The Xplanation

Introduction

In April, we published a report on Digital Textbook Sales in U.S. Higher Education, in which we outlined sales for e-textbooks over the next five years based on current trends and variables. This series — The Transformation of Textbook Publishing in the Digital Age — provides an in-depth look at textbook publishing in Higher Education, and offers a roadmap for evolution and profitability in the industry. In this first installment, we will discuss New Business Models. In subsequent installments, we will explore New Product Models, New Authoring Models, and New Production Workflows.

My goal with this series is neither to extol nor criticize the textbook industry, but rather to provide an understanding of the business as it exists today, and to offer a digital success strategy for the companies that comprise that industry. By doing so, I hope to lay the groundwork for our subsequent summer series on The Transformation of Learning Systems, and The Transformation of Learning Content.

Context

In order to understand the path I present the transformation of this industry, it is first necessary to have some context. Textbook publishing, while similar to other media publishing industries such as books, newspapers, and music, nonetheless possesses some unique characteristics.

• Textbook publishers do not sell directly to their end users — Sales representatives call on instructors, departments, and institutions. Adoptions are approved through these channels and then the actual customer, the student, purchases the product at a campus bookstore or through an online retail site.
• Textbook publishers do not generate strong brand loyalty or length of contact with their customers — The average life of a typical textbook publisher customer is either two or four years. During that consumer life, there is no loyalty to the publisher’s brand. This creates pressure on the publisher to replenish the customer supply as well as a dependency on current enrollment trends. In other words, once the consumer leaves his/her formal learning environment, he or she essentially vanishes as a potential buyer.
• Textbook publishers sell to government-legislated businesses — Doing business with state universities and colleges means falling under the watchful eyes of state legislatures. This means having to justify sales practices such as bundling, and ensuring that products adhere to both state and federal requirements (such as providing options for accessibility).
• Textbook publishers do not generally control the retail price of their products — The textbook publishing business is mostly a wholesale/retail model. Publishers determine the wholesale price and provide a recommended retail markup. Bookstores and e-retailers purchase the product from the publishers and provide a retail markup ranging between 20%-40%, which results in the final price to the consumer. As we have seen in the last several years, this can contribute both to sticker shock in the bookstore as well as to an aggressive competitive e-retail market for textbooks.
• Textbook publishers make the majority of their money on a textbook project in the first year of publication (front list products), even though the item is on a three-year edition cycle — Unlike trade books, popular textbooks are purchased and used actively by customers over the entire three-year life cycle of an edition. However, once used books are introduced into the market at the end of the first semester of use, the number of new books sold begins to decline.
• Textbook publishers sell a product that give us a convenience rather than a necessity — Textbook content is something that can be created by most instructors in the Higher Education system. Adopting textbooks, as opposed to creating reading material and assessments, is a matter of convenience. Courses can be and are taught successfully without textbooks.

How Textbooks Get Made and How Publishers Make Money

Today, major textbook publishers make more than 99% of their revenue from print products. Publishers generally break these products down into convenient categories such as AAA, AA, A, B etc., to denote revenue potential and budget (with AAA titles generating the most revenue). The most profitable titles are related to large-enrollment courses — mostly General Education or Intro courses. In the paragraphs below, I will provide a sample life cycle for a first-edition textbook.

In textbook publishing, unlike the trade fiction business, publishers seldom deal with agents and most authors/manuscripts are identified through the general sales process. Authors are recruited and selected based on their teaching discipline, current university affiliation, reputation, and their ability to bring important adoptions on board. Publishers constantly seek new authors and new textbook projects in order to keep their lists fresh and to maintain influence at key institutions. Having an author of an Introductory Spanish textbook at the University of Michigan, one of the largest adoptions in the U.S., would be a strategic signing in today’s textbook publishing market.

Authors and manuscripts are often located through the teamwork of campus representatives and acquisitions editors. Campus reps generally receive bonuses for finding new authors/projects and are coached to look for new talent that is unsigned or that is being pursued by other publishers. If an author or project is being pursued by more than one publisher it becomes a “competitive” signing. Signing bonuses are small as a rule, unless the project potential and competitive nature of the signing calls for a more aggressive approach.

Once a textbook project is located, the acquisitions editor works with his or her publishing team to determine the potential value of the product. If the project meets signing criteria in terms of author value and earnings potential, the editor-in-chief will approve its signing. All major publishers have proprietary software and formulas for projecting textbook value, but a general rule of thumb is that total revenues should equal more than six times the project cost (as calculated in the formula). Acquisitions editors have a yearly goal for project signings (based on revenue potential) and are bonused if they reach or exceed that goal.

Once the book is signed, the real work begins. This means creating a formal budget and three-year publication plan for the product, beginning the formal evaluation cycle, and conducting initial reviews. In other words, signing the textbook project is only the beginning. Projects must survive peer reviews, market tests, pilots, and semiannual budget meetings over the next three years in order to finally make their way into the classroom.

This makes sense from the publisher perspective for a variety of reasons. First, signing an author often prevents him or her from signing with another publisher, at least in the same discipline or course area. In this way, signings are also a defensive strategy. Second, the majority of the composition, publishing, and marketing budget won’t be spent until the final year of the process, so it is in the publisher’s best interest to evaluate a project for two years and then kill it. Finally, during the entire three-year period, the authors are essentially working for free. They will receive royalty payments, but only once their textbook product(s) is published and sold.

During the publishing process, the publishing and marketing teams work together to recruit reviewers, plan pilots, and host conference presentations, all with the goal of landing adoptions at key institutions that will influence others. If you take this cycle and multiply it by several hundred, you have what amounts to the new product influx for a large textbook publisher in any given year. Add these to all of the existing titles going through the same process for subsequent editions, and begin to get the idea of the general business process.

Perhaps the most important thing to understand about large textbook publishers is that they function, in many ways, like a collection of franchises (I mean this in a business sense). Each editorial group — Math, English Composition, Economics — has its own P&L, and is a fairly independent profit center. This translates into group revenue goals, signing bonuses, marketing budgets, etc. Teams have a portion of their bonus tied to overall company performance, but the majority of their success is tied to the performance of their group.

It is also critical to realize that the editorial team budgets are tied mostly to their book projects and, as a result, the majority of their budgets are “borrowed” from the company based on revenue projections related to their projects in development.

All of this is key for two reasons. First, it means that most of the power within textbook publishers currently lies with these editorial groups. They possess the P&L as well as the ability to generate new products and budgets for their projects. Second, these editorial teams and the processes that govern their profitability are all based on print models and print publishing cycles.

Current Business Models

A common refrain among major textbook publishers is “evolution, not revolution”. Translated, this means that textbook publishers see themselves in a conservative market that does not reward radical difference or too much innovation. As proof, publishers often point to faculty resistance to new technologies and failed experiments with e-books form 2000-2004.

While publishers allowed individual editorial groups to innovate with their own technology and budgets through 2005, by the second half of the last decade centralized technology strategies that were designed to meet the needs of all editorial groups and textbook products became the norm. This allowed publishers to manage their budgets more efficiently, but it also hampered innovation by making technology solutions adhere to the wide and varied needs to the different disciplines.

Another common belief held by textbook publishers, when it comes to technology, is products must be assignable to have a high value to their customers. In particular, textbook publishers champion assessment (quizzing) tools and products that translate into measurable outcomes tied to textbook content. Assigned material becomes more valuable and more likely to be used by students and adopted by instructors.

With that general foundation, here is a brief overview of the current products and business models in the textbook publishing world today.

Products

Current publisher products are based on historical performance trends and conservative estimates about the Higher Education market and its propensity for change. This conservatism is based primarily on anecdotal evidence gathered through the sales process and from the publishers’ primary viewpoint into Higher Education — their authors.

At present, textbook publishers create four essential types of products, each designed to address a perceived market need.

• Print — Print products include all textbooks and print ancillaries such as workbooks, manuals and study guides. These are designed for traditional classroom use and are intended to appeal to advocates of traditional education.
• Custom — Custom products primarily refer to custom versions of print products prepared for larger adoptions. All major textbook publishers also offer custom publishing for individual instructors. Custom products can include third-party content, custom branding, are non-standard table of contents (TOCs). Large custom print adoptions are extremely valuable given current business models because they are generally multi-year agreements and because there is no used book outlet for custom print textbooks.
• Digital — All major publishers have two primary forms of digital products — homework management and e-textbooks. Homework management solutions — MyLabs, CengageNow, WileyPlus, Connect — are designed to support hybrid classroom models and provide robust digital assessment solutions tied to textbooks. These digital products are bundled with the textbook for an additional charge and area key part of a publisher’s strategy for upsell. E-textbooks are employed either as a low-cost solution — CourseSmart, CengageBrian — or as an enhanced and interactive premium learning product such as Elsevier Pageburst.
• Alternative (discounted) Products — Finally, textbook publishers have also developed lower-cost print products designed to appeal to students and produced in a fashion that eliminates most of the used book market (using a magazine format). As an example, consider Cengage’s MKTG product.

Current Business Models

Given the particular product verticals described above, textbook publishers generate revenues through a variety of sales channels.

• Individual Choice and Inside Sales — Most smaller adoption decisions are made by individual instructors and likely without the aid of a dedicated campus sales rep. These sales are generally the result by discipline conferences, Web searches, word of mouth, and inside sales teams who market products via phone.
• Departmental Adoptions — Departmental adoptions represent the overwhelming majority of textbook publisher business and associated sales costs. Campus sales reps work diligently to get their titles on departmental “short lists” for committee consideration. Later marketing and editorial teams make formal presentations to departmental representatives and put together the most attractive packages possible to get the business.
• Institutional Adoptions — The Holy Grail in textbook sales is garnering an institutional adoption with a multi-year commitment. This translates into guaranteed revenue over several years and shuts out the competition from an institution.
• E-retail (book and chapter level) — Over the past four years, major textbook publishers have launched individual and collective e-retail sites to sell e-textbooks and other digital products to students. Such sites are profitable in that they allow publishers to act as retailer and collect the retail markup of their products (as opposed to giving it to bookstores or other distributors). As with publisher-run rental programs, the success of these sites will always be limited due to a lack of brand awareness and to the fact that they only represent limited publisher content (as opposed to sites like Amazon, Textbooks.com, and Chegg).
• Rental — Rental programs have gained enormous traction in the past two years, thanks largely to the financial crisis in the U.S. and to the growth of Chegg. In order to keep abreast of this potential threat to long-term revenues, some major textbook publishers have launched their own rental programs.

Challenges and Obstacles to Success in the Digital Age

The current business models pursued by textbook publishers are cost-intensive and are implemented within a low-growth market. This means that, with current overhead and market size, double-digit revenue increases can generally only be reached with the help of aggressive price increases. Costs and profit margins are only one obstacle to the viability and success for textbook publishers, however. I have listed below some other factors that threaten the long-term success of these companies in a digital market.

• Editorial Ownership of Products and Decision Making — The franchise model worked well in a print universe as it provided performance incentive and product innovation. With the dawn of a primarily digital product model, however, P&L and decision power will need to shift dramatically within textbook publishing houses. Companies will need to establish new organizational verticals and create a new power hierarchy that promotes technology innovation and champions true software development.
• Print Workflows — If major textbook companies do not overhaul their print-dominant product workflows over the next five years, they will begin to hemorrhage losses. The digital age offers these companies opportunities for greater efficiency and much larger profit margins. These benefits are not attainable, however, given the current operational and business workflows.
• Content Packaging — In the current textbook publishing paradigm, there is no product without a textbook and there is no accounting or financial model without an ISBN. This model is restrictive and cumbersome, and does not provide the agility needed to be competitive over the coming decade. The first step towards reinventing their businesses will see these publishers necessarily conceive of content packaging and financial models that are not textbook-specific. What I am suggesting here is something much more drastic than the sale of textbook chapters or assessment products associated with textbooks.
• Value Perception — In the public eye, textbooks are too expensive and do not provide a value equivalent to their cost to the student. And, if textbook publishers overvalue their primary product, they actually undervalue their key partners, the authors. In order to compete in a digital marketplace, they will need to overhaul the valuation of the products they create and the services they receive from their partners.
• Limited life of a Consumer — The potential customer of a textbook publisher has a window of activity that lasts only two to four years. This leaves little time to grow any brand awareness and severely limits the amount of revenue that can be generated on a per customer basis.
• Rental — Simply put, textbook rental is good for cost-conscious customers but detrimental to the business of textbook publishers. If publishers do not find an effective way to offset this business model, it will have a detrimental impact on new textbook sales within two years.

Strategies for New Business Models for a Digital Age

The majority of this post has been about existing practices and product/business models in the textbook publishing world. These practices and models are based on a print-centric paradigm that will be outdated within three years, and are also the result of old assumptions about Higher Education and learning in general.

While the path to digital transformation will be unique for the different publishing companies, there are some constants that will be part of any successful plan for Higher Education learning content in the coming years. The surface chatter will continue to be about e-textbooks — reaching 18%-20% of the new textbook market by 2014 — but the strategies that drive success will all take the following elements into consideration.

• The Disaggregation of Content — Future profitability will be incumbent on publishers’ ability to conceive of and produce meaningful content at a more granular level and disaggregated from the notions of textbooks. It is not that they should produce less or different content, necessarily, but rather that content must become agile, malleable, and designed to be mashed up easily by customers — institutions, instructors, and students. This means thinking at the key concept or learning objective level. It also means arriving at new revenue streams that are also disassociated from textbooks and ISBNs.
• A Focus on Lifelong Learning — New estimates have social media sites accounting for two-thirds of U.S. Web traffic withing five years. This growth and dominance is related to a sense of personal connectedness and long-term residence that users associate with such sites. Textbook publishers must find ways to move past outdated notions of students and instructors bound within narrow windows of consumer opportunity, and learn to embrace lifelong learning and see every adult citizen as a potential customer.
• Embracing Self-Publishing — In the new world order of business in publishing, self-publishing will be a primary avenue for partnership and revenue. And unlike the stigma associated with self-publishing in trade fiction, the educational content market already recognizes self-published content as valuable and embraces it. In the future, textbook publishers should plan on abandoning much of their current content authoring model in favor of aggressive self-publishing services. This will lead to broader partnerships throughout the educational community as well as to more sustainable models for revenue.
• Partner with Open Content — Make no mistake about it. Open content and open educational resources (OERs) will become leading alternatives to proprietary textbooks for at least 25% of the Higher Education market within five years.  There are many services than can be offered around OERs and there is great value in mapping OERs to existing publisher content. Textbook publishers must take advantage of this opportunity to make their content and services more relevant, or they will see the value of their businesses diminish.

In next week’s installment, I will discuss specific new product models that textbook publishers will need to embrace in order to remain competitive in the coming years.