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Digital Book Wars

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A piece I wrote for the upcoming May issue of Risk Management:

In 1999, the Department of Justice found that Microsoft had violated the Sherman Antitrust Act. It had essentially created a monopoly in the market for operating systems designed to run on Intel-compatible PCs, claimed the government. In a settlement, Microsoft was ordered to share its programming interfaces with third-party companies, a punishment that only recently expired. United States vs. Microsoft was arguably the most closely watched corporate legal case in recent history. Now, one may eclipse it.

On April 11, the DOJ filed suit against Apple and five large, traditional publishing houses, alleging that they committed antitrust and price-fixing violations in the e-book market. According to the allegations, Apple, HarperCollins, Hachette Book Group, Macmillan, Penguin Group Inc. and Simon & Schuster Inc. conspired to increase digital book prices and force Amazon to abandon its discount sales strategy.

As the first real player on the e-book scene, Amazon was able to dictate pricing to publishers, and it frequently sold digital books below cost to boost sales of its Kindle reader. Though book publishers largely opposed the practice, they didn’t have much choice since there were few other viable options for publishing and selling e-books at the time.

But when Apple came along with its iPad and got wind of publishers’ unhappiness with Amazon, the tech company decided to make a move. Apple introduced an agency pricing model under which the publishers set digitial book prices and Apple received 30% of the sale. For publishers, this was obviously a more attractive option than Amazon’s pricing strategy. And eventually, as more publishers threatened to withhold their titles from Amazon, the retailer adopted the agency pricing model as well.

The new model allowed Apple to gain a toehold in the potentially lucrative e-book market. And just as when it debuted the iPod and iTunes in the same year, the company was now positioned to profit from sales of both iPad hardware and content, rather than just from the hardware alone. “This would be sound commercial logic,” said Frances McLeod, managing partner at Forensic Risk Alliance, “but all commercial
activities must take place within the bounds of the law.”

The DOJ is not the first to question Apple’s influence on e-book pricing. The alleged conspiracy to raise e-book prices was the subject of a class action lawsuit filed against the same parties in a California district court last year. And in December 2011, the European Commission opened a formal antitrust probe for similar reasons.

So what does all of this mean to the parties involved? While publishers are likely pleased with the move away from Amazon’s discount pricing, it is their investors who will be keeping a close eye on the legal proceedings. “The actions of the DOJ will also have been observed by shareholders and by those who feel they have been wronged, raising the possibility that owners and litigants may also act to investigate alleged bad behavior,” said McLeod.

As for the retailers, Amazon has already made a few other enemies in the book publishing industry. Scott Turow, best-selling author and president of the Author’s Guild, has called the retail giant “the Darth Vader of the literary world,” suggesting that the company’s tactics will unfairly undermine brick-and-mortar booksellers and, ultimately, the publishing industry itself.

Apple is not faring much better. For a company that prides itself on its reputation and ability to understand consumers, its customers could turn on the tech giant if they believe that it is Apple’s fault that they are now paying more for digital books. In fact, after the price war began, Amazon was forced in some cases to raise e-book prices as much as 50% from its initial consumer-friendly $9.99 price point.

The DOJ lawsuit has already led to other changes. HarperCollins, Simon & Schuster and Hachette settled with the government, agreeing to grant retailers the ability to reduce prices. Under the agreement, the three publishers will also be forced to create new contracts with Apple and other e-book sellers.

But this story is far from over. The DOJ is vigorously pursuing claims against Apple, Macmillan and Pearson, all of which opted not to settle. States including Texas and Connecticut—and let’s not forget Europe—are also seeking separate litigation against the involved companies.

Ultimately, many players in the market still have unfinished business. It seems one thing is finished for good, however: the agency pricing model.

More Bad Press for Apple

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Here we go again.

In response to Apple’s bad reputation for its alleged unethical working conditions and treatment of employees at its manufacturing plants in China, users of Apple products are fighting back. Local customers are planning to deliver a quarter of a million petition signatures to Apple stores in headquarters such as Washington, DC; New York City; San Francisco; London; Sydney; and Bangalore. The petition demands that the consumer electronics giant make the iPhone 5 “ethical.”

This Thursday, February 9 at 10am, local consumers plan to deliver a signed petition to the Apple store in Manhattan’s Grand Central Terminal. The movement was started by Mark Shields and his site, Change.org.

“I have been a lifelong Apple customer and was shocked to learn of the abusive working conditions in many of Apple’s supplier factories,” Shields. “At Foxconn, one of Apple’s biggest manufacturers, there is a history of suicides, abusive working conditions, and almost no pay. These working conditions are appalling, especially for Apple.”

The conditions at Apple’s Foxconn plant are hardly news as the topic has been in the national press for several months (we covered the issue last year in Risk Management and have written about it extensively on this blog). It seems, however, that Apple is being less-than-forthright in correcting a wrong that has been made public and, in doing so, has scarred the company’s reputation. What will it take for Apple to get a hold of a risk that is affecting their image and, possibly to come, their bottom line? Their recent, minimalist damage control methods may not be enough.

Managing Strategic Risk: Yahoo’s Crisis

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All the major tech sector firms have their issues. Apple just lost its transcendent leader. Google’s sprawl, some fear, may be leading it down the same path that Microsoft took as it lost its crown as king of the tech mountain. Facebook, well, really, doesn’t have many real problems considering that its rumored-to-be-coming-soon IPO is expected to take in $100 billion. But privacy concerns persist — so much so that an FTC investigation led the agency to mandate the social network to undergo 20 years of privacy audits and obtain consent from users before sharing their personal information.

But such issues pale in comparison to the crisis Yahoo faces, something that is enticing some firms to make a bid for the former tech giant.

http://www.bloomberg.com/news/2011-11-30/alibaba-led-group-said-to-prepare-bid-for-yahoo-web-portal-s-shares-jump.html

Primarily, the company is suffering from a lack of diversification of its revenue stream. To remain healthy, it likely needs to find ways to make money that aren’t related to email, as the chart above from Business Insider shows. As the publication notes, “For all of its success, at its core, Yahoo is still an email business. People use Yahoo email and then from there land on its other properties. The rise of smartphones and iPads is a problem for Yahoo. On those devices, email is a native application that doesn’t encourage people to checkout Yahoo’s pages.”

We highlighted this threat — which, at least in part, prompted the company to fire CEO Carol Bertz in September — in our annual “Year in Risk” look-back at previous 12 months.

The CEO of Yahoo, a company that helped define the internet as a revolutionary means of communication, found out the old-fashioned way that she had been fired: over the phone. Carol Bartz’s uninspiring two-year reign atop the firm came to end as the company showed little ability to adapt its business model to thrive in either advertising or content creation after partnering with Microsoft in hopes of preserving its original core business — internet search. Yahoo’s stock has yet to recover after cratering in late 2008, leaving many tech analysts to wonder if the company has a future.

It’s hard to say what the company will do to revamp its long-term strategy.

But it is becoming increasingly clear that the current route may be a path to nowhere.

Biggest ID Theft Bust in U.S. History

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In the largest bust of its kind, authorities arrested 111 people in connection with a massive identity theft operation based in Queens, New York. The suspects are allegedly responsible for fraud losses that amounted to more than $13 million in the 16-month period between May 2010 and September 2011.

The group, who apparently have ties to gangs in Asia, Europe, Africa and the Middle East, were under surveillance for two years in a sting called “Operation Swiper,” in which police placed wiretaps on dozens of phones in the area, intercepting thousands of conversations in Russian, Mandarin and Arabic.

This is how the thieves apparently operated their massive scheme:

Bosses of each crime ring received blank credit cards from suppliers in Russia, Libya, Lebanon and China. The bosses then hired “skimmers” who posed for jobs such as waiters and retail shop workers so they could use electronic devices to steal information from customer credit cards. That information was then sent to a “manufacturer” who programed the information into the magnetic strips of blank credit cards.

The crime rings also used card printing machines to forge credit cards and state drivers licenses to match them. “They can actually make a license from any state in the union, print credit cards of any color and even put the holograms on there,” said NYPD deputy inspector Gregory Antonsen.

Police then said “shoppers” in the crime rings would use the forged credit cards and IDs to go on weekly shopping sprees around the U.S. at retailers such as Nordstrom’s, Macy’s, Gucci and Best Buy and sell those items mostly to people overseas.

But by far, Antonsen said, thieves spent the most time buying computer products from Apple. “This is primarily an Apple case,” Antonsen said. “Apple is a big ticket item and a very easy sell.” Antonsen added forged credit cards were easy for criminals to make here because U.S. credit cards are less sophisticated than those in Europe, where fraud of this magnitude would have been much more difficult.

Which brings us to the topic of U.S. credit card companies and their lack of initiative regarding credit card security. Queens District Attorney Richard A. Brown mentioned just that when he accused U.S. credit card companies of “putting too much money into marketing and not enough into security.” He stated that these companies would rather take the losses than invest in much-needed security measures.

Europe has already caught on to the fact that credit cards need the highest level of security embedded into them. European cardholders are required to enter a personal identification number on a keypad during purchases. These “smart cards” also contain computer chips that encrypt the customer’s transaction information. U.S. banks issue cards with a simple magnetic strip on the back, which are more vulnerable to thieves.

American banks realize they need to change, but are reluctant to do so because, of course, it costs money. The good news is, however, that change must come — and soon. Both Visa and Mastercard have announced that retailers who do not support smart cards by 2015 and 2013, respectively, would be liable for fraudulent transaction.

Is the smart card our answer to credit card fraud by way of ID theft?

Maybe. But only until thieves figure out a way to outsmart the smart card.