Forthcoming, J.

Competition Law & Economics, 2017

The Apple E-Books Case:

When is a Vertical Contract a Hub In a Hub-and-Spoke Conspiracy?

BENJAMIN KLEIN*

ABSTRACT

Apple’s economic role in the Publisher conspiracy to increase Amazon’s below cost pricing of e-
books is examined in a hub-and-spoke conspiracy framework. The Publishers conspired because
of their concern that Amazon’s low prices would adversely affect physical book demand and prices
and also create an Amazon retail monopoly under which Amazon would negotiate substantially
lower wholesale e-book prices. The Publisher conspiracy successfully moved Amazon to an
agency relationship and gained control over e-book retail pricing. This was accomplished with
joint Publisher threats of Amazon to window (delay) the release of new e-book titles, which
imposed a significant potential cost on Amazon in the face of Apple's scheduled entry with access
to all new release titles without delay. It is demonstrated that Apple economically facilitated the
Publisher conspiracy solely through its entry, not through any of its iBookstore contract terms.
Specifically, contrary to the court, the MFN and maximum price terms in the Apple contracts had
no effect on facilitating the Publisher conspiracy. In fact, if Apple had entered without these
contract terms, e-book prices would have been substantially higher. Apple's contracts therefore
should not have been evaluated under a per se standard.

JEL Classification: K21, L41, L42

*
Professor Emeritus of Economics, UCLA. I served in 2013 as an economic expert for Apple in the e-
books litigation described in this article. The views expressed here, however, do not consist of my
testimony in the matter and should not be considered the views of Apple or of the Publisher Defendants. I
have not been compensated by any party for this article. I am grateful to Steve Stanis for extensive
discussions and research assistance. Useful comments on earlier drafts were provided by Jonathan Baker,
Barak Orbach, Alan Meese, Gregory Sidak, Michael Smith and Gregory Werden.

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I. Introduction ............................................................................................................................. 1
II. Use of a Vertical Contract to Create and Stabilize a Horizontal Conspiracy ......................... 3
A. The Economic Framework of a Hub-and-Spoke Conspiracy ..............................4
B. Hub-and-Spoke Cases ..........................................................................................6
1. Interstate Circuit ...................................................................................................6
2. Toys“R”Us ...........................................................................................................9
III. The Apple E-books Case....................................................................................................... 11
A. Amazon’s Below Cost $9.99 Pricing .................................................................12
B. Early Publisher Collusion to Increase Amazon Prices .......................................15
1. Collusive Setting of E-Book Wholesale Prices ..................................................18
2. Collusive Introduction of E-Book Windowing Programs ..................................18
C. Apple’s iBookstore Contract Negotiations with the Publishers.........................21
1. Agency ...............................................................................................................23
2. MFN ...................................................................................................................23
3. Maximum price schedule ...................................................................................24
4. Day-and-date release ..........................................................................................26
D. Amazon Accepts Agency ...................................................................................26
IV. Antitrust Analysis of Apple’s Conduct ................................................................................. 29
A. Leegin .................................................................................................................30
B. Per Se Analysis ..................................................................................................34
1. Apple’s Contracts Did Not Contractually Specify How the Publishers Were
Required to Deal with Amazon ..........................................................................34
2. The Apple MFN Was Not a De facto Contractual Requirement that the
Publishers Move Amazon to Agency.................................................................38
3. Apple Did Not Coordinate the Publisher Windowing Conspiracy ....................42
C. Rule of Reason ...................................................................................................44
V. Conclusion ............................................................................................................................ 49

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I. INTRODUCTION

The Apple e-books case highlights the intersection between long-established per se
precedents with regard to hub-and-spoke conspiracies and the now firmly recognized rule of
reason analysis of vertical contractual relationships. The Second Circuit in a split decision that
affirmed the district court’s findings held Apple per se liable because its vertical contracts
“orchestrated a horizontal conspiracy among the Publisher Defendants to raise e-book prices.”1
The dissent disagreed, relying on the statement in Leegin that “a vertical agreement designed to
facilitate a horizontal cartel ‘would need to be held unlawful under the rule of reason.’”2

The appeals court reasoned in response that, although the distinction between vertical and
horizontal agreements “is sharp in theory, determining the orientation of an agreement can be
difficult as a matter of fact and turns on more than simply identifying whether the participants are
at the same level of the market structure.”3 According to the court, while Apple’s relationship
with the Publishers was vertical, Apple’s contracts “had the effect of raising prices because it
created an incentive for the Publisher Defendants to demand that Amazon adopt an agency model
and to seize control over consumer-facing e-book prices industry-wide.”4 Therefore, consistent
with established Supreme Court precedent, “the type of restraint Apple agreed to impose” implies
that a per se standard of condemnation is appropriate.5

As succinctly summarized by the district court, per se antitrust law with regard to hub-
and-spoke conspiracies requires plaintiffs to “demonstrate both that a horizontal conspiracy
existed, and that the vertical player was a knowing participant in that agreement and facilitated
the scheme.”6 The first requirement, commonly stated in terms of the presence of a horizontal
agreement or “rim” that connects the spokes, is the primary basis by which hub-and-spoke claims
are now most commonly adjudicated. If evidence of a horizontal agreement does not exist or
cannot be inferred, the per se rule does not apply.7

1
United States v. Apple Inc., 791 F. 3d 290, 297 (2d Cir. 2015), aff’d 952 F. Supp. 2d 638 (2013), cert.
denied, No. 15-565 2016WL854227 (U.S. Mar. 7, 2016).
2
791 F. 3d at 341 (dissent), citing Leegin Creative Leather Products v. PSKS, 551 U.S. 877, 893 (2007),
emphasis added.
3
791 F. 3d at 314.
4
791 F. 3d at 316. Emphasis in original.
5
791 F. 3d at 322.
6
U.S. v. Apple et al., 952 F. Supp. 2d, 690-91 (2013), citing Interstate Circuit, Inc. v. United States, 306
U.S. 208, 225-29 (1939) and Toys“R”Us v. Federal Trade Commission, 221 F. 3d 928, 936 (7th Cir.
2000).
7
Recent examples of hub-and-spoke conspiracy claims that have been rejected because of absence of
evidence of a horizontal agreement among the spokes include, for example, R.J. Reynolds Tobacco Co.
v. Cigarettes Cheaper!, 462 F. 3d 690, 696-97 (7th Cir. 2006); Total Benefits Planning Agency, Inc. v.
Anthem Blue Cross & Blue Shield, 552 F. 3d 430, 435-36 (6th Cir. 2008); In re Musical Instruments
and Equipment Antitrust Litigation v. Guitar Center, 798 F. 3d 1186 (9th Cir. 2015).

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 This paper assumes that a horizontal agreement exists among the spokes in all of the
particular hub-and-spoke cases discussed and focuses solely on the second legal requirement for
per se analysis of whether the hub should be considered a participant in the horizontal conspiracy.
In Apple the existence of a horizontal agreement among the five major e-book publisher
defendants (“the Publishers”) to collusively force Amazon to an agency relationship was not
challenged. The Publishers settled before trial and the question at issue at trial was whether, as
ultimately concluded by the court, Apple’s vertical contracts and conduct “created an incentive
for the Publisher Defendants to demand that Amazon adopt an agency model” and therefore
amounted to per se illegal hub participation in a hub-and-spoke conspiracy.8

Section II. economically describes how a hub buyer may anticompetitively create and
stabilize a horizontal conspiracy among suppliers. The essential per se illegal function served by
a hub is shown to involve the setting of collusive contract terms under which the spoke suppliers
are required to deal with rivals of the hub. The hub also may coordinate joint agreement among
suppliers to accept these collusive contract terms as well as enforce supplier compliance with the
collusively set contract terms. This economic framework is shown to be consistent with how
vertical hub contracts have operated in previous hub-and-spoke conspiracies, illustrated by two
prominent hub-and-spoke conspiracy cases relied upon in Apple, Interstate Circuit and
Toys“R”Us.9

Section III. then provides a detailed description of the facts of the Apple e-books case. It
is shown that the Publishers successfully moved Amazon to agency and thereby obtained control
of Amazon’s below cost pricing by making joint demands upon Amazon to accept agency or face
windowing (the delay) of release of new titles. Amazon had no economic choice but to accept the
Publishers’ collusive demands for agency because Apple was scheduled to enter e-book retailing
with access to all new release e-book titles without delay. Apple recognized the value its entry
provided to the colluding Publishers and took advantage of it to negotiate favorable iBookstore
contract terms, that were in its narrow business interests, including agency and MFN contract
terms that protected Apple against the possibility that Amazon would continue below cost
pricing, and maximum retail price terms that protected Apple against collusive Publisher retail
pricing.

Section IV. then turns to an antitrust analysis of Apple's contracts and conduct. The
Leegin rule of reason requirement is shown not to apply to all vertical hub contracts, and
specifically not to fit Apple’s contracts. However, Apple’s iBookstore contracts with the
Publishers also did not involve “the type” of vertical contract that must be evaluated under a per
se standard. In contrast to other hub-and-spoke conspiracies, Apple did not contractually set the
contract terms under which the Publishers were required to deal with Amazon. Specifically, the
Apple contracts did not require the Publishers to move Amazon to an agency relationship with
regard to the sale of e-books and did not require the Publishers to threaten Amazon with

8
Supra note 4.
9
Supra note 6.

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windowing if it did not accept agency. The Publisher conspiracy was facilitated solely by
Apple’s entry. Apple’s contract terms had no effect on the success of the Publisher conspiracy.
In fact, if Apple had entered without any of its contract terms, e-book prices would have been
substantially higher.

The court reached the contrary conclusion that Apple’s contracts should be evaluated
under a per se standard on the basis that the MFN term in Apple’s contracts set a de facto contract
requirement that the Publishers move Amazon to agency. However, the MFN was adopted by
Apple in its independent economic interest and did not create incentives that forced the Publishers
to demand that Amazon move to agency. The windowing programs that economically forced
Amazon to accept agency in the face of Apple’s entry were adopted by the Publishers before
Apple began to negotiate its iBookstore contracts and the magnitude of the Apple MFN was
trivial relative to the fundamental economic forces associated with windowing. When Apple’s
contracts are evaluated under a rule of reason standard, they are shown to be part of the normal
competitive process.

II. USE OF A VERTICAL CONTRACT TO CREATE AND STABILIZE A

HORIZONTAL CONSPIRACY

Economists and policymakers have long understood the economic factors that lead to
cartel instability. While firms have a joint profit incentive to collude to raise prices and restrict
industry sales, each firm has an individual profit incentive to take advantage of such a conspiracy
to shave collusive prices in order to expand its sales, thereby undermining the likelihood the
conspiracy will survive.

Following George Stigler,10 these offsetting economic incentives imply two problems in
establishing a stable conspiracy. The colluding firms must: (1) agree on the terms of the
collusion, a task that may be difficult when firms are not selling identical products and when
market demand and supply conditions change over time; and (2) monitor individual firm behavior
to detect deviations from agreed upon collusive prices, which also may be difficult in the face of
changing market conditions. According to Stigler, once a firm’s deviation from the collusive
agreement, or “cheating,” is detected, the other firms will match the price discounts of the
cheating firm and expand output, leading to the breakdown of the conspiracy. Therefore, the
stability of a conspiracy will depend upon the underlying industry conditions that influence the
speed at which cheating is detected. Faster detection reduces the short-run profit expected by a
firm that decides to cheat on the collusive agreement and, by reducing the incentive to cheat,
leads to a more stable conspiracy.11

10
George J. Stigler, A Theory of Oligopoly, 72 J. POL. ECON. 1 (1964).
11
Subsequent theoretical work has modeled the information and more complex individual firm reaction
function conditions that may lead to stable or unstable conspiracies. See, for example, Masaki Aoyagi,
Collusion Through Mediated Communication in Repeated Games with Imperfect Private Monitoring, 25
J. ECON. THEORY 455 (2005). Margaret C. Levenstein and Valerie Y. Suslow, What Determines Cartel

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 This cartel stability analysis focuses on the difficulties firms face in jointly reaching a
collusive agreement, and then detecting cheating on the collusive agreement. Once cheating is
detected, enforcement of the agreement is assumed to involve solely similarly price cutting by the
other firms, which the potential cheater recognizes would lead to the breakdown of the cartel and
therefore deters the initial incentive to cheat. However, a potential cheater also recognizes that if
it does not cheat, and thereby earns additional short-run profit until detection occurs, other firms
may cheat first. The anticompetitive innovation of a hub-and-spoke conspiracy is in facilitating
solutions to these cartel creation problems of reaching a collusive agreement, detecting cheating
and, most importantly, providing a more efficient cartel enforcement mechanism.

A. The Economic Framework of a Hub-and-Spoke Conspiracy

A hub-and-spoke conspiracy involves the use of vertical contracts a buying firm, or hub,
has with suppliers, or spokes, to establish and stabilize a horizontal agreement among the spokes
by specifying the collusive terms under which the suppliers must deal with buyers. This often is
more successful than the suppliers reaching a horizontal agreement among themselves without the
assistance of the hub, especially when there are many suppliers that have different costs and face
different individual demand conditions. In addition to a buyer facilitating the negotiation of
mutually acceptable collusive terms, legal antitrust constraints make direct communications
among the suppliers more difficult than a series of vertical agreements.

A firm with a purchasing relationship also may serve as an efficient cartel policer of the
collusively specified terms in the vertical contract because it can impose a sanction on a supplier
that cheats by shifting its purchases to other suppliers. In this way the cheater, once detected, is
punished because its price reduction does not result in an expansion of its sales; it merely sells its
output at lower prices. The non-cheating firms therefore need not bear the significant costs of
responding to the cheater’s lower prices with a similar price reduction that would lead to the
breakdown of the cartel.12

Most of the hub-and-spoke cases discussed in this article, including two canonical hub-
and-spoke cases relied upon in Apple, Interstate Circuit and Toys“R”Us,13 involve a hub buyer
that is a large retailer purchasing from alternative suppliers. A hub-and-spoke conspiracy,
however, may also involve a product supplier manufacturer that serves as a hub with its retailers

Success? 44 J. ECON. LIT 43 (2006) provides an extensive survey of the empirical evidence on cartel
stability, highlighting the additional essential condition for cartel stability that entry or sales expansion
by firms outside the cartel be limited.
12
Hub-and-spoke conspiracies refer in this article solely to collusive arrangements created and stabilized
by a hub firm that has a vertical purchasing relationship with the conspiring spoke firms as described.
Other cartel stabilization mechanisms that do not include a vertical purchasing relationship, for
example, when sellers establish an industry organization that sets collusive prices and facilitates the
detection of non-compliance by collecting and publishing price information, are, consistent with
antitrust law terminology, not considered “hub-and-spoke” conspiracies.
13
Supra note 6.

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or distributors the spokes of the arrangement. The retailer/distributor spokes should then be
considered colluding suppliers of distribution services with the product supplier hub a buyer of
distribution services. In such hub-and-spoke cases the vertical contract entered by the product
supplier hub with the retailer/distributor spokes is then claimed to create a collusive agreement
among the distributors.14

An obvious question is why a buyer would want to serve as a cartel facilitating agent for
suppliers. To answer this question it is essential in all hub-and-spoke cases to distinguish
between the cartel creating and stabilizing hub buyer and all other buyers who are rivals to the
hub and also purchasing from the colluding spokes. The horizontal agreement that is established
among the colluding suppliers through their joint acceptance of the vertical contract terms set by
the hub buyer may fix the collusive terms by which the suppliers must deal with all buyers,
including the hub. In that case, the hub buyer must then be separately compensated for its
conspiracy facilitating services with a side payment representing a share of the suppliers’
collusive profits. For example, the Standard Oil refining monopoly established in the 1870s
initially involved a hub-and-spoke railroad conspiracy established by Standard Oil, who enforced
collusively agreed upon rail rates by “evening” its shipments across railroads to stabilize also
collusively agreed upon individual railroad market shares. In return, the railroads shared their
collusive profits with Standard Oil in the form of “drawbacks,” or a per barrel payment to
Standard on the rail shipments by the other refiners.15

Much more commonly, the hub buyer sets the collusive terms by which the spoke
suppliers are required to deal solely with rival buyers. This results in an increase in supplier
profits, but it also creates a market advantage for the hub buyer that implies receipt of a share of
the increased profits which substitutes wholly or partially for side payments. This is what
occurred, for example, in the Interstate Circuit and Toys“R”Us hub-and-spoke cases.

This general economic framework of a hub-and-spoke conspiracy, where a hub buyer

specifies in its vertical contracts with a group of colluding suppliers how the suppliers must deal
with rival buyers that results in an increase in total joint hub and colluding supplier profits is
illustrated by Figure 1.

14
This is what was alleged, for example, in R.J. Reynolds Tobacco Co. v. Cigarettes Cheaper!, 462 F.3d
690 (7th Cir. 2006), where it was claimed that R.J. Reynolds served as a hub that facilitated a horizontal
conspiracy among retailers - - the suppliers of retail distribution services - - not to stock cheaper rival
cigarette brands. A per se illegal hub-and-spoke conspiracy was not found in this case because of the
failure to meet the first hub-and-spoke requirement, namely the absence of evidence of a horizontal
agreement among retailers in accepting the R.J. Reynolds vertical contract terms.
15
Standard Oil also received a separate “rebate” or discount on the collusive rail rates on its own
shipments, which it then used to monopolize refining, ultimately challenged in Standard Oil Co. v.
United States, 221 U.S. 1 (1911). Elizabeth Granitz and Benjamin Klein, Monopolization by “Raising
Rivals’ Costs”: The Standard Oil Case, 39 J.L.ECON. 1 (1996); Benjamin Klein, The “Hub-and-Spoke”
Conspiracy that Created the Standard Oil Monopoly, 85 S.CAL. LAW REV. 459 (2012).

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 FIGURE 1. A HUB-AND-SPOKE CONSPIRACY

B. Hub-and-Spoke Cases

The economic forces underlying the general economic framework of a hub-and-spoke

conspiracy described in Figure 1, where a hub buyer increases joint profits of the hub and
colluding spokes by contractually specifying how the product supplier spokes must deal with
rival buyers is described in more detail in what follows by first reviewing Interstate Circuit and
Toys“R”Us and then turning to a detailed examination of Apple. This framework fits all but one
of the hub-and-spoke cases cited in Apple.16

1. Interstate Circuit

Interstate Circuit is the first U.S. Supreme Court decision that is now described as a hub-
and-spoke conspiracy. It involved the vertical agreements Interstate Circuit, the dominant first-
run film exhibitor in six Texas cities, entered with each of the eight major film distributors that

16
The only hub-and-spoke case cited in Apple not described by Figure 1 is United States v. General
Motors Corp, 384 U.S. 127 (1966), cited at United States v. Apple Inc., 791 F. 3d 290, 322 (2d Cir.
2015). The case does not fit the Figure 1 framework because the GM contracts with its dealers do not
relate in any way to rivals of the alleged General Motors hub. As discussed infra, IV.A., this is the type
of case the Court in Leegin Creative Leather Products v. PSKS, 551 U.S. 877, 893 (2007) describes as
requiring rule of reason analysis.

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fixed the terms the film distributors were required to set in their contracts with later-run theaters
located in these Texas cities where Interstate Circuit operated.17 The Interstate Circuit contracts
required each film distributor when contracting with later-run theaters located in Interstate Circuit
cities to set the minimum adult evening admission price on “A” films of 25-cents.18 Interstate
Circuit therefore created a horizontal conspiracy among the major film supplier distributors, the
spokes of the conspiracy, with regard to later-run theaters, the rivals of Interstate Circuit.
Interstate Circuit then enforced this film distributor conspiracy with the threat that any film
distributor that did not comply with these terms would not obtain first-run exhibition in Interstate
Circuit cities.19

It is important to recognize that distributor-set minimum later-run admission prices were

a common feature in competitive film distribution contracts during the 1930s. It was part of a
system by which individual film distributors maximized revenue on each of their films by
instituting a series of separate exhibition “runs” over time at declining admission prices. Each
theater was designated by a film distributor as part of a particular run within a geographical zone,
with contractually specified minimum admission prices and clearance periods between each run.20
First-run theaters, which handled the initial exhibition after release, generally supplied a single
feature in elaborate surroundings for a variable period of time, often a few weeks, and accounted
for the largest share of a film’s revenues. Successive later runs then occurred over time at lower
priced neighborhood theaters.21

17
Interstate Circuit had a complete monopoly of first-run theaters in five of the six Texas cities in which it
operated; in the sixth Texas city there was only one non-Interstate Circuit first-run theater, which was
operated by one of the major film distributors. Interstate Circuit v. U.S., 306 U.S. 208, 215, 223 (1939).
The eight major film distributors that Interstate Circuit contracted with accounted for “about 75 percent
of all first-class feature films exhibited in the United States.” 306 U.S. at 214.
18
Class “A” feature films were defined in terms of length and budget and by film nighttime admission
prices in first-run theaters of 40 cents or more. 306 U.S. at 216-17. “Approximately fifty per cent of the
pictures released by the distributor defendants in Texas cities in 1934-1935 were class “A” pictures.”
306 U.S. at 217, n.4. The contract also increased the effective later-run theater prices by specifying that
the supplier’s “A” films not be exhibited in a later-run theater as part of a “double feature.” 306 U.S. at
217. Consequently, double features in later-run theaters were contractually required to consist of two
“B” films.
19
“In the event that a distributor sees fit to sell his product to subsequent runs in violation of this request,
it definitely means that we cannot negotiate for his product to be exhibited in our ‘A’ theaters at top
admission prices.” 306 U.S. at 217. Barak Orbach, Interstate Circuit and (Other) Antitrust Myths,
unpublished paper, 2017, provides significant additional insights regarding the facts of the case.
20
Film supplier rental terms were generally stated in terms of a percent of theater ticket revenue and
declined with run, with each successive run accounting for a smaller fraction of a film’s revenues.
HOWARD LEWIS, THE MOTION PICTURE INDUSTRY 191-200 (D. Van Norstand Company, Inc. 1933).
The actual number of runs depended on the size of the city. MICHAEL CONANT, ANTITRUST IN THE
MOTION PICTURE INDUSTRY 69-70, 155 (University of California Press 1960).
21
Neighborhood theaters commonly offered a program of double bills, shorts and newsreels that was
changed frequently, often twice a week. The later-run neighborhood theaters that supplied a broad
program of entertainment that changed over the week supplied a product closer to what was later
replaced by television.

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 Organizing film exhibition in a series of runs with declining admission prices was a way
for individual film distributors to maximize the return on their films by moving down the demand
curve for each of their films over time. In effect, each individual film distributor price
discriminated across consumers on the basis of consumer intensity of demand for each film, with
consumers less willing to delay viewing a film assumed to have the greatest demand for the
film.22 Variable pricing of films over time is a practice that continues in the current market
environment, where film distributors maximize the total revenue for each of their films by
separating exhibition into distinct, declining price, exhibition “windows” consisting of, first,
theatrical exhibition, and then moving on, for example, to video on demand pay per-view and
subscription streaming services, premium cable, basic cable and ultimately broadcast TV
exhibition. Such differential pricing over time does not require the film distributor to possess any
market power, but merely that it face a negatively sloped demand for each of its films.23

Under the film exhibition arrangements that existed in the 1930s it was economically
essential for individual film distributors to set minimum admission prices for a film’s later-run
exhibition in order to enforce this competitive discriminatory pricing scheme designed to
maximize each individual film’s revenue. Later-run exhibitors had an incentive to arbitrage the
discrimination by reducing their admission prices and thereby induce some consumers on the
margin to decide not to attend the more expensive first-run viewing of the film and instead wait to
view the movie at a later-run theater at the lower price. While this would increase later-run
attendance and profit, it would disturb the film distributor’s profit-maximizing discriminatory
pricing scheme and reduce the total revenue earned by the film distributor on the film. To avoid
this “cannibalization” of the more profitable first-run, the common competitive contractual
arrangements individual film distributors made with later-run exhibitors therefore included
minimum later-run admission prices. This control of intra-film competition between later-run and
first-run exhibition preserved individual distributor profit-maximizing pricing between runs over
time.24

Minimum admission prices set by individual film distributors in later-run exhibition

contracts were commonly 10 or 15-cents.25 Therefore, the Interstate Circuit requirement that film
distributors set the minimum later-run admission price at 25-cents involved approximately a

22
Roy W. Kenney and Benjamin Klein, The Economics of Block Booking, 26 J.L.ECON. 497, 517 (1983).
23
The inference of antitrust market power from the presence of price discrimination was clearly rejected
by the Supreme Court in Illinois Tool Works Inc. v. Independent Ink, Inc., 547 U.S. 28, 44-45 (2006),
noting that “it is generally recognized that it [price discrimination] also occurs in fully competitive
markets.” See William J. Baumol and Danial G. Swanson, The New Economy and Ubiquitous
Competitive Price Discrimination: Identifying Defensible Criteria of Market Power, 70 ANTITRUST L.J.
661 (2005) and Benjamin Klein, Price Discrimination and Market Power, in ISSUES IN COMPETITION
LAW AND POLICY, Vol. II, Chap. 41, 977-96 (W. Collins ed., Amer. Bar Assoc. Sec. of Antitrust Law
2008).
24
Although resale price maintenance was per se illegal at this time, the court determined that film
distributors could legally set such minimum price licensing terms under its copyright. Interstate Circuit
v. U.S., 306 U.S. 208, 228 (1939).
25
306 U.S. at 218.

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doubling of the contractually specified minimum later-run price. It is obvious that Interstate
Circuit would find it in its economic interests if its later-run rivals were required to increase
admission prices because this would increase the demand at its first-run theaters. However, no
individual film distributor would independently decide to increase its contractually specified
later-run minimum admission prices above the 10-15 cents level that each distributor had
determined maximized its profit. An individual film distributor’s decision to raise later-run
minimum admission prices for its films would increase first-run revenue, but would lower the
film distributor’s total profit because it would be more than offset by lower later-run revenue as
later-run consumers switched to the lower priced films of distributors that did not increase later-
run prices.

However, it was in the film distributors’ joint interests to set the higher 25-cents
minimum later-run admission price. Such a later-run price increase would increase first-run
demand and therefore obviously benefit Interstate Circuit, but it would benefit also the film
distributors as a group because there would be no substitution by later-run consumers to lower-
priced films. The result of the film distributor conspiracy created and enforced by Interstate
Circuit’s vertical contracts therefore was a significant increase in the first-run demand for all the
distributors’ films on which admission prices and the distributor share of revenues was higher.
Consequently, the total profits earned by film distributors and by Interstate Circuit increased,
while a cost was imposed on later-run exhibitors.26

2. Toys“R”Us

The alleged hub-and-spoke conspiracy at issue in Toys“R”Us involved the vertical

agreements Toys“R”Us entered with major toy manufacturers regarding how the manufacturers
were required to deal with warehouse club retailing rivals of Toys“R”Us, such as Costco.27
Rather than Toys“R”Us requiring toy manufacturers to increase the price its rivals had to charge,
as in Interstate Circuit, the Toys“R”Us agreements involved a modified form of exclusive dealing
that required toy manufacturers not to supply the same products to warehouse club stores that
they supplied to Toys“R”Us. In particular, the Toys“R”Us contracts specified that if similar

26
306 U.S. at 231. David A. Butz & Andrew N. Kleit, Are Vertical Restraints Pro- or Anticompetitive?
Lessons from Interstate Circuit, 44 J.L.ECON 131 (2001) claim that the Interstate Circuit contracts were
procompetitively motivated to internalize the positive effects of the advertising investments made by
first-run theaters on the demand of later-run theaters. However, although this factor would explain
individual distributor set minimum later-run admission prices; it would not explain the necessity for the
jointly imposed further substantial increase in minimum later-run prices undertaken by all the
distributors with the assistance of Interstate Circuit’s vertical contracts and why these further increases
in later-run minimum admission prices occurred only in the Interstate Circuit Texas cities.
27
Toys“R”Us v. Federal Trade Commission, 221 F. 3d 928 (7th Cir. 2000), aff’d, Federal Trade
Commission re Toys“R”Us, 126 F.T.C. 415 (1998)

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products were sold to warehouse club stores, the products had to be provided in different
packaged combinations.28

There was no procompetitive motivation for toy manufacturers to individually decide to

restrict the products supplied to club stores. Internal documents of the manufacturers indicate
that each toy manufacturer was, in fact, interested in expanding its sales to the new, fast-growing
channel of club distribution.29 However, the toy manufacturers informed Toys“R”Us that “they
were only selling to the clubs because their competition was selling to the clubs, and they would
get out of the clubs if their competition got out.”30 The toy manufacturers likely found it in their
joint interests to restrict distribution to the club stores because they were able to sell their
products at higher prices and earn higher profit margins on sales to toy retailers. It was therefore
in the interests of the toy manufacturers as a group, as well as in the interests of Toys“R”Us, to
enter the Toys“R”Us contracts that restricted the products supplied to warehouse clubs.

In contrast to Interstate Circuit, Toys“R”Us did not have the ability to unilaterally enforce
its warehouse club contract restrictions. While Interstate Circuit purchases accounted for 100
percent of the film distributors’ first-run film rentals in the relevant geographical market in which
Interstate Circuit operated, Toys“R”Us accounted for only about 30 percent of the sales of the
major toy manufacturers involved in the conspiracy.31 Therefore, while Toys“R”Us could impose
a significant sanction on a toy manufacturer that did not comply with its restricted warehouse
club supply contract terms, reducing its purchases and allocating poor shelf space to the products
of such a manufacturer, the sanction appears to have been insufficient by itself to obtain
individual manufacturer compliance with the club store supply contract restrictions.
Consequently, Toys“R”Us had to engage in extensive negotiations with the toy manufacturers
“for over a year and a half” before it was able to reach an understanding on the restricted club
supply contract terms the toy manufacturers would jointly accept.32

How Toys“R”Us ultimately obtained joint toy manufacturer agreement to accept the final
club store contract restrictions illustrates a primary economic function of a hub in a hub-and-
spoke conspiracy. Toys“R”Us “engaged in extended negotiations with companies that were
reluctant to adopt the restraint, and worked out agreed-upon compromise solutions” that each of
the manufacturers ultimately found acceptable and were convinced by Toys“R”Us that all the

28
The FTC argued that this condition was demanded by Toys“R”Us so that consumers would be unable to
make direct price comparisons of Toys“R”Us prices with lower warehouse club prices. 221 F. 3d at
931-32.
29
221 F. 3d at 932.
30
126 F.T.C. at 555.
31
Toys“R”Us sold approximately 20 percent of all toys in the United States, but had a market share as
high as 49 percent of all toy sales. 221 F. 3d at 930.
32
221 F. 3d at 932.

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other manufacturers had agreed to follow.33 Each toy manufacturer therefore testified that it
accepted the restrictions contingent “on the condition that their competitors would do the same.”34

In addition to specifying and coordinating joint toy manufacturer acceptance of the

jointly agreed upon club store restricted supply contract conditions, Toys“R”Us facilitated “each
toy company’s compliance with its commitment” and served “as the central clearinghouse for
complaints about breaches in the agreement.”35 In addition to monitoring compliance,
Toys“R”Us clarified interpretation of the collusive agreement in meetings with toy manufacturers
to “preview and clear products developed for the clubs to assure that they were sufficiently
differentiated from its own,” and demanded that firms which were violating the agreement “cease
club sales.”36

The economics of hub-and-spoke conspiracies, as well as the conduct of the hubs in these
two classic hub-and-spoke conspiracy cases, indicate that there are three types of activities
undertaken by a hub. To create and stabilize a collusive agreement among the spokes a hub will
(1) set the collusive contract terms by which the spokes are required to deal with rivals of the hub,
(2) coordinate joint spoke acceptance of the collusive contract terms and (3) enforce individual
spoke compliance with the collusive contract terms. Apple’s contractual arrangements and
conduct are examined in terms of these primary conspiracy facilitating activities.

III. THE APPLE E-BOOKS CASE

The claim in the Apple e-books case involved a hub-and-spoke conspiracy broadly
analogous to the framework described in Interstate Circuit and Toys“R”Us. As illustrated in
Table 1, the case involved a horizontal conspiracy among five defendant e-book Publishers, the
spoke suppliers, to move Amazon to an agency relationship where Amazon would lose control of
the pricing of e-books and therefore the Publishers could stop Amazon’s below cost pricing of e-
books, something the Publishers believed would increase their long-run profits. The issue at trial
was whether Apple, through its vertical contracts and conduct acted as an intermediary hub buyer
that facilitated this Publisher conspiracy. 37

33
126 F.T.C. at 570; 221 F. 3d at 932-33.
34
221 F. 3d at 932, citing to toy manufacturer testimony in 126 F.T.C. at 28.
35
221 F. 3d at 932-33.
36
126 F.T.C. at 570.
37
The five defendant Publishers, who settled before trial, included HarperCollins, Macmillan, Hachette,
Simon & Schuster and Penguin. The sixth and largest major publisher, Random House, did not enter a
contract with Apple until 2011 and was not charged. United States v. Apple Inc., 791 F. 3d 290, 309 n.
12, 343 (2d Cir. 2015). The five defendant Publishers accounted at the time for about 50 percent of e-
book retail sales in the United States, 791 F. 3d at 298, 310 n. 13, but accounted for a significantly
greater share of New York Times Bestsellers that were the focus of the case. The six major publishers
together accounted for 90 percent of New York Times Bestseller sales. Id. at 298. Sales figures

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TABLE 1. HUB-AND-SPOKE CASES
Spoke Suppliers Hub Buyer Hub Rivals

Interstate Circuit
Interstate Circuit, Inc. v. United film later-run
first-run theater
States, 306 U.S 208 (1939) suppliers theaters
chain
Toys “R” Us, Inc. v. Federal Trade
toy Toys“R”Us warehouse club
Commission, 221 F. 3d 928
manufacturers retailer retailers
(7th Cir. 2000)
United States v. Apple, e-book Apple Amazon
791 F. 3d 290 (2d Cir. 2015) Publishers e-book retailer e-book retailer

The Apple behavior at issue involved the negotiations and ultimate contract terms
reached with the Publishers for the supply of e-books to the Apple iBookstore, a retail e-books
site created in connection with Apple’s introduction in 2010 of its new product, the iPad. The
Publisher negotiations began in mid-December 2009 and were completed six weeks later, shortly
before Apple’s public announcement of the iPad on January 27, 2010. To place these events in
context and to economically understand the iBookstore contract terms agreed upon, it is necessary
to first describe the underlying marketplace conditions that existed when these negotiations took
place.

A. Amazon’s Below Cost $9.99 Pricing

Amazon entered e-book retailing with the Kindle e-book reader in November 2007 and
quickly achieved an approximate 90 percent share of e-book sales.38 As Figure 2 illustrates, this
initially amounted to a small share of total book sales. E-book sales, however, began to grow
rapidly and were near an inflection point at the time Apple was negotiating its contracts with the
Publishers. From early 2010 through 2011 e-book sales as a share of total book sales tripled,
from approximately 5 percent to 15 percent, and then further expanded in 2012 to more than 20
percent, where for three years it essentially stabilized before e-book sales began to decline in
2015.

throughout the article refer to trade book sales that include adult and juvenile fiction and non-fiction and
religious titles, but not sales of educational, professional and scholarly books.
38
791 F. 3d at 299.

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 FIGURE 2. E-BOOK SHARE OF TOTAL SALES
25%

21.4%
20.4% 20.7%

20%
E-book Share of Total Trade Book Sales

17.9%

15.0%
15%

10%

6.3%

5%
3.6%

0.8%

0%
Year 2008 2009 2010 2011 2012 2013 2014 2015
(e-book sales)($0.06b) ($0.3b) ($0.9b) ($2.1b) ($3.1b) ($3.2b) ($3.4b) ($2.8b)
Sources: Jim Milliot, Book Sales Fell 2.5% in 2011, PublishersWeekly.com, July 18, 2012, at
http://www.publishersweekly.com/pw/by-topic/industry-news/financial-reporting/article/53042-book-sales-fell-2-5-in-2011.html; Jim Milliot, BEA 2013: The E-book Boom Years, PublishersWeekly.com,
May 29, 2013 at http://www.publishersweekly.com/pw/by-topic/industry-news/bea/article/57390-bea-2013-the-e-book-boom-years.html; Jim Milliot, The Verdict on 2014: Sales up 4.6%,
PublishersWeekly.com, June 12, 2015 at http://www.publishersweekly.com/pw/by-topic/industry-news/financial-reporting/article/67131-the-verdict-on-2014-sales-up-4-6.html; Press Release,
Assoc. of Amer. Publishers, U.S. Publishing Industry's Annual Survey Reveals Nearly $28 Billion in Revenue in 2015, (July 11, 2016) available at
http://newsroom.publishers.org/us-publishing-industrys-annual-survey-reveals-nearly-28-billion-in-revenue-in-2015.

When Amazon entered the digital book business in 2007 it adopted a policy of pricing
new release and New York Times Bestseller e-books at $9.99. This is illustrated in Table 2 for a
hypothetical New York Times Bestseller with a physical book retail list price of $25.99. For
purposes of comparison, Table 2 includes in the first column physical books prices. Industry
practice commonly sets physical book wholesale prices at about 50 percent of the list retail price,
or at $12.99 for the illustrative $25.99 title.39 There was no claim of a conspiracy among
publishers in setting retail list prices of physical books, which varied across titles, or in generally
setting wholesale prices at half of list retail prices.

39
See, Rich Motoko, Math of Publishers Meets the E-book, N.Y. TIMES, Feb. 28, 2010, available at
http://www.nytimes.com/2010/03/01/business/media/01ebooks.html?pagewanted=all. U.S. v. Apple,
952 F. Supp. 2d 638, 650, 665 (2013).

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TABLE 2. AMAZON PRICING OF NEW YORK TIMES BESTSELLERS
($25.99 PHYSICAL BOOK RETAIL LIST PRICE)
Physical Books E-Books E-Books E-Books
(2007-08) (2009-10) (2010-12)
Retail Price $14.99 $9.99 $9.99 $12.99

Wholesale Price $12.99 $10.39 $12.99 $9.09

Retail Margin $2.00 -$0.40 -$3.00 $3.90

(as % sales) 13% (-4%) (-30%) 30%

A publisher’s wholesale prices are generally significantly above the publisher’s marginal
costs of printing and distributing the book. This does not imply publisher market power, but
merely profit-maximizing pricing of a differentiated product with a negatively sloped demand. In
long-run competitive equilibrium the gap between wholesale price and the publisher’s marginal
cost has to cover the publisher’s non-variable costs associated with the creation and publication of
the title, including the design, typesetting, copy editing and marketing costs, in addition to the
costs associated with the publisher’s editorial staff, office space and other overhead costs, as well
as the author royalties and rents on other publisher assets associated with publication of the title.

The $13.00 gap between the physical book list retail price and publisher wholesale prices
is intended to cover the costs of retailing, including physical book retailing by many small
independent book stores. Large bookstore chains, such as Barnes & Noble, generally had lower
average costs of retailing physical books than small bookstores and as a promotional policy often
sold New York Times Bestseller physical books at prices substantially lower than list retail
prices. Amazon, which avoided the costs of retail sales staff and store rent, had even lower
retailing costs of physical books than the large retail chains and also generally set retail prices of
New York Times Bestsellers substantially below list prices. Table 2 realistically assumes for
illustrative purposes that Amazon priced New York Times Bestseller physical books at a 40
percent discount off list price, or at $14.99. This provided a $2.00 or 13 percent gross margin
over retail price. Physical book pricing by the large bookstore chains and by Amazon
significantly contributed to the decline of independent bookstores.40

As illustrated in Table 2, initial publisher wholesale pricing of e-books during 2007-08

was generally at 80 percent of the physical book wholesale price, or at $10.39. Because price was
individually set by a number of publishers before they later conspired to jointly set e-book
wholesale prices, we can assume that it is a measure at this time of the competitive e-book

40
Richard J. Gilbert, E-books: A Tale of Digital Disruption, 29 J. ECON. THEORY 165, 166-70 (Summer
2015) documents that the decline in independent bookstores began at least a decade before the
introduction of e-books.

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wholesale price41 A 20 percent decrease in the wholesale price of e-books compared to physical
books may seem counter-intuitively low because publisher marginal costs associated with e-book
sales are substantially lower than publisher marginal costs associated with physical book sales.
E-books essentially eliminate the publisher’s marginal costs associated with the printing, storing
and shipping of physical books, which amounted to savings on average of approximately $3.25
per book.42 The other major marginal cost faced by publishers consists of author royalties, which
is about $3.90 for physical books and initially was set somewhat lower for e-books.43 The
publisher marginal cost of producing and distributing an e-book title therefore may be perhaps
about 50 percent of its physical book marginal costs.44

However, the marginal costs of retailing e-books compared to physical books also
decreased substantially, likely more than 50 percent. E-book retailing does not require physical
book handling and inventory costs, and eliminates most of the substantial retail costs associated
with retail sales staff as well as store rent in connection with brick-and-mortar retailing. The
reduction in the cost of this complementary factor, by itself, implies an increase in the publisher’s
profit-maximizing wholesale price given competitive retailing for any given level of consumer e-
book demand.

Once again, the publishers’ gap between its wholesale e-book price, assumed to be
$10.39, and its lower marginal cost of supplying the e-books are the rents earned on the title to
cover average costs of publication. Competitive e-book retailers will add their retailing costs and
profit margin on to $10.39 in determining final e-book retail prices. However, Table 2 indicates
that Amazon set e-book retail prices of New York Times Bestsellers at $9.99, below the
publishers’ $10.39 wholesale e-book prices.

B. Early Publisher Collusion to Increase Amazon Prices

During 2008-2009, as e-book sales began to grow, the publishers became concerned
about Amazon’s $9.99 pricing and “were not shy about expressing their displeasure to
Amazon.”45 However, given Amazon’s 90 percent share of e-book sales the publishers “did not
believe … that any one of them acting alone could convince Amazon to change its pricing policy.
They also feared that if they did not act as a group, Amazon would use its ever-growing power in

41
791 F. 3d at 299; 952 F. Supp 2d at 649-50.
42
Rich Motoko, Math of Publishers Meets the E-book, N.Y. TIMES, Feb. 28, 2010, available at
http://www.nytimes.com/2010/03/01/business/media/01ebooks.html?pagewanted=all.
43
Authors generally received a standard royalty rate, credited against any author advance, on hardcover
books of about 15 percent of the list retail price and on e-books about 25 percent of the net amount
received by the publisher, or $2.60 at the initially set $10.39 wholesale price. E-Book Royalty Math:
The House Always Wins, The Authors Guild, at http://www.authorsguild.org/authorship/e-book-royalty-
math-the-house-always-wins-2/ (Feb. 3, 2011).
44
There are additional relatively small fixed costs averaging about $0.50 in converting and editing the
physical book text to a digital format to create an e-book. Motoko, supra note 42.
45
952 F. Supp 2d at 650.

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the book distribution business to retaliate against them.”46 The publishers therefore decided they
would have to take joint actions to stop Amazon’s below cost pricing of e-books and began to
discuss ways to get Amazon to increase its e-book prices.47

At a superficial economic level, publisher opposition to Amazon’s $9.99 pricing may

appear contrary to their financial interests. When a retailer lowers its price and margin, the
supplier sells more at whatever wholesale price it sets, thereby resulting in higher supplier profits.
However, the publishers were concerned about two fundamental aspects of Amazon’s below cost
$9.99 pricing. First of all, Amazon’s $9.99 pricing distorted the retail price of e-books relative to
physical books and thereby “cannibalized” the sales of more expensive physical books.48 At the
respective $12.99 and $10.39 wholesale prices of physical books and e-books, publishers actually
made more on lower-priced e-books than on physical books.49 However, the publishers believed
that $9.99 e-book prices, and the consequent shift in demand away from physical books, would
substantially lower physical book prices and result in a decline in total profit.50

The publishers were further concerned that their $10.39 wholesale e-book price would
not survive Amazon’s below cost $9.99 pricing strategy. Amazon’s pricing appears to have been
designed to solidify its dominant position in e-book retailing by encouraging consumers to adopt
the Kindle platform at this crucial time when e-book reading was expanding rapidly.51 In late

46
952 F. Supp. 2d at 650. In contrast to its dominance in e-books, Amazon’s 2009 share of physical book
sales was significant, but only 12.5%, or about half the 22.5% physical book sales share of the largest
physical book retailer, Barnes & Noble. Jim Milliot, B&N is #1 in Trade Books,
PublishersWeekly.com, March 21, 2011, at
http://www.publishersweekly.com/pw/print/20110321/46532-b-n-is-1-in-trade-books.html.
47
“On a fairly regular basis, roughly once a quarter, the CEOs of the Publishers held dinners in private
rooms of New York restaurants, without counsel or assistants present, in order to discuss the common
challenges they faced, including most prominently Amazon’s pricing policies.” 952 F. Supp. 2d at 651.
The Publisher CEOs testified that “they felt no hesitation in freely discussing Amazon’s prices with
each other and their strategies for raising prices” because they believed they “did not compete with each
other on price” and were serious competitors “only over authors and agents.” Id.
48
791 F. 3d at 342.
49
The lower wholesale price was more than made up for by merely taking account of the publishers
savings of $3.25 per book in the printing, storing and shipping of physical books, Motoko, supra note
42.
50
It is not necessarily the case that the shift down in the demand for physical books would lower the
profit-maximizing physical book wholesale price. However, the publishers clearly were concerned that
$9.99 e-book pricing would decrease the perceived value of physical books and physical book prices
would decline. 791 F. 3d at 299-300.
51
Compared to the much more common alternative metering strategy of underpricing the Kindle reader
and earning profits on intensity of use, a $9.99 price more effectively advertised the obvious economic
benefit to consumers of purchasing Amazon digital books rather than physical books and encouraged
the most intensive e-book reading consumers to adopt the Kindle reader. No evidence was presented
that Amazon earned a significant profit margin on its pricing of the Kindle reader. The idea that
Amazon underpriced e-books to drive increased traffic to the Amazon.com website (Gilbert, supra note
40 at 178) would not appear to justify Amazon’s decision to remain at $9.99 and substantially increase
their losses when the publishers later collusively increased wholesale prices. Moreover, low pricing to

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2009, immediately before contract negotiations began with Apple, the Barnes & Noble Nook,
which had recently been introduced, was the only other potentially viable e-reader competition to
the Kindle and it was not clear whether Barnes & Noble would be able to significantly challenge
Amazon’s 90 percent position or even survive in the face of Amazon’s below cost pricing. Given
the publishers extremely low marginal costs and an essentially perfectly elastic supply of e-books,
their concern was not that Amazon would act as a monopsonist and take account of rising input
prices to demand less than the optimal quantity of books. Instead, the publishers’ primary
concern was that, once Amazon solidified its dominance of e-book retailing, Amazon would use
its dominant position in e-book retailing to obtain a larger share of the rents associated with the
sale of a publisher’s titles through the negotiation of substantial wholesale price reductions.52

But the realistic publisher concern about Amazon’s below cost pricing was not the usual
predatory pricing concern that Amazon would increase e-book retail prices after it solidified its
market power. Consistent with Amazon’s use of its bargaining power in other markets,
magnified in this case by and the extremely low marginal costs of the e-books, the concern was
that Amazon would use its position to negotiate an increased share of the rents earned by
publishers on their titles.53 Amazon could very likely, for example, keep e-book retail prices at
$9.99 and demand a $7.00 wholesale price, a specific scenario later used by Steve Jobs to
convince HarperCollins to accept Apple’s contract terms.54 This would substantially reduce
publisher revenue and profits on e-books, in addition to the physical book losses that would result
from “cannibalization.”

The two primary publisher concerns about Amazon’s $9.99 e-book pricing, (1) the
“cannibalization” and lower prices of physical book sales and (2) the lower e-book wholesale
prices negotiated by Amazon as a result of its dominance of e-book retailing, led the Publishers to
jointly take two specific actions in an attempt to get Amazon to increase its e-book prices.55

merely increase traffic to Amazon.com in general would not explain the extreme publisher hostility to
Amazon’s low e-book pricing compared to supplier reaction to Amazon’s low pricing of other products.
52
For the purpose of illustrating the fundamental economic forces at work, we can assume that any double
marginalization problem is solved with an appropriate contractual arrangement or understanding.
53
“As suppliers had learned over the past decade, no matter the category, Amazon wielded its market
power neither lightly nor gracefully, employing every bit of leverage to improve its own margins and
pass along savings to its customers.” BRAD STONE, THE EVERYTHING STORE: JEFF BEZOS AND THE AGE
OF AMAZON 278 (Little, Brown and Company 2013).
54
Infra note 81.
55
The most obvious action would appear to have been the establishment of a minimum resale price
maintenance policy for e-books, something the publishers jointly considered but did not institute. U.S.
v. Apple, 952 F. Supp. 2d 638, 650 n. 9 (2013). The Publishers later adopted agency agreements that
involved the transfer of power to the Publisher to set price, which is analytically similar to the adoption
of resale price maintenance. In addition, The publishers also considered the possibility of creating a
joint venture to compete with Amazon in e-book retailing, but did not do so, perhaps because they
considered the entry of Apple, with its established brand name and platform, to be a significantly
superior way to create effective e-book retailing competition to Amazon. 791 F. 3d at 300.

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1. Collusive Setting of E-Book Wholesale Prices

In late 2008 and early 2009, before contract negotiations began with Apple or Apple had
even indicated any intention to enter e-book retailing, the publishers conspired to increase e-book
wholesale prices. Specifically, all the major publishers collusively agreed to set their e-book
wholesale prices at parity with their physical book wholesale price, or at $12.99 for the
illustrative title in Table 2, column three, 2009-10.56

The collusive increase in wholesale e-book prices, in addition to significantly increasing

publisher profits on e-book sales, had the potential to solve the cannibalization of physical books
problem because it incentivized Amazon to increase e-book retail prices, which would have
reduced consumer substitution away from physical books. However, while each e-book sale was
now substantially more costly for Amazon, Amazon continued to price new release and New
York Times Bestseller e-books at $9.99. Consequently, while publisher profits on e-book sales
increased significantly, the cannibalization problem was not solved. Meanwhile, the second
publisher concern with Amazon’s $9.99 pricing, that Amazon would permanently establish its
dominance of e-book retailing was exacerbated because $9.99 was now below cost by an even
greater amount.

Why Amazon refused to increase e-book retail prices is not clear. Perhaps Amazon did
not wish to alter its highly promoted $9.99 price point or perhaps Amazon believed that it would
reasonably quickly be able to negotiate substantial wholesale price discounts from the publishers
once it solidified its dominant position. However, Amazon was now pricing below costs by
substantially more than it previously had considered desirable. However, whatever Amazon’s
reason for not increasing e-book prices, the result was that competitive effective entry into e-book
retailing was now even less likely because Amazon was experiencing a $3.00 gross loss on each
New York Times Bestseller e-book sale. The Publishers’ policy of e-book wholesale pricing
parity with physical books therefore reinforced Amazon’s strategy to solidify its dominance in e-
book retailing.

2. Collusive Introduction of E-Book Windowing Programs

In early 2009, once again before there was any discussion between the Publishers and
Apple about Apple’s possible plans to enter e-book retailing, “[t]he most significant attack that
the publishers considered and then undertook … was to withhold new and bestselling books from
Amazon until the hardcover version had spent several months in stores, a practice known as
‘windowing.’”57 This policy was designed to place pressure on Amazon to raise its e-book retail
prices and thereby solve both major Publisher problems associated with Amazon’s below cost
$9.99 pricing, the underpricing of e-books relative to physical books and the insufficient e-book
retail margin necessary to support competitive e-book retailers.

56
791 F. 3d at 300; 952 F. Supp 2d at 649-50.
57
791 F. 3d at 300.

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 Initially three Publishers (Simon & Schuster, HarperCollins and Hachette) adopted an
experimental windowing program where each Publisher delayed the e-book release of one of their
highly anticipated titles.58 However, all “of the Big Six both kept one another abreast of their
plans to window, and actively pushed others toward the strategy.”59 In December 2009 Simon &
Schuster, HarperCollins and Hachette were joined by Macmillan in announcing a substantial
expansion in their initial experimental windowing programs, which now covered a significant
number of each Publisher’s new releases and involved a delay in the e-book release of up to six
months. These four essentially simultaneous Publisher windowing announcements, made shortly
before Apple’s initial Publisher meetings and therefore before Apple contract negotiations with
the Publishers had begun, are summarized in Table 3. Given the timing, it is clear that the four
Publishers jointly coordinated institution of their windowing programs. They also placed
pressure on the two other major publishers, Random House and Penguin, to institute similar
programs.60

58
Simon & Schuster announced a six week e-book release delay for Stephen King’s book “Under the
Dome,” HarperCollins announced a five week e-book release delay for Sarah Palin’s book “Going
Rogue,” and Hachette announced an “indefinite” e-book release delay for Edward Kennedy’s book,
“True Compass: A Memoir.” Jeffrey A. Trachtenberg, Publisher Delays Stephen King E-Book, WALL
ST. J., Oct. 22, 2009, available at
http://www.wsj.com/articles/SB10001424052748703816204574487604010965362; Jeffrey A.
Trachtenberg, Stressing Hardcover Sales, Publisher Delays E-Book of Sarah Palin Memoir, WALL ST.
J., Sept. 30, 2009, available at http://www.wsj.com/articles/SB125427129354251281.
59
791 F. 3d at 300.
60
“By December 2009, the Wall Street Journal and New York Times were reporting that four of the Big
Six had announced plans to delay e-book releases until after the print release, and the two holdouts --
Penguin and Random House -- faced pressure from their peers.” 791 F. 3d at 300-01. Hachette’s CEO
David Young said that he found the refusal of Penguin and Random House to adopt windowing policies
at this time “deeply divisive and disappointing.” 952 F. Supp. 2d at 653. Random House never
introduced a windowing program and was not a defendant in the litigation; Penguin ultimately
windowed all of its new releases for the two-month period of April and May 2010 as part of its later
negotiation with Amazon. Penguin’s initial failure at this time to join the other four Publishers in
announcing an e-book windowing program may explain the more aggressive bargaining position
Amazon later took with Penguin and the delay before Amazon accepted an agency agreement with
Penguin. Infra note 93.

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TABLE 3. PUBLISHER WINDOWING PROGRAMS
Announcement Date Publisher Window Titles Covered

Dec. 9, 2009 Hachette 3-4 months Large share of new releases

Dec. 9, 2009 Simon & Schuster 4 months 35 "top" titles
Dec. 10, 2009 HarperCollins 1-6 months 5-10 titles per month
Dec. 15, 2009 Macmillan 90 days All anticipated bestsellers
Sources: 952 F. Supp. 2d at 652-53; Jeffrey A. Trachtenberg, Two Major Publishers to Hold Back E-books , WALL ST. J., Dec.9,
2009, available at http://online.wsj.com/article/SB10001424052748704825504574584372263227740.html; Jeffrey A. Trachtenberg,
HarperCollins Joins Ranks of Those Delaying E-books , WALL ST. J., Dec. 10, 2009, available at
http://online.wsj.com/article/SB10001424052748704825504574586291583582158.html; and Jeffrey A. Trachtenberg, Macmillan to
Sell Enhanced E-Books , WALL ST. J., Dec. 16, 2009, available at
https://www.wsj.com/articles/SB10001424052748704398304574598152759224302.

As discussed with regard to film distributor pricing in Interstate Circuit, the usual
economic motivation for windowing is to separate groups of consumers in terms of their intensity
of demand by determining their willingness to delay consumption in order to charge higher initial
prices to high intensity demand consumers and lower later prices to low intensity demand
consumers. This is done in the book publishing industry with the delayed release of a lower-
priced paperback version of a title generally one year after the hardcover release. In contrast, the
Publishers’ windowing of e-books did not involve such differential pricing of a title across types
of consumers on the basis of intensity of demand. There is no reason to believe that e-book
consumers are more willing to wait to read a particular title compared to physical book
consumers of the title. Moreover, even if that were the case, there would be no reason for the
Publishers to have to coordinate with one another to introduce such inter-temporal pricing. There
appears to be no independent business rationale for an individual publisher to institute e-book
windowing, and the fact that such programs were not introduced until they were jointly
announced by the four Publishers is consistent with the absence of an independent economic
motivation. Given the concern about Amazon’s $9.99 e-book pricing expressed by the Publishers
in the context in which they discussed and introduced their windowing programs, it is obvious
that windowing was designed to serve solely as a collusive mechanism to pressure Amazon to
increase e-book prices.

The absence of an independent business rationale for a publisher to adopt windowing is

further confirmed by the fact that the Publishers recognized windowing at the time as a
potentially extremely costly strategy. “Employees inside the publishing companies noted that
windowing encouraged piracy, punished ebook consumers, and harmed long-term sales.”61
Empirical analysis of Penguin sales data when it windowed new release e-books to Amazon in
the two-month April-May 2010 period indicates that an individual publisher’s adoption of
windowing “results in no increase in hardcover sales on either Amazon or other physical and
online retailers. However, delaying the ebook release date does result in a large decrease in ebook

61
791 F. 3d at 301.

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sales and total profit to the publisher…”62 Specifically, windowing was estimated to decrease
ultimate total e-book sales of windowed Penguin titles during this period by 43 percent.63
Furthermore, this large decrease in e-books sales was caused by a relatively short window.
Penguin’s windowing policy was in effect for only eight weeks before an agreement was reached
with Amazon, so that the delay in the e-book release of Penguin new release titles varied between
one and eight weeks, with an approximate average delay therefore of only about 4.5 weeks. This
was a significantly shorter delay than announced in the Publishers’ initial windowing programs
and a very substantially shorter delay than the seven month windowing demands later made by
the Publishers to Amazon.

It is therefore clear that the Publishers’ adoption of e-book windowing policies was
extremely expensive and not motivated by individual Publisher profit-maximizing discriminatory
pricing. Windowing was economically adopted solely as a joint negotiating tactic to get Amazon
to increase its $9.99 pricing. The Publishers’ windowing announcements, however, initially had
no effect on Amazon’s willingness to bargain with the Publishers over increasing its $9.99 price.
It was not until Amazon later learned that Apple had reached agreement with the Publishers to
enter e-book retailing on terms that did not include windowing that the Publishers’ collusive
windowing programs became a significant credible threat Amazon was forced to respond to.

C. Apple’s iBookstore Contract Negotiations with the Publishers

In early December 2009 Apple was close to announcing the iPad. It had scheduled a
Launch Event for January 27, 2010, and it planned to begin iPad sales in April 2010.64 Although
Apple’s early plans did not involve use of the iPad as an e-book reader, very late in the planning
process, sometime in November 2009, Apple considered the possibility of adding an e-reading
function as well as an e-book retail store to the iPad.65 Eddy Cue, Apple Senior Vice President in
charge of digital content stores, sent an e-mail to CEO Steve Jobs stating that because the

62
Hailiang Chen, Yu Jeffrey Hu, and Michael D. Smith, The Impact of Ebook Distribution on Print Sales:
Analysis of a Natural Experiment, unpublished paper, at 3 (February 2016), available at SSRN:
https://ssrn.com/abstract=1966115, emphasis in original. The district court referred to an earlier version
of this study, stating that the “Penguin study showed when a Publisher delayed the release of e-books,
its sales never recovered.” 952 F. Supp. 2d at 653.
63
Id. at 14. This effect is measured by comparing Penguin e-book sales of titles released during April and
May of 2010, when Penguin was windowing new releases to Amazon, with sales of Penguin titles
released in March and June of 2010. Id. at 7. In both cases sales are measured in the first twenty weeks
after each title’s actual digital release, “the period where the majority of sales occur.” Id. at 9. The
effect would be reduced somewhat if all major publishers, rather than only one publisher, were
windowing because fewer major publisher new releases would be available as substitutes for the
windowed titles.
64
952 F. Supp. 2d at 654-55.
65
791 F. 3d at 301.

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publishers desired effective retailer competition to Amazon “[t]he book publishers would do
almost anything for [Apple] to get into the e-book business.”66

Apple began contacting the Publishers on December 8, 2009 to set up separate meetings
in New York the following week with the CEOs of the six major publishers to discuss “an
‘extremely confidential’ subject.”67 The publishers were aware “that Apple would be announcing
the arrival of another revolutionary device,” and Apple’s initial contacts “prompted a flurry of
telephone calls” among the publishers, who “speculated about how they might turn Apple’s entry
into the e-book business to their advantage in their battle with Amazon.”68

After Apple’s initial separate meetings with each of the six major book publishers in New
York on December 15-16, 2009, negotiations on iBookstore contract terms began. In these
negotiations Apple took advantage of the benefits its entry created for the publishers in providing
an effective competitive e-book retailing alternative to Amazon to demand favorable iBookstore
contract terms, including much lower effective wholesale prices than the publishers’ current
$12.99 collusive wholesale price. This, however, created an incentive for each publisher not to
accept the Apple terms and to free-ride on the other publishers’ acceptance of the terms. As long
as Apple entered, all publishers obtained an increased ability to bargain with Amazon. But an
individual publisher that did not agree to Apple’s contract terms would not have to bear the costs
of significantly lower Apple wholesale prices, with the possibility of having to meet such
wholesale prices on its Amazon transactions. Apple attempted to avoid this publisher free-riding
problem by informing the six major publishers that it would not enter unless a “critical mass”
accepted its contract terms.69

During the negotiations with the publishers over iBookstore contract terms Apple
actively promoted its contract proposal as the “best chance for publishers to challenge the $9.99
price point.”70 Apple coordinated joint Publisher acceptance of the iBookstore terms by
informing each Publisher that they all would receive the same final terms, keeping “the Publisher
Defendants apprised about who was in and how many were on board” and encouraging the
Publishers to communicate and cajole one another to accept the contract, emphasizing that it
would not otherwise enter.71 Between January 21 and January 26, 2010, less than six weeks after

66
Id.
67
952 F. Supp. 2d at 655.
68
Id.
69
791 F. 3d at 302. Apple originally demanded that all six major publishers agree to its terms, 952 F.
Supp 2d at 656. Later, when it became clear that Random House would not agree to the Apple terms,
Apple stated it would “not move forward with the store [unless] 5 of the 6 [major publishers] signed the
agreement.” 791 F. 3d at 306.
70
Id.
71
791 F. 3d at 304, 306, 308. Carolyn Reidy, CEO of Simon & Schuster, described Apple’s role in
coordinating joint Publisher acceptance of its iBookstore contract terms in an e-mail as “herding us
cats.” 791 F. 3d at 308.

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the initial New York meetings and immediately before the Apple iPad Launch Event on January
27, 2010, final iBookstore agreements were reached with the five Defendant Publishers.72

The final Apple contract terms accepted by the five Defendant Publishers for e-book
sales at the iBookstore included four main elements.

1. Agency

Aware of Amazon’s $9.99 below cost pricing, Apple informed each Publisher during its
very first initial New York meetings that it had no intention of entering e-book retailing to pursue
a similar loss-leader strategy.73 A number of the Publishers proposed an agency relationship
solution where retail prices were set by each Publisher.74 Apple proposed a 30 percent share of
the revenue, which was similar to the agency contracts it commonly used in their agency
contracts with suppliers of apps sold through the iPhone App Store.75 This provided Apple with a
guaranteed significant positive margin on iBookstore sales even if Amazon continued to price
below cost at $9.99. In both cases the 30 percent revenue share may be considered a payment for
access to consumers that are using the Apple platform.

2. MFN

An agency relationship, however, was not a full solution to Apple’s concern about
entering into e-book retailing in the face of Amazon’s below cost pricing. If Amazon continued
to price e-books at $9.99, the Publishers under agency could decide to price e-books at the
iBookstore significantly above Amazon prices. In that case Apple would still earn 30 percent on
each e-book sale at the iBookstore, but Apple’s e-book sales would be severely limited.
Furthermore, Apple would experience a loss of reputation when consumers observed the same e-
book title priced at the iBookstore at a significantly higher price than at Amazon. Apple therefore
required contractual assurance from the Publishers that their pricing of e-books under the agency
relationship would be competitive with other e-book retailers.

To handle this potential problem Apple initially proposed in an e-mail to each of the
Publishers that they would be required to move all their retailers to an agency relationship.76
Such a contract requirement would likely have presented significant antitrust problems for Apple.
Contractually specifying how the Publishers were required to deal with rival retailers would have
made the Apple contract with Publishers a standard hub-and-spoke arrangement as described in

72
791 F. 3d at 305-08.
73
791 F. 3d at 343.
74
The possibility of an agency relationship was first suggested by Hachette and by HarperCollins at their
initial separate meetings with Apple during December 15-17, 2009. 791 F. 3d at 303 n.3.
75
Id. at 303-04; U.S. v. Apple, 952 F. Supp. 2d 638, 658-59 (2013).
76
791 F. 3d at 303-04.

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Figure 1. However, the first draft contract Apple distributed to the Publishers shortly after these
initial e-mails, as well as all subsequent contract drafts, did not include an “all retailers on
agency” term. Apple proposed instead a most favored nation (MFN) term that required the
Publishers not to set prices at the iBookstore higher than the retail prices currently set for the
same title at other e-book retailers.77

The court described the MFN as a contract term that accomplished the same result
because it created an economic incentive for the Publishers to move Amazon to agency.78
However, from Apple’s perspective an MFN contract term provided a better business solution to
the potential problem of Publishers pricing e-books at the iBookstore higher than prices set by
rival e-book retailers than a contract requirement that Publishers move all retailers to agency.
Although it may have been reasonably clear to Apple that the Publishers intended to demand of
Amazon that it also accept an agency relationship, the MFN provided greater protection to Apple
because it meant that the Publishers had to set retail prices at the iBookstore competitive with
other e-book retailers whether or not the Publishers were successful in controlling Amazon’s
$9.99 pricing by moving Amazon to agency. Apple thereby achieved its independent business
objectives with an MFN without the need to specify in its iBookstore contracts how Publishers
were required to deal with other retailers.

3. Maximum price schedule

Although Apple was assured a 30 percent margin on its sales and was fully protected
against Amazon’s below cost pricing by agency and MFN contract terms, the arrangement
created a different problem for Apple. If the Publishers were successful in moving Amazon to
agency or obtained control over Amazon’s prices in any other way, the Publishers would then
likely use their retail pricing authority to set higher e-book prices than Apple desired. In contrast
to the Publishers, Apple did not sell physical books and consequently was unconcerned about any
“cannibalizing” effect of low e-book prices on reducing physical book prices and sales. Apple
therefore desired lower e-book prices than the Publishers.

Furthermore, Apple likely was concerned, given the Publishers’ joint increase in e-book
wholesale prices to parity with physical book wholesale prices, that if the Publishers moved
Amazon to agency they could set collusively high e-book retail prices. There is nothing
anticompetitive about an individual Publisher taking account of the demand effects on physical
books in setting e-book prices, as the film distributors individually did in setting minimum later-
run admission prices in Interstate Circuit. But if the Publishers jointly set higher e-book prices,
as the film distributors collusively did with the assistance of Interstate Circuit, that would be
anticompetitive and Apple would want to prevent it because the Publisher collusive profit gain
would be reflected in greater physical book sales.

77
791 F. 3d at 304.
78
791 F. 3d at 304-05.

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 To solve these problems associated with the fact that Apple’s e-book pricing incentives
did not coincide with Publisher e-book pricing incentives Apple proposed a schedule of
maximum e-book retail prices the Publishers could set on iBookstore sales under the Apple
agency relationship. The maximum price of each e-book title was contractually set based upon
the retail list price of the title in physical book format. This was a reasonable contract
formulation because there was no indication or claim of Publisher collusion with regard to the
setting of physical book list retail prices, and e-book prices would generally be expected to vary
systematically across titles with the physical book list price. For pricing simplicity, maximum e-
book retail prices of New York Times Bestsellers were set at either $12.99 or $14.99 depending
on whether the physical book list retail price was less than or greater than $30. Therefore the
retail e-book price for the illustrative title in Table 2 that had a physical book list retail price of
$25.99 was set at $12.99, or 50 percent of the physical book list price.79

The maximum e-book retail price schedule was the primary point of disagreement
between Apple and the Publishers. The Publishers considered the implied wholesale prices they
would receive for e-books as a consequence of Apple’s maximum retail prices to be much too
low. The $12.99 maximum e-book retail price for the illustrative New York Times Bestseller
title described in Table 2 was equal to the Publishers’ current, albeit collusively set, wholesale
price they were receiving on e-book sales; and the implied “wholesale price,” or the 70 percent
net amount the Publishers would receive on iBookstore sales under the Apple agency agreement
(the last column of Table 2) would be only $9.09. This was significantly below even the pre-
collusively set wholesale price of $10.39, which involved a 20 percent rather than 30 percent
retail margin.80

It is therefore not surprising that obtaining Publisher agreement on maximum price

contract terms was the major hurdle in iBookstore contract negotiations. Apple, aware of the
benefits its entry conferred on the Publishers in preventing an Amazon e-book retailing monopoly
under which Amazon would likely negotiate substantially lower than $9.09 e-book wholesale
prices, used its prospective entry to insist upon this maximum e-book price schedule. Therefore,

79
Maximum e-book retail prices for new release titles that were not New York Times Bestsellers were
contractually set based on a schedule that included a larger number of maximum price points, each of
which referred to a narrower range of new release physical book list prices, that more closely specified a
50 percent relationship of the e-book price to the physical book list price. For example, the maximum
price was set at $12.99 for physical book list prices between $25.01 and $27.50, at $14.99 for physical
book list prices between $27.51 and $30.00, and at a series of corresponding e-book prices between
$16.99 and $19.99 for various physical list prices greater than $30.00. 952 F. Supp. 2d at 669-70.
80
Although there was a significant cost to the Publishers under the terms of the Apple contract when
Amazon accepted agency, because the Publishers would receive $9.09 rather than the $12.99 collusive
wholesale prices on Amazon e-book sales, the Publishers obviously considered this immediate loss of
revenue on Amazon sales to be more than offset by the possibility of long-term gains if it leads to
stopping Amazon’s below cost $9.99 pricing, and therefore the control of cannibalization of physical
book sales and of Amazon’s future exercise of market power in the purchase of e-books.

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although the Publishers were reluctant, they ultimately agreed to accept this maximum retail price
schedule for iBookstore transactions.81

4. Day-and-date release

Finally, because Apple was aware of the Publishers’ previously publicly announced
windowing plans, Apple contractually required the Publishers to release e-book titles to the
iBookstore at the same time the Publisher released the physical book title.82 The Publishers
readily accepted this prohibition on windowing at the iBookstore because, as described in what
follows, Apple’s availability of all new release titles permitted the Publishers to more effectively
threaten Amazon with their windowing programs.

D. Amazon Accepts Agency

As the Publishers were nearing final agreements with Apple, immediately before the iPad
Launch Event on January 27, 2010, they began negotiations with Amazon with the stated goal of
moving Amazon to an agency relationship and thereby terminating Amazon’s $9.99 pricing of
new release and New York Times Bestseller e-books. Between January 20 and January 22 four
of the five Defendant Publishers (HarperCollins, Macmillan, Simon & Schuster and Hachette, but
not Penguin) each held meetings with Amazon and individually informed Amazon of their intent
to move all retailers to agency.83 However, according to the court, the Publishers’ “move against
Amazon began in earnest on January 28, the day after the iPad launch.”84

Macmillan made the first post-iPad Launch demand of Amazon when the CEO flew to
Seattle and on January 28 formally demanded that Amazon adopt agency or face a seven month
window of new release titles under a wholesale model.85 The other Publishers presented
essentially identical demands to Amazon that it accept agency or face windowing of all new e-

81
791 F. 3d at 306-08. Near the end of the negotiations, shortly before the iPad Launch Event, a
particularly significant impasse remained with regard to the acceptance by HarperCollins of the
maximum retail price schedule/30 percent margin terms. To resolve this impasse Steve Jobs contacted
James Murdoch at News Corp., HarperCollins’ parent company, and in a series of e-mails Jobs
emphasized the benefits Apple was bringing to the market in terms of the Publisher’s ability to bargain
with Amazon. Jobs argued that HarperCollins should “Throw in with Apple” rather than “keep going
with Amazon at $9.99,” reasoning that with Amazon “you will make a bit more money in the short-term
but in the medium term Amazon will tell you they will be paying you 70% of $9.99. They have
shareholders too.” 791 F. 3d at 307-08, citing 952 F. Supp. 2d at 677.
82
952 F. Supp. 2d at 664.
83
952 F. Supp. 2d at 672-73.
84
791 F. 3d at 308.
85
Id. This was a substantial increase in the 90 day windowing period Macmillan originally announced on
December 15, see Table 3.

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book releases, and in the negotiations that followed the Publishers communicated extensively
with one another regarding the progress they each were making with Amazon.86

Over the previous two years Amazon had ignored or summarily rejected all attempts by
the Publishers to obtain control over retail pricing or to otherwise increase Amazon’s $9.99
pricing and Amazon’s initial reaction to the first Macmillan demand was consistent with its past
behavior. Amazon removed the “buy buttons” from all Macmillan titles on the Amazon site,
thereby preventing Amazon customers from purchasing any Macmillan books, physical books as
well as e-books.87

The Macmillan buy buttons, however, remained off the Amazon site for only three days
before Amazon quickly relented and began negotiating an agency relationship. Amazon later
stated that it agreed to agency because it recognized “that its battle was not just with Macmillan
but with five of the Big Six.”88 It is true that the Publishers were jointly making demands on
Amazon that it accept agency or face windowing, but this was not a new phenomenon; four of the
Publishers had previously jointly announced and begun less extensive windowing programs that
Amazon had refused to react to. And in normal circumstances it would have been expected, at
least initially, for Amazon to attempt to break the Publishers’ common front by playing individual
Publishers off against one another with offers to individual Publishers of substantial incremental
sales in return for the cessation of windowing.89

What now got Amazon’s attention and precluded adoption of a strategy to attempt to
break the Publisher conspiracy was the fact that Amazon knew, as a result of the announcement at
the iPad Launch Event, that the Publishers had reached retailing agreements with Apple. Amazon
therefore knew that in two months when iPad sales would begin, Apple would be retailing all e-
book titles at the iBookstore at the same time as the title’s physical book release. Amazon
therefore recognized that, unless it accepted the Publisher demands and signed agency
agreements, its wait of up to seven months before receipt of new release e-book titles under
windowing created a substantial threat to its e-book business. Apple had an established e-

86
952 F. Supp. 2d at 681-82.
87
952 F. Supp. 2d at 679.
88
952 F. Supp. 2d at 680; 791 F. 3d at 309.
89
In addition to the substantial additional sales a Publisher would gain by terminating its windowing
program and selling new release e-books through Amazon, Amazon also could promise to provide
significant promotional investments in connection with sale of the Publisher’s titles. These Amazon
benefits appear to have been received by Random House in the period immediately after the entry of the
Apple iBookstore in return for its decision to remain outside the Publisher windowing conspiracy and
not demanding that Amazon move to an agency relationship. One analyst report from the summer of
2010 pointed out that Random House “enjoys some benefits from its position on Amazon, where its
books are marketed prominently and at more attractive pricing.” Susquehanna Financial Group,
Amazon.com, June 28, 2010 at 3. Another analyst reported that Amazon’s marketing support was a key
factor in explaining why over one million e-books were sold of Stieg Larsson’s Millennium trilogy
series that was published by Random House. Goldman Sachs, Amazon.com Inc. eBooks Sharply
Accelerating Amazon’s Share Gains in US Books, Aug. 3, 2010 at 1.

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retailing reputation and industry reports indicated that the Apple iPad sales were expected to be
extremely large.90 Moreover, entry of the iPad was occurring at the exact point in time when e-
book purchases, as reflected in Figure 2, were rapidly accelerating. An increasing number of
consumers were now deciding to read in a digital format and were choosing the platform on
which they would purchase their e-books. Amazon therefore quickly recognized that the joint
windowing threats by the Publishers meant it had no economic choice but to accept the Publisher
demands for agency. As reported in the New York Times, Amazon “realized it could not
compete with Apple if it wasn’t offering the same range of content.”91 According to one
publishing industry consultant, “Amazon figured out pretty quickly that this was a battle they
could not win.”92

Consequently, Amazon quickly began substantive Publisher negotiations, which led to its
acceptance of an agency agreement with Macmillan on February 5, followed by agency
agreements reached with Hachette, HarperCollins and Simon & Schuster in March and April
2010, before the entry of the Apple iBookstore.93 By the time Apple’s iPad sales began and the
iBookstore opened, on April 3, 2010, Amazon e-book retail prices were contractually set by these
four Publishers under agency agreements according to the same maximum price formula in
relation to physical book list prices as in the iBookstore contracts. Therefore, in April 2010, as a
result of Amazon’s acceptance of joint Publisher demands for agency and Apple’s entry, e-book
retail prices of new releases and New York Times Bestsellers increased substantially, with
Amazon’s $9.99 price for the illustrative $25.99 physical book retail list price New York Times
Bestseller in Table 2 increasing to $12.99.94 Furthermore, consistent with Publishers’ desire to

90
Actual iPad sales, from the start of sales in April 2010 to the end of 2011, were approximately 55
million units. APPLE, INC., FORM 10-K, at 30 (Oct. 26, 2011) and APPLE, INC., FORM 10-Q, at 25 (Jan.
25, 2012). To put this sales figure into perspective, in February 2010, before the iPad was released, it
was projected that Amazon would sell 7.6 million Kindles over the somewhat longer period between
2010 and the end of 2011. Barclays Capital, Updating our Kindle Numbers, Feb. 4, 2010, p. 2.
91
Motoko Rich and Brad Stone, Publisher Wins Fight with Amazon Over E-Books, N. Y. TIMES, Feb. 1,
2010, available at
http://www.nytimes.com/2010/02/01/technology/companies/01amazonweb.html?_r=0.
92
Id.
93
791 F. 3d at 309. An Amazon agency agreement was not reached with Penguin, the fifth Defendant
Publisher, before entry of the iBookstore. Amazon likely resisted Penguin’s identical demand for
agency because Amazon may have reasonably believed that Penguin was less committed to its agency
or windowing demand. In contrast to the other four Publishers, Penguin had not announced a
windowing program jointly with the other Publishers in December (supra note 60) and had not met with
and made initial agency demands of Amazon during January 20-22 (supra note 83). In response to
Amazon’s refusal to accept agency, Penguin did not make any of its new release e-book titles available
to Amazon for two months, until it ultimately reached an agency agreement with Amazon on June 2,
2010. 952 F. Supp. 2d at 682.
94
Between February 2010 and February 2011, prices of Defendant Publishers new release titles increased
by 24.2% and Bestseller titles increased by 40.4%. Random House, which had not switched to an
agency model, had virtually no change in the prices of its new releases or Bestsellers. 791 F. 3d at 310.

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create e-book retail competition, Amazon’s market share almost immediately began to fall, so
that by the start of 2011 Amazon’s share of e-book sales was less than 60 percent.95

The higher e-book prices persisted until 2012, when the Department of Justice filed suit
against the Publishers and Apple. Under the settlements agreed to shortly thereafter by each of
the Publishers, the Publishers were required to terminate their contract agreements with Amazon,
Apple and all other e-book retailers, and were prohibited for two years from entering into a new
agreement that constrained an e-book retailer’s ability to offer discounts or any other promotions
to consumers or that contained a price MFN.96 The result of the court imposed settlement
agreements was a dramatic decline in e-book prices, with average Amazon prices falling 18
percent within the first year.97

IV. ANTITRUST ANALYSIS OF APPLE’S CONDUCT

The key antitrust issue in the Apple e-books case was whether Apple’s vertical contracts
with the Publishers should be subject to a per se liability standard or analyzed under a rule of
reason. The dissent concluded that post-Leegin all vertical contracts, including vertical contracts
that serve as a hub in a hub-and-spoke conspiracy, should be evaluated under a rule of reason
standard. The dissent supported this with reference to the statement in Leegin that “a vertical
agreement designed to facilitate a horizontal cartel ‘would need to be held unlawful under the
rule of reason.’”98 The appeals court rejected this broad interpretation of Leegin, noting that it
would overrule long-established antitrust law with regard to per se liability of vertical hub
contracts that organize a hub-and-spoke conspiracy. “If the Supreme Court meant to overturn

95
Amazon’s e-book sales market share was estimated at 58%, with Barnes & Noble’s share at 27%, Apple
at 9% and Borders at 7%. BARNES & NOBLE, 2011 ANNUAL REPORT, at 2 (2011) and Matt Townsend,
Barnes & Noble Sinks Most Since June After Halting Dividend, Bloomberg.com, Feb. 22, 2011 at
http://www.bloomberg.com/news/2011-02-22/barnes-noble-falls-after-dividend-halt-same-store-sales-
rise.html.
96
United States of America v. Apple, Inc., Final Judgement as to Defendants Hachette, Harper Collins and
Simon & Schuster, Sept. 6, 2012. The Publishers also were prohibited for five years from “conspiring
with or sharing competitively sensitive information with their competitors.” U.S. Justice Department,
press release, April 11, 2012, available at http://www.justice.gov/opa/pr/justice-department-reaches-
settlement-three-largest-book-publishers-and-continues-litigate). Under the settlement terms Publishers
could and did enter agency agreements, but retailers could freely discount a Publisher’s set prices as
long as the retailer’s sales over all titles remained above cost. Retail prices set by publishers therefore
were equivalent to list prices and the agency contract arrangements entered by the publishers with e-
book retailers were described in the industry as “agency lite.” Keith Gessen, The War of the Words,
VANITY FAIR, Dec. 2014, available at http://www.vanityfair.com/news/business/2014/12/amazon-
hachette-ebook-publishing.
97
Babur De los Santos and Matthijs R. Wildenbeest, E-book Pricing and Vertical Restraints, 15
QUANTITATIVE MARKETING AND ECONOMICS 85 (2017).
98
791 F. 3d at 341 (dissent), citing Leegin Creative Leather Products v. PSKS, 551 U.S. 877, 893 (2007),
emphasis added.

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General Motors and Klor's - - precedents that it has consistently reaffirmed - - this cryptic
sentence was certainly an odd way to accomplish that result.”99

According to the court, while the distinction between vertical and horizontal agreements
“is sharp in theory, determining the orientation of an agreement can be difficult as a matter of fact
and turns on more than simply identifying whether the participants are at the same level of the
market structure.”100 In order to determine if the per se or the rule of reason is appropriate the law
therefore requires analysis of “the type of restraint Apple agreed to impose.”101 The court then
goes on to conclude that because Apple’s vertical contracts involved agreements “to orchestrate a
horizontal price-fixing conspiracy,” the contracts should be evaluated under a per se standard.102

The court, however, does not provide a precise statement of exactly what criteria should
be used to determine whether a vertical contract involves “the type of restraint” that
“orchestrates” a hub-and-spoke conspiracy where per se analysis is appropriate. In addition, the
court does not describe the type of vertical contracts that further a horizontal conspiracy Leegin
was referring to as subject to rule of reason analysis. Both of these questions are clarified in what
follows.

A. Leegin

The context in which the Leegin statement is made, that vertical contracts which facilitate
a horizontal conspiracy should be evaluated under a rule of reason, involves a description of two
specific cases where a manufacturer adopts a vertical resale price agreement with its retailers that
may serve to facilitate either a retailer or manufacturer conspiracy. The more common, case is
where “[a] group of retailers might collude to fix prices to consumers and then compel a
manufacturer to aid the unlawful arrangement with resale price maintenance.”103 The Court
concludes that the “horizontal cartel among … competing retailers that decreases output or
reduces competition in order to increase price is, and ought to be, per se unlawful.”104 The Court
then states that “[t]o the extent a vertical agreement setting minimum resale prices is entered upon
to facilitate [this]… type of cartel, it, too, would need to be held unlawful under the rule of
reason.”105

99
791 F. 3d at 324, referring to Klor’s, Inc. v. Broadway-Hale Stores, Inc., 359 U.S. 207 (1959) and U.S.
v. General Motors Corp., 384 U.S. 127 (1966).
100
791 F. 3d at 314.
101
791 F. 3d at 322.
102
Id.
103
Leegin Creative Leather Products v. PSKS, 551 U.S. 877, 893 (2007).
104
Id.
105
Id. The Court refers to “either type of cartel” in this context, including the second case where a group
of manufacturers jointly agree to each enter a vertical resale price maintenance agreement with their
retailers to stabilize a manufacturer cartel. Resale price maintenance may accomplish this by making it

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 The Court is clear that the vertical agreements which set minimum resale prices in such a
case involve coercion by the retailer cartel of the manufacturer. The colluding retailers “compel a
manufacturer to aid the unlawful arrangement with resale price maintenance.”106 Coercion is
necessary because the contract involves a manufacturer hub in a purely intra-brand arrangement
where the manufacturer is setting resale prices for sales of its products by its own retailers. In
contrast to the standard per se hub-and-spoke conspiracy framework described in Figure 1, the
alleged manufacturer hub is not setting the terms by which the colluding retailer spokes are
required to contract with rival manufacturer buyers of retailing services. Consequently, there is
no potential anticompetitive benefit the manufacturer hub can obtain from the vertical resale price
maintenance contracts. The manufacturer must be forced by the retailer cartel to institute the
contracts.

It may be incorrectly claimed that the manufacturer has an incentive to voluntarily

establish such a retailer conspiracy because it can then obtain a share of the collusive retailer
profits. However, in contrast to a hub-and-spoke conspiracy, there is no increase in the joint
collusive profits earned by the manufacturer and retailers together from the creation of the retailer
conspiracy because, contrary to Figure 1, there are no rival manufacturer buyers of the retailing
services that are disadvantaged relative to the manufacturer hub as a result of the conspiracy
among the retailer spokes. There is no one else the retailers are selling their services to. The
additional retailer collusive profits are earned at the expense of manufacturer profits and therefore
retailer coercion of the manufacturer is necessary to get the manufacturer to institute resale price
maintenance.

In such a case where there is a retailer cartel and resale price maintenance involves a
purely intra-brand contract, Leegin states that rule of reason analysis must be done with regard to
the vertical contract as a check to see if retailer coercion exists. The absence of a procompetitive
rationale supports the existence of retailer coercion; on the other hand, the presence of an
efficiency rationale would be inconsistent with retailer coercion.107

easier to detect manufacturer cheating and by reducing the incentive of a manufacturer to cheat because
wholesale price decreases cannot then be passed on by its retailers in lower retail prices, thereby
reducing the incremental sales a manufacturer can obtain from cheating. The Court states that the joint
agreement among colluding manufacturers to agree to institute resale price maintenance is per se illegal.
However, if there is no horizontal agreement among each of the manufacturer’s retailers, the vertical
contracts themselves are subject to rule of reason analysis.
106
Id., emphasis added.
107
The absence of a procompetitive rationale for the manufacturers to adopt resale price maintenance “may
also be useful evidence for a plaintiff attempting to prove the existence of a horizontal [retailer] cartel.”
551 U.S. 877 at 893. With regard to the other case where a group of manufacturers jointly agree to each
adopt vertical price maintenance agreements with their retailers, the Court states that resale price
maintenance also must be evaluated under rule of reason as a check, not of whether retailer coercion is
present, but whether a collusive agreement exists among the manufacturers. Supra note 105. Institution
of resale price maintenance by numerous manufacturers in an industry does not imply the presence of an
agreement among the manufacturers, but more likely common efficiencies facing all manufacturers.

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 Leegin therefore does not discard all previous hub-and-spoke conspiracy precedents that
find per se liability for all participants in a horizontal conspiracy. The Court’s statement in
Leegin refers to required rule of reason analysis only in purely intra-brand resale price
maintenance cases. This interpretation of Leegin implies, however, that one of the two Supreme
Court precedents cited by the court in Apple for continued per se analysis, General Motors, would
no longer appear to be valid.108 General Motors involved the claim that Chevrolet dealers in the
Los Angeles area had jointly taken actions in an attempt to stop some dealers from supplying
automobiles to unauthorized “discount houses.” Chevrolet dealers were concerned because
potential customers visited these unauthorized “discount houses” (also referred to as “book
dealers”), where they could “examine the literature and price lists for automobiles produced by
several manufacturers” and were promised substantial discounts, both from list prices as well as
from the price they would likely receive if they instead purchased the automobile at an authorized
dealer.109

In response, dealers through their trade associations put pressure on the dealers that were
supplying automobiles to the unauthorized “discount houses” and jointly hired an investigator
that “shopped” the “discount houses” to determine which specific dealers were supplying them
with cars. This information was then provided to General Motors along with their complaints.110
General Motors then met with the particular dealers supplying automobiles to the “discount
houses” and told them to terminate the practice.111 General Motors assured the dealers that it was
making the demand of all dealers and the particular dealers quickly agreed to the GM demand.
“Some capitulated during the course of the four-or-five-minute meeting, or immediately
thereafter.”112 The Court concluded that because General Motors facilitated the collusive dealer
efforts, GM's vertical contracts with its dealers that prevented them from supplying cars to
unauthorized discount houses were per se illegal.113

The Leegin Court also discusses the two other cases of potentially anticompetitive resale price
maintenance, when a powerful manufacturer uses resale price maintenance to prevent competition by a
new manufacturer entrant (for example, to pay retailers for not selling products of smaller rivals or
entrants) or when a dominant retailer uses RPM to prevent competition from lower-cost retailers. 551
U.S. 877 at 892-94. Both of these cases may fit the Figure 1 hub-and-spoke conspiracy framework if
there is a horizontal agreement among the spokes.
108
United States v. General Motors, 384 U.S. 127 (1966), cited in United States v. Apple Inc., 791 F. 3d
290, 322 (2d Cir. 2015). The other cited Supreme Court per se precedent referred to by the Apple court
in this context is Klor’s, Inc. v. Broadway-Hale Stores, Inc., 359 U.S. 207 (1959), cited in 791 F. 3d at
322, which was clearly not a manufacturer hub/purely intra-brand case.
109
384 U.S. 127 at 130. “Approximately a dozen of the 85 Chevrolet dealers in the Los Angeles area
supplied cars to the discount houses.” 384 U.S. 127 at 132.
110
384 U.S. 127 at 133-37.
111
384 U.S. 127 at 133-38.
112
384 U.S. 127 at 135.
113
384 U.S. 127 at 145.

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 The implication of Leegin is that the joint dealer behavior to establish a horizontal
agreement not to supply cars to unauthorized discounters remains per se illegal. However,
because the General Motors contract was a purely intra-brand vertical contract, rule of reason
analysis must be undertaken to determine if General Motors was coerced by the dealer cartel to
enforce the per se illegal horizontal agreement. Given the size of General Motors and the
superior bargaining position it possessed relative to its dealers, who could not easily shift the
supply of their retailing services to another automobile manufacturer, it is highly unlikely that
General Motors was coerced by its dealers to do something it would not otherwise want to do.

Furthermore, there are now widely recognized and legally accepted procompetitive
economic reasons for General Motors to adopt the policy demanded by its dealers. Unauthorized
discount houses had the ability to free-ride on the showrooms, sales staff and extensive inventory
provided by authorized dealers. Potential customers, for example, could examine, ask questions
about and test drive a car at an authorized dealer before purchasing the car from an unauthorized
discounter. Moreover, even if there were no free-riding, the prevention of transhipping of
automobiles to unauthorized discount houses protected GM’s efficient retail distribution
network.114

Therefore, although General Motors took actions that supported the dealer conspiracy,
under Leegin it would not be subject to a per se standard for joining the conspiracy. In contrast,
the Court in General Motors declared GM’s conduct per se illegal, without even permitting
General Motors to provide any possible evidence of procompetitive economic motivations for its
actions.115 General Motors’ purely intra-brand vertical distribution restraints clearly would
currently be evaluated under a rule of reason standard.116

114
Benjamin Klein, The Evolving Law and Economics of Resale Price Maintenance, 57 J. LAW & ECON
S161, S164-67 (Aug. 2014); Benjamin Klein, Competitive Resale Price Maintenance in the Absence of
Free-Riding, 76 ANTITRUST L.J. 431 (2009). In general, a retailer may initiate the discussion of resale
price maintenance with a manufacturer because the retailer may be more immediately aware of retail
market conditions and the magnitude of its own lost sales and reduced profitability from price
discounting. An individual retailer’s communication of market realities to a manufacturer, and the
likely changes the retailer intends to make if they are not corrected, is a normal part of the competitive
process and need not imply coercion.
115
384 U.S. at 140. The Court merely concluded that “[t]here can be no doubt that the effect of the
combination … here was to restrain trade and commerce within the meaning of the Sherman Act”
because “[e]limination, by joint collaborative actions, of discounters from access to the market is a per
se violation of the Act.” 384 U.S. at 145.
116
This is fully consistent with the standard of analysis adopted by the Third Circuit in Toledo Mack Sales,
where the court found a per se illegal horizontal agreement among the Mack Truck dealers to prevent
inter-dealer price competition yet held that the manufacturer’s conduct was subject to a rule of reason
standard. Toledo Mack Sales & Serv. v. Mack Trucks 530 F.3d 204, 225 (3d Cir. 2008). It may not
appear consistent with a recent Fifth Circuit decision, MM Steel LP v. JSW Steel (USA) Inc.; Nucor
Corp., 806 F.3d 835 (5th Cir. 2015). MM Steel.116 However, the vertical contracts in that case were not
purely intra-brand and judgement against one of the other steel manufacturers (Nucor) was reversed
because the appeals court found that, although Nucor was aware of the distributor conspiracy, its
decision not to quote a price to supply steel to MM Steel was consistent with its established

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B. Per Se Analysis

Apple’s vertical contracts with the Publishers do not fit the purely intra-brand contracts
referred to in Leegin as requiring rule of reason analysis. Apple’s contracts were entered with
multiple, separately branded colluding Publisher spokes. Furthermore, Amazon was a rival to the
alleged Apple hub that was disadvantaged by the Publisher conspiracy in no longer being able to
price below cost. However, the fact that rule of reason analysis is not required under Leegin does
not mean that Apple’s contracts necessarily involved “the type of restraint” that should be subject
to a per se treatment.

The court concluded that Apple’s contracts should be subject to a per se standard because
they involved “the type of restraint” that “orchestrated a horizontal conspiracy among the
Publisher Defendants to raise e-book prices.”117 Apple's contracts and conduct are shown in what
follows, however, not to have involved the type of hub activities used in previous hub-and-spoke
conspiracy cases to create and stabilize a horizontal agreement among the spokes. Most
importantly, Apple did not set the collusive contract terms under which the Publisher spokes were
required to deal with Amazon. In addition, Apple did not coordinate joint agreement among the
Publisher spokes to accept these collusive contract terms or enforce individual Publisher
compliance with the jointly agreed collusive contract terms. The Apple conduct that facilitated
the Publisher conspiracy is shown to have involved solely its entry.

1. Apple’s Contracts Did Not Contractually Specify How the Publishers Were Required to Deal
with Amazon

To understand Apple’s alleged role in “orchestrating” the Publisher conspiracy to move

Amazon to agency that resulted in higher e-book prices, it is essential to distinguish between
Apple's’ role in two different Publisher conspiracies: (1) the conspiracy among Publishers to
jointly agree to accept Apple’s vertical contract terms with regard to iBookstore sales; and (2) the
conspiracy among Publishers to jointly demand that Amazon adopt agency or face windowing of
new release titles. The court recognized that it was not Apple’s role in the first Publisher
conspiracy but Apple’s role in the second Publisher conspiracy that was the relevant conspiracy at
issue in the case. “[T]he relevant ‘agreement in restraint of trade’ in this case is not Apple’s
vertical Contracts with the Publisher Defendants (which might well, if challenged, have to be
evaluated under the rule of reason); it is the horizontal agreement that Apple organized among the
Publisher Defendants to raise ebook prices.”118

The two distinct Publisher conspiracies are illustrated in Figures 3 and 4. Figure 3
represents the first conspiracy, the joint agreement among the Publishers to accept Apple’s

“‘incumbency practice’ of remaining” loyal to established customers… in order to maintain its original
supply chain.” 806 F.3d 835 at 846.
117
United States v. Apple Inc., 791 F. 3d 290, 297, 322 (2d Cir. 2015).
118
791 F. 3d at 323.

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vertical contract terms, which set the terms of iBookstore sales. As described above, Apple
coordinated joint Publisher acceptance of iBookstore contract terms, convincing the Publishers
that its entry would permit them to bargain more effectively with Amazon and that it would not
enter without joint Publisher acceptance of the terms.

FIGURE 3. THE APPLE-PUBLISHER CONTRACTS

1

Publisher
3 Publisher
Publisher
2 4

Publisher Publisher
1 5

Publishers Jointly
Agree to Apple
Terms on Sales at
iBookstore

Apple
Apple iBookstore

Figure 4 represents the second conspiracy among the Publishers to move Amazon to an
agency relationship, which involved collusive joint Publisher contract demands that Amazon
accept agency or face windowing of all new releases. The essential antitrust question is the
connection between Figure 3 and Figure 4, that is, how the Apple iBookstore contracts may have
orchestrated or created a rim agreement among the Publishers with regard to the collusive
demands they made of Amazon that it adopt agency or face windowing.

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 FIGURE 4. PUBLISHERS MOVE AMAZON TO AGENCY
2

Publisher
3 Publisher
Publisher
2 4

Publisher Publisher
1 5

Publishers Jointly
Apple iBookstore Threaten Continued
Scheduled to Open Windowing Unless
Amazon Accepts
Agency

Apple Amazon

In contrast to the contract structure of a hub-and-spoke conspiracy represented in Figure

1, the Apple iBookstore contracts the Publishers jointly agreed to did not include any term that
contractually specified how the Publishers were required to deal with Apple’s rivals, specifically
with Amazon. There was not any term in the Apple iBookstore contracts that required the
Publishers to move Amazon to agency or to require the Publishers to make collusive windowing
threats of Amazon. The connection between the Publishers’ collusive demands that Amazon
accept agency in Figure 4 and the Publishers earlier joint agreement to accept the Apple
iBookstore contracts illustrated in Figure 3 is that the Publishers’ windowing threats became
credible with Apple’s prospective entry with access to all new release e-book titles without delay.
As described above, this is what economically forced Amazon to quickly accept the Publishers’
joint demand for agency.

Although there was no requirement in the Apple iBookstore contracts regarding the
Publisher windowing programs that induced Amazon to accept agency, the agency and price
contract terms in the iBookstore contracts coincided with the agency and price terms in the
Publishers’ Amazon contract. As described, the agency and MFN contract terms were included
in the iBookstore contracts to protect Apple’s entry against the possibility the Publishers would
be unsuccessful in moving Amazon to agency. The MFN in such a case would require the
Publishers to meet Amazon’s $9.99 pricing on iBookstore sales with Apple assured a 30 percent
margin under its agency contract. However, the Publishers were not contractually required as a

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consequence of these iBookstore contract terms to jointly threaten Amazon with windowing if
Amazon did not accept a similar agency relationship.

If the iBookstore contracts did not include an agency contract term, the Publishers still
would have been successful in moving Amazon to agency with their joint windowing threats as
long as Apple was scheduled to enter with a contractual commitment from the Publishers for
access to all new releases without delay.119 This was widely recognized in the contemporaneous
trade press as the economic reason for Amazon’s quick acceptance of agency and the rapid
success of the Publisher windowing conspiracy.120 It is therefore surprising that the appeals court
does not recognize the significance of the Publishers’ joint windowing threats in convincing
Amazon to accept agency.121

The success of the Publisher windowing conspiracy also was independent of the
particular maximum price terms set in the Apple iBookstore contracts. As long as Apple was
scheduled to enter e-book retailing with access to all new release e-book titles without delay, the
Publisher windowing conspiracy would be successful in moving Amazon to agency even if
Apple’s iBookstore contracts did not include any prices whatsoever. However, once Apple
entered and Amazon was forced to accept an agency relationship under the collusive Publisher
threats of windowing, the price terms set by the Publishers in their Amazon contracts would be
expected to be the same as the price terms in the Apple iBookstore contracts. Amazon was highly
unlikely to accept higher prices than the Apple iBookstore maximum prices because Amazon
would then be placed at a permanent competitive disadvantage to Apple. And the colluding
Publishers certainly did not have an incentive to set lower Amazon prices than the maximum
Apple iBookstore prices that the Publishers had accepted with substantial reluctance.

119
If Apple prices were not controlled by the Publishers under an agency agreement, Amazon likely would
have demanded and the Publishers included some price protection in their agency contracts.
120
Supra notes 91 and 92.
121
The appeals court discusses windowing in connection with the initial coordinated Publisher
announcements of windowing policies made in December 2009 (Table 3) as an indication of Publisher
collusion, before contract discussions had begun with Apple. 791 F. 3d at 300-04. In addition, the
appeals court reports on a seven-month window being part of Macmillan’s initial demand of agency to
Amazon. Supra note 85. In contrast, the district court discussed the later Publisher windowing threats
of Amazon more extensively, but minimized it as an influence on Amazon’s decision to accept agency
because it concluded the Publishers actually windowed only 37 e-book titles. U.S. v. Apple, 952 F.
Supp. 2d 638, 702 (2013). This includes the initial three titles windowed by three Publishers on an
experimental basis in early 2009 plus 34 titles windowed during the brief period before Amazon agreed
to accept the four Publishers’ demands for agency and began negotiations over specific agency terms.
Supra note 58. It does not include the 99 titles later windowed by Penguin during the period before
Penguin reached an agency agreement with Amazon. Chen, Hu and Smith, supra note 62. The district
court fails to acknowledge that Amazon’s rapid acceptance of the Publishers’ demands for agency was
caused by joint Publisher threats of continued windowing in the face of Apple’s prospective entry, not
by the number of titles actually windowed before Amazon agreed in principle to accept an agency
relationship.

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 However, although Apple’s iBookstore contract prices had no effect in facilitating the
Publisher windowing conspiracy that moved Amazon to agency, Apple’s prices did have the
economic effect of limiting Publisher pricing power once the Publisher conspiracy was successful
because the Apple prices placed an effective economic constraint on the prices the colluding
Publishers could set on titles at Amazon. Without Apple’s iBookstore maximum prices, once the
colluding Publishers moved Amazon to agency and obtained control of pricing they would have
almost certainly set Amazon e-book prices substantially higher than Apple’s contractually set
maximum prices. For example, the Publishers could be expected to jointly set a retail e-book
price a minimum of 20 percent above their current collusively set $12.99 wholesale price, or at
more than $16.00.

2. The Apple MFN Was Not a De facto Contractual Requirement that the Publishers Move
Amazon to Agency

The Plaintiffs recognized that, in contrast to other hub-and-spoke arrangements, there

was a gap in their hub-and-spoke analysis because of the absence of a term in the Apple
iBookstore contracts that created the necessary rim or agreement among the Publishers by
contractually requiring the Publishers to demand that Amazon adopt agency. However, although
an explicit contract requirement was not present, the Plaintiffs claimed that the MFN term in the
Apple contracts iBookstore in effect contractually required each of the Publishers to move
Amazon to agency. Therefore, a contract connection was created between the Apple iBookstore
contracts in Figure 3 and the collusive Publisher demands made of Amazon in Figure 4.

The MFN, it was argued, created this contract requirement that Publishers move Amazon
to agency because it imposed a large cost on any Publisher that did not convince Amazon to
accept agency. The MFN therefore substantially increased each Publisher’s incentives to demand
that Amazon adopt agency. The cost imposed by the MFN on a Publisher that was not successful
in moving Amazon to agency, and therefore created this de facto contract requirement, is that the
Publisher would then have to set retail prices on iBookstore sales of new releases at $9.99 to meet
Amazon prices. The Publisher therefore would earn only $6.99 (70 percent of the $9.99 price)
rather than $9.09 (70 percent of the Apple contractually set $12.99 maximum retail price) on
iBookstore sales. Consequently, according to the court, if a Publisher failed to convert Amazon
to agency “the result would be the worst of both worlds: lower short-term revenue and no control
over pricing.”122 As a result, the Apple MFN made it “imperative, not merely desirable, that the
publishers wrest control over pricing from ebook retailers.”123 The MFN therefore “‘stiffened the
spines’ of the Publisher Defendants” when demanding that Amazon move to agency.124 “By the
very act of signing a Contract with Apple containing an MFN Clause, then, each of the Publisher

122
791 F. 3d at 305, emphasis in original.
123
Id.
124
791 F. 3d at 317, citing 952 F. Supp. 2d at 665.

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Defendants signaled a clear commitment to move against Amazon, thereby facilitating their
collective action.”125

The court does not refer to any empirical estimate of this claimed effect of the MFN in
increasing Publisher financial incentives to bargain more aggressively with Amazon to accept
agency. The court relies for its conclusion that the MFN amounted to a de facto requirement in
the Apple iBookstore contracts that Publishers move Amazon to agency solely on statements by
some Publisher and Apple executives.126 However, the costs a Publisher bears in meeting the
MFN requirement on iBookstore sales if it decides to give up the attempt to move Amazon to
agency are extremely small compared to the costs a Publisher bears if, alternatively, it decides to
continue to demand that Amazon accept agency. Specifically, the cost of the MFN to a Publisher
that gives up the attempt to move Amazon to agency, and consequently earns only $6.99 rather
than $9.09 on iBookstore sales, assumes that the unsuccessful Publisher withdraws its windowing
policy with regard to new release titles. Only then will Amazon have the e-book new release title
available and priced at $9.99 that the Publisher then has to meet in its iBookstore pricing. A
Publisher that decides not to give up its demand that Amazon move to agency therefore must bear
the continued cost of windowing.

To estimate the general magnitudes of the alternative costs faced by a Publisher when
deciding whether to continue to window and demand Amazon accept agency or to admit defeat
and give up windowing and bear the costs of the MFN, assume that Apple e-book sales account
for 10 percent of a Publisher’s total e-book sales.127 In addition, assume that e-book sales of titles
covered by the MFN, that is, sales of either New York Times Bestsellers or new release titles
(defined as titles released in the first seven months after the physical book release) account for 60
percent of a Publisher’s total e-book sales.128 This means that if a Publisher gives up its demand

125
791 F. 3d at 317. This claimed effect of the Apple MFN is distinct from the potential anticompetitive
effect of an MFN entered between a seller and a large buyer of decreasing the seller’s incentive to
provide price discounts to small buyers or new entrants because the discount must then also be provided
to the large buyer. Jonathan B. Baker and Judith A. Chevalier, The Competitive Consequences of Most-
Favored Nation Provisions, 27 ANTITRUST 20, 22-24 (Spring 2013).
126
Carolyn Reidy, CEO of Simon & Schuster, noted that as a consequence of the Apple MFN the company
“would need to move all its other ebook retailers to agency ‘unless we wanted to make even less
money.’” 791 F. 3d at 305, citing 952 F. Supp. 2d at 666. An Apple executive stated that “‘any decent
MFN forces the model’ away from wholesale and to agency.” 791 F. 3d at 305, citing 952 F. Supp. 2d
at 663.
127
Apple’s estimated share of e-book sales at the end of 2010, six months after entry of the iBookstore,
was 9 percent. Matt Townsend, Barnes & Noble Sinks Most Since June After Halting Dividend,
Bloomberg.com, Feb. 22, 2011 at http://www.bloomberg.com/news/2011-02-22/barnes-noble-falls-
after-dividend-halt-same-store-sales-rise.html. If Apple’s expected share of sales was assumed to be
greater than 10 percent, this would increase the cost of the Apple MFN to the Publisher on iBookstore
sales if it decided to stop windowing and mitigate the Publisher’s costs associated with the substantial
lost Amazon sales from continuing windowing. However, it would substantially increase the cost to
Amazon of resisting the Publishers’ demand for agency, discussed infra at note 134.
128
The conclusion of the following analysis, that a Publisher’s costs of continuing to window are
substantially greater than the Publisher’s costs of meeting the MFN on iBookstore sales if it stops
windowing, does not depend upon this illustrative 60 percent assumption.

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that Amazon move to agency and stops windowing, about 6 percent of a Publisher’s total e-book
sales would be affected by the MFN (60 percent of Apple’s 10 percent of total Publisher e-book
sales). The cost to the Publisher of giving up its demand for agency associated with the MFN
therefore would be a 23 percent lower wholesale price of $6.99 rather than $9.09 on 6 percent of
a its total e-book sales, or a 1.4 percent decrease in the Publisher’s total e-book revenue.

This effect of the MFN on reducing the Publisher's revenue from Apple iBookstore sales
is significant, but trivial compared to the decrease in e-book revenue a Publisher bears if, instead,
it continues to window and demand that Amazon move to agency. Windowing new release titles
to Amazon means that sales of windowed new releases will be priced at the iBookstore at $12.99
because there is no comparable $9.99 Amazon price that the price of the new release title has to
meet.129 However, although the Publisher saves the cost of not having to mark down its
iBookstore price, the Publisher that continues to window now bears the very large cost associated
with the inability to make sales of newly released titles through Amazon.

A Publisher’s decision to continue to window means that the Publisher ultimately will be
unable to sell most of its New York Times Bestseller e-book titles through Amazon. Only about
10 percent of a Publisher’s New York Times Bestseller titles are on the Bestseller list after the
seven month window period expires.130 Therefore, once the full windowing period is effective,
the Publisher will have only about 10 percent of New York Times Bestseller titles available to
sell on Amazon. The inability of a Publisher to sell all of its new releases and 90 percent of its
New York Times Bestseller e-book titles through Amazon if it continues to window is a huge cost
that would amount to the loss of approximately half of the Publisher’s total e-book revenue.131

This 50 percent loss of total e-book revenue from continuing to demand that Amazon
accept agency and windowing new release titles to Amazon is dramatically less than the MFN
cost of a 1.4 percent decrease in total e-book revenue the Publisher bears on new release
iBookstore sales if it gives up the demand that Amazon accept agency and windowing of new
release titles to Amazon. The Publisher’s loss of e-book revenue from continuing to window new

129
The MFN will reduce Publisher prices on Bestseller titles sold at the iBookstore that are not new
releases and therefore that Amazon continues to price at $9.99. However, this will be an extremely
small additional cost of windowing associated with the MFN because relatively few titles remain as
Bestsellers after the Publishers’ seven month new release window period. Infra note 130.
130
Over the one year period between May 8, 2016 and May 7, 2017, 10.3 percent of titles on the New York
Times Bestseller list were on the list for 30 or more weeks. New York Times Hardcover Fiction
Bestseller List and The New York Times Hardcover Nonfiction Bestseller List, May 8, 2016-May 7,
2017 available at https://www.nytimes.com/books/best-
sellers/?action=click&contentCollection=Books&referrer=https%3A%2F%2Fwww.google.com%2F&r
egion=Header&module=Kicker&version=-&pgtype=Reference.
131
To determine the percent of sales covered by windowing it is necessary to subtract from the 60 percent
of sales covered by the MFN that are either Bestsellers or new releases the Bestseller sales that are not
new releases. If, for example, Bestsellers account for 40 of the 60 percent, the 10 percent of Bestseller
titles that are not new releases would amount to about 4 percentage points of sales. Therefore, a
Publisher that does not sell any new releases through Amazon will lose 90 percent (Amazon’s share of
sales) of 56 percent of total sales, or 50.4 percent of its total e-book revenue.

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release titles to Amazon is 36 times the loss of revenue the Publisher bears if, instead, it gives up
the attempt to move Amazon to agency, stops windowing and is forced under the MFN to reduce
prices on iBookstore sales. This is not surprising because the Publisher faces a choice of a 23
percent price decrease on 6 percent of its sales compared to the loss of all revenue on about 50
percent of its sales if it continues to window and demand that Amazon move to agency.

This calculation measures the relative costs faced by a Publisher that is assumed to
continue to window for seven months. However, the Publisher costs of windowing new release
titles to Amazon are large even if it does not continue to window for the full seven month period.
For example, if the Publisher windows for only three months, more than 75 percent of New York
Times Bestseller titles would not be available for purchase on Amazon.132 This would lower the
estimated cost a Publisher faces in deciding to continue to window new release titles to Amazon
relative to the cost of the MFN on Apple iBookstore sales from 36 to 30. The cost to a Publisher
of lost Amazon sales as a result of continued windowing under any reasonable assumptions is
overwhelmingly greater than the cost of lower iBookstore prices. It therefore does not make
economic sense to describe the situation as one where the Apple MFN made it “imperative” for
each of the Publishers to move Amazon to agency to avoid lower iBookstore prices.133

Amazon’s rapid acceptance of agency therefore cannot reasonably be explained by the

court’s conclusion that the Apple MFN increased Publisher incentives to insist that Amazon
accept its demand for agency. As described in III.D., Amazon’s rapid acceptance is more
realistically explained by the much greater change that occurred on the other side of the
Publisher-Amazon negotiation, namely the very substantial increase in Amazon’s incentives to
accept the Publisher demands for agency in the face of Apple’s imminent entry with access to all
new release titles. Amazon’s refusal to accept the Publishers’ demands for agency in the face of
continued Publisher windowing would have resulted in a significant shift of e-book sales to Apple
and Barnes & Noble and created a severe platform disadvantage for Amazon relative to these
other e-book retailers. The immediate costs to Amazon in terms of the depreciations of the
Kindle platform from the failure of consumers to be able to purchase desired new release titles,
even for a short period, was likely much greater than a Publisher’s loss of sales from windowing.
Consistent with contemporaneous news reports, it is clear that this is what explains Amazon’s

132
Less than 25 percent of Bestseller titles are on the Bestseller list for more than 12 weeks. Based
on New York Times Bestseller data from May 8, 2016 to May 7, 2017, supra note 130. As described
above, the Chen, Hu and Smith empirical study on the effects of windowing found that even an average
window of four and a half weeks leads to a 43 percent decrease in sales. Supra note 63.
133
The statements by Publisher and Apple executives that the MFN economically forced the Publishers to
demand that Amazon accept agency ignore the Publisher costs associated with continuing to window.
This may be because windowing new release titles to Amazon initially, for example on the first day,
would not imply significant lost total Publisher revenue, but the same can be said for the MFN effect on
iBookstore sales. More importantly, the Publishers may have reasonably not expected windowing to
continue for very long in response to their collusive demands because Amazon would very likely
readily comply and accept agency in the face of Apple's entry with access to new release titles without
delay. However, Amazon’s likely response obviously was invariant to the presence of the MFN.

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acceptance of agency “in record-setting time and at the precise moment that Apple entered the e-
book market.”134

3. Apple Did Not Coordinate the Publisher Windowing Conspiracy

Although there was no Apple vertical contract term that set or incentivized the Publishers
to enter a collusive rim agreement to move Amazon to agency through joint windowing threats,
the court concluded that “Apple consciously played a key role in organizing” the Publisher
conspiracy.135 The court bases this on the fact that Apple informed the Publishers it “would
launch its iBookstore only if a sufficient number of them agreed to participate and that each
publisher would receive identical terms,” that it kept “the publishers updated about how many of
their peers signed Apple’s Contracts,” and that “[w]hen time ran short, Apple coordinated phone
calls between the publishers who had agreed and those who remained on the fence.”136

These actions refer to Apple’s role in coordinating joint agreement among the Publishers
to accept iBookstore contract terms. It is necessary, however, to distinguish between Apple’s role
in coordinating joint Publisher acceptance of the iBookstore contracts and Apple's coordinating
role in the Publisher windowing conspiracy that forced Amazon to accept agency. Once the
connection between the MFN and Publisher demands for agency is broken, there is no contract
connection between the two Publisher conspiracies.

A connection exists, however, in the sense that during Apple’s negotiation with the
Publishers over iBookstore contract terms Apple reminded the Publishers that “it was offering
‘the best chance for publishers to challenge the 9.99 price point’ before it became ‘cemented’ in
‘consumer expectations.’”137 Contrary to Apple’s argument that it merely "unwittingly
facilitated" the Publishers’ joint conduct with regard to Amazon, Apple recognized that its entry
would increase the Publishers’ ability to collusively use windowing to jointly negotiate with
Amazon accept agency and thereby stop its $9.99 pricing.138 Apple therefore used its entry as “a
bargaining chip” to negotiate favorable iBookstore contract terms.139 “Apple understood that its
proposed [iBookstore] Contracts were attractive to the Publisher Defendants only if they [the
Publishers] collectively shifted their relationships with Amazon to an agency model - - which
Apple knew would result in higher consumer-facing e-books prices.”140

134
U.S. v. Apple, 952 F. Supp. 2d 703 (2013). Supra notes 91 and 92.
135
791 F. 3d at 316.
136
791 F.3d at 318-19.
137
Id.
138
791 F. 3d at 318, citing Brief of Apple Inc. at 23.
139
791 F. 3d at 317, 328, 334. Steve Jobs referred to Apple’s leverage of “market conditions to its own
advantage” as an “aikido move.” 791 F. 3d at 317, 952 F. Supp 2d at 687.
140
791 F. 3d at 316.

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 Apple was not only aware of the Publisher’s desire and intent to move Amazon to agency
but also that the Publishers were jointly using windowing in an attempt to accomplish this
result.141 The key legal question is whether the fact that Apple was aware and took advantage of
the Publisher conspiracy is sufficient to reach the conclusion that Apple took actions to join the
Publisher conspiracy. As we have seen, it was Apple’s entry without windowing that permitted
the Publishers to economically force Amazon to accept agency. Although Apple took advantage
of the value of its entry to the Publisher conspiracy to negotiate favorable iBookstore contract
terms, the contract terms Apple negotiated served its independent business interests and
controlled collusive Publisher e-book retail pricing. Apple’s contracts and its negotiations, did
not involve Apple taking actions that directly supported or coordinated the Publisher conspiracy
in the sense of contractually requiring the Publishers to do something with respect to Amazon as a
result of the Apple contracts that the Publishers would otherwise find contrary to their individual
economic interests. The transaction between the Publishers and Apple therefore can usefully be
thought of as joint Publisher compensation of Apple for its entry.142

The court describes Apple’s ability to negotiate favorable iBookstore contract terms as
something that “hinged on whether it could successfully help organize them [the Publishers] to
force Amazon to an agency model and then use their newfound collective control to raise ebook
prices.”143 However, the Publisher collective control was not “newfound.” The court labels the
Publisher collective actions as “newfound” because of the mistaken claimed effect of the MFN.
However, the Publishers were jointly coordinating their efforts to stop Amazon’s $9.99 pricing
before Apple entered. And Apple’s coordination of a newfound Publisher windowing conspiracy
is incredible on its face because the Publishers, in fact, had jointly announced initial windowing
programs before they even held their first exploratory meetings with Apple.

The court focuses on one aspect of Apple’s communications with the Publishers that it
concluded clearly indicates Apple’s coordinated the Publisher conspiracy to move Amazon to
agency, that “Apple's involvement in the conspiracy continued even past the signing of its
[iBookstore] agency agreements.”144 Specifically, “Apple stayed abreast of the Publisher

141
Steve Jobs stated to his biographer at the time of the iPad’s launch that the Publishers were windowing
(which had been publicly announced) so that Amazon would not get new e-books if it failed to accept
agency. 952 F. Supp 2d at 679, 687. Jobs also responded to a reporter at the iPad Launch Event when
asked why anyone would buy e-books at higher prices from Apple rather than at $9.99 currently
charged by Amazon that “[t]he prices would be the same.” 952 F. Supp 2d at 679. This does not mean
that Jobs knew the Publisher windowing conspiracy would necessarily be successful; Apple and
Amazon prices would be the same even if the Publishers were not successful in moving Amazon to
agency because of the MFN term in the iBookstore contracts.
142
Apple did not have the ability to enforce the Publisher conspiracy to move Amazon to agency and
therefore was not also compensated for said enforcement. However, the court rejected Apple's
argument on appeal that it did not have sufficient market power to coordinate the Publishers with regard
to the Amazon conspiracy in the sense of enforcing agreed upon collusive terms. “Courts have never
found that the vertical actor must be a dominant purchaser or supplier in order to be considered a
traditional ‘hub,’ only that this is ‘generally’ the case.” 952 F. Supp 2d at 707.
143
791 F. 3d at 317.
144
791 F. 3d at 319.

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Defendants' progress as they set coordinated deadlines with Amazon and shared information with
one another during negotiations.”145 The Publishers therefore not only kept each other informed
about how their negotiations were proceeding with Amazon, but also kept Apple informed.146
However, it was in Apple’s legitimate narrow business interests to keep track of how the
Publisher negotiations with Amazon were proceeding and to know if Amazon had agreed to adopt
an agency arrangement with a Publisher because such information was crucial for the setting of
iBookstore prices.147 Furthermore, a Publisher’s failure to obtain Amazon’s agreement to adopt
an agency contract meant that Apple would receive the Publisher’s New York Times Bestseller e-
books at the time of the physical book release while Amazon would not. This is a development
Apple certainly would want to advertise in terms of its platform competition with Amazon.

However, it is important to emphasize that the limited Apple-Publisher communications

after the negotiation of iBookstore contracts are quite distinct from hub coordination of joint
spoke acceptance of collusive contract terms that occurs in a hub-and-spoke conspiracy, as
occurred, for example, in Toys “R” Us. Apple did not play any role in coordinating the Publisher
conspiracy to jointly threaten Amazon with windowing if it did not accept the agency
relationship. Such a windowing conspiracy existed among the Publishers before Apple entered
and the Publishers had absolutely no difficulty or hesitancy communicating among themselves
with regard to how their Amazon negotiations were proceeding.148 It is clear that the Publishers
did not require any assistance from Apple, other than its entry, to institute an effective conspiracy
with regard to making joint demands on Amazon.

C. Rule of Reason

The Apple dissent states that, based on Leegin, the appropriate standard of evaluation of
Apple’s contracts should be a rule of reason. However, the Apple vertical contracts are not the
purely intra-brand vertical contracts described in Leegin as requiring rule of reason analysis. This
does not mean that Apple’s contracts are necessarily the type of vertical contracts the Apple court

145
Id.
146
For example, Macmillan, the first Publisher after the Apple iPad Launch Event that made a
demand of Amazon to accept agency or face windowing, kept Apple fully informed on its Amazon
negotiations. The Macmillan CEO informed Apple that he could not be at the Launch Event because he
was traveling to Seattle that day to meet with Amazon the next day. 791 F. 3d at 308; U.S. v. Apple,
952 F. Supp. 2d 638, 678 (2013). On his return, he emailed Apple “about Amazon’s decision to remove
Macmillan e-books from Kindle.” 791 F. 3d at 309.
147
This was a particularly important consideration with regard to iBookstore pricing of Penguin’s titles
during April and May of 2010, when Amazon had not yet agreed to agency and therefore was
continuing to price Penguin’s pre-existing new release titles at $9.99. These titles therefore had to be
priced at the iBookstore at $9.99. This explains why “[w]hen Penguin languished behind the others,”
Jobs was informed “that Apple was ‘changing a bunch of Penguin titles to 9.99’ in the iBookstore
‘because they didn’t get their Amazon deal done.’” 791 F. 3d at 309.
148
“Whenever Amazon ‘would make a concession on an important deal point,’ it would ‘come back to us
[Amazon] from another publisher asking for the same thing or proposing similar language.’” 791 F. 3d
at 309, citing Joint Appendix 1491.

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describes as subject to per se analysis because they “orchestrate” a hub-and-spoke conspiracy.149
Once the claimed role of the MFN in connecting the Apple iBookstore contracts to the
Publishers’ collusive windowing demands is rejected, Apple’s contracts do not fit the standard
per se role of hub contracts in a hub-and-spoke conspiracy. Although Apple used the value of its
entry to the Publishers to negotiate favorable iBookstore contract terms, its entry and not the
particular iBookstore contract terms is what facilitated the Publisher windowing conspiracy to
move Amazon to agency. After Apple entered, the Publisher conspiracy would have been
successful in moving Amazon to agency independent of the Apple contract terms, or even if
Apple had entered without agency, MFN or maximum price contract protections.

In contrast, the dissent accepted the court’s view that the Apple MFN “‘effectively
enforced’ each publisher that signed Apple’s agency contract to move its other retailers onto
agency model” and that Apple’s maximum prices “had the effect of setting anchor prices across
the e-book industry.”150 The dissent therefore accepted that Apple’s iBookstore contracts created
a contractual rim with regard to the Publisher conspiracy that moved Amazon to agency. In spite
of this, the dissent concluded that because of Leegin Apple's contracts and conduct should not be
subject to a per se standard but required rule of reason analysis. The dissent then concludes that
because Apple’s contracts were necessary for its entry and that Apple’s entry led to
deconcentration of a highly concentrated e-books retailing industry, “the pro-competitive results
of Apple's conduct makes its vertical dealing categorically reasonable.”151

Even if Apple’s iBookstore contracts were a necessary condition for its entry, if the
contracts did involve “orchestration” of a horizontal conspiracy, why would Apple’s actions be
inherently procompetitive. Although Apple’s entry decreased retail concentration, competition is
not defined in antitrust law in terms of structural measures of concentration. Even though
increased consumer choice may be considered a procompetitive benefit, why would entry under
these circumstances be “categorically” procompetitive? Presumably, some sort of trade-off
calculation would have to be made between higher e-book prices and decreased retailer
concentration. Judge Livingston, who authored the majority opinion, correctly rejects the
dissent’s analysis, noting that antitrust law does not permit Apple to create a Publisher conspiracy
because doing so avoids what would otherwise be a retail monopoly, noting that “the Sherman
Act does not authorize horizontal price conspiracies as a form of marketplace vigilantism to
eliminate perceived ‘ruinous competition’ or other ‘competitive evils.’”152

149
791 F. 3d at 297, 322.
150
791 F. 3d at 343.
151
791 F. 3d at 348, 350-51. Apple "had decided that it would not open the iBookstore if it could not make
money on the store and compete effectively with Amazon." 791 F. 3d at 302, citing 952 F. Supp. 2d at
656.
152
791 F. 3d at 332. The majority opinion only affirmed with regard to the illegality of Apple’s actions
under a per se standard. This statement is made by Judge Livingston in her separate affirmation under a
“quick look” rule of reason analysis, which the other judges did not join.

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 If Amazon were underpricing e-books in an attempt to obtain a retail monopoly and then
raise e-book prices to a monopoly level, Amazon’s conduct could be handled by Section 2
predatory pricing complaint brought by either the Publishers or DOJ.153 Predatory pricing,
however, is not a tactic Amazon has generally used in the past; Amazon commonly uses its
bargaining power to negotiate low wholesale prices and then passes some of the gain on to
consumers in low retail prices.154 This is actually what the Publishers were realistically concerned
about. Given the extremely low marginal costs of e-books, there was a substantial risk that
Amazon would be able to use its dominant position to negotiate substantially lower wholesale
prices for e-books.155

If Apple’s contracts are not subject to a per se standard, does this mean that rule of reason
analysis should estimate the effects of lower wholesale prices on long-run consumer welfare
through a decrease in the number and variety of books and then trade-off such effects with higher
short-run e-book retail prices? No, the measurement of long-term effects on the supply of new
products, that is, on innovation should not be required. Antitrust law does not involve this type
micro-regulatory process where economists determine what maximizes the present discounted
value of consumer welfare and where Judges become economic planners. However, this does not
mean that competition should be measured entirely by price. Rather than thinking of antitrust
rule of reason as the maximization of consumer welfare, or of total welfare, this case highlights
that antitrust should involve preservation of the competitive process.156

Defining what is meant by the competitive process often may be difficult, but what
should it specifically mean in this context may not be that difficult. First of all, it should be
recognized that Apple’s contract terms, negotiated with the Publishers as a condition for its entry,
were all in its individual economic interests absent their facilitation of a Publisher conspiracy.
Specifically, as described in detail above, the Apple-Publisher agency and MFN contract terms
served to protect Apple against Amazon’s continued below cost pricing and the maximum price
schedule served to protect Apple against the Publisher’s exercise of its continued collusive
pricing. These contract terms, along with the guaranteed 30 percent margin, should be considered
Publisher payment to Apple for its entry.

153
A predatory pricing claim would unlikely to be successful because Amazon was not pricing most e-
books below cost and there was not an obvious “dangerous probability” that Amazon, after driving
rivals out of the market, would be able to recoup losses by raising prices to monopoly levels. Brooke
Grp. Ltd. v. Brown & Williamson Tobacco Corp., 509 U.S. 209, 224 (1993).
154
Supra note 53.
155
Amazon’s negotiation of lower wholesale prices does not involve Amazon control of publisher market
power. Individual Publishers do not have market power; they are just pricing significantly above
marginal cost because they are selling a differentiated product with a low marginal cost so that Amazon
therefore has an opportunity to use its buying power to negotiate significantly lower wholesale prices.
In addition, Amazon is not exercising monopsony power because e-books have non-rising marginal
costs.
156
Gregory J. Werden, Antitrust’s Rule of Reason: Only Competition Matters, 79 ANTITRUST L.J. 713
(2014).

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 The essential question for rule of reason analysis of the competitive process is what
would you want Apple to be required to do consistent with antitrust law? It seems highly unlikely
that Apple would be required under the law to enter e-book retailing without being able to
negotiate contract terms that protected its narrow economic interests and permitted it to negotiate
maximum prices in return for its entry. However, even if you assume, counterfactually, that the
contract terms Apple negotiated in connection with its entry were not necessary for Apple to enter
and that Apple entered without negotiating its contract protections and compensation, the only
difference is that Apple’s entry would have resulted in substantially higher e-book prices.
Specifically, if the iBookstore contracts did not include maximum retail price terms (or any other
contract terms, including the MFN), retail e-book prices would likely have been set by the
Publishers to correspond with their then current $12.99 collusive wholesale price. Therefore, if
the Publishers set e-book retail prices to provide retailers a 20 percent margin, the retail price
would have been greater than $16.00.

The only way e-book prices could have conceivably remained at $9.99 is if Apple did not
enter and consequently the Publishers could not successfully collude. In addition to e-book prices
remaining at $9.99, the result likely would have meant that Amazon would have negotiated
significantly lower wholesale prices, for example, the $7.00 e-book wholesale prices mentioned
by Jobs.157 Independent of any adverse long-run effects of lower wholesale prices, it makes no
sense to claim that Apple not entering should be the relevant competitive benchmark.

If DOJ had challenged only the Publisher conspiracy and not Apple in 2012 and reached
the same Publisher settlements, Amazon would have resumed its price cutting. The court-imposed
settlements prevented the Publishers from placing any limits on retailer discounting, so the
Publishers could not have attempted to negotiate an agency relationship until the regulatory
constraints on the competitive market process imposed by the court as part of the settlements
expired in 2014.158 However, when the settlements expired individually negotiated publisher
agreements resulted in agency agreements.

The district court had staggered the expiration dates of the court-mandated settlement
contracts in 2014 to insure non-collusive post-contract publisher negotiations. Hachette’s contract
was the first to expire in March 2014 and a publicly reported intense negotiation commenced
between Amazon and Hachette regarding the supply of physical as well as e-books. Press reports
indicate that the negotiations concerned “how big a discount Hachette will give the giant online
retailer and how to set prices for e-books.”159 Consistent with the economic pressures present in
2010, Amazon did not wish to give up its ability to freely discount e-books and desired a larger

157
Supra note 81.
158
Supra note 96.
159
Steven Mufson, Amazon Said to Play Hardball in Book Contract Talks with Publishing House
Hachette, Wash. Post, May 16, 2014, available at
https://www.washingtonpost.com/business/economy/amazon-said-to-play-hardball-in-book-contract-
talks-with-publishing-house-hachette/2014/05/16/cdd40854-dc62-11e3-8009-
71de85b9c527_story.html?utm_term=.3dae0a42e471.

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share of rents. Hachette, on the other hand, wished to obtain control over the setting of e-book
retail prices, once again to internalize the effects of e-book prices on sales of physical books to
prevent “cannibalization” and also maximize the share of rents it received on book sales.160

After more than seven months of intensive negotiations, new Amazon-Hachette contract
terms were reached in November 2014.161 Under these new e-book agreements, negotiated under
conditions where there was no claim by Amazon or the antitrust authorities of publisher
collusion, the publishers regained the power to set actual e-book transaction prices, returning the
agreements back to agency relationships.162 The result therefore was a rapid increase in retail e-
book prices in 2015.163 Individual publisher negotiation of e-book agency relationships were
obviously important to the publishers, so that e-book prices would be set to internalize physical
book “cannibalization” effects. This is fully analogous to the contracts individual film
distributors used to set later-run minimum admission prices before Interstate Circuit created a
hub-and-spoke conspiracy that substantially raised later-run prices. In return for accepting agency
Amazon may have received relatively low wholesale prices, but certainly not the $7.00 wholesale
prices the publishers had feared in 2010.

Why Amazon ultimately agreed to accept the agency relationship desired by the
Publishers in 2014 may be because Apple was now firmly established in the market and unlikely
to exit, thereby increasing the bargaining power of each individual Publisher. Or perhaps
Amazon was not as concerned about being able to price below cost because its dominant position
was now clearly established and, as illustrated in Figure 2, by 2014 the e-book market had
stopped growing and in fact had started to decline, perhaps because of the increase in e-book
prices.164 Amazon therefore may have recognized that its position in the e-book retailing market

160
Jeffrey Trachtenberg, Amazon-Hachette Dispute Heats Up, WALL ST. J., May 23, 2014, available at
https://www.wsj.com/articles/amazon-hachette-dispute-heats-up-1400864729. During this negotiation
Amazon placed significant economic pressure on Hachette, no longer allowing its customers to pre-
order forthcoming Hachette titles and holding only minimum physical book inventories of Hachette
titles. This led to many older Hachette titles being listed by Amazon as out of stock with long shipping
times. Id. Amazon had considerable bargaining power because by this time Amazon’s share of physical
and e-book sales had grown to 41% and its share of e-book sales alone was 67%. Jim Milliot, BEA
2014: Can Anyone Compete with Amazon? PublishersWeekly.com, May 28, 2014, at
https://www.publishersweekly.com/pw/by-topic/industry-news/bea/article/62520-bea-2014-can-anyone-
compete-with-amazon.html.
161
Colin Dwyer, Amazon and Hachette Reach a Deal on E-book Pricing, NPR.org, Nov. 13, 2014, at
http://www.npr.org/sections/thetwo-way/2014/11/13/363794096/amazon-and-hachette-reach-a-deal-on-
e-book-pricing. Contracts were reached around the same time with the other publishers. Jeffrey
Trachtenberg, E-Book Sales Fall After New Amazon Contracts, WALL ST. J., Sept. 3, 2015 available at
https://www.wsj.com/article_email/e-book-sales-weaken-amid-higher-prices-1441307826-
lMyQjAxMTE1MzAxNDUwMjQ2Wj.
162
Id.
163
Jeffrey Trachtenberg, E-Book Sales Fall After New Amazon Contracts, WALL ST. J., Sept. 3, 2015
available at https://www.wsj.com/article_email/e-book-sales-weaken-amid-higher-prices-1441307826-
lMyQjAxMTE1MzAxNDUwMjQ2Wj.
164
Id.

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was solidified and it no longer needed to rely on $9.99 below cost pricing to achieve and maintain
dominance.165

Interestingly, agency e-book prices relative to physical book list prices individually
negotiated by each of the publishers after the court-imposed settlement contract terms expired
were set at the same level as the maximum e-book prices in Apple’s 2010 iBookstore contract.
Under the agency contracts the ratio of Amazon e-book prices to physical book list prices for
New York Times Bestseller titles in 2017 was equal to 50.5 percent, almost identical to the
maximum retail prices originally set in the Apple iBookstore contracts.166 This suggests that the
maximum e-book prices Apple negotiated with Publishers in 2010 in return for its entry was
equal to competitive, in the sense of non-collusive, prices.

V. CONCLUSION

This analysis of the Apple e-books case accepts the factual description of events
established at trial. It disagrees with the per se condemnation of Apple based on the court’s
conclusion that the MFN term in the Apple iBookstore contracts forced the Publishers to jointly
demand that Amazon accept agency. This is how the court contractually tied Apple’s contracts to
the horizontal Publisher conspiracy to move Amazon to agency. Instead, it was Apple’s
prospective entry in the face of the Publishers’ windowing programs, collusively introduced
before Apple had even begun its Publisher negotiations, that created the economic motivation for
Amazon to rapidly accept agency and hence the success of the Publisher conspiracy.

Would the court have reached a different conclusion with regard to Apple if it had
recognized these fundamental economic forces at work? Perhaps, but it is certainly not clear.
The most obvious fact is that Apple's entry was associated with Amazon’s termination of below
cost $9.99 pricing and the resultant significant increase in e-book prices. It may seem appropriate
to attribute this in part to Apple because Apple was aware of the Publisher conspiracy and took
advantage of it to negotiate favorable contract terms in return for its entry. But, once again, what
should Apple have done differently? As we have seen, without the favorable contract terms
Apple was able to negotiate in return for its entry, e-book prices would have been higher. Should
Apple have just not entered in order to preserve Amazon’s below cost pricing?

165
In fact, Amazon’s market share continued to grow without below cost pricing, so that by 2017 it was
80%, with Apple’s share at 12%, Barnes & Noble 4% and others 4%. February 2017 Big, Bad, Wide &
International Report: Covering Amazon, Apple, B&N, and Kobo ebook sales in the US, UK, Canada,
Australia, and New Zealand, Authorearnings.com, at http://authorearnings.com/report/february-2017/
(May 17, 2017).
166
New York Times Bestseller’s Lists, April 23 – July 23, 2017; Amazon.com.

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