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Figuring Profits with Multiple E-Book Formats

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The real cost of producing and selling electronic books is a figure that many publishers cannot yet determine. But as e-books increase in popularity, and publishers continue to expand their offerings in digital formats, accurate accounting of costs becomes more and more important. It’s what lets us accurately determine profitability.

For titles produced only in digital format, it’s easy to allocate costs. Even when an e-book is prepared for several different devices, all editorial, production, marketing, and distribution costs can be charged against sales receipts for that book.

But publishers may not have revised their cost accounting policies to accommodate e-books when:

  • digital editions come first and print editions follow
  • print editions come first and e-books or e-excerpts follow
  • digital and print editions are produced simultaneously (although some publishers may release the digital editions a short time before the print editions)

When titles are initially published in only one format, some publishers charge all the original costs to that format, and charge any later format only for any necessary design revisions and direct manufacturing costs. When the initial format is electronic and there are no manufacturing costs to charge against income from sales, this can result in arbitrary allocations.

For example, at Seattle’s Parenting Press, where several 32-page books, such as 14 Ways to Protect Your Baby from SIDS, were introduced as PDFs at ParentingPress.com and also via print-on-demand through online retailers, these formats were burdened with all the initial expenses. One-twelfth of these expenses was charged against each title’s monthly sales revenue in the first year of publication. “So now in the second year, all the e-book income is considered profit,” explains Homer Henderson, operations manager.

In 2012, when some of the titles were revised for short-run print production, the only expenses charged against those editions were the minor design changes, direct manufacturing costs, and marketing expenses specific to the print format. Compared to both traditional Parenting Press printed books and the 32-page digital books, these 32-page print books appear more profitable earlier because of the significant editorial and design expenses attributed to the digital editions.

New York City publishing consultant Mike Shatzkin of the Idea Logical Company spoke to this distortion last fall in The Shatzkin Files when he wrote: “Big publishers view their overheads and come to the conclusion that they can’t afford to pay ebook royalties greater than 25 percent of receipts. Surely, some of the cost basis they see driving that necessity are really print-based (creation and distribution), which makes them calculate what’s affordable differently than a more new-fangled publisher that is planning primarily on digital and online distribution.” (http://www.idealog.com/blog/page/10/)

Making Print Bear the Burden

Most IBPA members who offered information for this story do the reverse, charging most of the cost of a title to the print edition, which is still the most common initial format, a practice with its own downsides.

At Martingale, a quilt and craft publisher in the Seattle suburb of Woodinville, marketing director Karen Johnson reports that every book is offered as a PDF from the Martingale Website as well as in print. Prices for large-format paperbacks are typically $24.99–$27.99 and for PDFs $16.99–$19.99. No cost of goods sold is assigned to the PDF.

“After all, PDFs are easy and don’t cost us anything extra,” she points out. “It’s the same for the individual quilt patterns sold as excerpts from books for $4.99—no costs are assigned to them.”

However, when Martingale does eventually sell e-books or the standalone quilt patterns via Amazon or another online retailer, some percentage of the cost—at least the cost of converting the material for e-readers—will have to be allocated to the digital editions, Johnson said.

Publishing veteran Rudy Shur, now head of Square One Publishers in Garden City Park, NY, is another IBPA member who does not attribute costs to e-editions. “I too see e-book sales as ‘found money,’” he says, noting that he believes it is the largest publishers—the ones Shatzkin spoke about—that benefit most from e-book sales. “They are the ones that must adjust their economic in-house barometers, because as their e-book sales increase, their hardback sales decrease.”

At Square One, the sale of physical books remains so important that Shur has not changed the way he allocates overhead or preproduction costs. “E-book sales certainly help my bottom line as well as offering another source of income for my authors,” he says, “but unless I’m missing something, I see it as pure manna.”

At Epicenter Press, in Kenmore, WA, longtime IBPA board member Kent Sturgis echoes Shur’s “found money” characterization. He has about 130 titles in print; almost 50 of them are now available in digital format, either direct from Epicenter or via Google Books. Print titles are always done first, and sales of the e-books are not yet significant enough to warrant detailed accounting. In fact, no Epicenter cost accounting is very detailed: Sturgis charges only its direct manufacturing costs and royalties against each title. All acquisition, editorial, design, and image acquisition costs are attributed to prepress overhead.

Major Misconceptions

Ask Doug Pfeiffer, publishing director at Graphic Arts Books in Portland, OR, about e-book costs, and he exclaims, “It’s a moving target!”

The traditional elements in publishing expenses—trade discounts, royalties, distribution channels—make accurately assessing costs “complicated,” Pfeiffer says. In contrast to Sturgis, Shur, and Johnson, he does not believe digital editions are free if they follow print editions of the same title.

“There are big misconceptions regarding e-books: that they can be created at no cost, that they can be distributed at no cost, and that publishers charge too much for them,” Pfeiffer says. Yes, he agrees, there is some saving when a digital edition follows a print edition, “but I’m spending more on marketing e-books because it’s harder to reach readers.” As he notes, “There’s no shelf to display an e-book on, and there’s no one to hand-sell it.”

In an autumn issue of Publishers Weekly, Rich Wohl, founder of Wohl Publishing in Morristown, NJ, shared Pfeiffer’s opinion. “The manufacturing cost (paper, printing, and binding) that is unique to a print edition is usually only 10 to 15 percent of a publisher’s costs,” he pointed out. “Therefore, any reduction in e-book prices from the print list prices should not exceed this percentage. The costs for all other publishing activities, including author royalties, editorial development, production, marketing, etc., remain the same with an e-book.”

Allocation Options

Pfeiffer suggests two options for allocating costs:

  • Divide the costs equally between the print and e-book editions.
  • Divide costs in proportion to revenue.

Right now, he’s using the second method with simultaneous releases, attributing costs based on projected sales. If he expects the e-edition of a title to generate a third of the sales revenue, he assigns a third of the costs to it.

“I have only a couple of years of data with this method so far,” Pfeiffer reports, but the data does pertain to 275 titles in print, 65 of them also in digital format.

One expense that this method does not account for is the acquisition of digital rights, a particular challenge with titles published decades ago. In some cases, the publisher points out, he’s had to track down the grandchildren of authors to get contracts amended.

Howard Fisher is another industry veteran who believes that costs should be allocated to e-books. Fisher, who has consulted to publishers through The Fisher Company since 2002, has decades of experience as a publisher, and today—with No Nonsense GuideBooks and California Bill’s Automotive Handbooks—has 40 titles in print and 160 e-books, some digital-only.

He recommends that when publishers forecast income for a title, they include all possible sales—print, electronic, audio, foreign rights, subsidiary rights, and what he calls “slice and dice” (excerpts or chapters sold as standalone products). Expenses can then be allocated as Pfeiffer allocates them, prorating by anticipated sales revenue from each version.

“This approach forces you to think about promoting the title in each of these categories,” says Fisher, adding that he’s seen clients with impressive revenue from e-books. “How much additional revenue can be generated depends on the category, but it could easily be 25 percent.”

Focusing on development costs and other general expenses, Fisher recommends that publishers charge off for both versions in one of two ways:

  • as they occur each month during the publishing process
  • in the month when the title is published

Direct costs can be charged against the appropriate ISBN as they are incurred.

One important reason for charging off costs as soon as possible is income taxes. As Fisher points out, if a publisher instead chooses to amortize costs as each copy of a book is sold (or as revenue from each e-book sale is recognized), profits may appear higher when a book is frontlist, and thus increase the tax bill. This is especially true when it takes years for books to sell. And when a press run does not sell out, much of the book’s cost remains unamortized and will eventually have to be written off as a loss.

Which Costs Mount Up Most

Fisher says he assumes that publishers who are still selling e-books only as PDFs from their own Websites are concerned about the conversion cost, don’t have relationships with e-book distributors, or are so busy that they don’t believe they have time for what he considers the steep learning curve of the conversion process. But he encourages publishers to get their titles converted to E-Pub and then to each e-reader format so that they can be sold by the major wholesalers and distributors (all of which now offer conversion services)

“If you’re selling only from your Website, you could be missing as much as 98 percent of your market,” he says. And, as other publishers have observed recently, e-book sales don’t necessarily reduce print sales. “It seems counterintuitive, but e-book sales can sometimes increase your print sales.” (Arcata, CA, publisher Lin Pardey, of Pardey Books, recently substantiated this point in the December 2012 Independent in “How Backlist Makes the Bottom Line Better.”)

Publishers should not be intimidated by the potential cost of conversion, Fisher says, estimating that a 160-page book could now be converted for as little as $100 if it’s text with only a few one-color illustrations. (By contrast, converters charged about $600 six or seven years ago for more limited services.) Other, far more significant e-book costs are among the reasons Fisher believes costs should be carefully allocated. Think of the design of the text, often outsourced, and the labor involved in proofing and metadata submission, whether outsourced or done in-house.

For many titles, especially those with images, multiple columns of text, sidebars, and call-outs, a publisher will need a digital book–savvy designer who can format two PDFs, one for the print edition and the other for conversion to E-Pub. Book files are usually uploaded to a converter’s server via FTP, and when they are returned to the publisher, they must be proofed carefully against the original.

Another labor-intensive, or costly, task—one that can easily take hours—is submitting metadata.

“Anyone who thinks that digital distribution costs are zero has never done digital distribution,” Fran Toolan declared in “A Short Rant on Digital Distribution Costs” (see the June 2012 Independent). Each major e-book distributor has its own metadata form, and each form must be completed accurately and completely for online retailers to market a title.

And as Fisher notes, an e-book’s metadata file may require 120 entries, roughly four times as many as metadata forms for print titles. In addition to information such as ISBN and the names of contributors, which also appears in the metadata for print versions, e-book metadata must provide such details as whether the book is lendable, and if so, for how long and how many times; whether it’s printable; what its pricing variations are (agency, introductory, and regular, for example); and whether the content is protected by DRM.

The Need to Know

If this all sounds intimidating to you, you’re undoubtedly not alone. Few publishers are CPAs, and carefully tracking expenses for each title—let alone each version of a title—sounds like about as much fun as trying to collect past-due receivables.

But accurately assessing the cost of each version of a title is becoming increasingly important as more e-books are published, as more distribution channels are used, as publishers try to determine what they can afford to pay to acquire books for reissue in digital-only formats, and as they negotiate royalties with authors.

We welcome your thoughts on the allocation methods described in this article and your reports on allocation methods you use; this will be a topic we’ll revisit.

Price and Royalty Choices

On the theory that e-books must be less expensive to produce because there’s nothing to print, book buyers have been known to assert that the saving should be passed on to them in the form of lower cover prices.

The facts don’t support the theory, some publishers say. In a late-2012 Publishers Weekly, Wohl Publishing founder and president Rich Wohl recommended similar prices for the digital and print versions of a book.

Wohl went on to say that the value of a book is not reduced by the e-book format. “In fact, for many customers the electronic format increases the value,” which might justify a higher introductory price for the e-book if it’s issued prior to the print version.

At Square One Publishers, Rudy Shur says, “People read our books not for their entertainment value, but because they need the information contained in them.” Accordingly, pricing is simple. The price of each e-book is the same as the price of its physical counterpart.

Although authors and their agents may demand higher royalty rates for e-books, given the apparently higher profit for the publisher, Howard Fisher of The Fisher Company recommends that royalty rates be the same for all versions of a title. And Doug Pfeiffer, publishing director at Graphic Arts Books, believes that royalty rates should be the same not only regardless of format but also regardless of sales volume, with none of the stepped royalty schedules that are common with print books.

Linda Carlson writes from Seattle, where she does not own an e-reader, and where University of Washington Press has not issued a digital version of her history, Company Towns of the Pacific Northwest.

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