For more than a decade, Disney and Pixar have enjoyed a very profitable and productive partnership. Disney provided rich resources and entertainment business insight, including marketing and distribution acumen, which allowed Pixar to grow far beyond a software producer to the leader in computer-generated animated movies. Conversely, Pixar revitalized creativity into Disney’s output and delivered a stream of successful movies and characters. However, significant disputes formed between the partners in spite of production successes, and the leverage power surrounding negotiations between the companies shifted.
Pixar demanded a larger stake in the profits and ownership of the movie rights. Disney wanted to maintain its exclusivity rights and position as a final decision-making authority. The inability to reach an agreement left the two to make decisions that could alter the course of each company’s longevity. Pixar was left to decide whether it should proceed with the re-negotiation process and remain Disney’s partner, or establish a new distribution deal with another studio and introduce a new set of transaction costs.
Disney could potentially sever the relationship, spend increasing time and resources on re-negotiation, or explore the acquisition of Pixar. Walt Disney Feature Animation began in 1934 with the production of Snow White and the Seven Dwarfs. The movie quickly became a trademark of Disney’s strategy to create major motion picture films that would fuel the production and sales of character and story inspired memorabilia. After the death of Walt Disney in 1966 the animation division struggled, but was revitalized under the new leadership of CEO Michael Eisner and chairman Jeffrey Katzenberg in 1984.
During this time Disney produced hit films such as The Little Mermaid and Beauty and the Beast. Katzenberg left Disney in 1994, and after the production of The Lion King, every Disney-produced film yielded a substandard performance. Joe Roth stepped in as chairman following Katzenberg’s departure and focused on the product of live action films for the next six years. In 2000, Roth left and Peter Schneider, former head of Disney Animation took over and focused on delivering emotional, thematic stories.
In the years to come, Disney would test production of 2-D and 3-D films under various cost-cutting strategies until finally setting up its own computer-generated animation department in 2003, in which it relied on characters and revenue produced by Pixar. (Exhibit A) Pixar, then named Lucasfilm, was formed by Edwin Catmull and Alexander Schure in the early 70’s and grew as producer George Lucas and animator John Lasseter joined in 1979 and 1984, respectively. In 1986, Steve Jobs bought Pixar.
He intended for the company to operate as a hardware and software producer of three proprietary technologies: RenderMan, Marionette and Ringmaster. Pixar sold RenderMan to Disney, Lucasfilm, Sony and Dreamworks. However, Jobs, Catmull and Lasseter desired to make an animated feature film. After many of the short film developed by Pixar began winning academy awards, Steve Jobs was convinced that the company should produce animated movies. In 1991, Lasseter pitched an hour-long, made-for-TV movie to Disney’s Katzenberg, who returned with an offer to produce a full-length movie. Exhibit B) In 1991, the Disney-Pixar partnership began with a Feature Film Agreement to produce the first of three full-length 3D CG animated movies. Disney would own all movie rights and control film release dates, but would fully fund all production costs. Pixar would receive a participation fee and fund production cost overages. The deal resulted in the production of Toy Story in 1995, and while the movie garnered more than $350, Pixar only earned $56 million in revenue through 2008. (Exhibit C) Just after Pixar’s IPO in 1997, Disney purchased 5% of the company and signed a ten year deal extension.
Under this Co-Production agreement, Pixar would exclusively produce 5 original, full-length animated films for Disney and both would equally share production costs. Disney would fund all marketing expenditures and Pixar would receive no revenue share of Disney’s theme parks, cruise ships or other location-based entertainment. Pixar would earn up to net 40% of total movie profits, and Disney would receive at least 60% with exclusive distribution and exploitation rights to all films produced under the agreement. Exhibit D) As the relationship with Pixar progressed, Disney began to evaluate an acquisition decision, but needed to consider what this meant for its corporate culture. (Exhibit E) At the time, Disney was losing creative value and emerged as a bureaucratic company in which executives made creative decisions. In contrast, Pixar approached creative development from a bottom-to-top development perspective. Although the companies had many differences, each proved that they could produce box office hits. However, Disney and Pixar had concerns about the merger.
For Disney, adding an executive like Steve Jobs to its board could result in personality conflicts and hinder productivity. Disney was also concerned about Pixar’s approach to creative development, as it didn’t align with its traditional perspective on character development. Pixar was concerned that it would relinquish creative control to a top-heavy company, which could potentially alter the corporate culture, however in exchange for a large source of capital. As well, Pixar was apprehensive about losing final say on creative development.
Nonetheless, most key stakeholders felt an acquisition would be worth the risk. (Exhibits F, G) Historically, the partnership between Disney and Pixar was governed by contracts and agreements. A known disadvantage of contracts and agreements is that they are costly to write and most include attorney fees, which result in transactions costs. At the start of the relationship, Disney and Pixar worked together harmoniously and contract negotiations were executed smoothly. However, the relationship became crippling, resulting in longer negotiation processes, and a significant increase in transaction costs.
Even after the long negotiating process, Disney and Pixar could not reach an agreement on contract renewal. In 2004, Pixar announced it would end talks with Disney and look for another partner. All transaction costs associated with negotiations would be a complete waste of capital and time if the acquisition were to fail. Despite disagreements at the time, Disney was an industry veteran of almost 100 years and learned the hardships of negotiating contracts, including the management of associated transaction costs.
Such was the reason for Disney’s hotel, cruise ship, and an animated business ownership, as well as merchandise sales. Disney was well versed in the practice of vertical integration and realized that acquisition would be the best option. Based on the historical partnership between Disney and Pixar, and the analysis of pros and cons of alternatives, a merger of the two companies is the best course of action. Among the most significant results of vertical integration is the elimination of the excessive emerging transaction costs.
An acquisition would allow Disney and Pixar to re-focus attention on “getting movies out to the public. ” While the merger is financially justified, Disney must adequately prepare for the integration process to ensure all administrative synergies are realized and employee productivity is not negatively impacted. Additionally, Disney must resist the urge to modify or impact Pixar’s development process. Alternatively, attributes that yield a successful development process for Pixar should be introduced to Disney’s production studios.
Bibliography Juan Alcacer, D. C. (2010). The Walt Disney Company and Pixar, Inc.: To Acquire or Not to Acquire? Harvard Business School. Boston: Harvard. Pixar, Inc. (1986 - 2012). Our Story. Retrieved October 23, 2012, from Pixar: http://www.pixar.com/about/Our-Story