Raising the price of bestsellers and new releases was necessary to create a competitive e-book market, Apple wrote yesterday in a lengthy rebuttal (PDF) to a judge's ruling that the company led a price-fixing conspiracy.

In a lawsuit filed by the Department of Justice, US District Judge Denise Cote ruled last July that Apple conspired with publishers Penguin, HarperCollins, Hachette, Simon & Schuster, and Macmillan to raise e-book prices above those charged by Amazon. The publishers all settled and agreed to pay $164 million to reimburse consumers, but Apple fought the charges and lost at trial.

Apple appealed to the US Court of Appeals for the Second Circuit last October, and it outlined its arguments yesterday.

Prior to Apple entering the e-book market with the iPad and iBooks Store, there was almost no competition, the company said. Amazon's standard price of $9.99 for bestsellers and other new releases "was below the level that is normally deemed competitive," Apple wrote. "Antitrust laws are intended to foster competition, not keep prices down at any cost," the company also wrote.

Apple worked with publishers to set prices of $12.99 to $14.99, making it profitable enough for Apple to enter the market, and it used Most Favored Nation (MFN) clauses that "guaranteed that e-books in Apple’s store would be sold for the lowest retail price available in the market," Cote wrote. That led publishers to raise prices on Amazon's Kindle store.

The MFN approach "eliminated any risk that Apple would ever have to compete on price when selling e-books, while as a practical matter forcing the Publishers to adopt the agency model across the board," Cote wrote in her ruling. In the agency model, publishers would set the retail price and let Apple become the agent selling the books, taking a 30 percent commission on each sale. This contrasted with Amazon's wholesale model, in which Amazon would purchase e-books and resell them at prices of its choosing.

Apple denied that it led any efforts to fix prices. "The district court’s decision is based on a fundamentally incorrect theory of antitrust liability," Apple wrote. "The court, despite recognizing the lawfulness of Apple’s agency agreements and negotiating tactics, found that Apple, by doing nothing more than hearing out the publishers’ complaints and conveying its openness to pricing above $9.99, joined an ongoing conspiracy in its first exploratory meetings in mid-December 2009. Apple had no knowledge that the publishers were engaged in a conspiracy in December 2009 or at any other point. The district court’s own findings show that Apple offered a retail business model to the publishers that was in Apple’s independent business interests and was attractive to the publishers, who were frustrated with Amazon. And it was not unlawful for Apple to take advantage of retail market discord by using lawful agency agreements to enter the market and compete with Amazon."

Loosening Amazon’s grip on the e-book market

Although new release prices went up, Apple wrote that average prices for all types of e-books went down from more than $8 to less than $7 between December 2009 and December 2011. While Cote focused on the prices of new releases from the publishers who were defendants in the case, Apple said the court should instead consider prices across the entire market, including other publishers and non-new releases.

"Apple’s entry brought enhanced competition with Amazon via catalogue expansion, free e-book offerings, and improved e-reader software," Apple wrote. "Before Apple’s entry Amazon was setting 90% of prices for all brands; afterward, while Amazon continued to use the wholesale model for the bulk of its business, there were tens of thousands of new price-setters in the market. The result was that although some prices increased, others decreased, and, across the relevant market, prices on average decreased."

While Amazon sold nearly 90 percent of all e-books in 2009, Apple and Barnes & Noble accounted for 30 to 40 percent of sales by 2011, Apple wrote.

"Prior to Apple’s entry, Amazon was the only dominant price-setter, and Barnes & Noble was facing unsustainable losses; shortly after, there were thousands of publishers establishing prices in competition with each other," Apple wrote. "The average retail price of e-books in the relevant market was lower during the post-agency period than during the pre-agency period. Effective wholesale prices for the major publishers declined as well."

The court also wrongly assumed that Amazon's $9.99 "was the best retail price" and would benefit consumers, Apple argued.

The court "condemned Apple for proposing a business model that it knew would likely raise some prices above what the court called 'the $9.99 industry norm,' and equated a departure from that 'norm' with 'eliminat[ing] retail price competition," Apple wrote. "The antitrust laws do not, however, favor 'better' over 'worse' retail prices or enshrine price “norms.”

Two months after ruling against Apple, Cote announced penalties for the company. The penalties prohibited Apple from enforcing MFN clauses in contracts with e-book publishers or entering any agreement "that restricts, limits, or impedes Apple's ability to set, alter, or reduce the Retail Price of any E-book" or offer discounts and promotions. The ruling also instructed Apple not to tell e-book publishers anything about negotiations with other publishers, to reduce the possibility of a new conspiracy.

Cote also ordered Apple to "apply the same terms and conditions to the sale or distribution of an e-book app through Apple's App Store as Apple applies to all other apps sold or distributed through Apple's App Store."

Apple yesterday asked the appeals court to vacate the injunction. "[T]he injunction is unduly punitive, overbroad, and unconstitutional and should be vacated on its own terms," Apple wrote. "The injunction required Apple to modify its agreements with the publisher defendants even though those agreements had already been renegotiated and were subject to consent decrees as part of the publishers’ settlements. And it regulates Apple’s App Store, which is unrelated to either the conduct at issue or the proof at trial."

Apple also objected to a requirement to work with an external compliance monitor. "The monitorship is legally inappropriate here, with respect to 'one of America’s most admired, dynamic, and successful technology companies,'" Apple wrote. "The publishers’ consent decrees did not include a monitor, and the monitorship here smacks as a punishment against Apple for going to trial and appealing, and thus being 'unrepentant.'"