"But Their Monopolization Strategy Was Legal"

The New York Times comments on Apple's antitrust verdict,

At a hearing on Friday, the department will argue that its plan to remedy Apple’s misconduct will “restore lost competition.” In a narrow sense it may, but the problem with this case all along was that the department ignored the potentially bigger anticompetitive force in the e-book market — Amazon — while focusing on Apple.

Due to the timing of its entry into the market, its dominance as an Internet bookseller, and a pricing strategy that often involved selling eBooks below cost - something Amazon doesn't appear to in other markets - Amazon managed to gain 90% of the eBook market, and was thus fairly categorized as a monopoly. The Times suggests that it was Apple's agency contracts and price matching requirements that got it into trouble, although it was the court's finding that Apple played a vertical role in an otherwise horizontal price fixing conspiracy between publishing houses that actually resulted in the antitrust finding. Apple will certainly challenge the theory of its liability on appeal, as traditionally the only vertical participants accused in such conspiracies were major participants in the market, while Apple was merely considering entering the market - and quite reasonably would likely have declined to do so had it not been able to break Amazon's pricing stranglehold such that its eBook operations could actually be profitable. Also, the government's theory focused on the "most favored nation" clause of the contract (allowing Apple to match in its bookstore the lowest price offered by its competitors), despite the fact that such clauses are not uncommon and appear to have never before been found to form the basis of an antitrust violation.

The editorial speaks of the Justice Departments proposal as being about "keep[ing] Apple from getting back to its old tricks", but in context Apple would be a one-trick pony. The controversy over agency pricing extends to the book market only because of the way Apple entered the market. The agency model, which is Apple's consistent "trick" is otherwise a perfectly legal, appropriate business model. The Times notes that the danger of penalizing Apple in this context is that the net effect may be to restore Amazon's monopoly:

[The Justice Department plan] does not address the need for a counterweight to Amazon’s dominance. Amazon controls an estimated 65 percent of the market, with Apple at 10 percent and other retailers splitting the rest. (Before Apple started selling e-books, Amazon had 90 percent.) The case against Apple has done nothing to solve that problem.

On one hand, the purpose of the plan is to punish Apple for its misconduct, and to prevent recurrence. To my eye, the plan is absurd and overreaching, but perhaps the DOJ is following the principle that you won't get what you don't ask for, or the fact that they'll almost certainly get less than they propose so why not start by shooting for the moon? But on the other hand, if the proposal ends up restoring Amazon's monopoly - and the relief requested by the DOJ would prevent Apple from entering into any contracts that would enable it to run a profitable eBook store once Amazon, shielded by the terms of the proposal, starts once again selling eBooks at a loss - the DOJ looks a bit ridiculous. Coming down like a sledgehammer on a company that broke a monopoly by establishing an even playing field for eBook vendors, in order to protect and restore the company whose monopolistic practices had previously deterred any appreciable competition.

Following the settlements with the various publishing houses involved in the conspiracy, the market has effectively sorted itself out. Amazon still controls a whopping 60% of the eBook market, prices have stabilized, and consumers have their choice of platforms and vendors. I thus think that the remedy should focus on prevention and punishment, not on trying to tamper with the markets. If the DOJ's concern is that Apple is going to profit unreasonably from its conduct over the next few years, and it can prove that theory, increase the fine accordingly. Sure, it may be that the DOJ's plan will take us back to the days when Amazon sold many eBooks as a loss to deter competition, but even if I believed prices would be lower I think we're far better off over the long-run if Amazon's monopoly is not restored.

Apple, Amazon, eBooks, and Antitrust

I am not a close follower of antitrust law. I studied the law as it then existed more than twenty years ago, at which time the state of the law and its enforcement was in significant flux. Prior antitrust litigation had cast a shadow over the enforcement mechanisms, with the break-up of International Shoe being widely seen as a cautionary tale for how too strong a remedy for antitrust violations (e.g., the break-up of a company) can undermine an industry - a caution that didn't save AT&T from being broken up, but likely did play a role in the decision to preserve Microsoft as a single entity. Since that time, I've watched from the distant sidelines as the courts have relaxed restrictions on what a company may do without running afoul of antitrust law, including in relation to minimum advertised price (MAP) and minimum retail price (MRP) policies.

What strikes me about the argument of the attorney generals and Justice Department, in essence that they pursued Apple in order to protect consumers from higher prices, is that the courts have demonstrated less concern about consumer prices than consumer advocates. Polices such as MAP and MRP can help protect a manufacturer and its retailers (particularly brick and mortar retailers facing online competition) from downward price pressure, but with the inevitable result that prices will go up for consumers.

An early reaction from Jonathan Gans, I think, reasonably summarizes the outcome. I admit, I have not read the 120 page opinion, and I would welcome comment from anybody who has. I'm not sure that I agree with him that "Apple didn't need to do this", at least in the sense of having a viable bookstore. Amazon's approach was, in the eyes of the attorneys general, a boon to consumers, with Amazon selling many titles below cost in order to expand and entrench its market share. The entire controversy with Apple was kicked off by the fact that Apple was not interested in following that path - yet unless they followed Amazon's model, or inspired publishers to convince Amazon to change its pricing model, Apple's eBook store would not have been viable.

Once upon a time, Apple might have been able to accuse Amazon of anti-competitive product dumping, but that theory has been all-but-abandoned, and Amazon was careful enough not to issue subsidies across-the-board such that there was little chance of it's being revived. So we ended up in an odd situation where any potential competitor to Amazon would have to provide subsidies to buyers, likely resulting in its inability to turn a profit on an eBook store, doing something akin to what Apple did, or staying out of the market. Also, through its agency model, Apple cleared the way for additional eBook stores to come online - because they could enter the market without having to worry that they would not be able to turn a profit due to Amazon's subsidized prices. The attorneys general seem to believe that consumers would have been better served by having Apple stay out of the market than by having it enter on terms under which it could turn a profit and which did not in fact give it a competitive advantage. Even accepting the court's conclusion that they proved an antitrust violation I don't think they made that case.

Like any appellant, Apple is going to have a difficult time appealing based upon the argument that the judge misunderstood the facts. The judge's rulings were extensive and, in simple terms, on appeal any ambiguity is construed in favor of the nonmoving party. I expect them to try, and I expect that they are going to identify some findings by the court that arguably contradict the lower court record. But I expect their focus on appeal to be a bit different - that they will be less focused on what the law is, and more focused on what the law should be. That is, just like the deep-pocketed manufacturers who decided to litigate issues of MAP and MRP with what amounted to a law reform argument, Apple is well situated to present... let's call it the "Mr. Bumble defense"¹... to present antitrust law. You don't have to sympathize with Mr. Bumble, or believe he is undeserving of his fate, to see that there's some substance to his reaction.

In short, Apple is likely to take its appeal to the highest court that is willing to hear the case and, while happy to win on the facts, can be expected to also argue that to the extent that the law as applied should be distinguished from the facts of their case, and to the extent that it cannot that it should be reversed.
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1. In Oliver Twist, after being told that the law presumed his wife to be acting under his direction Mr. Bumble, the workhouse manager, sputters, "If the law supposes that... the law is a ass—a idiot. If that’s the eye of the law, the law is a bachelor; and the worst I wish the law is that his eye may be opened by experience—by experience."

The Logic Behind Control Freaky iPhones

I have sympathy for the argument that Apple has a history of being something of a control freak with its hardware, and that its tendency to want to control what users do is manifest in its iOS devices, the iPhone and iPad. If you're the sort who likes to customize your experience within the OS, you have very few options. If you're the sort who likes to dig deeper into the device to change appearance or function, Apple works hard to prevent that. If your intentions are good, than can be frustrating.

That's not to say that it's not frustrating, also, when your intentions are bad. Although some people jailbreak their iOS devices in order to use them on a network that does not yet support the iPhone, or because they enjoy hacking the device, let's be honest: Most people looking to jailbreak an iPhone or iPod, or complaining bitterly about how Apple restricts their freedom as compared to Android, are primarily interested in installing bootleg apps or making "free" in-app purchases.

As it stands, iOS looks its age. There are pro's and con's to that, the most obvious pro's being that it's easy to use and remains compatible with most older iOS devices. On the other hand... it's somewhat inefficient, the constraints on file organization make it somewhat clumsy, it screams out for new features, some of its functionality is clumsy (adding an event to the calendar, for example), and its quaint adherence to skeuomorphs (e.g., making a calendar look like an old, on-paper desktop calendar) needs to go. (Rumor is that skeuomorphs are on their way out in the next iOS update.)

When you look at the latest version of Android, or when you look at Android's present market share, the question I heard a while back, "Why do developers still tend to develop an iOS app first, instead of starting with Androd," seems fair. I think the answer is this: Because Apple is enough of a control freak to ensure that a majority of iOS device holders will buy their apps, instead of installing "free" bootleg versions. That's an issue I expect to only become more pronounced as Android starts to saturate the market for lower-cost smartphones.

Although I'm not sure that they expected it to happen so quickly, Apple has known for many years (really, all along) that it's only a matter of time before any computer technology becomes commoditized. You can create a premium product and sell it at a premium price, but if the run-of-the-mill product is almost as good as yours that is likely to result in your rapid loss of market share. People seem to forget that while Apple is competing with Samsung (and, indirectly, Google) for the lion's share of the smartphone market, it's competing with Amazon (and Google) to be a dominant vendor of electronic books and media. Google doesn't give away Android in order to give its competitors an advantage in the marketplace - it does so to give its own software product an advantage, and to better position itself to compete in the mobile space for ads, apps and media.

To the extent that Apple can make itself the device maker that is most likely to provide royalties to developers and content owners, and Android doesn't find a way to rein in bootlegging, that aspect of Apple's control freaky nature is likely going to provide it with a significant advantage when negotiating with content providers.

Control Freaks vs. Commoditization

In relation to Microsoft's plan to become a manufacturer of tablet computers, Paul Krumgan observes,

[I]f you contract with other people to build equipment, they may be unwilling to invest in quality in the belief that you will use your sole-buyer status to extract the benefits.

And that, apparently, is exactly what has been going on with Microsoft; its reliance on other people to build computers using its software worked very well for a long time, but lately Apple’s control-freak approach has been winning out.

I agree with Krugman and his reference to Hart, but from my experiences in the hardware market I think Microsoft's primary difficulty emerges from the commoditization of personal computers, both desktop and notebook, and the reluctance of third party manufacturers to take a long-term, quality driven perspective through which they can profit from selling premium products.

I bumped into a friend recently and noted that he was using a MacBook Pro. I commented that he had traditionally used PC's. He responded that he is OS agnostic, and suggested that his principal motivation for switching was quality. I started to comment about the decline in the quality of the Dell notebooks I've owned and he cut me off, "Dell computers are crap!" So there he was, a guy with enough money to buy a premium computer of any brand, as long as it worked, and he was turning to Apple because, all else being roughly equal, its products are reliable.

The difficulty for Microsoft is that if it builds high-end products, sold alongside third party Windows tablets built to be sold as commodities, even if quality is accepted as a matter of faith it may have difficulty maintaining a premium price point. But perhaps Microsoft accepts that its move may alienate third party manufacturers, and that those third parties will compete more directly with Amazon and... it would appear Google as well, for the lower-end tablet market, while it focuses on a premium product that can compete with the iPad, or at least give Microsoft an opportunity to establish itself as a tablet manufacturer for enterprise customers while it fashions additional products that may have greater appeal to consumers.

Quality? If it wants to offer tablets that can truly be classified as premium, I don't think Microsoft has much choice but to make its own hardware. For any other company, such an approach would involve a significant risk with much of any eventual benefit flowing to Microsoft.