The biggest story in books

The Penguin Random House trial is ripping the lid off publishing

Welcome to the 159th edition of SHuSH, the official newsletter of The Sutherland House Inc. If you’re new here, hit the button:

---

We recently announced the $10,000 Sutherland House Prize for best nonfiction book proposal or manuscript. It’s open to all writers. For more information or to submit an entry, go here.

---

THIS IS PART 1 OF DOJ v PRH. YOU CAN READ PART 2 HERE.

---

The US department of justice (DOJ) went to trial this week in Washington, DC to block Penguin Random House’s proposed takeover of Simon & Schuster. Three weeks of court time have been booked. It may take months before we get a verdict from Judge Florence Pan (above).

I’m not in the courtroom (although sorely tempted to attend). I’ve been scouring the filings and reported comments by lawyers and witnesses for what they reveal about the proposed merger and the larger world of book publishing.

I’ve broken this newsletter into three parts: the brief backgrounder on the trial; a brief guide to the positions staked out by the DOJ and the publishers this week and my sense of who’s on first; a long collection of revelations and observations about contemporary publishing. The last part is the fun part. If this trial were allowed to run three months rather than three weeks, we might get to the bottom of how publishing really works.

1. Background

For those of you who haven’t been paying attention, the world’s fattest book publisher, Penguin Random House (PRH), owned by Germany’s Bertelsmann SE, almost two years ago struck a deal to buy Simon & Schuster (S&S), America’s third fattest book publisher, from Paramount (formerly ViacomCBS) for $2.1 billion. The deal, which would create a globally dominant super-fat publisher, two-and-a-half-times the size of the next fattest firm, Rupert Murdoch’s HarperCollins, is subject to regulatory approvals in a variety of locations, including Canada and the UK, but it only collapses if blocked in the US.

Penguin Random House wants to buy S&S to keep it from falling into the hands of a competitor, especially Murdoch who would merge it with HarperCollins and compete on a relatively even footing with PRH. The $2.1 billion price tag is stupid for the assets PRH is getting but the avoidance of competition is priceless.

The seller of S&S, Paramount, desperately trying to run with the likes of Netflix and Disney in the video streaming wars, is delighted for the opportunity to unload a misfit asset at an inflated price.

The DOJ says it is suing to prevent a deal that would “cement Penguin Random House’s dominance” in book publishing which would kill jobs and threaten the survival of a vibrant and diverse literature. In fact, that big picture stuff is window dressing so far as this trial is concerned. The DOJ is fighting the deal on exceptionally narrow grounds.

The applicable law here is the Clayton Act, Section 7 of which lays out a test to determine if a firm should be prohibited from buying another firm. If the deal would substantially lessen competition in a single market, no matter how small that market, it should be prohibited.

The task for prosecutors is to define the affected market. The DOJ’s lawyers are claiming that the merger would reduce the number of bidders for rights to “anticipated top-selling books,” driving down the advances paid to the likes of Stephen King, John Grisham, and Colleen Hoover. So there’s your market: “anticipated top-selling books” commanding advances on royalties of more than $250,000. Books earning advances of $250,000-plus are highly unusual, representing less than 1 per cent of the hundreds of thousands of titles published annually in the US, but they’re the “market” the DOJ is fighting to protect.

For the uninitiated, an author’s pay comes in the form of royalties, or percentages of revenue from each copy sold, typically 10 per cent of the retail price. To seduce authors, publishers often pay them advances against royalties. These are guaranteed money: the author doesn’t have to pay it back if the book doesn’t perform.

2. The Trial

In his opening statement, the DOJ’s lead attorney John Read showed the advantages of narrowly defining the market to “anticipated top-selling books.” The Big Five publishers—Penguin, S&S, HarperCollins, Hachette, and Macmillan—are the principal bidders for $250,000-plus books. As far as Read is concerned, no other publisher matters. He made hundreds of small and mid-sized publishers, including religious, children’s, educational, and other specialty publishers, and Amazon and its legion of self-publishers, disappear because they are infrequent bidders for books at $250,000-plus. Thus a huge, diverse, and messy publishing world was rendered somewhat wieldy.

Wieldiness matters because the entire publishing market is immeasurable. There are so many publishers and so many different kinds of books sold in so many different ways that they can’t be counted. It came out during the proceedings that no one at the Big Five has a clue how much money Amazon makes from publishing regular books, running a self-publishing empire, and its huge shares of the original e-book and audiobook markets. Publishing income is so immaterial to Amazon that it is never itemized in its financial reports but it may derive as much revenue from books as any of the Big Five.

In this big messy publishing world, a combined PRH+S&S might represent only 10 or 15 per cent of the total market, making it difficult for the DOJ to argue that the merger must be stopped before one huge, hairy firm dominates the book world. There is no bright line that proves dominance in a market, but you usually need to own about 40 per cent to get the conversation started.

Limiting the “market” to regular bidders for $250,000-plus books, Read argues that PRH+S&S would represent almost half of the “market” and claims that the merger crosses a threshold to illegality. The Herfindahl-Hirschman Index, a complicated measure of market concentration frequently employed in transactions such as this one, yawns when asked about the market share of a combined PRH+S&S in the larger book market. Asked about the dominance of a combined PRH+S&S in the narrow market of $250,000-plus books, it flashes red.

In his opening remarks, Penguin Random House’s lawyer, Daniel Petrocelli, ridiculed the government’s market for anticipated top sellers as “artificial,” an arbitrary invention. “We’re talking about a tiny increment of the overall market,” he said. “No one in the publishing industry has heard of this before. It does not exist.”

Petrocelli argued that as many as thirty publishers could conceivably be involved in negotiations for $250,000-plus books. When such books come up for auction, publishers outside the Big Five come in first or second in bidding 23 per cent of the time. (In rough terms, half of $250,000-plus books are acquired through competitive bidding at auctions held by the author’s agent; the other half are sold in direct negotiation between publisher and author’s agent.)

Petrocelli naturally took issue with the DOJ’s claim that allowing the Big Five to become a Big Four dominated by PRH+S&S would make auctions for anticipated top-sellers less competitive (the government claims the average big-time author would lose between $40,000 to $100,000 on each book sale should the merger happen). The big publishers, said Petrocelli, are highly motivated to buy promising books: it’s a blockbuster business. Whether there are four principal competitors or five, advances for the biggest books will continue to climb. (This makes sense: advances for blockbusters have done nothing but rise since Random House swallowed Penguin a decade ago).

Among the witnesses called by the DOJ to back its conception of a market for top-selling books was Michael Pietsch, chief executive of Hachette Book Group. He testified that anticipated top-sellers seldom go to a publisher outside of the Big Five and maintained that the Big Five are lodged permanently at the top of the book market. The big guys, said Pietsch, have large backlists of books published over decades. These lists include many proven, reliable sellers that provide a stable financial base from which a firm can make big bets on new frontlist books; almost a third of Hachette’s revenues come from its backlist. Frontlist books are inherently risky: a lot of them look like home runs until they meet the reading public, at which point many fail. Pietsch insisted that smaller publishers can’t afford to bet on promising front-list books and that it is inconceivable that a new entrant in the publishing business could ever produce a backlist that would allow it to compete with the Big Five.

The DOJ also examined S&S CEO Jonathan Karp and PRH CEO Markus Dohle. The DOJ attorneys enjoyed trotting out Karp’s personal emails. In one, to author John Irving, he said “I’m pretty sure the Department of Justice wouldn’t allow Penguin Random House to buy us, but that’s assuming we still have a Department of Justice.” (Fair comment at the end of the Trump era.) In another email to a Paramount colleague who was managing the sale of S&S, Karp said he preferred to be bought by a hedge fund that would need his expertise rather than a publishing competitor with expertise of its own. The colleague sold Karp to his largest competitor.

The CEOs spent their time on the stand denying the government’s charges that they would jointly dominate book publishing. They insisted that the market is more competitive than it looks. The most interesting fact dropped by Karp was that Simon & Schuster was recently involved in a million-dollar competition with Amazon Publishing, which has hired about fifty editors and signed a deal with blockbuster suspense writer Dean Koontz. That poses a substantial challenge to the government’s notion that the Big Five rule a defined market for anticipated top-sellers.

PRH’s Dohle did his best to convince the court that Penguin Random House would permit Simon & Schuster to bid against PRH for books even after a merger, perpetuating the market dynamics of the Big Five. He admitted under questioning that there is no legal force holding PRH to its promise.

Judge Pan appears to accept the DOJ’s line that the merger will affect competition: “It does seem that throughout this trial, there’s this sort of sense that competition raises advance levels, less competition lowers them, and that’s consistent with the idea that anytime there’s a competitive situation... you’re going to try harder because you might have to bid more in order to win, because more people are in it and bids are probably going to be higher.”

The question before her is whether the decrease in competition is of a sufficient caliber to block the deal.

I remain of the opinion that the DOJ case is uphill, although it would be better for publishing if the deal were blocked simply because publishing is healthier with more large houses.

3. Fun Stuff (in no particular order)

• Stephen King (above) brought some star power to the second day of proceedings. He talked about his career as the best-selling author of Carrie and The Shining and expressed the view that more consolidation in the industry would be “bad for competition.” King, who for long stretches of his career was commanding $15 million per book and publishing at least one a year, said it was becoming “tougher and tougher for writers to find money to live on.” Petrocelli was politely dismissive of the author and his testimony, not even bothering to cross-examine him: “I’d love to sit down and have a coffee with you someday, but I have no questions for you.”

• King told the court that early in his career he had asked Doubleday executive Robert Banker for a $2-million multi-book deal over lunch. Banker laughed, stood up, and walked out of the restaurant. King eventually got his money from a rival publisher. Judge Pan asked King if Banker expressed regret over his mistake. “Mr. Banker retired shortly thereafter,” said King.

• Penguin Random House’s internal assessment of the efficiencies that might be derived from absorbing S&S includes a reduction in operating costs as high as $95 million annually, which would include “reducing duplicative sales, marketing, and administrative positions.” Canadians ought to expect some of these savings would be achieved by combining the non-editorial functions of PRH Canada and S&S Canada.

• The publishers and their attorneys are trying to suggest that agents, rather than publishers, have most of the power in the book market. “The way you know the agents have all the power is that the publishers always pay for lunch,” said Petrocelli. (Really, all that means is that the Big Five have bigger expense accounts.)

• S&S’s Karp, describing how a lot of $250,000-plus books are acquired without an auction, said that firms occasionally wave enough money at an author to forestall competition: “Bruce Springsteen never talked to anyone else.”

• S&S is a shockingly parochial business. It generates 84 per cent of its sales in the US. (Probably another 5 to 10 per cent come from Canada.)

• The trial has not made a strong case for the sagacity of management at the big firms. The government let slip that 85 per cent of authors of top-selling books receive no revenues beyond their advances, meaning that very few of them earn out, or produce royalties from book sales commensurate to their advances. Meaning that the publishers routinely overpay.

• To the same point, about 70 per cent of all the money paid on advances by the Big Five goes to $250,000-plus books. Judge Pan asked if $250,000-plus books comprise 70 per cent of Big Five book sales. The answer was no, not even close.

• While arguing that the amount of money a Big Five firm spends to acquire a book does not guarantee its success, Karp recalled wasting seven figures on a book by a “spiritual leader” whose followers “didn’t follow him to the bookstore.”

• That sort of backward glance at promise vs performance seems to be rare at the Big Five. Judge Pan wanted more information on the “correlation between the books that are paid the highest advances and how they sell. It seems there must be some correlation. I’m trying to figure out how strong it is.” Said Karp: “We have not actually authoritatively studied that, and that may be a weakness on our part.” The best he could offer was that half his books made money; the other half did not.

• How’s this for sharp management: Brian Tart, publisher of the PRH imprints Viking and Penguin, told the court that a financial projection, or profit-and-loss report, is prepared for each individual book at the time of acquisition, outlining how many copies it is expected to sell, etc. These reports are “very rarely spot on,” he said, and never referred to after the book has been acquired.

• The big houses are skeptical about book marketing. One publisher said, “I don’t think marketing money can create a success,” it can only amplify or extend a success. That may be true but the big houses, we also heard, are not really trying. They spend little on marketing: roughly 2 per cent of expected revenue per book.

• Karp, on the question of whether the marketing might of big firms is a competitive advantage, said “the idea that any publisher can make a book a bestseller is false… anybody making that promise would be putting themselves in a very dangerous credibility place.”

• PRH’s Dohle said that the top 4 per cent of his books produce 60 per cent of his profit. The best books, he says, are the ones “that you don’t pay a lot for and become runaway bestsellers.” He excuses the fact that so few of his big bets pay by comparing himself to a venture capitalist. The book industry, he says, is “the Silicon Valley of media.” Publishers are “the angel investors” who put money behind the ideas and dreams of authors.” He said he actually calls his editors and publishers “angels.”

• Karp was less grand about bets that pay. Taking credit for the success of a book, he says, “is like taking credit for the weather.” I like the humility but wonder how he justifies his salary.

• Hachette’s Pietsch revealed that Hachette keeps a list of “the ones that got away,” by which he means $500,000-plus books for which he was outbid. Of the 302 titles on the list, Hachette lost 124 times to Penguin Random House, and a bunch more times to S&S. The implication was supposed to be that PRH combined with S&S would own almost half of the top-seller market. But the main reason Hachette keeps the list, it came out, is cautionary: most of the “ones that got away” were dodged bullets. Another publisher over-paid and lost big on a book. “Thank goodness we stopped bidding when we did,” said Pietsch.

• Several of the witnesses have an angle. Petrocelli’s cross-examination squeezed from Pietsch the admission that Hachette would love to acquire Simon & Schuster should the Penguin Random House deal fall apart. The DOJ wrung from S&S’s Karp the fact that he’s in line for a huge bonus if the sale to PRH goes through.

• Some agents ask publishers to guarantee how much they will spend on marketing a book before they’ll sign. Most won’t.

• Some authors are able to extract contract terms from publishers that include budgets for wardrobe, hair, and makeup.

• Agents for some top-selling authors are shopping manuscripts to publishing houses with “as is” clauses attached. In other words, no editing.

• Simon & Schuster lost a million-dollar book deal with actor Jamie Foxx to Hachette.

• Tart told the court that his imprints missed out on a couple of spectacular books, including Delia Owens’ Where the Crawdads Sing. “Talked about it. Didn’t think it was going to be big. Didn’t even bid on it.” Asked by a defense lawyer if the Owens’ book was an “anticipated top-seller,” Tart replied, “not by me.”

• Simon & Schuster has lost four big books to a Macmillan imprint affiliated with Oprah Winfrey, including one that went for $1 million.

• I mentioned above that Amazon’s seven-figure bidding blows a big hole in the government’s case. It’s not the only one. The publishers noted that Amazon was able to steal bestselling crime writer Patricia Cornwell from HarperCollins a few years back. The DOJ claimed this was irrelevant because Cornwell eventually returned to HarperCollins but surely the salient fact is that Amazon is in competition for the likes of Patricia Cornwell? One of Cornwell’s major complaints with Amazon was that its books weren’t carried in independent bookstores; that is already changing. Colleen Hoover, the hottest thing in books right now, has published with both Amazon and S&S.

• Other holes. Scholastic, the leading children’s publisher, routinely outbids Big Five firms for children’s and young adult books.

• Other non-Big Five publishers that spend over $250,000 for books: Flatiron, Norton, FSG, Hay House, and two academic presses: Princeton University Press and Harvard Business Review Press.

• Astrophysicist Neil deGrasse Tyson turned down a million-dollar offer from Simon & Schuster to remain with Norton, an employee-owned mid-sized publisher. The great Michael Lewis also publishes with Norton and undoubtedly gets $250,000-plus advances.

• Molly Stern, who left Penguin Random House to found the well-financed firm Zando, is making big waves in New York publishing and going toe-to-toe with the Big Five on some projects. She hired Gillian Flynn, author of Gone Girl and Sharp Objects to run one of her imprints and has a book, The Empress, coming out this October in partnership with Netflix.

  It has been a fascinating trial so far. I’ll be writing about it next week, as well. I see a larger story emerging that no one is talking about.

  ---

  

  Click this link to make the above map come alive.

  Better yet, click here for the Sutherland House website and order one of our latest:

  

  Our Newsletter Roll (suggestions welcome)

  Steven Beattie’s That Shakespearean Rag, a newsy blog about books and reading

  Art Kavanagh’s Talk about books: Book discussion and criticism.

  Gayla Gray’s SoNovelicious: Books, reading, writing, and bookstores.

  Esoterica Magazine: Literature and popular culture.

  Benjamin Errett’s Get Wit Quick, literature and other fun stuff

  Lydia Perovic’s Long Play: literature and music.

  Tim Carmody’s Amazon Chronicles: an eye on the monster.

  Jason Logan’s Urban Color Report: adventures in ink (sign-up at bottom of page)

  Anne Trubek’s Notes from a Small Press: like SHuSH, but different

  Art Canada Institute: a reliable source of Canadian arts info/opinion

  Kate McKean’s Agents & Books: an interesting angle on the literary world

  Rebecca Eckler’s Re:Book: unpretentious recommendations

  Anna Sproul Latimer’s How to Glow in the Dark: interesting advice

  John Biggs Great Reads: strong recommendations

  Mark Dykeman’s How About This: Atlantic Canadian interviews and thoughts on writing and creativity.

  ---

  THAT’S IT FOR THIS WEEK. THANKS FOR READING. PLEASE SIGN UP OR CONVINCE SOMEONE ELSE TO SIGN UP, OR SHARE, OR LEAVE A COMMENT: