Case Study Week 3 Nitin Sharma PDF

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Case Study : Walt Disney Company and Pixra Inc....

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Nitin Sharma

AD 709-Module 3 BU ID: U84174097

AD 709

THE WALT DISNEY COMPANY AND PIXAR INC. TO ACQUIRE OR NOT ACQUIRE PRESENTED BY NITIN SHARMA

BU ID: U84174097 18th NOVEMBER 2018

Nitin Sharma

AD 709-Module 3 BU ID: U84174097

Background Established in 1923, the Walt Disney company had its first full animated and successful movie “Snow White and the Seven Dwarfs” was produced in 1934. Disney later became one of the largest media companies of the world, owning TV channels likes ABC Films, Disney Channel and Touchstone, product merchandising and distribution and theme parks attractions. Disney and Pixar contracted to deliver movies from 1998 to 2004 to, in this tenure, the two companies jointly produced successful movies like Toy Story 2, Finding Nemo and Monster Inc. Disney and Pixar also worked earlier to develop Computer Animated Production Systems (CAPS), which was owned by Disney and used to make 2D animated movies. The two companies were finding synergies, till Steven Jobs, CEO for Pixar and Michael Eisner from Disney could not align on the contract terms for renewal. Robert Iger the new CEO of Walt Disney in 2005 is well aware of the importance of Computer Generated (CG) in creation of animation movies for Disney and is on cross roads to decide whether he should develop the competency within Disney or if the competency should be acquired by acquiring Pixar. This case study analyses the synergy and contentions between Disney and Pixar with respect to business model, work culture and technology, supported by financial analysis.

Synergies 1. Pixar had the technical capability of producing best in class 3D CG animation movies. Skilled animators, graphic designers complimented by the proprietary software like RenderMan, Marionette and Ringmaster defined and proven record using these tools effectively to win 44 Oscar awards in visual effects. Disney on the other hand relied on the characters being developed by Pixar and even after setting up its own CG

Nitin Sharma

AD 709-Module 3 BU ID: U84174097

animation department could not deliver. While Disney did not have the best technology, it did have the business segments to maximize the commercialization of the successful characters. In addition to Studio Entertainment” Disney business segments constituted Media Networks, Parks and Resorts, Consumer Products, focussing on the year of 2005 for contract renewal or acquisition, 76% of revenue for Disney comes from these segments. (Exhibit 2a) indicating Disney’s strong position and commitment to these business segments. Disney used these segments to commercially capitalization and distribution (theme parks, apparels and media rights) of the characters produced by Pixar. Total percentage revenue data from 1995-2003 (exhibit 3) indicates that approx. 83% of its revenue was from box office and home video, and Pixar does not have a strong presence on TV channels and merchandise. If acquired by Disney, Pixar can fill this void and can use these channels to beat its closest competitor DreamWorks Animation, making it a win-win combination for Disney and Pixar. 2. Even though Disney and Pixar different structurally, culture and size, they had the history of working together and contributing to each other’s success, the feature film agreement signed in 1991 resulted in 1995 hit film Toy Story, This success was subsequently followed up by Disney buying 5% stakes in Pixar and signing the coproduction agreement signed in 1997. This added an operating income of $1.5 billion in operating income and$.44 EPS in decade long partnership. Pixar on the other hand benefitted by the Disney’s financial stability and capability to invest in technological innovation and creativity in characters. Growing revenue and success through the years indicated Disney and Pixar can work together, if not merged into one company.

Nitin Sharma

AD 709-Module 3 BU ID: U84174097

Contentions: 1. Corporate culture: Disney had a total revenue of $30.75 billion in 2004 vs Pixar, which had a total revenue of $273.5 in 2004. While the huge size and financials gave Disney a distinctive advantage over Pixar, it certainly made it more “corporate” than Pixar. Analogy of “ship” and a “speedboat” could be used for comparison, while Disney had the size of the ship, Pixar had the agility and flexibility of the boat. Hierarchy was very relevant and clearly defined at Disney, even though design discussion encouraged participation through reward programme, the final design and creative decisions were made by the executives. Disney’s hierarchical corporate culture to manage the film ideation and production diminished the employee participation, creativity and progressive mindset to explore and adopt changing technology. Disney was not able to blend the technology and creativity, which as claimed by Steve Jobs was the strength of Pixar. Pixar on the other hand encouraged free spirited creativity and propagated principles like “” freedom to communicate”, “safe for everyone to offer ideas” and staying close to innovations happening in the academic community”. Both Disney and Pixar practiced very different school of managing and developing people. 2. Technical Innovation: Pixar developed technology to design, modify thousands of motion frames of characters without redoing all the previously designed frames, this made the animation which was done using handmade frames and by hundreds of people, not only easy to develop, but modify, correct or even redesign. This not only improved the quality of frames and images resulting in movies like Toy Story, also made Pixar operations highly efficient and cost of production was drastically reduced as they employed 110 people vs more than 500 people working on single movie for multiple years in Disney. This allowed Pixar to invest

Nitin Sharma

AD 709-Module 3 BU ID: U84174097

in creativity, story development and maintaining high quality output. Disney on the other hand was way behind the curve on technical innovation and adaption. While Disney management later acknowledged the need of developing technical competency, the management style was not supportive of developing the culture of technical innovation.

Options for Disney: 1. Option1: Renegotiate and sign the contract: Pixar and Jobs had tasted success, they knew their worth and Disney’s dependency on Pixar. In addition to the technical competency Pixar now had the size to finance the production cost of the film. Pixar now wanted stake in movies, rights to future Pixar movies being produced for Disney, rights to sequel and television rights. Feature film agreement signed in May 1991 gave limited rights to Pixar on distribution, revenue streams, ownership and exclusivity, but the co-production agreement signed in 1997 gave Pixar 50-50 share in revenue channels and full creative controls. (Exhibit 6). But the new contract proposal giving Pixar rights to sequel, would have limited Disney to a “distribution company” whereas Pixar had access to 90% of films lifetime revenue across all methods of distribution. This was certainly not an option Disney’s management wanted to go for. 2. Option 2: Acquisition of Pixar: Not counting the option of technical innovation within Disney, because of the cost, culture and time required, the only option left with Disney is to acquire Pixar. This would allow Disney to acquire and own the technical competency and skill set, finish any reliance on Pixar, finish potential competition from Pixar. Acquisition of Pixar can help Disney capitalize on the synergies between the two companies, mutually benefitting both entities and emerging leader in the Studio Entertainment (media) business.

Nitin Sharma

AD 709-Module 3 BU ID: U84174097

Financial Analysis for Pixar Acquisition: Pixar’s’ market capitalization is $5.9 billion, for Disney to acquire Pixar it will have to pay between $6.5 billion to $7.5 billion. At a price of $7.5 billion, the stocks would be exchanged in ratio of 2.3:1. Valuation method to calculate the intrinsic value of Pixar was based on acquisitions in Media industry which had range of 20-30 times EBITDA in 2005 and 15-18 times EBITDA in 2007, generating a range of 1.716-2.365. Pixar’s EBIT (Exhibit 4) in 2004 is $221.1 million, considering the 30 times factor of 2005, the enterprise valuation of the acquisition is calculated to be $6.6 billion. ($221.1m x30), which is line with range calculated by analysts. P/E ratio of Pixar was 46, where as that of DreamWorks was 30, which meant a premium of $16 per share for Pixar, but supported by increase in net income by 6.5% to $152.9 million on or $1.24 per share with a revenue of $289.1 million, in comparison with 2004 earnings of $141.7 million or $1.19 per share with a revenue of $273.5 million. Pixar also maintained its sales per share of 2.3 between 2003-2005 and profit per share of 1.2-1.3 between 2003 and 2005. Pixar’s high P/E ratio created the risk of dilution for Disney, estimated earnings dilution was 4-5% in the next year and 3% in following year but expected to add to the earnings in 2008.

Recommendation to Robert Eger, CEO of Disney Based on the synergies discussed above, financial valuation and the successful track record contributing to the success of Pixar, and with goal of acquiring technology while eliminating competition, it is recommended for Disney to acquire Pixar. Disney should be cognizant of the cultural and management style differences with Pixar, acquisition of Pixar could be successful if Disney merges its production unit in Pixar, making

Nitin Sharma

AD 709-Module 3 BU ID: U84174097

the Pixar team the primary team for content creation and film production. Disney should strive to retain the leadership and talent pool of Pixar, including Lasseter. Disney should let the creative and production unit stick or adopt the culture of freedom of expression, staying close to innovation academy and safe for everyone to offer ideas.

Nitin Sharma

AD 709-Module 3 BU ID: U84174097

References 1. The Walt Disney Company and Pixar Inc.; To acquire or Not to Acquire. Case Study

authored by Juan Alcacer, David Collis and Mary Furey, published by Harvard Business School. January 2015. 2. Pixar’s equity performance from Markets Insider (1999-2005) from

https://markets.businessinsider.com/balance-sheet/pixr 3. Pixar profits at record high in 2005, article authored by Matthew Bunk, March 2006

from https://www.eastbaytimes.com/2006/03/08/pixar-profits-at-record-high-in-2005/ 4. The Overachievers: Pixar’s Animated Growth article authored by Lisa DiCarlo, Nov

2002, from https://www.forbes.com/2002/11/07/cx_ld_1107pixar.html#7f286d834e37...