Book Publishers: Are They Car Companies or Banks?

Amid all the horrible economic news, there was a little blip in book publishing this week that may turn out to be a milestone in the evolution of the business. Three major publishing houses announced significant changes–the remaining firms will certainly follow suit in the weeks and months ahead.

The problem is the cascading effect of a collapse in sales. Boris Kachka, New York magazine’s publishing reporter, takes this to mean Random House is like General Motors, a sclerotic firm plagued by too many marques and overcapacity. Surely the six major publishers produce far too many books over-stuffing bookstores with less-than-compelling fare.

Others will view Black Wednesday–the moment earlier in the week when Houghton Mifflin lost their publisher; Random House carved up the remains of its decade-old Bantam Doubleday Dell acquisition and fed the pieces to the firm’s own sharks; and Simon and Schuster announced 30+ redundancies–as a product of the relentless digitization of entertainment and information. In this scenario, books are just another victim of the collapse of the print business model that has already pushed the newspaper business to the wall.

Although no meaningful alternative to printed books yet exists (hello, Amazon, we’re all waiting for Kindle numbers here!), skeptics have been predicting the demise of books for more than a decade even as sales of individual titles grow to higher and higher levels. Indeed, one of the curiosities of the book business has been its role as revenue generator of last resort. In our new media landscape where there is less friction against generating fame, it is also harder to generate cash from one’s notoriety.

Basically, you’ve got two options: speaking and book sales. Both business have grown dramatically since everyone gave up on the future of the book. And there’s a long list of celebrities–real and imagined–who milk their fame through appearances and bestseller lists. If that’s the case, why is the publishing business in such bad shape? and will this downturn be more than a cyclical slump?

To answer the second question first, yes. And now, the first: the publishing business is more like the over-leveraged banks that have lost their business model than the cost-heavy car business that needs to deal with its legacy burdens (and become less dependent on pickup trucks.)

Publishers, like banks, are cutting jobs because that’s the only thing they can do. But none of those employees are the cause of their losses. At the banks, management needs to raise cash to cover collapsing asset values. For publishers, an overhang of leverage is burying them. And job cuts won’t begin to address the problem.

Now, when I say leverage you’ll immediately think of a firm like Houghton Mifflin that was bought by a private equity player. Last week, they ineptly announced that a freeze on acquiring new titles. It was the first sign of a terrible cash squeeze. So you would be right read leverage as too much debt. But only in that one case. Debt is not the leverage that’s killing the book business.

For many years now but accelerating recently with the rise of celebrity non-fiction, the major publishers have gotten leveraged up on new authors. When Houghton announced their freeze, the company got pilloried for the decision. How can a publisher survive if it doesn’t find new authors and books? Agents were outraged.

But the dirty secret of the book business is that publishers have issued advances–a guarantee against future royalties that is like a bond–the way banks pumped out mortgage-backed securities and CDOs. They did it recklessly and with abandon, hardly doing any meaningful research. Author advances are the original no-doc mortgages. They base their lending decision on nothing more than a feeling that the author is good for the money.

Advances are a bit like credit default swaps too in that they involve one party taking on outsized risk while the other party is protected both ways.

What do I mean? Well, think of it this way, an author receives an advance based upon publisher’s expectations of their ability to generate sales. Publicity is assumed to be the precursor of sales. So publishers pay for authors they believe will get a lot of attention: politicians, tv personalities, figures with excotic personal stories or tragedies, diet doctors, alluring novelists and cork-screw coiffed pop scientists, bloggers, business gurus, CEOs . . . the list goes on and on but you get the picture.

Book agents exist to manage–and, at times, incite–bidding among houses but it is the publishers who make the decision to give Ted Kennedy $8 million or an obscure insurance analyst who has been palling around with Warren Buffett $7 million. (In an interesting footnote, most people don’t realize that Doris Kearns Goodwin exploited a similar intimacy with LBJ to establish herself as an author. Though she had to wait for another book or two to get the big advance.)

With those advances, the publisher assumes all of the risk for the author. The publisher is leveraging the perceived future revenues with present cash flow. In the layers beneath the multi-million dollar advance, there are scores of these risk grenades–they’re certain to do ugly damage–weighing down the book companies’ balance sheets.

These are the costs that publishers need to reduce. Unable to renegotiate these crippling deals, Houghton did the sensible thing and called a moratorium on further damage. Rightly, they think they should stop shoveling if they hope to get out of the hole they’re in.

The hole has been made bigger in recent weeks by the collapse of retailing. This is ironic because books are supposed to be a consumer staple, an anti-recessionary cheap form of enriching escape that thrives when the economy stalls. Even funnier, books themselves may hold up well in these tougher times. It’s booksellers and book publishers who will suffer.

The sea change in the book business isn’t from print to digital. It’s not from paid content to free content like in journalism. The sea change comes from the shift away from bookstores. No one goes to Borders or Barnes and Noble anymore. It’s just not a stop on the weekend errand-and-entertainment circuit. If you want a book, you swing by the power aisle in Costco, browse the airport newsstand or one-click from Amazon. The books that do sell sell better than they’ve ever sold before. Just ask the Twilight girl or Nassim Taleb.

Unfortunately, these successful authors are subsidizing all of the failed ones. When the book publishers lever themselves up, they play Robin Hood. They steal from those rich in sales–who only receive a fraction of their book’s value–and give to the poor souls who think they’ve got something interesting to say. Publishers engage in a massive redistribution from the deserving earners to the undeserving posers. And, in case you want to clutch the old myth about mass crap supporting high-brow art, the undeserving here are truly undeserving. They’re that long list of misbegotten peudo-celebrities above. (How things got this way is another, longer story. I’ll tell it to you some other time.)

So, like useless McMansions in the exurbs, most books are mistakes. The good news is that there’s a solution for the publishing business. But that will have to wait for another post too.


Who Will Bailout the Publishers?
New York Magazine, December 5, 2008

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