Full regulatory approval over 12 months away and a backlash from authors worried about a less competitive book publishers‘ market may not be the only issues facing the merger deal between Bertelsmann, owner of the Random House book publishing unit, and Pearson’s Penguin Group. The Week reports that Rupert Murdoch’s Harpercollins book publishing outfit is looking to offer up to $1.6 bn for the acquisition of Penguin, which would effectively scupper the deal.
As has now been widely reported, about five months ago, a representative of Pearson PLC contacted Bertelsmann SE & Co. The result of that contact emerged Monday, when the two companies unveiled the creation of Penguin Random House, a combination they hope will be better able to deal with the digital transformation of the book industry.
The timing of the initial approach came at a pivotal moment in book publishing. A few weeks before, the U.S. Justice Department filed an antitrust suit against Apple Inc. and five major publishers, including Penguin, alleging an price-fixing conspiracy regarding e-books. While three of the publishers settled, two continue to fight the suit, including Penguin.
Random House wasn’t involved in the suit.
Books from publishers Penguin and Random House on a bookstore shelf in London on Friday. The two houses have announced a deal to merge.
The settlement forced publishers to allow a resumption of discounted pricing of e-books, which Amazon.com Inc. had championed after it introduced its Kindle e-reader in 2007 but which had been shut down by the publishers in 2010. The implication of a new round of discounting was immediately clear: It could eventually weaken Barnes & Noble Inc., the major competitive force against Amazon.
And book executives see that as bad news. While e-books are good for publishers’ profit margins, by removing the costs of printing and distribution, the worry was that a more powerful Amazon could eventually squeeze publishers on prices.
For book publishing, an industry dominated by a half-dozen big players, consolidation was one answer. Combining forces would allow publishers to gain more heft in negotiating terms with retailers, including Amazon, industry executives said. By moving first, Pearson hoped to gain an advantage, a person familiar with the situation said.
“In reviewing the long-term trends and considerable change affecting the consumer publishing industry, Pearson and Bertelsmann both concluded that the publishing and commercial success of Penguin and Random House can best be sustained and enhanced through a partnership with another major international publishing house,” the companies said in a joint statement.
The companies’ boards approved the plan Sunday, despite a last-minute expression of interest in buying Penguin that came from News Corp., parent of HarperCollins publishers. News Corp., which also owns The Wall Street Journal, never made a formal offer, a person familiar with the situation said.
The Pearson board considered all options, including a cash sale, but unanimously supported the joint-venture structure with Bertelsmann, the person said.
Selling Penguin would have triggered a big capital-gains tax liability, another person familiar with the situation said.The companies said they hoped to complete the merger in the second half of next year, pending regulatory approvals. The attitude of antitrust regulators in the U.S. and Europe is an open question.
Management of the new company will be split between the two publishers: Random House Chief Executive Markus Dohle, 44 years old, will be CEO while Penguin CEO John Makinson, 58, will be chairman.
The deal highlights how the rapid adoption of digital books is changing book publishing. The proportion of consumer-book revenue for publishers coming from e-books rose to 14.8% last year from 6.3% in 2010, according to BookStats. A publishing executive said that at his company, e-books could account for 30% to 50% of fiction sales now.
E-books should be good news for publishers. In addition to the lower production and distribution costs, unsold books don’t come floating back from retailers. Those returned book can reach 30% to 40% of a print run, even on best sellers, an executive said.
But as physical books decline as a proportion of total sales, the fixed costs of maintaining warehouses and printing facilities hurts overall margins. Some publishers already have started to address this. HarperCollins, for example, has closed two of its four warehouses in the U.S. The combined Penguin Random House will have between them four warehouses in the U.S., raising the possibility that some could be closed.
Mr. Dohle said the two companies were just starting to analyze the potential cost savings, including those in distribution, warehousing and information technology. But “this deal isn’t based on synergies; it is based on future growth,” he said.
Mr. Makinson said the merger will allow the companies to invest more heavily in social media and other new technologies. With fewer traditional bookstores around, he said, “it becomes harder and riskier to take a chance on new writers because you can’t be sure of finding an audience.” Social media can help remedy that.
Some book agents have voiced concerns about the impact of the merger. Mr. Makinson emphasized that authors won’t see significant changes because the two companies intend to keep the same number of publishing imprints.
Scott Turow, best-selling author and president of the Authors Guild, said: “Publishers are facing a new reality with some of the biggest companies in the world, including Google, Apple and Microsoft entering their field. I understand why they want to get bigger. But what I haven’t thought through yet is what the down side is for the cultural landscape.”
The deal was announced just a few weeks after Pearson’s longtime chief executive, Marjorie Scardino, disclosed plans to step down at year-end. Her departure sparked speculation about whether the incoming CEO, John Fallon, would focus the company on educational publishing, the area of the company he runs, exiting businesses such as consumer books.
Each company is committed to staying in the book venture for the first three years. After that, Pearson has options to raise cash from its stake, including by requesting a debt-financed dividend payment. Both companies can call for an initial public offering of the venture after five years.
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