Business models and secret sauces

As mentioned in the last post, today's New York Times has an article of the good people at Talx. One thing that caught my eye was this account of the company's rise:

Talx entered the field brashly, buying the industry’s two largest companies on a single day in 2002. In the next few years, it bought five more. Until then, Talx had never handled an unemployment claim, and skeptics wondered how well it could blend seven companies in an unfamiliar industry.

The Federal Trade Commission argued in a 2008 antitrust complaint that the acquisitions, which cost $230 million, had allowed Talx to “raise prices unilaterally” and “decrease the quality of services.” Talx modified some contracts to settle the case, but admitted no legal violations.

Financially, the gamble paid off: Talx was acquired three years ago by Equifax, the credit-rating giant, for $1.4 billion. But work once done locally became centralized — at a loss, critics say, of responsiveness and expertise.

If this article had been written in 2007*, I suspect the proportions would have been reversed, with two or three paragraphs on complaints and ethical lapses and the rest focused on the company's rise to dominance. Shortly before the collapse, even sober institutions like the New York Times were more inclined to focus on success and less inclined to pay attention to the man behind the curtain.

These success stories were filled with wide-eyed descriptions of innovative business plans and nimble management. There were often vague, portentous references to sophisticated analytic tools and powerful proprietary models and algorithms that could only be appreciated by a handful of Nobel Prize winners.

But when you looked closely at these companies or, better yet, sat down and talked with the people who actually came up with this stuff, you usually found yourself in the position of the trainees at a fast food restaurant in Fast Times at Ridgemont High who learned that the mysterious secret sauces of two rival chains were, respectively, thousand island dressing and ketchup & mayonnaise.

On close inspection, most innovations and business models, including the heavily hyped ones, turn out to be mundane and unimpressive: switched to cheaper suppliers, dropped expensive features or services, introduced some basic statistical tool like logistic regression, marketed a high-fee product to an underserved segment. More than a few are based on creative accounting or a cozy relationship with various regulatory agencies.

Talx' strategy was based on two simple components:

1. Most big companies will be reluctant to work with a small companies so if you buy up most of your competition you can set prices like a monopoly;

2. The penalties for breaking the law are small and the penalties for bending it are negligible relative to the potential benefits.

Neither idea was profound. Neither required a team of Ph.D.s for implementation. They were, however, wildly successful for Talx, just as they have been for any number of companies with much better P.R. departments.



* Very few were. The company doesn't even have a Wikipedia page.

Sleaziness as a business model -- first of two posts on Talx

Contesting Jobless Claims Becomes a Boom Industry

By JASON DePARLE

WASHINGTON — With a client list that reads like a roster of Fortune 500 firms, a little-known company with an odd name, the Talx Corporation, has come to dominate a thriving industry: helping employers process — and fight — unemployment claims.

Talx, which emerged from obscurity over the last eight years, says it handles more than 30 percent of the nation’s requests for jobless benefits. Pledging to save employers money in part by contesting claims, Talx helps them decide which applications to resist and how to mount effective appeals.

The work has made Talx a boom business in a bust economy, but critics say the company has undermined a crucial safety net. Officials in a number of states have called Talx a chronic source of error and delay. Advocates for the unemployed say the company seeks to keep jobless workers from collecting benefits.

“Talx often files appeals regardless of merits,” said Jonathan P. Baird, a lawyer at New Hampshire Legal Assistance. “It’s sort of a war of attrition. If you appeal a certain percentage of cases, there are going to be those workers who give up.”

When fewer former workers get aid, a company pays lower unemployment taxes.

Wisconsin and Iowa passed laws to curtail procedural abuses that officials said were common in cases handled by Talx. Connecticut fined Talx (pronounced talks) and demanded an end to baseless appeals. New York, without naming Talx, instructed the Labor Department staff to side with workers in cases that simply pit their word against those of agents for employers.

...

Advocates for the unemployed cite cases like that of Gerald Grenier, 47, who spent four years as a night janitor at a New Hampshire Wal-Mart and was fired for pocketing several dollars in coins from a vending machine. Mr. Grenier, who is mentally disabled, told Wal-Mart he forgot to turn in the change. Talx, representing Wal-Mart, accused him of misconduct and fought his unemployment claim.

After Mr. Grenier waited three months for a hearing, Wal-Mart did not appear. A Talx agent joined by phone, then seemingly hung up as Mr. Grenier testified. The hearing officer redialed and left an unanswered message on the agent’s voice mail. The officer called Mr. Grenier “completely credible” and granted him benefits.

Talx appealed, claiming that the officer had denied the agent’s request to let Wal-Mart testify by phone. (A recording of the hearing contains no such request.) Mr. Grenier won the appeal, but by then he had lost his apartment and moved in with his sister.

“That was a nightmare,” he said.

In the case of Dina Griess, Talx and its client, the subprime lender Countrywide Financial, were involved in what a judge deemed an outright fraud. Ms. Griess worked for Countrywide outside Boston and quit as it collapsed in 2008, saying she was distressed by internal investigations of lending practices. People can receive unemployment benefits if they quit for “good cause,” like unsafe working conditions, but Talx argued that Ms. Griess’s reason did not meet the legal standard.

She won benefits at a hearing that Talx and Countrywide skipped, but Talx successfully appealed, saying the Countrywide witness had missed the hearing because of a family death. Later asked under oath if that was true, the witness said, “No, it’s not.”

A Massachusetts judge reviewing the case, Robert A. Cornetta of Salem District Court, denounced the deceit and gave Ms. Griess benefits. “The court will not be party to a fraud,” he said.

[click here for a history of complaints -- Mark]

Statistics is common sense raised to a science

And Nate Silver is a very good statistician.

From Five Thirty-eight:

That de Rugy has testified before Congress on the basis of her evidence, and never paused to consider why the top five congressional districts on her list overlap with Sacramento, Albany, Austin, Tallahassee and Harrisburg, is mind-boggling. The presence of a state capital is the overwhelmingly dominant factor it predicting the dispensation of stimulus funds. This could have been discerned in literally five minutes if she had bothered to look at the apparent outliers in her dataset and considered whether they had anything in common — a practice that should be among the first things that any researcher does when evaluating any dataset.

Chait has some nice comments on the exchange here.

More on social norming

Rajiv Sethi picks up the ball from Freakonomics and runs with it:

This question lies at the heart of the lifelong work of Elinor Ostrom, co-recipient of the 2009 Nobel Memorial Prize in Economics, whose contributions I discussed in in a couple of earlier posts. Using an eclectic mix of methodological approaches, including case studies, laboratory experiments, and game theoretic models, Ostrom managed to overturn conventional wisdom regarding the "tragedy of the commons." She demonstrated the possibility of self-governance when a well-defined group of users with collective rights to an economically valuable resource were at liberty to develop their own rules, and to ostracize, expel, or otherwise sanction each other for violations.

While Ostrom's focus was on natural resources such as forests, fisheries, and pastures, her basic insights have more general relevance. For instance, institutions of self-governance are critically important in the case of urban communities that lie largely outside the reach of the formal legal system in the United States. There are parts of the country where residents do not have recourse to the courts to adjudicate contractual and other disputes. Given the very high costs of violence as an enforcement mechanism, norms backed by limited community sanctions can therefore play a crucial role.

In keeping with the season

Here's an April Fool's Day piece on joke-stealing, social norms and intellectual property (via Mark Thoma):

...Comedians have rules of their own about joke-stealing. And they impose their own punishments on thieves... Why do comedians do this? In part, because they live in a world where intellectual property law – in particular, copyright – does not help them much when a rival comedian steals a joke... lawsuits are simply too expensive and uncertain to work as an effective response... Today’s comics are intent on enforcing ownership rights. Yet they do so via social norms – informal but nonetheless powerful rules enforced by comedians on their peers... Comedians maintain a small list of commandments that every comic must follow – or risk being ostracized, boycotted, and sometimes worse. These norms track copyright law at times... More often than not, however, the norms deviate from copyright: for example, copyright protects expression but not ideas, but comedians’ norms protect expression as well as ideas...

I might quibble with the definition of social norms as rules enforced by fear of reprisal, but that's a minor point and, given my previous comments about Freakonomics, I have to give credit where credit is due.

Two thoughts on April Fool's Day blogging

1. I'd better be careful linking to any too-good-to-be-true stories.

2. Wait a minute! This is the blogosphere; how much less reliable can it get?

Skipping the math

From Felix Salmon:

Justin Fox sums up the overwhelming majority of economics papers in one sentence:

The basic form of an academic economics paper is a couple of comprehensible paragraphs at the beginning and a couple of comprehensible paragraphs at the end, with a bunch of really-hard-to-follow math or statistical analysis in the middle.

What he doesn’t (need to) mention is the way that journalists, myself included, read economics papers: we generally have no ability or inclination to try to understand the details of the formulae and regression analyses, so we confine ourselves to reading the stuff in English, and work on the general assumption that the mathematics is reasonably solid.

The problem of course is that we really have no basis for making that general assumption: we make it not because we think it’s particularly justified or justifiable, but because we don’t have any choice. What’s more, because we’re always interested in what’s new, and because we have easy access to the internet and little access to expensive journals, we gravitate to preprints at sites like SSRN, rather than papers which have gone through peer review.

Blockbusters, Franchises and Apostrophes

More on the economics of genre fiction

The story so far: last week Andrew Gelman had a post on a book that discussed the dominance of best seller lists and suggested that it was due to their increased quality and respectability. I argued that the quality and respectability had if anything decreased (here), posted some background information (here and here) then discussed how the economics of publishing from the late Nineteenth Century through the Post-War era had influenced genre fiction. The following closes with a look at where we are now and how the current state of the market determines what we're seeing at the bookstore.

As the market shrank in the last part of the Twentieth Century, the pay scale shifted to the feast and (mostly) famine distribution of today. (The century also saw a similar shift for musicians, artists and actors.) Non-paying outlets sprang up. Fan fiction emerged (non-licensed use of characters had, of course, been around for years -- Tiajuana bibles being a classic example -- but fan fiction was written for the author's enjoyment without any real expectation of payment). These changes are generally blamed on the internet but the conventional wisdom is at least a couple of decades off. All of these trends were well established by the Seventies.

With the loss of the short story market and the consolidation of publishing, the economics of writing on spec became brutal. Writing and trying to sell a novel represents a tremendous investment of time and energy with little hope of success. By comparison writing on spec in the Forties meant coming up with twelve to fifteen pages then sending them off to twenty or so potential markets. The best of these markets paid good money; the worst were hungry for anything publishable.

The shift from short story to novel also meant greater risk for the publisher (and, though we don't normally think of it in these terms, for the reader who also invested money and time). A back-pages story that most readers skipped over might hurt the sales and reputation of a magazine slightly but as long as the featured stories were strong, the effect would be negligible. Novels though are free-standing and the novel gets that gets skipped over is the novel that goes unsold.

When Gold Medal signed John. D. MacDonald they knew were getting a skilled, prolific writer with a track record artistically and commercially successful short fiction. The same could be said about the signing of Donald Westlake, Lawrence Block, Joe Gores and many others. Publishing these first time authors was a remarkably low risk proposition.

Unfortunately for publishers today, there are no potential first time authors with those resumes. Publishers now have to roll the dice on inexperienced writers of unknown talent and productivity. In response to that change, they have taken various steps to mitigate the risk.

One response was the rise of the marketable blockbuster. The earliest example I can think of is the book Lace by Shirley Conran. If memory serves, Lace got a great deal of attention in the publishing world for Conran's huge advance, her lack of fiction-writing experience, and the role marketing played in the process. The general feeling was that the tagline ("Which one of you bitches is my mother? ") came first while the book itself was merely an afterthought.

More recently we have Dexter, a marketer's dream ("He's a serial killer who kills serial killers... It's torture porn you can feel good about!"). The author had a few books in his resume but nothing distinguished. The most notable was probably a collaboration with Star Trek actor Michael Dorn. The first book in the series, Darkly Dreaming Dexter was so poorly constructed that all of the principals had to act completely out of character to resolve the plot (tip for new authors: when a character casually overlooks her own attempted vivisection, it's time for a rewrite*).

The problems with the quality of the novel had no apparent effect on sales, nor did it prevent the character from appearing in a successful series of sequels and being picked up by Showtime (The TV show was handled by far more experienced writers who managed to seal up almost all of the plot holes).

The point here is not that Darkly Dreaming Dexter was a bad book or that publishing standards have declined. The point is that the economics have changed. Experienced fiction writers are more rare. Marketable concepts and franchises are more valuable, as is synergy with other media. The markets are smaller. There are fewer players. And much of the audience has a troublesome form of brand loyalty.

Normally of course brand loyalty is a plus, but books are an unusual case. If you convince a Coke drinker to also to drink Sprite you probably won't increase his overall soda consumption; you'll just have cannibalization. But readers who stick exclusively with one writer are severely underconsuming. Convince James Patterson readers to start reading Dean Koontz and you could double overall sales.

When most readers got their fiction either through magazines or by leafing through paperback racks, it was easy to introduce them to new writers. Now the situation is more difficult. One creative solution has been apostrophe series such as Tom Clancy's Op Center. Other people are credited with actually writing the books but the name above the title is there for branding purposes.

Which all leads us back to the original question: Why did thrillers become so dominant?

They tend to be easily marketable.

They are compatible with franchises.

They lend themselves to adaptation as big budget action movies.

Their somewhat impersonal style makes them suitable for ghosting or apostrophe branding.

They are, in short, they are what the market is looking for. As for me, I'm looking for the next reprint from Hard Case, but I might borrow the latest Turow after you're done with it.


* "Is that a spoiler?"
"No, sir. It was spoiled when I got here."

p.s. I was going to tie in with a branding situation Slim Jim snacks faced a few years ago but this post is running a bit long. Maybe I'll get back to it later.

Vanishing media

Brad Plummer shares the following examples of how ephemeral some of our art and images are:

Actually, though, we don't even need to consider the apocalypse. The fragile state of digital storage is already causing trouble. NASA has a few people racing to recover old images from its Lunar Orbiter missions in the 1960s, which are currently stored on magnetic tapes and may not be long for this world. And the National Archives is struggling to preserve its digital records, which tend to rot faster than paper records.

A related tale of disintegrating media comes from Larry Lessig's Free Culture—though this one has a twist. There are a lot of films that were made after 1923 that have no commercial value anymore. They never made it to video or DVD; the reels are just collecting dust in vaults somewhere. In theory, it shouldn’t be too hard to digitize these films and put them in an archive. But alas, thanks to the Sonny Bono Copyright Term Extension Act that was passed by Congress in 1998, any film made after 1923 won't enter the public domain until at least 2019.

That means these films are still under copyright, and anyone who wanted to restore them would have to track down the copyright-holders (not always easy to do) and probably hire a lawyer. And who's going to go through that much trouble just to restore some obscure movie that only a few people might ever watch? Yet a lot of these older movies were produced on nitrate-based stock, and they'll have dissolved by the time 2019 rolls around, leaving nothing behind but canisters of dust. It's sort of tragic.

It's also a perversion of the original intent of copyright laws. Copyrights like patents are government imposed monopolies that dampen commerce and development of new works. Intellectual property rights were seen, in the words of Jefferson, as a necessary evil to balance the interests of the creators with those of the general public by granting temporary these monopolies.

The suggestion that extending these monopolies for almost a century is meant to protect the interests of creators is absurd. The vast majority of these rights are held by companies like Disney or Time-Warner, companies that frequently screwed over the original creators and are now spending more money lobbying to keep the rights than they did to actually acquire them. This is particularly egregious for Disney, a company founded on adaptations of public domain works.

Another outstanding (and tragic) economics story from This American Life

"A car plant in Fremont California that might have saved the U.S. car industry. In 1984, General Motors and Toyota opened NUMMI as a joint venture. Toyota showed GM the secrets of its production system: how it made cars of much higher quality and much lower cost than GM achieved. Frank Langfitt explains why GM didn't learn the lessons – until it was too late."

Currently available for a free download.

Let's talk about sex

More cool stuff from the New York Times' best science writer (not that the others have set the bar that high)

The real thing

Jaime Escalante dies at 79; math teacher who challenged East L.A. students to 'Stand and Deliver'

Jaime Escalante, the charismatic former East Los Angeles high school teacher who taught the nation that inner-city students could master subjects as demanding as calculus, died Tuesday. He was 79.

Today's pointer

I am on the road (trasporting 3 pets solo -- don't ask) so blooging is very light.

But John D Cook brought up an interesting point today that should not be missed. It's a grey area but it is worth being very careful about just how much effort there is involved trying to improve medical care and how many barriers need to be crossed.

It's a difficult balance!

Hey, I used to work there

The Decline of the Middle (Creative) Class

I suggested in an earlier post that the rise to dominance of the thriller had not been accompanied by a rise in quality and reputation. In this and the next post, I'll try to put some foundations under this claim.

Popular art is driven by markets and shifts in popular art can always be traced back, at least partly, to economic, social and technological developments as well as changes in popular taste. The emergence of genre fiction followed the rise of the popular magazine (check here for more). Jazz hit its stride as the population started moving to cities. Talking pictures replaced silents when the technology made them possible.

Crime fiction, like science fiction first appeared in response to demand from general interest magazines like the Strand then moved into genre specific magazines like Black Mask and a few years later, cheap paperbacks. The demand for short stories was so great that even a successful author like Fitzgerald saw them as a lucrative alternative to novels. There was money to be made and that money brought in a lot of new writers.

It seems strange to say it now but for much of the Twentieth Century, it was possible to make a middle class living as a writer of short fiction. It wasn't easy; you had to write well and type fast enough to melt the keys but a surprisingly large number of people managed to do it.

Nor were writers the only example of the new creative middle class. According to Rosy McHargue (reported by music historian Brad Kay) in 1925 there were two hundred thousand professional musicians in the United States. Some were just scraping by, but many were making a good living. (keep in mind that many restaurants, most clubs and all theaters had at least one musician on the payroll.) Likewise, the large number of newspapers and independent publishers meant lots of work for graphic artists.

I don't want to wax too nostalgic for this era. Sturgeon's Law held firmly in place: 95% of what was published was crap. But it was the market for crap that made the system work. It provided the freelance equivalent of paid training -- writers could start at least partially supporting themselves while learning their craft, and it mitigated some of the risk of going into the profession -- even if you turned out not to be good enough you could still manage food and shelter while you were failing.

It was also a remarkably graduated system, one that rewarded quality while making room for the aforementioned crap. The better the stories the better the market and the higher the acceptance rate. In 1935, Robert E. Howard made over $2,000 strictly through magazine sales. Later, as the paperback market grew, writers at the very top like Ray Bradbury or John O'Hara would also see their stories collected in book form.

Starting with Gold Medal Books, paperback originals became a force in 1950. This did cut into the magazine market and hastened the demise of the pulps but it made it easier than ever before to become a novelist. It was more difficult (though still possible) to make a living simply by selling short stories, but easier to make the transition to longer and more lucrative works.

It was, in short, a beautifully functioning market with an almost ideal compensation system for a freelance based industry. It produced some exceptionally high quality products that have generated billions of dollars and continue to generate them in resales and adaptations (not to mention imitations and unlicensed remakes). This includes pretty much every piece of genre fiction you can think written before 1970.

The foundation of that system, the short story submarket, is essentially dead and the economics and business models of the rest of the publishing industry has changed radically leading to the rise of marketing, the blockbuster mentality and what I like to call the Slim Jim conundrum.

Tune in next time.