Friday, 11 March 2011

How to survive and prosper from Digital Transition - Planning for pain before enjoying the gain

The transition to digital formats offers a once in a lifetime opportunity for Trade Publishers to re-energise customers, address structural issues with the current industry model, and emerge bigger, stronger and much more profitable. However, a number of publishers will not I am afraid survive long enough to enjoy these benefits. The next 2-3 years will be extremely tough for the industry and will end up with a shakeout of weaker, less digitally savvy players . Operators who are not prepared to make difficult choices now, and whose balance sheets are not strong enough to invest in the digital supply chain will be exposed. Whilst publishers who play their cards well will reap significant rewards. My conviction about how the market will play out is based on experience of digital transitions in the music, tv, games and video markets. The parallels with these industries are real, and it is not too late to learn the lessons.

The next 2-3 years will see trading conditions deteriorate for trade publishers, at a time when it is essential the business invests in its digital future. The temptation to retrench and to postpone digital initiatives should be resisted ( if circumstances allow).

Publishers will contend with a physical book market declining in value. Profits will be eroded by continuing discounting by supermarkets & on-line retailers, the removal of high street capacity (Waterstones recent trading update is the shape of things to come), and the growth of digital consumption.

Unfortunately e-books, enhanced e-books and other digital formats will not in the short term make up for the shortfall. Promotional pricing and a wide selection of free titles will help to educate the market but will impact margins. Sales revenues will take time to realise their potential as Publishers learn how to price and build up understanding of demand elasticities, and storefronts mature and begin to offer more sophisticated merchandising, marketing and retailing capabilities. Costs will also remain relatively high. Current market fragmentation and lack of interoperability between digital storefronts will drive up delivery costs, whilst digital product development cost will be artificially inflated until publishers learn how to reap economies of scale & experience (for example by reusing digital engines).

The choices for Publishers during this testing period will be stark. Either make major Investments in the digital supply chain in a period of declining revenues, with the expectation of a long pay back. Alternatively JV or partner with digital specialists to share the financial risk of digital transition, but risk losing control of your digital destiny. Or make small, piecemeal investments in digital based on current market size, with the risk of being unprepared when the market reaches its inevitable tipping point.

Publishers that make the wrong choices, or who execute their chosen strategy poorly will end up as casualties in an industry shake out. Those who plump for the first option and make significant investments in their digital future but craft the wrong strategy or fail in execution will burn cash, undermine the financial health of the business & be exposed to takeover (unless they have a friendly parent to bail them out). Publishers that take things slowly and play the waiting game will shrink in size by over relying on a weak physical books market, with their best option being to continually cut costs to maximise returns in a declining market. Whilst those that opt to JV & partner with digital specialists, may be protected from the next wave of industry consolidation but will in the longer term end up with a weak digital value proposition for authors. Given the risks involved with every approach, my expectation is alot of businesses will be impacted by the shakeout, and the industry will consolidate around 3 big international publishers with room for a large number of operators to serve niches in the long tail.

Nevertheless publishers that make the right digital investments, have a credible plan to deal with the short term industry issues , and understand how to position themselves in a reshaped market, , will emerge stronger & better able to benefit from a more attractive business fundamentals. My confidence in the long term future is based on three things.

Firstly demand for authored content will, over time, increase materially. The convenience of digital consumption, coupled with improved customer insight & precision targeting that digital platforms will deliver will enable publishers to increase volumes (borne out by the experience of other digital transitions and by recent research conducted by Bain found that 42% of E-Book readers buy more books than before, while only 7% buy less)

Secondly significant new opportunities for creating customer value will emerge. Whether by reimagining children’s, cooking and travel titles as interactive multimedia experiences, or seeding fan communities which connect readers to their favourite authors. Publishers that create exciting new digital propositions will be better able to maintain premium price points and protect against aggressive discounting.

And Thirdly innovation in the packaging and windowing of content, will help to squeeze more value from authored content. New digital windows that complement current hardback and paperback releases, and offer customers something new over and above a standard e-book will help to squeeze more value out of existing IP, and create excitement and noise around digital product launches. Best practice learnings from the movie industry prove the real opportunity around digital windows. However to realise this upside the industry will need to find new ways of working together.

Whilst new packaging models, such as subscription (think book clubs for digital customers) can complement current a la carte pricing, . There is growing body of evidence from the music (e.g. Spotify) & video (e.g. Netflix) space that the subscription model resonates with digital customers, is supported by attractive economics and helps to expand the market.

In summary, digital transition is an opportunity for publishers to develop a new & better business model, based on deeper customer engagement and insight, offering author fans more of what they like and expanding the market by attracting consumers who would not consider themselves book lovers.

To realise the digital pot of gold will be a very long & painful haul. It will require new thinking, new digital skills, and a new era of industry co-operation. Complex rights, technology and workflow issues will need to be aggressively managed. There will be many casualties along the way, but the battle is one well worth fighting.