The Apple ebook price-fixing suit: What it all means

Apple gets involved in a lot of lawsuits—such is the life of any large, prominent corporation. But the trial kicking off on Monday in the U.S. District Court for the Southern District of New York isn’t your run-of-the-mill intellectual property infringement or class action suit: It’s an action brought by the U.S. Department of Justice, alleging that Apple colluded with publishers to fix the prices of ebooks at a higher level.

As the trial gets under way, here’s what you need to know about this case.

The case against Apple

The case is being brought by the Department of Justice’s antitrust division—the section whose mission is “to promote economic competition through enforcing and providing guidance on antitrust laws and principles.” The division is perhaps most well known among tech-watchers for its 1990s antitrust suit against Microsoft over bundling Internet Explorer with its Windows operating system, which ultimately ended with a settlement between the company and the feds.

The DOJ alleges Apple convinced the major publishers to adopt an “agency pricing” model across the board, resulting in less competitive ebook pricing. Under the until-then traditional wholesale pricing, the retailer (Barnes & Noble, Walmart, Amazon, your local bookstore) bought copies of a book, at wholesale prices, from the publisher; the retailer could then sell that book to customers at a chosen retail price, thus determining its own level of profit.

The agency model put forth by Apple is patterned after the way the company does business on music and apps: Instead of the price being set by the retailer, the publisher (or music label or developer) chooses a price point. When an item is purchased, the publisher/music label/developer reaps 70 percent of the revenue, while the retailer takes a flat 30-percent cut.

In and of itself, there’s nothing illegal about that manner of doing business. The DOJ’s case depends on the fact that Apple convinced the publishers to all adopt the model at the same time; that, the government alleges, reduced competition among retailers, because the agency model made it harder for stores to differentiate themselves on price.

Another issue at the root of the case is what’s often referred to as a “most favored nation” clause, which the government says, in this scenario, stipulated that publishers could not undercut with other retailers the prices being offered to Apple, guaranteeing that Cupertino’s profits would remain stable.

Apple stands alone

Though Apple was not the Justice Department’s sole target, it is the only company that is actually going to trial. The case brought by the DOJ says that Apple conspired with five major publishers—Hachette, HarperCollins, Macmillan, Penguin, and Simon & Schuster—to set prices for ebooks; Random House, the last of the major publishers, was not charged with price fixing (though it later merged with Penguin, potentially giving it some skin in the game).

However, all five of the publishers eventually settled with the Department of Justice. As part of that settlement, the publishers are restricted from setting their own prices for books—that right reverts to the retailer. They are also unable to discuss pricing with each other for a period of five years, and cannot prevent retailers from discounting ebooks for a period of two years; in addition, any joint ebook ventures between the publishers requires the approval of the Department of Justice. (The publishers have also settled in a separate action brought against them and Apple by the attorneys general of 33 states.)

Apple, for its part, has strenuously maintained that it did nothing illegal. In court filings last year, the company denied charges that it fixed prices or conspired with publishers, and argued that its entry into the ebook market actually served to increase competition, by breaking an effective monopoly by Amazon, which had long been offering ebooks at a $9.99 price point.

That claim, however, will face challenges from the DOJ, which, among other evidence, is producing an email from late Apple CEO Steve Jobs to James Murdoch of News Corporation, which owns HarperCollins, in which Jobs urges the publisher could “throw in with Apple and see if we can all make a go of this to create a real mainstream ebooks market at $12.99 and $14.99.” While the full context of the email may make it less of a smoking gun than the DOJ hopes, combined with other evidence—such as a filing that suggests that Apple blocked an app from Random House after the publisher refused to accept Apple’s ebook terms—it may prove to be damaging.

When the dust clears

Should Apple eventually lose the trial, it will probably face strictures similar to those that the Justice Department has placed on the publishers—though Apple, as the alleged “ringmaster”, may be on the hook for more significant punishment. And if the trial goes in the government’s favor, Apple will also likely lose the class action suit from the states, opening it to monetary damages.

But Apple’s not the only company who stands to be affected by the trial’s outcome.

The elephant in the room is Amazon. While not directly involved in the case, Amazon certainly has an interest in seeing the government win its case. The company has made a killing selling books at $9.99, and its Kindle platform is still prominent in the ebook market, accounting for, by some estimates, 45 percent of ebooks sold.

Regardless of whether Apple wins or not, Amazon has already benefited from the publishers’ settlements, since that deal has returned pricing control to the retailer, and essentially abolished the agency model promoted by Apple. But should Apple lose the trial, it would deal an even more significant blow to one of Amazon’s biggest rivals.

And Apple has an uphill battle ahead of it. During a pre-trial hearing last week, presiding judge Denise Cote said that she believes, based on the evidence she had seen so far, “that the government will be able to show at trial direct evidence that Apple knowingly participated in and facilitated a conspiracy to raise prices of ebooks.”

Meanwhile, current Apple CEO Tim Cook last week described the case as “bizarre,” and said that the company believed this was a matter of principle. “We’re not going to sign something that says we did something that we didn’t do, so we’re going to fight.”