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Tuesday, October 7, 2008

"P & L"

By Richard Curtis

One of the least pleasant duties that agents are obliged to perform is explaining to their clients why their books have flopped. And there is no dearth of reasons: the editor was fired, the company was taken over by a conglomerate, the salesmen didn't understand the book, someone stuck a lousy title on it, they didn't advertise it, they didn't advertise it enough, they underprinted it, they brought it out too soon, they brought it out too late, there was an Act of God, there was an Act of Satan - an agent's files are a veritable Grand Guignol of publishing horror stories.

The one thing it does not always occur to agents to tell their clients, however, is that their books have not really flopped, at least not from the publisher's viewpoint. Maybe your book wasn't a bestseller, but that's not to say your publisher didn't make money on it. Most authors and a great many agents tend to equate the earning-out of an author's advance with the recoupment of a publisher's investment. It's an understandable misconception, for to authors, royalties are profits. If their books start earning profits, they assume the publisher has started making profits too; and conversely, they figure, if the advance doesn't earn out, the publisher must have lost money on the book.

Seldom is this equation true. Although royalties are a gauge of success or failure for an author, publishers use an entirely different system to determine how well or badly a book has done for them. In that system, authors' royalties are only one element of the profit picture, and it is entirely possible for a publisher to make a big profit on a book whose advance has not earned out, or to lose money on a book whose advance has earned out.

Because I have never worked for a traditional publishing company, it took me a long time to grasp this distinction. But because it's a terribly important one, explaining as it does why publishers often seem to be doing everything they can to lose money on their books, I've tried to educate myself in basic publishing economics and would like to share my findings with you.

In most cases today, publishers prepare profit-and-loss projections for books that they are considering acquiring. The calculations differ widely from company to company, from type of book to type of book, and even from book to book. The database for an illustrated book is quite different from that of a hardcover novel, which in turn differs from a paperback novel; and even within the genus paperback novel are such species as lead novel, category novel, movie tie-in, etc.

Many staff members may be involved in producing these estimates: editors, production people, sales managers, sub-rights directors, advertising and promotion personnel, the company's treasurer, the art director, and so on. Each tries to factor into the profit-and-loss worksheet the best-case and worst-case numbers that will help their firm formulate as accurate a picture of a book's potential as is possible in our unpredictable business. The worksheets are really a tool, and their data may be manipulated and negotiated so that costs trimmed from one area may be applied to another in the hopes that enthusiasm for the book will not be dampened by discouraging figures from one or two precincts. If, however, all or most of the committee members come in with poor profit projections, it's unlikely that hearts will prevail over heads when the votes are cast at the editorial meeting.

I may be romanticizing the past, but these complex formulations don't seem to be much of an improvement over the intuitive judgments reached by the founders of such illustrious houses as Knopf, Harper, Scribner, Random House, and Simon & Schuster. Be that as it may, publishing decisions today are reached by computers, consensus, and committee, and we may consider ourselves lucky if someone remembers the love factor when the bottom line is being examined.
Love aside, what are the elements of a profit-and-loss projection? What kind of "P & L" figures are resting at your editor's elbow when he phones you or your agent to commence negotiations on your book?

The key figure on the positive side of the ledger is revenue to be realized from sales of the book. You get this by multiplying the number of copies sold by the wholesale price of the book, that is, the actual price received by your publisher after he discounts it to the book trade. If the list price of the book is $20, and the average discount offered by your publisher to the stores is 40 percent, the actual price received by your publisher will be $12 per copy.

"Copies sold," remember, means net sales after returns, for in the publishing business books are sold on a returnable basis. So, if a publisher prints and distributes 25,000 copies of a book but 30 percent of them are returned, the actual number of copies sold (what publishers call the "sell-through") will be 17,500. Multiply that 17,500 by the $12 per copy that your publisher is getting and you get the publisher's gross sale. In this example, that comes to $210,000.

To this figure is added the publisher's anticipated share of subsidiary revenue: book club, paperback reprint, first or second serial, foreign rights, etc. Depending on how liberal or conservative the firm's fiscal policy is, these numbers range from wishful thinking on the one hand to zero if the publisher doesn't want to count on income that is not absolutely guaranteed at the time the book is acquired. More and more publishers tend to take a highly conservative position in prognosticating sub-rights income. The most important reason is that agents have grown tougher over the last few decades about permitting publishers to participate in that income. So, to play it safe, some publishers leave subsidiary revenue off the ledger sheets when preparing their projections.

Another source of revenue for publishers is the sale of remainders. If the undistributed or returned copies of a book, such as the 7,500 copies in the above example, are sold to remainder jobbers they will bring in a few thousand dollars for the publishers, and that goes into the plus side of the P & L.

Now for the minus side. From the income generated by book sales, remainders and sub-rights income, your publisher subtracts its costs. These fall into several categories that are reckoned by formulas drawn from company and industry experience and the counsel of the firm's financial officers and accountants. One category is plant costs: typesetting, color separations for the cover or for color illustrations, preparation of halftones for black-and-white illustrations, and all other procedures up to the actual printing of the book.

The second category is manufacturing costs, lumped together as "PPB": printing, paper, and binding.

A third is overhead. Included here are rent or mortgage payments on the publisher's offices, electricity, salaries, telephone, office supplies, the cost of money, warehousing, sales commissions, insurance, and the many other expenses required to run a business. Because each publisher includes or excludes different items when calculating overhead, the fluctuations in overhead allocations differ widely from one publisher to the next. A safe guess is that most houses allocate between 30 and 40 percent of gross sales.

The next category is author's royalty. This figure is fixed by contract. Royalties represent a big chunk of a publisher's costs. An 8 percent royalty on a $6.95 paperback comes to about 56 cents. But remember that the publisher sells that book to the trade at a discount. If the discount is 50 percent, or $3.50 a copy, the royalty will absorb about 16 percent of that revenue.

Then there are some miscellaneous costs such as outside design, cover art, copyediting, indexing, illustrations, and the cost of free and review copies.

And, finally, there is the cost of advertising and promotion.

As I mentioned, accounting practices vary widely when it comes to allocating costs to specific books on a list. Should the publisher allocate the same share of his total costs to every book regardless of its importance, profitability, and actual share of the company's investment? Or should big books carry a proportionately larger share of the cost load than routine ones?
Because publishers don't agree on the fairest way to deal with the question, their allocation formulas vary widely, and a good example of this is advertising and promotion. Some publishers simply average out the cost of advertising and promotion for all books on their list and add some percentage points to the overhead charge on each book. For other publishers, it makes no sense to allocate to a routine book a percentage of the enormous cost of pushing a bestseller. These publishers therefore "break out" the advertising and promotional cost of each book and show it on their profit-and-loss worksheets as a separate item from overhead.

Okay, we're ready to do some calculations. Take the gross sales of your book, add remainder income and anticipated subsidiary rights revenue, and you have an income projection. From this you deduct your plant and manufacturing costs, overhead, royalties, advertising and promotion, and miscellaneous costs. What you end up with is projected profit or loss.

The final figures are educated approximations, of course, and don't take into account many factors on both the income and outgo sides of the ledgers, such as corporate taxes, inflation, damaged copies, losses due to strikes, fire, and flood, interest earned on royalties banked between semiannual royalty periods and on reserves against returns, and much, much more. Still, on the average, paperback publishers earn something like 15 to 20 percent pretax profit on routine books. And, because unit costs go down and sales volume goes up on bestsellers, the profit on major books is even higher.

What do the numbers tell us? For some of us, they only bear out our worst paranoid fantasies that publishers are battening on the lifeblood of authors. These fantasies are fueled by the fact that publishers do not share their profit-and-loss projections with authors. Some conceal vital sales information when reporting royalties. And, because many publishers are owned by larger corporate entities such as entertainment complexes, they are not required to disclose financial information to stockholders or the public. One of my western-writer clients says writers are like mushrooms: "They're fed a lot of horseshit and kept in the dark."

Others among us may realize that publishing is a tough, unpredictable, and treacherous business, and perhaps the people who play for such high stakes deserve a handsome profit for the risks they take and the capital they invest (though it must be said in all fairness that 15 or 20 percent is not exactly a windfall profit). I don't know the answer. But I can safely say that the profit-and-loss worksheets of most authors I know are a lot more depressing than anything I've seen from publishers.


This article was originally written for Locus, The Newspaper of the Science Fiction Field. It's reprinted in Mastering the Business of Writing. Copyright © 1990 by Richard Curtis. All Rights Reserved.

1 comment:

John said...

Mr. Curtis,

Thank you for the incredibly thorough explanation of the finances of publishing. I have never heard the business end described so clearly.