No One Warned the Dinosaurs. Will Anyone Warn the Publishers?

The major publishers are in a difficult position: they are service companies that function like manufacturing companies -- 20th century businesses in a 21st century economy.
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When the dinosaurs were in the midst of their demise, did they have any idea they were facing extinction? If they knew, could they have changed course?

There are many people inside the major publishing houses -- those, at least, who have survived the industry lay-offs of the last few years -- who may be wondering the same thing. The best-seller price war that is being waged by the mass merchandisers is the latest symptom of a problem that has been growing larger and larger. The major publishers are in a difficult position: they are service companies that function like manufacturing companies -- 20th century businesses in a 21st century economy. The control of the book business is gradually slipping out of their hands.

Thirty years ago, publishers dominated the book business. Thousands of retailers carried their books, but even the biggest among them -- the regional chain stores and the department stores -- were not large enough to impose their will on the publishers. Publishers -- mostly family-owned businesses -- could do what it took to develop new authors and promote a full line of books.

All of that has changed. Walmart, Target, Costco, and other mass merchandisers now control about 30% of the book market; Barnes & Noble and Borders have another 30%; claims another 15%. The publishers have long since lost the upper hand in dealing with this group. The mass merchandisers return books to publishers at a rate of 40% or more, and the rate of returns from the chains is often considerably higher. The demands of each of these players for sweet-heart price terms and additional promotional money are incessant. Barnes & Noble, and probably soon, has begun publishing its own titles to compete with many of the publishers' offerings. One of the chains, Borders, has been flirting with insolvency for the past couple of years and threatens to leave the publishers with a mountain of unpaid bills (the book business equivalent of a company that's "too big to fail"). Publishers find themselves in the intolerable position of having to give in to the demands of the strongest of the mass merchandisers while absorbing the losses of the weakest.

Peter Olson, former CEO of Random House publishing, gave this bleak assessment of U.S. publishing in a January 2009 article in Publishers Weekly. Publishers, he said, are faced with the agony of becoming "bankers without the prospect of a bailout."

Initial orders for new titles will be cut further, shelf lives of slow-moving titles will be shortened and return rates probably will spike to unprecedented levels in the first half of 2009. Bookstore chains will attempt to make publishers share their pain by demanding more favorable discounts, additional payments for front-of-store placements and significantly longer payment terms. With cash flow concerns paramount, the existing tension between retailers and publishers will escalate.

Nothing that has occurred since then has done anything to prove Olson wrong.

The major publishers are now forced to deal with these other large players on their terms. In a world of shrinking sales and ballooning costs, they've grabbed on to what appears to be a life raft - the celebrity best-seller. These are the books, the major publishers hope, that will generate big enough sales at the mass merchandise outlets to offset all of their losses elsewhere. But this is a strategy that spells trouble for the rest of the book business. Once again, in the words of former Random House CEO Peter Olson:

Publishers will likely continue to overbid for potential bestsellers, justifying their offers on marginal contribution from outdated sales projection models. This means bad news for other writers, as the willingness of publishers to invest time and money in developing new projects and of retailers to risk stockpiling unknown authors may drop precipitously.

And could it be that this strategy will backfire against the publishers themselves.

The mass merchandisers are now in a price war in which they are selling these bestsellers below cost in order to bring in customers for their other, higher-priced merchandise. This is a classic loss-leader strategy. The big merchandisers have decided that it's worth losing a few dollars on each book in order to get the traffic. But what if that changes? What if these same retail giants decide they like selling these books at $8.00 a copy but they don't like losing $4.00 or $5.00 on each sale? Inevitably, they'll try to squeeze more concessions out of the major publishers. But if that's not enough, then what?

In the mind of many publishing executives there's probably this nightmare scenario: the publishers might be cut out altogether. In this bad dream the buyer at Walmart sits down with the celebrity-author's agent and asks this question: "What if we give your guy his normal royalty rate on each copy of the next book, and then we print it and sell it ourselves? Who needs the publishers anyway?"

Who does need the publishers? The answer: just about everyone else.

As an independent bookseller, I find the weakened condition of the major publishers alarming. And this weakness is bad news for writers and readers as well.

This is part one of a two-part article
Part two: What can publishers do to get out of this mess?

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