June 01, 2008

Hi, I'm From Amazon and I'm Here to Help

by Alan Beatts

This is the third in a series of articles about current changes and trends in the book business. The last one looked at Borders Books and Music's financial woes and the possible consequences for authors and readers. The final article in this series will take a look at eBooks and the possible effects of that technology. This installment is going to consider Amazon.com's recent business moves and where that might lead the book business and the book-loving public.

Last month I started with a long disclaimer about my built-in bias as an independent bookseller when it comes to chain stores. I need to mention something like that this month as well but not as strongly. Compared to Borders and Barnes and Noble, many booksellers are even more upset about the effect that Amazon has had on their business, but I'm not one of them. Amazon started the same year as Borderlands and many times since then I've pointed out that what Amazon does is very different from what we do. I think that, in general, ecommerce is a great thing. I shop on the internet with some frequency (though not for goods that I can buy from a local business) and I think that the overall effect of ecommerce has been positive. But shopping on-line is no substitute for actually going into a store, picking out what you want, and walking out the door with it. And this goes double for book-shopping. When it gets down to it and no matter how hard Amazon and other vendors have tried -- browsing on-line is deeply unsatisfying. So, although Amazon does compete with my shop, I have enough faith in the unique qualities that my physical store offers that I don't bristle and shake my head when I see an Amazon box being delivered.

And what's Amazon been up to recently? Quite a lot, actually. I'll run down the list in no particular order.

1. Unbox. Like Apple and Netflix, Amazon is getting into the digital distribution business. Unbox is their movie download service. According to reports, it works pretty well but, like Netflix's offering, it is lagging behind the leader -- Apple. Right now movie downloads are more experimental since the whole system is hampered by glacialy slow speeds due to bandwidth limitations but, as "final mile" (the last segment between central stations and individual computers) speeds increase this is going to be a big money business

2. MP3 Downloads. Also lagging behind Apple but not doing too badly, Amazon is the #2 music download service (based on some third party figures, Amazon is selling around 10% as much music as Apple - not too bad considering that they don't have anything like iTunes or the iPod).

3. eBooks. Although they started this after the previous two lines, Amazon has gone after the electronic book market in a big way. In such a big way that they're manufacturing their own ebook reader, the Kindle. Amazon also owns MobiPocket, who manufactures the most popular multi-platform ebook reading software. MobiPocket also sells ebooks from their website.

4. Printing. Amazon owns BookSurge, one of the biggest print-on-demand printers in the world. Print-on-demand is a system where a book, rather than being printed in large numbers and stored until it's sold, is saved as an electronic file. When the book is ordered, the file is sent to a big machine that incorporates multiple printers and an automatic binder. Net result is file goes in one end and printed book comes out the other. A clever (but expensive) system, and it allows books to stay "in print" indefinitely. Though it is mostly used by smaller publishers, some of the big New York publishers use print-on-demand for slow-selling or older titles.

5. Audio Books. Amazon also own Brilliance Audio and Audible.com. Brilliance produces audio books and Audible is a major site for downloading audio books. Interestingly, Audible is Apple's main audiobook supplier for the iTunes store.

6. Web Services. Amazon has started selling time on their computer servers in a very clever fashion. As you might guess, Amazon has some very serious server computers to support their business. Much of the time these servers aren't being used at anything like full capacity. So Amazon is renting out web-servers. Many of the companies that are using this service are doing so for . . . yup, you guessed it -- ecommerce.

With a list of stuff like that it's obvious that Amazon has more than one iron in the fire (as you would expect from a company of that size) but the overall picture is that they're taking a big step from being a merchant (i.e. buying goods from manufacturers and selling them to the general public) to being a manufacturer in their own right as well as providing support services for other manufacturers. At the same time, Amazon is "flexing" its muscles in relation to its suppliers. Here are two examples --

They informed all the publishers who list their books for sale on Amazon that, if the publisher produces their titles using print-on-demand, they must use BookSurge as their printer. They plan to extend this policy across the board to all publishers, a move which the head of one of the major houses called "outrageous".

In the ebook arena, Amazon has set the price for downloaded books for the Kindle by fiat in most cases. The prices that they've set, though reasonable based on the costs of ebooks compared to physical books, are in many cases _much_ lower than that of the physical counterpart (i.e. $9.99 compared to $21.99 for the bestseller The Last Lecture). Publishers are not very happy about that but they are playing along, in part because Amazon is their second biggest customer (Amazon's North American sales in 2007 were $4.63 billion compared to B&N's $5.16 billion while Borders accounted for only $3.8 billion).

I fear that Amazon is acting like the scrawny and slightly odd kid at school who has a growth spurt over the summer and then comes back to school as a real bruiser and a bully. It's not really their fault though -- they just never learned to play nice with the other kids.

Here's a good example of how Amazon never learned to play "nice". Seattle's indie paper, The Stranger noted in an April article that Amazon is unique among Seattle-based large businesses in that they have _never_ made any donations to the arts in Seattle. Yup, that's right -- not one dime for ballet, plays, opera, museums, and so forth. That's really strange. Even Macy's and Boeing (which isn't even based in Seattle anymore) donated many thousands of dollars last year.

Unlike our theoretical schoolyard bully, when it comes to books there isn't a bigger kid in the neighborhood who might put Amazon in its place. Not one but two major publishers commented recently that, "They need a competitor" but there is no sign that one is out there. The closest is BN.com, Barnes & Noble's on-line presence, but last year BN.com did about one tenth of Amazon's business in North America and an even smaller percentage overseas. So, where's Amazon heading? I'd say that they're getting ready to start dictating terms to their suppliers (much as Walmart does) while busily integrating vertically (i.e. setting themselves up as the producer of their products as well as their retailer). As I've mentioned before, this kind of vertical integration is usually bad for everyone because it limits diversity as well as giving the integrated company a huge advantage over their competitors (not that Amazon really has any competitors).

But, Amazon might be in for a surprise. To continue the example of the bully who is the biggest kid at his school and gets to do pretty much what he wants -- what happens when this kid moves to a new school? He may be in for a very unpleasant surprise when he runs into a much bigger, smarter, and meaner kid.

And the bigger kid in this story is a bit surprising -- it's Apple Inc.

As Amazon moves further away from typical internet sales and deeper into delivering digital media (plus the personal devices that go with it) they are starting to tread into territory firmly occupied by Apple, Microsoft, and to a lesser degree, Google. Consider that two of Amazon's three digital content elements (movies and music) are areas that are the focus of major attention and development for Apple. Add to this the Kindle, which is plainly geared to be the iPod equivalent for ebooks and which shares a number of features with the iPhone (web browsing and wireless purchase/download of content through a deal with cellphone companies). Another indication that Amazon's and Apple's areas of business are beginning to intersect is the common tie they have to Audible.com for audiobooks -- Amazon owns it and both Apple and Amazon use it as their main source for downloadable product.

As long as Amazon was satisfied with staying in their pond and concentrating on sales of physical goods, there was no reason for Apple to pay any attention to them. But, if Amazon continues to build their digital content business and gears it as an alternative or competitor to Apple, it seems a forgone conclusion that the two companies are going to go head to head. And, when it comes to digital content and devices, Amazon is going to get pasted if it goes up against Apple. Consider this --

In the third quarter of last year, Apple's income was greater than Amazon's for the entirety of 2007. And Apple's sales are growing as fast or faster than Amazon's.

Compare the Kindle to the iPhone from a design and value standpoint --
The Kindle - Expensive for what it does. Black and white display. Clunky controls. No touch screen. Limited web browsing. Unattractive design. Aside from limited web browsing and poor MP3 player functions it's only useful to read ebooks.
The iPhone - Fairly priced for what it does. Beautiful display. Elegant and simple controls. Touch screen. Best mobile web browser on the market. Attractive design. Though not meant to be an ebook reader, it would work as one (albeit with a small screen) as well as being a phone, camera, outstanding MP3 player, web browser, mobile email and chat device, and video player.
What would happen if Apple designed a device specifically to compete with the Kindle?

Compare the iTunes store and its seamless integration with both Mac OS X and Windows to Amazon.com and the kludge-y way that Kindles work with your computer.

Selling ebooks is so simple compared to music or films that Apple could have a huge ebook presence in a heartbeat (and the publishers who are feeling squeezed by Amazon would probably love them for it).

Amazon is great at shipping physical product all over the world, but when it comes to manufacturing or delivering digital content, they're just starting. Whereas manufacturing brilliant products and delivering information over the internet for a fee is _what Apple does_.

And there's one more cloud on Amazon's horizon -- shipping and fuel costs. It doesn't seem likely that gas in going to get any cheaper and that's going to affect shipping costs. Amazon has two choices -- let shipping cut into their profit margin or increase shipping charges, which will make them less competitive compared to physical bookstores. On the flip side, it will make ebooks even more attractive since there's no shipping charge on them at all. Which perhaps explains why Amazon is betting so heavily on ebooks and the Kindle.

In summation, we can expect that Amazon will continue to dictate terms to all its suppliers while hanging big hopes on downloadable books, music. and video. But they're about to jump into what may turn out to be a shark tank and they're not really equipped to compete. Combined with alienating their suppliers, they might be taking too big a step too soon. Now, don't get me wrong, Amazon is going to be fine and they'll continue to build their business. If I were a betting man, I'd say that they'll exceed B&N within a few years and thereby become the biggest seller of books on the planet. But I think they're in for some hard knocks along the way.

Next month I'll finish this series with a discussion of ebooks. And wow, it's not going to be a fun chat.

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