of cable fees and shares of ad revenue.
Think out of the box:
But to be able to adapt Publishers need to stop trying to force digital books to have print book values. We need to push outside our traditional borders to other possibilities. Publishers like Tor Books understand the significance of this fundamental change in the value of content and have shifted their web presence from the traditional catalog-structured publisher website designed to sell to the trade and instead they have created a silo that is streaming/broadcasting creative content directly to their consumer audience 24 hours a day drawing views and promoting brand value. It is no coincidence that Tor won the 2011 Nebula Award for Best Short Story for Kij Johnson’s Ponies - a story that only existed free on its website. They offered/rewarded their customers with a better than expected value by pricing their story as free. But price on the web is elastic both ways. It is now a Nebula Award winning story increasing its value considerably. Tor can now set a price for the story and begin charging for it even if just $0.99. A product that was once valued free as a front list title now has a higher perceived value and can generate more revenue to the publisher as a backlist title. How is that for a publishing paradigm shift?
Jim Fallone is the Director of Publishing Coordination at Andrews McMeel Universal, working on digital workflow and eBook strategies. With nearly 30 years in the industry, Jim has experienced every aspect of book publishing from acquisition to remainder, and over the years has been involved in some of its great successes and its biggest failures, including the introduction of new retail product categories like direct-to-purchase video and books-on-tape, New York Times bestselling publishing programs, and sales phenomenon such as Pokémon.
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