Amazon Taps Its Inner Apple

Adam L. Penenberg
Fast Company (cover story), 7/2009

TO EXPLAIN THE PRESENT AND DIVINE THE FUTURE, Amazon’s founder and prognosticator-in-chief, Jeff Bezos, often turns to the past. Fond of historical analogies, Bezos has compared the dotcom boom and bust to the 1849 gold rush, the advent of electricity to today’s broadband-infused Web, the printed book to a horse, and the Kindle reader to a car. Perhaps his trippiest simile likens the impact of the Internet on business to the Cambrian period approximately 550 million years ago, after the first multicellular creatures crawled out of the primordial ooze. That’s when we experienced an evolutionary big bang, which engendered both the greatest rate of speciation the world has ever seen and its greatest rate of extinction. “What’s very dangerous,” Bezos summed up, “is not to evolve.”

Evolution is not merely a theory for Amazon; it’s part of its intelligent design. Originating as a single-cell online bookseller in July 1995, Amazon has, over its 14-year history, developed into a monstrous cybermall, offering millions of products and accumulating a market capitalization north of $34 billion. It peddles everything from music, movies, and video games to apparel, gadgets, gardening tools, lab equipment, health and beauty aids, even sex toys and the bonglike “mini hookah.” Along the way, Amazon incorporated unvarnished user feedback into product pages, instituted a “look inside” function so readers can sample books, and launched Marketplace, which allows third-party sellers to list new and used products next to Amazon’s.

Nothing, however, has piqued the public imagination quite like the Kindle, Amazon’s e-book reader, now in its second iteration. While not the first gadget to offer an entire library in the palm of your hand or to deploy e-ink in mimicking the look of a printed page, the Kindle is the first literary hit of its kind, selling hundreds of thousands of units since its introduction in November 2007. It’s also the first with built-in wireless 3G connectivity, making it possible to download whole volumes in less than a minute — more than 1,500 books can fit on a single machine — with titles costing usually less than half the price of a conventional hardcover. To further its e-reach, Amazon has announced a larger, more expensive Kindle DX for textbooks and periodicals, which it will test-market to college students.

Recently, Bezos claimed that Kindle e-books add 35% to a physical book’s sales on Amazon whenever Kindle editions are available. Put another way, for every three print copies of, say, Malcolm Gladwell’s The Outliers the site sells, it also sells one Kindle e-book — or about 25% of total sales. Citigroup analyst Mark Mahaney estimates that Amazon sold a half-million Kindles last year and projects its total e-book revenue, which includes sales of books and devices, to reach $1.2 billion by 2010. The company reports that 275,000 titles are available in the Kindle format, including nearly all 112 books on The New York Times best-seller list. Amazon, for its part, makes no pretense of its plans. On its Kindle page, it states, “Our vision is to have every book ever printed, in any language, all available in under 60 seconds.”

In Bezos’s mind, the Kindle is the logical evolution of a 500-year-old analog technology, and this frightens those in the $24 billion book-publishing industry already skittish about Amazon’s growing clout. In his Cambrian example, they fear they may be playing the part of a trilobite, one of the first creatures with eyes but which, like most other species from this period, faced mass extinction when it couldn’t adapt to its changing environment. But there’s no need to peer back a half-billion years for an apt analogy. There’s a far more contemporary lesson: Bezos, the former hedge-fund manager with the shiny pate and amphibious build, may be cribbing from another techno titan.

Jeff Bezos is trying to do to book publishers what Steve Jobs of Apple did to the music industry. With its iPod and iTunes Store, Apple carved out a largely virgin market so fast that it was able to wrest control of the digital-music distribution system and thus dictate what the record labels could do. With Amazon jamming (its latest earnings are sky-high even as other online retailers are in a state of malaise), Bezos may sense similar opportunity, a moment when he, in true Jobs-like fashion, could colonize this growing niche for the Amazon ecosystem. Should that happen, book publishers would have more to fear than just being squeezed. Amazon could phase them out completely, treating them as the ultimate middlemen orphaned by a new technology.

But in a plot twist worthy of the latest Dan Brown novel, there’s one man who could save them. And that man is Steve Jobs.

In some ways, book publishing operates like one of Joseph Stalin’s five-year plans. In the former Soviet Union, the government estimated how many combs, bars of soap, and cars people needed. Produce too many and you had a glut; too few meant chronic shortages. Speculating on future demand may be a fool’s errand, but that’s precisely what publishers do — often missing badly, resulting in return rates of 40%, 50%, even 60% in some cases. Books are one of the few retail businesses in which store merchandise is fully returnable to the manufacturer for credit, a seemingly irrational practice that grew out of publishers’ need to induce booksellers to carry backlist titles. Stocking thousands of low-margin books takes up shelf space, after all, and booksellers have rent to pay. To ensure books would be in stores for readers to peruse and purchase required easing the risk in holding unsold inventory.

Over the past 20 years, attempts to reform this highly inefficient distribution system have gone nowhere. There were simply too many entrenched interests, most notably Barnes & Noble, which resisted updating a model from which it clearly benefited. Then came the emergence of the Web as a distribution pipeline, and a new superpower entered the fray. While the vast majority of books are still sold in mammoth chains like Barnes & Noble, Borders (which is teetering on the edge of bankruptcy), Wal-Mart, and Costco, Amazon rules online, making up perhaps 10% or 15% of total book sales but maintaining an 80% market share online. The house that Bezos built instills enviable customer loyalty with the soft face it offers the public, reflected in its competitive prices, user-friendly Web experience, and excellent after-sales service.

For book publishers, gone are the days of Maxwell Perkins-like editors tipping back Champagne cocktails and treating authors to lunches at the Algonquin. Today, “books are about distribution and publicity,” says Marion Maneker, former publisher of HarperBusiness. “In essence, you need to get the books into the stores and then the buyers into the stores to buy them.” But the Kindle, Maneker believes, could help Amazon bypass traditional publishers; the company could strike deals with big-name authors in lieu of advances, thereby minimizing up-front risk and solving the returns issue once and for all. In fact, Amazon has already done this, beginning with the e-book release of Stephen King’s UR, a novella (list price $2.95) featuring a plot involving the Kindle. (Unlike most King works, this one even has a happy ending.)

The book industry is especially vulnerable because it is a “hits” business, with a small number of breakaway titles (Harry Potter, The Tipping Point, Twilight) subsidizing all the rest. Take away publishers’ best-sellers and you’re left with stacks of money-losing operations. But authors such as Dan Brown, Malcolm Gladwell, Stephen King, Stephenie Meyer, and J.K. Rowling would all thrive in a system that let them skip advances in exchange for higher royalty rates. Instead of a star author getting the standard 15% on a hardcover, for example, Amazon could simply skim a 20% distribution fee, and the author gets the rest. In this model, “the whole thing is structured so that you, as the provider of intellectual property, get the lion’s share of the revenue after costs, not the publishers,” Maneker says. If e-books take off, Amazon could cherry-pick the biggest-selling authors, and publishers would suddenly find themselves cut off from their most bankable sources of revenue.

What’s more, this threat doesn’t persist solely with e-books. Here’s a doomsday scenario put forth by Richard Curtis, a literary agent and founder of E-Reads, an independent e-book publisher: Suppose you are publishing the new Dan Brown title, The Lost Symbol, with a first printing on the order of 5 million copies, and Amazon logs 500,000 preorders on its site. Instead of Random House (which is publishing the book under its Doubleday imprint) transporting a half-million books to Amazon to box up in its warehouses and then ship to consumers, “wouldn’t it make even more sense for Amazon to turn to Random House and say, ‘Look, don’t ship those books to us. It’s a waste of freight and fuel. Why don’t you simply give us the file of the new Dan Brown and we’ll print those 500,000 copies on demand on our BookSurge Press and drop-ship them to our customers?’ Random House would save on printing costs, freight, fuel, everything. It’s such an efficient way of doing things as to seem irresistible.”

Not just irresistible. Virtually irreversible too. Why, Curtis asks, would “anybody need a traditional book publisher when you can essentially make Amazon your buyer and your seller in one stroke?” Then Amazon doesn’t merely control the distribution of books — it controls the content, too, and the paradigm shift is complete.

The struggle for this high-stakes channel may explain why Amazon can get downright nasty when dealing with recalcitrant publishers, resorting to brass-knuckle tactics to get what it wants. While friction between publishers and booksellers is inevitable, the relationship with Amazon has been particularly contentious, so much so that while many agents, consultants, and editors at publishing houses would talk freely if afforded anonymity, most would not consent to having their names appear in print. (Amazon, for its part, declined to comment for this story.) Last year, to punish publishers that refused to buckle in negotiations over divvying up revenue (and to cave to its requirement that small publishers use its BookSurge print-on-demand service), Amazon disabled the 1-click ordering buttons on a broad range of books on its Web site both here and in the U.K. — a tactic The New York Times dubbed the “nuclear option.” In a tart letter to his authors, Tim Hely Hutchinson, Hachette’s chief executive in the U.K., lambasted Amazon’s “increasing demands” and said if this continued, “it would not be long before Amazon got virtually all of the revenue that is presently shared among author, publisher, retailer, printer, and other parties.”

Amazon is still a long way from achieving this level of hegemony. To get there, Bezos needs to win the race to nail down distribution of e-books and turn them into a mass-market phenomenon. He deserves credit for taking the first step — propelling the e-book concept from mere curiosity to full-fledged consumer item, which he accomplished with the introduction of the Kindle. E-readers (Sony’s, for example) and e-reader applications (several are available on the iPhone or over the Web) have existed for some time, but few consumers were talking about e-books until the Kindle arrived. Then it quickly began to coalesce an entire market — much as Apple and the iPod did to MP3s and MP3 players. In some ways, Bezos has a tougher row to hoe, since music and books are intrinsically different. IPod buyers could digitize their entire compact-disc music collections and listen to songs over and over. Kindle users can’t scan their existing libraries onto their device — nor will most people reread books. Plus, digital downloaders can buy one song at a time, but most book buyers wouldn’t pay for one chapter at a time.

To nab control of digital distribution, Bezos had to set prices low enough to motivate readers to forgo hardcovers and paperbacks for Kindle versions. Apple famously forced its flat 99- cents-per-song pricing on the music industry. And while, over the years, Apple has relinquished some of its power — pricing is now tiered, with downloads running from 69 cents to $1.29 for the most popular tracks — Jobs accomplished his mission, nevertheless. He established a virtual monopoly over digital distribution of music online, and to this day, maintains an 87% share in downloads. In the process, he poured the foundation for the iPod — it garners 70% of the MP3 player market — which, along with the iPhone it helped inspire, accounts for more than 40% of Apple’s revenue.

Bezos certainly watched this play unfold over the years. One late entry to music downloads was Amazon itself, which has made only modest gains in the market, despite undercutting Apple on price. Through personal experience, Bezos knows how important it is to establish a hammerlock on the distribution system before another deep-pocketed foe enters the game. Even after establishing Amazon as a major online player in sales of compact discs, he was too late for digital downloads. He wasn’t likely to make that mistake with e-books.

Amazon’s first move when it introduced the Kindle was to foist its $9.99 price on publishers. But while Apple ends up with pennies from each song it sells (after paying for bandwidth and infrastructure), Amazon actually loses money on many titles, with publishers earning between $12 and $13 per e-book. You might think that because publishers profit from this arrangement — they don’t have to pay for paper, ink, manufacturing, warehousing, and transportation or suffer debilitating returns — they would be pleased. They aren’t. Amazon is creating a sticky price in consumers’ minds and redefining the cost of a “book” just as Apple did with music. In fact, on Amazon there is a protest movement afoot as more than a thousand users tag for boycott any Kindle book listing for more than $9.99. If book buyers join forces with Amazon on price, publishers would inevitably lose.

“If you are in a position to dictate your purchase price, then you are well on the way to cornering the market,” Curtis says. At that point, Bezos could head back to the negotiating table to wring even more concessions. Why should Amazon pay $12.99 for the Kindle version of a hardcover? Why not, say, half that? And like the record labels, if publishers don’t want to be left out in the cold, they would have to play ball.

Thus far, early reviews indicate Bezos’s strategy is succeeding. The Kindle has legions of fans, and they tend to buy more books than the average reader. But it’s still very early in the book’s electronic evolution — e-books comprise between 1% and 3% of book sales — and Amazon isn’t the only amazon trying to stake a claim. Hearst is planning an e-reader for magazines, and Rupert Murdoch is grumbling about investing in one for News Corp. Plastic Logic, of Mountain View, California, and Dutch-owned Polymer Vision are also looking to release e-readers later this year.

Then there’s Google, with its stratospheric market cap and a partnership with Sony to offer millions of titles that are in the public domain, from Dickens to Tolstoy to Twain, which can be accessed over the Web or downloaded as PDF files, or through Sony’s new e-reader. Google and the Authors Guild also arrived at an agreement last October to allow the company to scan, index, and display portions of some 6 million copyrighted books in exchange for a share of ad revenue. In targeting public-domain content though, Google is playing where the money decidedly isn’t. This strategy feels a bit like Google’s acquisition of YouTube. It rushes off to acquire all this content with no idea how it can be monetized. Yet in a sign of just how fast this market is evolving, by June Google had announced plans to sell digital versions of new titles — with publishers setting the price — by the end of this year.

Amazon’s biggest vulnerability may simply be that the e-reader is not destined to be a stand-alone product. “When we are down to one piece of technology that we can drag around with us everywhere, I hope it includes what the Kindle offers,” says Judith Regan, former publisher of ReganBooks, a HarperCollins imprint. “I love it. But how many people want another thing to carry? Kindle, plus iPod, plus iPhone, plus laptop, plus BlackBerry, plus wallet, hairbrush, and lipstick — and my shoulder is sore.” Not to mention, she adds, the cost of all of these separate devices.

This is where Amazon, with very little experience in designing and building electronics, is weakest — and where Apple could sabotage Bezos’s best-laid plans.

For years, rumors of an Apple touch-screen media tablet have circulated, despite a now famous quote by Steve Jobs: “It doesn’t matter how good or bad [the Kindle] is, the fact is that people don’t read anymore. Forty percent of the people in the United States read one book or less last year. The whole conception is flawed at the top because people don’t read anymore.”

For Jobs-watchers, this was a clear indication that he must be planning an e-reader, for Apple’s grand poobah is the master of the red herring. In the past, he downplayed video on the iPod, insisting that no one would watch a movie on a 2-inch screen; denied that Apple was working on a phone; and claimed that anything less than a full-featured laptop wasn’t in the cards — until last year’s release of the MacBook Air. When Jobs goes to the trouble of criticizing a competitor’s products, downplays its significance, or offers a blanket statement about not pursuing a certain market, that’s when he often goes in for the kill.

There is more substantial evidence that Apple may be planning a move into e-books. Last year, Apple filed a trademark application to revise the goods and services covered under its iTunes Store trademark, adding books for the first time. And a recent patent application, listing as lead inventors Steve Hotelling, the man behind Apple’s multitouch-screen patents for the iPhone, and Jonathan Ive, Jobs’s design guru, includes a multitouch e-book technology. U.S. patent application No. 20080204426 (“Gestures for Touch Sensitive Input Devices”) describes a method to “simulate a finger turning the page in an actual paper-bound book.” The invention also makes it possible to “whisk through” a large chunk of pages. A second patent application, for a docking station to be used with a tabletlike device, also covers e-books.

Of course, speculation has been rife in the blogs that Apple intends to release a multimedia tablet over the coming year or so. And an Apple media tablet with a 10-inch color multitouch screen, Wi-Fi, and perhaps 3G access to boot, could make the Kindle’s grayscale screen, cramped keyboard, and one-note functionality seem mighty drab. Apple could also use the existing iTunes infrastructure as a virtual storefront to distribute the e-books — it already sells audiobooks. Perhaps that explains another vivid rumor, offered by Andy Ihnatko of the Chicago Sun-Times, that trucks stuffed with books have been arriving on the Apple campus and leaving empty. “I have heard the same rumor from very good sources,” says Maja Thomas, senior vice president of digital and audio publishing at Hachette Book Group, but neither she nor any other publisher would confirm or deny whether Apple had licensed its books for the iTunes Store. (Apple declined to comment for this article.)

Nonetheless, this is how Steve Jobs could perform a jujitsu move on Jeff Bezos. After Amazon went through the trouble and expense of seeding the landscape, implanting the concept of the e-book in people’s minds, creating a market where there wasn’t one before, and moving to control the distribution system, Apple could muscle its way in with a full-color multitouch-screen media tablet that not only reads books but also offers video, music, Web surfing, email, and the combined power of the iTunes and Apple App Store. The device might even load into a desktop dock that accommodates a full-size keyboard. Books would only be a small part of what it offers, making it appeal to a vastly larger audience than the Kindle’s.

It’s critical to remember that Apple is first and foremost a hardware company that cares little about making money on content as long as it can sell iPods — or media tablets. Bezos, meanwhile, is stuck peddling a fairly primitive piece of technology. For his strategy to pay off, he needs either the Kindle to win the hardware arms race, or to find a way to make money on Kindle titles, or both. He’s not afraid to lose money while he moves into a new niche — the first five years of Amazon’s existence were spent in the red — but it can’t go on forever.

Unfortunately for Bezos, not only is Apple far more skilled at designing beautiful products people are eager to buy, but it may also be a more desirable partner for publishers than is Amazon. While Apple drives a hard bargain and might be eager to grind publishers into pulp on price, unlike Amazon, it has little desire — or history — of attempting to usurp the publishers’ role or to control content. Suddenly, the hunter becomes the hunted, and if e-books take off, Amazon could find itself the odd man out.

That doesn’t mean Amazon will wither away. Evolution serves those able to adapt, and such a transformation of the book industry would take time. Amazon could leverage its online clout and, in the name of eradicating wasteful returns, push publishers to adopt print on demand, continuing to rake in money while it shores up its digital-books strategy. It is also pushing the Kindle DX for textbooks and newspapers — with a screen roughly double the size of existing Kindles — which Amazon is test-marketing at five colleges.

In the meantime, Amazon could take a Microsoft approach to e-book applications — in contrast to Apple’s closed-hardware setup. Earlier this year, Amazon released a free Kindle iPhone app, and a company spokesperson stated plans to offer it “on a range of mobile phones.” To further its reach, Amazon recently acquired Lexcycle, the creators of Stanza, the popular e-reader application in the ePub format — a standard that competes with Kindle. In the end, Bezos, ever the pragmatist, wants people buying Kindle books even if they don’t read them on actual Kindles.

As for book publishers, they benefit from a fragmented market with no single entity controlling the distribution pipeline. The more that Amazon and Apple duke it out, the better for them. At the very least, they receive a reprieve, since they would have at least two parties bidding to distribute e-books — and as any author will tell you, it’s always better when there is more than one offer on the table.

Looking long-term, as readers migrate to digital books, there is a real possibility the basic form of the book will change. It is a process already under way, since the Internet has changed the way people access information, content, and entertainment. Evan Schnittman, vice president of global business development at Oxford University Press, believes constant connectivity is a looming threat to an immersive reading experience. “I love to read but I know I read immersively somewhat less now — and I’m in the publishing industry,” he says. “E-books are simply print books in digital form and my question is, Will that be enough? Is that really what we’re going to want to be doing?”

If history is any guide, no; the decay of the printed word on paper is part of a predictable pattern of development. The incipient form of a new technology tends to mirror what came before, until innovation and consumer need drive it far beyond its predecessors. The first battlefield tanks looked suspiciously like heavily armored tractors equipped with cannons; early automobiles were called “horseless carriages” for a reason; when newspapers began serving up stories over the Web, the content mirrored what was offered in the print edition. But even as an engineer wouldn’t dream of starting with the raw materials for a carriage to design a new sports car, books will move far beyond paper and ink.

Taking on the characteristics of our present online habits, and riding a wave of rapid innovation in screens and microprocessors, books may soon become multimedia events. In this transformative model, the book industry could actually be well-positioned. Publishers could team with authors and multimedia producers to forge a new channel for dynamic e-books that go far beyond linear prose; they may provide a blend of text, video, audio interviews, 3-D maps — an entire ecosystem of content built on top of the book. For Twilight, the teen-vampire novel by Stephenie Meyer, the multimedia might consist of a video game within the book, mini bios of characters, maps, music, and discussion threads. An interactive element would allow readers to create their own stories, or even their own animated short movies, using the characters in the book. Inevitably, the experience would also include links to products based on the game: T-shirts, action figures, vampire toothbrushes. Suddenly, a book with mere words on a page seems so limited. And not just books. Magazines and newspapers too.

This doesn’t mean traditional books will go completely out of print. “Every night, I read five or six children’s books to my daughter, and I ask what format could be better than what I have in my hand?” says Siva Vaidhyanathan, associate professor of media studies and law at the University of Virginia. “Is there a medium that can do Dr. Seuss better than what’s in my hand while she sits on my lap? I haven’t been able to imagine it.” Of course, that’s what they said about vinyl, CDs, and now the digital download. Today’s entertainment-on-demand youth have grown up on a steady diet of digital fare. Multimedia books would dovetail nicely with their omnivorous appetites.

And that should tell you just how tricky evolution is. One minute you’re at the top of the food chain, the next you’re somebody’s lunch — like the 6-foot-long anomalocaridids, the Cambrian era’s largest predator. A cross between a giant shrimp and a stingray, the anomalocaridid flapped aquatic wings and crushed prey with razor-sharp teeth. Eventually, it died out, supplanted by another sea-based predator, the giant cephalopod, whose octopuslike descendants still roam the oceans, squirting ink as a defense mechanism.

Copyright 2010 Adam L. Penenberg (