What happens next?
30.10.12 | Philip Jones
When Penguin bought self-publishing platform Author Services, I wrote that the publisher had changed the conversation. In agreeing a deal that sees Penguin form a new company with Random House, what can now be said is that the two publishers have redefined what it means to have that conversation, and what we think about when we think of a trade publisher.
Penguin Random House, at about £2.3bn ($3.7bn), will become the biggest consumer book publisher we've ever known, perhaps £600m bigger than its nearest global rival Hachette. Even at that size though, it will be dwarfed by the huge tech giants such as Amazon, Apple, and Google, and remains a halfling when compared to the non-trade publishers such as Reed Elsevier, Wolters Kluwer, Thomson Reuters or even Pearson Education. Even in old world terms, it is not the biggest player on the block. It will not even be half the size of the huge US (and now international) bookseller Barnes & Noble.
Crucially, neither party wanted to get out of the consumer book business, in the way that Reed Elsevier did when it tried to sell Reed Books in the late 1990s. On a Channel 4 blog culture editor Matthew Cain wrote that "the merger is still significant because it provides the first taste of the future of publishing in our increasingly digital world". He adds that the interest from NewsCorp in acquiring Penguin shows that "it's still very much an industry worth fighting for".
Bertelsmann and Pearson both retain a stake in the new operation, and an interest that must last for at least three years. In the Independent, Profile m.d. Andrew Franklin says it is a "racing certainty" that Penguin will be bought out by Bertelsmann in either three or five years, but looking even three years ahead seems problematic to me. Until recently, Bertelsmann was beset by debt problems, and still carries more than €3bn in debt on its balance sheet. Bertelsmann is also said to be in the hunt for Springer Science, a deal that could cost it as much as €4bn, and transform the shape of that company. In addition, the deal allows Pearson to retain rights to use the Penguin brand in education markets worldwide. It is hard to quantify at this point how valuable that nuance will be to Pearson. In three, or five, years' time all parties may be thinking differently, with a Stock Exchange listing likely to be the safest exit route.
What is clear is that Bertelsmann, with 53% of the equity, and its executive Markus Dohle in the c.e.o chair, is in the driving seat, perhaps a consequence of the discussions having been begun by Pearson. Bertelsmann has also held its ground on valuation: despite all the talk of Penguin's brand name the 53:47 split is roughly equivalent to what each will contribute in sales based on their 2011 numbers. Of course these numbers are pre-Fifty Shades, and follow a period in which Penguin's sales have declined, implying that Bertelsmann has stuck to the 2011 valuations, despite the market turning in Random's favour.
The rationale behind the deal has been well documented. A better question is: what happens next?
First, I don't expect the deal to fall foul of the regulators; there is enough wriggle room, and in a non-Fifty Shades year, the combined market share might anyway be just below the 25% threshold. It would not surprise me if the OFT took an initial look, and then launched a wider review of the entire book market. As many have pointed out, blocking a deal that gives Penguin Random House a quarter of consumer book sales makes little sense in a world where Amazon is at 40% of print and digital, and 90% of digital alone. There are, anyway, non-core assets both could dispose of, if the regulator presses its case.
Second, while much of the talk has been about bulking up to address digital and confront the global tech companies, we should not ignore what consolidation often brings with it—cost-cutting. The combined group will have huge physical scale, in terms of books printed and moved around, but gains this heft just as that bit of the business is in decline. This deal means they can maintain economies of scale around printing and distribution, even as digital grows. But the structure set up to support this print business is clearly under threat, and will need to be managed down.
Third, this deal could really be a game-changer for how publishers approach digital. Dohle told Publishers Marketplace that the combined business would "expand the readership in this country" and "invest a lot in product development and reinventing the reader experience". Outgoing Pearson chief executive Marjorie Scardino talked of investing "more for their author and reader constituencies" and of being "more adventurous in trying new models in this exciting, fast-moving world of digital books and digital readers." The acquisition of Authors Services will clearly play its part, but top of the agenda must now be a consumer push, leveraging the Penguin brand to compete against Amazon and Apple. This may seem ambitious—no trade publisher, save perhaps for Mills & Boon, has made a decent fist of selling direct, but as Penguin c.e.o. and chairman John Makinson told The Bookseller: "One of the things scale gives us is the opportunity to take risks, and we will certainly be doing that." It is now or never.
Fourth, I also now expect a swift resolution of the ongoing agency suits. Dohle has showed his skill in negotiating agency deals, but keeping out of the legal tangle that ensued. Makinson told The Bookseller that Penguin would fight on, but he also said the publisher would have “a more complicated relationship with the Department of Justice" as a result of the merger announcement. He confirmed: "On the agency issue, we have done nothing wrong, and we are standing by that." The agency case is due to reach courts a few months before this deal is scheduled to be concluded (in the second half of 2013), but it is hard to believe the boards of both companies won't want a resolution before this new entity takes flight.
Fifth, we will now see other such mergers, with Rupert Murdoch clearly also in the hunt for bulk when he divests the publishing assets from the rest of News Corp. Predictions that suggest the big six will slowly become the massive two, look worryingly accurate. Authors and agents are right to be concerned, though consolidation at the top does not necessarily lead to a thinning out of competition among the ranks. Transworld is still run independently in the UK, a decade after its parent Bertelsmann bought Random House.
That all said, the new world, one in which huge tech platforms battle for content deals with gigantic content providers does not feel immediately appealing, even though authors will remain at its core. Viewed from ten or even five years ago, there would have been a chorus of complaint, and rightly so. But the context has changed so dramatically that it is impossible to deny the logic. Since the big publishers have tried collaboration and failed miserably at it, consolidation is the only option.
In moving first, Penguin and Random House have gained a huge advantage over their rivals in the short term, it remains to be seen if it takes them to where they need to be in the longer term.