The Business of Books

TR – Hello, I’m Tom Record and I’m here with Tom Hosking. Welcome to the second season of Global Infusions, an investment podcast from the Liontrust Global Fundamental team that takes a long-term view of today's stories. 

 

Last episode we chatted about the challenges of aligning incentives from Supreme Court Justices to Cobra breeding and referencing your own scientific papers. This episode we’re looking at the business of books – the windows to so much information, and an industry that continues to consolidate around a few mega publishers and retailers. If your taste buds are tickled or you have any questions for our next episode, please do send them in via your client contact or through the contact us link on the Liontrust website.

 

So sit back, grab a cup of tea, and remember that when we talk about individual companies we are not making a recommendation to buy or sell shares and that some of these companies may not be held across Liontrust’s global fund range

 

So you’ve been on your summer holidays, Tom. Did you read any good books?

 

TH – Yes I did. I enjoyed reading Captain Corelli's Mandolin which is excellent. And for non-fiction, I was reading a history of the Greek revolution of 1821, which was a bit more dense but what I got through was really interesting. 

 

TR – You’d never guess that you were away in Greece!

 

TH – Yes, well remembered! I love learning about where I'm travelling to and reading on location. And experiencing other cultures gives context to what you're reading in a way that you don’t get at home. 

 

TR – So it’s a 2-way thing?

 

TH – Absolutely.

 

TR – So I know your holidays weren’t that long – did you finish reading your Greek books?

 

TH – No unfortunately. I usually finish my holiday reading but…  sometimes I'm busy when I get back, I lose track of where I was in the book and then end up reading something else instead! If I look at my bookshelves, a surprising number are only half-read! 

 

TR – I know the feeling, but in a funny sort of way I don't think it's necessarily a bad thing. Nassim Taleb writes about the idea of an anti-library in his book 'The Black Swan'. The idea is that your collection of unread books reminds you of what you don't know. It keeps you humble. 

 

TH – It’s funny you should say that because there’s a similar Japanese concept, Tsundoku, which translates as the beneficial habit of acquiring books but letting them pile up without reading them. 

 

TR – Awesome. That’s probably where Taleb got the idea from. I get that – thinking of it as a positive that shows curiosity about the world. 

 

TH – Yes. You can't own every book but owning a sample of your ignorance may stop you from falling into the trap of complacency!

 

TR – I like that – “My unread library is a sample of my ignorance”… so If you think you know everything, you are going to encounter some nasty surprises.

 

TH – True.  OK, so there was a time when you could have owned every book in the western world, but it was a very long time ago when books had only just been invented.

 

TR – Are you referring to the legendary library of Alexandria?

 

TH – Indeed I am. It was the closest mankind has come to creating a universal library containing all books in existence. It was actually feasible in 300BC as there were fewer books and Egypt had the financial means. Grain was the oil of the time, and nowhere was as fertile as the banks of the Nile. 

 

TR – Sounds like Saudi Arabia buying footballers today!

 

TH – Yes exactly, it's all very familiar! Though there was a material advantage too.

 

TR – Go on…

 

TH – Well, back then books were scrolls made from papyrus. Outside Egypt the plant was scarce, so Egypt effectively had a monopoly over this strategic product. As Mediterranean cities became literate and more complex, they needed more writing material so the price of papyrus rose and rose.

 

TR – So the Pharoah became a paper or papyrus billionaire!

 

TH – Oh dear, yes! Interestingly the legacy of papyrus is still with us. Egypt's exports mostly went through the port city of Byblos. And this is where the Greek word for book comes from, biblion.

 

TR – Ah fascinating... And hence the Bible and bibliotheque in French.

 

TH – Yes, the French library.

 

TR – So how did they get all those books from the rest of the ancient world? Presumably there was no international book trade then?

 

TH – No there wasn't, so it was very difficult. Remember there was no printing press, books were very rare. First they sent people abroad to go buy them but encountered a lot of swindlers and forgers who knew the pharoah would be angry if the agents missed any book.

 

TR – Whenever you are a forced buyer, you inevitably overpay.

 

TH – Then they persuaded the Athenians to lend them some of their oldest manuscripts for a year so that the Egyptian scribes could make copies of them. But they didn't return them and forfeited the deposit!

 

TR – That's very poor behaviour.

 

TH – Indeed but stealing did work. Custom officials searched every boat that docked in the city, seized their books, and made copies of them to return to the rightful owners while pocketing the originals.

 

TR – The Egyptian tourist board can’t have been very happy about that.

 

TH – Indeed. And later on, when a rival library appeared in the city of Pergamum, in modern day Turkey, Alexandria halted all exports of Papyrus to scupper them. But it came back to bite them eventually, because their rivals ended up developing parchment instead.

 

TR – Interesting – we talk about trade wars a lot today but they’re not a new phenomenon.

 

TH – Yes – The ancient world went crazy for books and they’ve remained popular to today really.

  

TR – The death of books has been incorrectly predicted for many years but they have proved pretty resilient. 

 

TH – Yes it's hard to imagine obsessing over a collection of ebooks isn’t it?

 

TR – Indeed, there is something about books and their past – books have changed viewpoints, incited rebellion and molded countries. And books can have a tactile feel and a smell to them and of course they can’t run out of power. So Tom, do you know when ebooks peaked?

 

TH – Now this is one that I do know. In the US ebooks had a max share of book sales way back in 2014.

 

TR – And can you remember what portion of sales were on ebooks?

 

TH – I think it was around a quarter?

 

TR – Very close. In 2014, ebooks maxed out at about 22% of book sales and that’s been falling ever since. 

 

TH – It's a good reminder that disruptive technologies aren't necessarily as disruptive as people think at first.

 

TR – Indeed, rather than ebooks, it has been audiobooks that have been the industry's main growth story. The gamechanger there was digital downloads replacing tapes and CDs. Audiobook sales in the US have grown roughly 9x from $200m in 2010 to $1.81bn in 2022, equivalent to about 9% of total book sales. OK, Tom, have you come across Booktok?

 

TH – Can't say that I am, is that short for Book Tiktok?

 

TR – Good guess! So it sits at that intersection of social media and book reviews and apparently is very good at helping young people find new books to read. Some of the videos are hilarious. Romance is the biggest sub-genre on Booktok and is also the area that’s had a huge increase in sales. 

 

TH – Probably not just a coincidence!  Publishers find it hard to reach young readers, so it has its niche.

 

TR – Yes, last year Penguin Random House partnered with Tiktok for in-app purchase links to the books in their posts. 

 

TH – Very shrewd. The zeitgeist of the time is usually reflected in book trends. So, during the pandemic, there was a boom in fiction books, and in particular the fantasy genre, as readers wanted escapism from the real world.

 

TR – And this year there is reportedly an ongoing shift from hardcover to cheaper paperbacks due to tightening household budgets. 

 

TH – It's not just demand-led changes either. Publishers have had to contend with significant supply chain issues. A lot of commercial printing has moved to China so they were hit by higher shipping rates.

 

TR – And most problematically, there were global shortages of wood and pulp- crucial for paper. Supply was being diverted to the production of cardboard and packaging, where demand had risen as a result of greater online shopping during the pandemic. 

 

TH – Oh I see. And I guess the increase in demand for books didn’t help either.

 

TR – No it didn't. And this got even worse in 2022, when paper mills raised prices to cover their spiraling electricity costs. By last September, British book publishers had seen their paper cost rise 70% in 1 year. So publishers are now using cheaper, lighter paper and producing books in thinner formats that squeeze more text onto each page.

 

TH – It also might change what publishers commission. Some academics argue that paper-supply problems during WWII contributed to a shift in English literature: from long Dickensian dialogue to the more succinct style of so-called elliptical modernism.

 

TR – Interesting. So perhaps we should expect shorter books to be published this year then, but I imagine the paper cost is a much smaller part of total publishing costs today than it was in 1945.

 

TH – Yes. And since we have stumbled into the world of publishing, I think now is the time to ask you: have you ever driven on the M6 toll road?

 

TR – Yes – it’s one of the best motorways in the UK and bypasses spaghetti junction. 

 

TH – Well you would have driven on 2.5m recycled Mills & Boon romance novels that were used to surface the road.

 

TR – What?!

 

TH – So apparently the book pulp acts as a sound absorber and extends the lifetime of the road. A spokesperson for Tarmac, the construction company, said at the time: “We use copies of Mills & Boon books, not as a statement about what we think of the writing, but because it is so absorbent… They may be slushy to many people, but it's their no-slushiness that is their attraction as far as we are concerned”. 

 

TR – Haha, that is amazing – and gives a new definition to a romantic drive... 

 

TH – Oh dear Tom.

 

TR – Well, I guess it's a side effect of the hit and miss nature of the publishing industry. If the book flops, the publisher is left with too many books and either has to hand them to a wholesaler at a big discount or pulp them. 

 

TH – Counterintuitively publishers are actually among the biggest destroyers of books.

 

TR – That sort of venture capital approach with a few big winners, may be behind the consolidation of the industry to the so-called Big Five: Penguin Random House, HarperCollins, Macmilllan, Simon & Schuster and Hachette. The bigger you are the more able you are to manage risk.

 

TH – And they all own different imprint publishers, which gives the illusion of competition.

 

TR — Yes, another example of a hidden monopoly. Penguin Random House for instance owns more than 250 editorially independent publishing imprints including big names like Viking, Crown and Vintage books.

 

TH – It's unsurprising that Penguin Random House's acquisition of Simon & Schuster was blocked, as we mentioned on the podcast late last year.

 

TR – Yes exactly. Government lawyers built their antitrust case around a relatively narrow category: fees for anticipated top sellers, defined as books where authors receive advances of, can’t remember how much was it?

 

TH –  I think it was $250k or higher.

 

TR – That must be a really small proportion of books. The median writer income in the US is only about $20k a year.

 

TH – Yes it's a tough industry with just a few superstars. There were some really bizarre testimonies from the defence at the trial. The CEO of Penguin Random House said: Everything is random in publishing… Success is random. Best-sellers are random. That is why we are the random house!”

 

TR – What a thing for a publisher to say: “Our skill is zero”! I mean there is some truth in that - there’s uncertainty over a book’s success but to claim its completely random is ridiculous. Any publisher would know that the next novel from say Stephen King, has a good chance of becoming a blockbuster.

 

TH – Yes and merging the No. 1 and No. 5 players would likely lead to lower advances for the big authors.

 

TR – Indeed, the big publishers have competitive advantages from their scale: they have the reputation, breadth of distribution, breadth of marketing and most importantly extensive backlists that generate enough revenue to offset potential losses.

 

TH – For me the only argument to allow consolidation is that the publishers are now competing against Amazon. They need scale to stand up to a player that has 50% of the printed book market and 75% of the ebook market in the US.

 

TR – We have to mention Amazon – they revolutionised the book market. Jeff Bezos chose books as the first category for Amazon for a number of reasons. First, they were commodities; a copy of a book in one store was identical to another so buyers always knew what they were getting. 

 

TH – And of course they didn’t expire and came in uniform sizes- so are ideal for posting. 

 

TR – And not all books are bestsellers and the rest are expensive to stock in every store. Bezos recognised that funneling demand would be a strong advantage in books that are sold rarely. And when you aggregate all those books, that's a large market. They undercut the bookstores' prices until they eventually became the biggest player in the market. 

 

TH – Yes it was catastrophic for the bookstore industry.

 

TR – And There was a huge tax advantage for Amazon with their Luxembourg subsidiary… 10 years ago Amazon made £3m of tax on just over £4bn of sales, and Waterstones paid 3 times more tax on sales that were a tenth of Amazon’s, all while making a £25m loss.

 

TH – That sounds like a challenging backdrop but it is often in moments of crisis that you can push through real change. And Waterstones, which is the UK's only bookstore chain of any scale, is a good example of this. It was teetering on the brink of going bust when a Russian billionaire called Alex Mamut saved it and took the brilliant decision of hiring James Daunt as managing director.

 

TR – Who has his own eponymous small book store chain doesn't he called Daunt books? The original one he started on Marylebone high street really is beautiful.

 

TH – It's my favourite bookstore. And quiz question: James Daunt's real first name isn't actually James- what is it?

 

TR – Oh I don't know. I'll go with Maximillian Daunt?

 

TH – Haha, good guess but no. He is really called Achilles James Daunt.

 

TR – What a name!

 

TH – Indeed! Well James Daunt, as he prefers to be called, recognised that bookselling had to change to survive. You used to be able to just find a large site and fill it with as many books as possible, but now Amazon is always going to win that game. So instead you have to focus on customer experience in store and emphasize the ability to interact with people who love books. 

 

TR – And the most important way of doing that was devolving power to local managers. 

 

TH – Yes exactly, Waterstones used to make almost £30m a year from publishers by guaranteeing promotional spots for their books and sales targets. By scrapping this arrangement store managers were given the freedom to decide which books worked best for their store. That meant fewer returns of unsold books and better capital efficiency.

 

TR – Interesting- so scrapping an income stream was counterintuitively the best thing to do. It is funny how often we see that with all sorts of businesses: they go wrong because they prioritise short-term profitability rather than long-term strategy and focus on what the customer really wants.

 

TH – Yes. Waterstones were returning 25% of their books to publishers! Which shows you that they were effectively filling their shops with books that people didn't want to buy. It was.. insane! By 2019, they had got that returns figure down to just 3%. 

 

TR – Awesome. So local managers are better buyers - there is a bit of a virtuous circle where the better the bookseller is at recommending books, then the faster the customer reads it, and the faster they come back to buy another one.

 

TH – It goes back to incentives. You want motivated employees who want to be there and care about the books that they are selling. They even devolved pricing decisions to stores.

 

TR – That would make life much harder for the Amazon algorithm.

 

TH – Exactly. And it worked. In 2012 Waterstone lost 40m but by 2016 it was profitable again. 

 

TR – Daunt's next task is to perform the same turnaround at Barnes & Noble in the US. They and waterstones now have the same owner, the hedge fund, Elliot Advisors. They have loads of other brands like Foyles, Hatchards and last year they acquired Blackwells.

 

TH – Quite an empire! And yet another example of a hidden monopoly of sorts

 

TR – As bookstores were one of the first sectors to go through online disruption, they offer valuable lessons for other sectors. To succeed they had to become destinations offering a differentiated customer experience. So we now see stores opening cafes and hosting events- both are things that Waterstones did.

 

TH – Agreed. They are a useful case study with wider implications.

 

TR – OK, let's turn to the news. First up from me is a story about Angela Ahrendts.

 

TH – The businesswoman who ran Apple retail and turned Burberry around?

 

TR – Exactly… well, now she has a new job that crosses over with our business of celebrity episode.

 

TH – Ok, I’m intrigued.

 

TR – Well, you may remember we talked about how Kim Kardashian has made billions – I think Skim, her underwear and apparel business recently raised money at a $4bn valuation… Well, she is now investing her fortune and has built a Venture Capital business called SKKY, and she is building out the people so VC veterans from Carlyle, Permira and Blackstone.

 

TH – That makes a lot of sense.  And I assume that Ahrendts is going to be advising the investee companies on how to operate better and become even more valuable.

 

TR – Exactly.  So Tom, what’s your first story?

 

TH – It’s rather a sad one relating to climate change. The Antarctic Sea ice has been relatively stable over recent decades, but this year it’s not recovered like usual. Its nearly 3m square kms smaller than usual, that’s a difference the same size as Argentina! 

 

TR – It goes back to the destabilizing equilibria of weather systems that we spoke about on the weather episode, 2 years ago. And the effects on the jet stream likely explain the terrible British summer of rain.

 

TH – It has been awful. The North Atlantic jet stream has been becoming slower-moving and “wavier”. So this summer it’s been locked in a pattern of 5 large U-bend shapes. This has resulted in persistent heat domes in southern Europe and the American mid-west. And low-pressure weather for us and those on the east coast of the US.

 

TR – Climate models have been pretty accurate on the overall warming of the planet but these changes in jet streams are much harder to model and are bringing about much more extreme weather.

 

TH – Yes exactly.

 

TR – Staying on the climate change theme, I came across some really interesting research from a collaboration between Google AI and American Airlines.

 

TH – Go on, Tom…

 

TR – Yes, so lots of the global warming effect from aviation happens when planes leave contrails – those white trails – across the sky, which then seed clouds which can trap heat. This is particularly bad at night. Now, Google’s AI has been predicting the best heights for planes to fly at to avoid forming contrails.

 

TH – Sounds very sensible. But is it viable to keep on changing height?

 

TR – Well, there is a fuel cost associated with that, but the net savings in CO2 equivalents work out at somewhere between 5 and 25 dollars a ton of CO2.

 

TH – That’s pretty cheap compared to the European emissions cost of about $90/ton…

 

TR – But it does raise that classic question on incentives – would an airline vary their altitudes to decrease global warming if it increases the amount of fuel they burn by a couple of percent?

 

TH – Ah, well as most climate incentives are based on CO2 emissions at the moment, there’s no incentive to adopt these sort of measures even though they’d slow global warming.

 

TR – Indeed – Goodhart’s law strikes again!

 

TH – Next up from me is a story from the world of neuroscience where scientists have been able to reconstruct a song by analysing people’s brainwaves.

 

TR – I read about this- the song was Another brick in the wall by Pink Floyd.

 

TH – Yes it was, a classic. The recordings were obtained back in 2012 but only now have AI models become powerful enough to interpret the brainwaves. 

 

TR – They didn’t quite get to the line “we don’t need no thought control”, and the results aren't very polished but being able to make anything out at all is amazing. 

 

TH – Yes and in the future it could help people with severe neurological damage to communicate clearly through a brain-computer interface that sounds more natural.

 

TR – Exciting. To finish with, there is one piece of scientific news that’s come out over the last month that has huge potential implications. The discovery of LK99.

 

TH – Ah yes! The room temperature and pressure superconductor.

 

TR – Exactly.  If the South Korean team that discovered this new material are correct in their analysis then this could be the start of a whole new era of scientific discoveries. So until now, superconductors have been very cold (around absolute zero) or at very high pressure. This means they are bulky, expensive, difficult to maintain and generally quite limited in their application.

 

TH – So an ambient pressure and temperature superconductor would be ground breaking. But I know there’s a lot of discussion about whether this is a real discovery.

 

TR – So the video of the floating superconductor looks real, but the early submission papers are rushed and the manufacturing methodology and chart data aren’t overly clean…

 

TH – It looks like a rush to get the paper out.

 

TR – Which ironically may make it more likely that it’s real.  Particularly as one of the papers excludes the fourth author and the maximum number of people who can share a Nobel prize is 3…

 

TH – So the authors are excited about it.  But have their results been replicated by anyone else?

 

TR – Well, in part, yes. Small amounts of LK99 appear to have been created in various labs across the world and they show characteristics of superconductors. And a theoretical basis for how LK99 gets its superconducting properties has also been calculated.  So it may be real, albeit not very useful in practical terms at the moment.

 

TH – Well, if the improvements that we’ve seen in the past for today’s superconductors in terms of yield, how much magnetism it can withstand and how much current it can carry are replicated then on a 10 year view this could transform a load of different industries.

 

TR – I agree. From MRI scanners, to railguns, to quantum computers and maybe eventually nuclear fusion.  There could be a giant leap forward.

 

TH – Exciting times, all from a mix of lead, copper and phosphorus!

 

TR – Indeed.  Thank you for listening to Global infusions - a podcast that believes that the best discussions are had over tea and cake. We hope you've enjoyed your cuppa and our thoughts on the business of books. Please do subscribe through Apple or Spotify and with that we wish you goodbye!

 

TH – Goodbye!