Why anybody thinks they will produce a gazelle by mating two dinosaurs is beyond me.
–Tom Peters, author of In Search of Excellence
For the title of this post, I opted to replace “dinosaur” in Peters’s quote because I don’t believe that either house is extinct or even approaching extinction. Like elephants, they’re just big and old and there is nothing wrong with that. Most of what I’ve seen of the media coverage of the potential merger implies that it is somehow a signal that Random, Penguin, and the industry are in decline or actually dying. From what I know, this is not the case.
I worked for Penguin from 1998 – 2005 and for Random House from 2005 – 2011. In both cases, my primary focus was the emerging digital aspects of the business. Lately, a lot of people have been asking my opinion on the possible Penguin Random House. The topic has been covered from many angles but, after some deliberation, I’ve decided to offer some of my thoughts and perspective.
Why did they decide to do this?
Interestingly and despite conventional wisdom, Random House and Penguin are actually managing the digital transition quite well. Yes, they are experiencing the inevitable bumps (and inherent criticisms) but they are also combining strategy and execution to control costs, preserve revenues and, for now, maintain margins. (Sure, they may have been a bit too aggressive with that whole pricing thing but the instinct is encouraging.) These companies are run by smart, effective executives and generally staffed with unimpeachable subject matter experts. The reality is that things are tough but actually going fairly well and for publishing, this is situation normal and has been for a long, long time.
No, the number one and number two trade publishers aren’t extinct, nor about to be. And I don’t believe that the folks who run the companies actually believe that extinction is nigh. However, I do know firsthand that an amorphous fear has swept trade publishing — from the rank and file to the C-Suites to the media who cover the industry. It has been growing since 1995 or so and has now reached the point where I think of it in title case: The Fear.
Amazon. Apple. Google. Self-publishers. Pirates. Libraries. Authors. Agents. Consumers. Boogeymen, all. Publishers don’t believe they’re going extinct…not quite. But they are absolutely certain that something really, really bad is about to happen. And, depending on where one sits, it is obvious that this bad thing will result in a) the cultural obsolescence of general trade houses and/or b) the shrinking or evaporation of profits. And, of course, the loss of one’s job, which is likely hard-won and beloved.
That’s The Fear.
Who decided to do it and how did they decide?
This merger is borne first of The Fear, secondly by attempts to quantify it via scenario planning and fiscal modeling, and lastly the decision to attempt to mitigate the consequences The Fear implies via a mega-merger.
In my experience, the organizational dynamics of these (relatively) large companies are fluid (eg. messy) with decisions coming out of sequence and with a peculiar mix of prolonged indecision/analysis/lack of focus followed by sudden, sweeping, large maneuvers. Mitt Romney is wrong that corporations are people. However, people do run them and that can never be overlooked or underestimated. (I won’t get into it in this post but the timing of the appointments and the rumored/actual futures of many of the senior executives involved may have played a greater role here than has been reported. But that’s just reading tea leaves…)
The Fear will have already had Random and Penguin (and every other major publisher) thinking about potential mergers. After all, they know that managing the continuing transition from print to digital requires cost control and market leverage, particularly vis-a-vis bogeyman #1: Amazon. Mergers are one answer. But it doesn’t feel to me like the operating company CEOs, nor their wise consiglieres, had much to do with initiating this one. The Fear reached Bertelsmann and Pearson, who suddenly saw it as acute and imminent. To anthropomorphize Romney-style, the parents decided something had to be done for and about the children. After all, the kids seemed to be developing inferiority complexes and heading toward financial collapse, probably at the hands of those big, clever bastards in Seattle. Pearson’s press release confirms from where the decision came:
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.
If my theory holds, once The Fear reached Germany and the UK, sharp, distant, dispassionate, executives began looking at the probability of “problems” within the “portfolio” of “assets.” Bertelsmann and Pearson have historically viewed their trade publishing units as idiosyncratically staffed providers of unspectacular but consistent margins. The margins vary little year to year, though Random’s and Penguin’s are usually not the same (Penguin’s are generally a bit higher), despite both being right around 11% in 2011. Interestingly, this 11% is about the average margin I was seeing/hearing about at the big houses 15 years ago.
From their 20,000 foot vantage point, parent company finance executives, though, would see a probable future of decreasing profit margins due to downward price pressure, flat sales volume, and fewer opportunities for cost reductions. After all, that fits with The Fear, is the refrain of most news coverage, and conforms to the fates suffered by every other media conglomerate at the hands of the pesky transition to digital. Basically, predicting and planning for doom is the no-brainer. Predicting future growth is the risky play. They opted for potential doom and reached for the trusty tool of many finance-oriented, parent company executives — Mergers & Acquisitions.
Is it actually just about cost-cutting?
I’m pretty sure it will wind up that way, though I don’t think most of the people involved want it to. The PR departments and senior managers of both companies have been emphasizing growth-oriented reasons for the merger, citing creativity, innovation, diversification, greater resources to invest in content, market leverage, and similarly positive, uncontroversial reasons for merging. There is no Fear in the publicly stated reasons for merging. John Makinson’s eloquent letter to Penguin staff and Markus Dohle’s equally eloquent letter to Random House staff offer excellent examples of the stated aspirations. (I can say that a) I have worked with both CEOs and b) I believe they are absolutely sincere in what they write.)
That said, the parent companies’ shared priority in merging is to future-proof margins through cost cutting. It has to be. This is the conclusion the scenario planning would inevitably lead to, especially for those who have bought into The Fear. Revenues might grow. But costs can definitely be cut.
Speaking plainly: lay-offs will ensue, especially in middle and back office functional areas and within any area that touches physical product (including the likely shuddering shuttering of at least one warehouse). This will hurt but in the end I believe all involved will act as wisely, humanely, and with the goal of a stronger company as they can. In other words, professionally. It is all well and good, just business, and makes perfect sense on paper. We could just call it at that and move on.
Except we all know that while parents mean well, they are a little clueless sometimes – sometimes they ask the kids to do really, really difficult things.
Why have I decided the merger is a bad idea?
Well, I haven’t entirely but for the most part I have. Not because I think it is evil or in theory wrong. I just think it will be harder to pull off than it sounds (and it sounds hard to pull off in the first place!). I also believe quite strongly that the resources of both houses could be devoted to other initiatives that, in my opinion, would better serve them and the industry at large. Here is a summary of my current thinking on the merits of the merger along with some of the challenges it will entail.
- Cost-cutting, yes. Leverage, not so much.
I can’t recall the specific market shares of the two companies but I’d estimate they will combine to account for 30 – 40% of all units sold, depending on the year and what hits they have. That’s massive but I don’t think it will make much difference to Amazon who is simply too big, wealthy, customer-focused, and pre-occupied with its actual competitors: Apple, Google, Facebook, Microsoft, and other massive, publicly traded technology companies. By way of hypothetical example, Amazon could offset giving up a point of discount on eBooks to a new heavyweight publisher by simply increasing prices on other products by .5%. That’s a guess but it feels reasonable. Anyway, you see the point…
- Focus will be diverted to cost-control and job justification.
Once the merger is approved, the companies’ best and brightest minds are likely to be pre-occupied — if not completely consumed — with merging. They will also be pre-occupied with protecting and justifying their jobs — often to people who don’t know what they do. Their focus will turn internally (where, arguably it already is too much of the time) and away from adding value for authors or consumers, their two essential constituencies, and growing revenues.
- The cultures/capabilities could complement each other. They could also mix like oil and water.
In the US (which is what I know I best) Random House and Penguin are very, very different companies. Random is (and sees itself as) decentralized, relatively autonomous from its parent company, operationally and technically best-of-breed, and analytically-inclined. In my opinion, it is also a bit bloated staff- and cost-wise (thus lower margins than Penguin), though this has improved greatly under Dohle. Penguin is (and sees itself as) lean, scrappy, and intuitive with a strong Sales and Marketing culture (its US CEO, David Shanks, comes from a Sales background while its President, Susan Petersen Kennedy comes from the Marketing/Editorial side). Speaking broadly, it has weaker IT and business intelligence tools, operates on an aging operational infrastructure, and is constantly dealing with a meddling Pearson and its much bigger sister, Pearson Education. Historically, it has produced higher margins than Random, at least in the US. How the two mix will depend on many very strong personalities. It could go terrifically. It could also get ugly.
- They actually have to merge many more companies than two.
Random House is really six companies in the US alone: its five divisions and its corporate area. These disparate parts are somewhat more integrated than in the past but in many respects they might as well be separate companies. Both Random and Penguin also have the pervasive divide between the “corporate” and the “division/imprint.” It is interesting how all involved have taken great pains to emphasize that the editorial/imprint sides of the businesses will remain autonomous. It seems no one is quite bold enough to monkey with the black magic that occurs over there at this time.The extent to which Penguin and Putnam or BDD and Random every fully merged (especially culturally) is also debatable but that’s for another post.Then there are the international units, also fodder for another post.
- Bertelsmann is historically hands off; Pearson hands on
Being merged will feel strange to both Random and Penguin for different reasons. How they react is a total unknown and also critical to whether the merger succeeds.
- Bertelsmann is German, Pearson is British.
Being Irish-American myself, with only some experience dealing with the parent companies on their home turf, I have very little to offer on how the cultural differences will effect the merger efforts. I can say that it is difficult for me to imagine they’ll have no effect at all.
- Tom Peters’ opinion of M&A plus a boatload of studies
70-90% of mergers fail, often for the reasons I’ve cited above.
At the end of the day, what do I think?
The notion of a Penguin Random House has stirred up a lot of thoughts and emotions throughout the publishing. It has also caused me to think long and hard about the industry. When the two largest players in any industry merge it must mean something.
My current thinking, though, is that there is little more to this than what immediately meets the eye; that it is not a sign that publishing is dying nor that it will thrive through further consolidation. In many ways, it is business as usual. Media companies consolidate. It’s a straight-up business move; a calculated risk combined with a dash of hope.
For the record, I don’t think that predictions of a contracting market are necessarily wrong. Then again, I don’t think they are necessarily right either. It depends what publishers focus on, how well they innovate and execute, and a whole lot of circumstances beyond anyone’s control. I am also not against M&A. Merging might help. Then again, it might not. But the folks involved here are very good at what they do and, despite the obstacles I’ve cited, I actually believe they have a chance of pulling this off.
On balance, I find it to be a relatively unimaginative move and one that, in the end, is likely to add little if any value even if successfully executed. At the same time, it is one of the biggest, boldest moves publishing has seen in a long while.
For now I’ll remain of mixed opinion, politely skeptical, reserving the right to change my mind at any time. Simultaneously I will be rooting for all involved. I truly hope they can do it — that the beast they produce is that rare gazelle.