Disney Pixar Report_M&A

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Mergers & Acquisitions .ESADE Full-Time MBA December, 20111

Mergers & Acquisitions

CHAPTERSOverview Movie Industry with Porters 5 Forces Pixar Company Overview Walt Disney Company Overview

Merger Walt Disney-Pixar Merger, Background Context Valuation

Negotiation and Agreed Conditions Benefits, Synergies and Trade-Offs of the Deal


Mergers & Acquisitions

OVERVIEW Movie Industry Analysis with Porters 5 ForcesSupplier Power: Moderate Suppliers in this industry are defined as people with technical and creative film-making skills. We assess this threat to be moderate since with technology, hand-drawn animation is being replaced by computer technology. In addition, the needs for these computer animation skills start to be outsourced from North America to Asia Pacific where there are significant lower costs coupled with high quality computer animation production. Barriers of Entry: High The industry is dominated by a few key players (Sony, News Corporation, Disney and Time Warner). With the lack of access to distribution channels and the intense capital needed to create blockbuster films and hire famous actors, it is very difficult for a new player to enter the market. Buyer Power: Moderate Buyers in this industry are defined as the end consumer or viewers of the films. We assess this threat to be moderate as there are many potential consumers with limited financial impact on the industry. In addition, the industry is dominated by key players thus is able to limit the options for the buyers. On the contrary, even though there are only a few options, there are effectively zero switching costs for customers. Hence, watching a film by one company does not make it more costly or difficult to then watch a film from a competitor. Threat of Substitute Products: Moderate We consider substitute products to be theater or other forms of entertainment. Internet is also a substitute form of entertainment as the concept of instant messaging was very popular at this time. Also, we can see the beginning of the popular social network Facebook gain traction as it was launched in 2004.

Mergers & Acquisitions

Rivalry: High Since there are only a few key players with similar percentage of market share (ranges from 14%-19%), the competition between them is strong. To be more competitive, the growing trend is to consolidate and acquire other studios. For example, Vivendi acquired Universal in 2000, which was then acquired by GE in 2004 and Viacom acquired DreamWorks in 2006.

Pixar Company OverviewPixar begins in 1979 as the Graphics Group, which is a part of the computer division of Lucasfilm. Initially the group started selling a computer system called Pixar Image Computer to government agencies and the medical community. However, imaging the computer Distributor Sony News Corporation (Fox) Disney Time Warner (WB) NBC Universal Viacom (Paramount) Lionsgate Other Market Share 19.20% 17.00% 16.70% 14.90% 10.80% 10.80% 3.60% 7.00% To show off the devices

never sold well. In 1984 John Lasseter left his job as the animator at Disney and joined the

computer animation group of George Lucas.

capabilities, the group started developing short animated clips, which then

Mergers & Acquisitions

turned into animated commercials, including campaigns for Tropicana, Listerine, and Terminator 2. In 1986 Steve Jobs bought the company from George Lucas for $5million and ads another $5million of capital. The newly formed company was headed by Jobs, who served as Chairman and Chief Executive Officer of Pixar. At the time, 44 people were employed at Pixar. Between 1987 and 1989, two short films Luxo Jr. and Tin Toy received Academy Award nominations for Best Animated Short Film and various other awards such as the Golden Gate Award at the San Fransisco International Film Festival. In 1990, Pixar went through a rough time selling its hardware technology and imaging software to Vicom Systems and had to reduce its workforce to 42 people. However, the following year it managed to secure a $26 million deal with Disney to produce three computer-animated feature films, the first of which is Toy Story. The alliance had begun. In the meantime, Pixar continued to make award winning commercials. In 1995, Toy Story was released and became the highest grossing movie of the year, making $192 million in U.S box office and $362 million worldwide. The movie was distributed by Disney and received numerous awards. At the same time Pixar went public, offering 6,900,000 shares at $22, beating Netscape as the biggest IPO of the year.

Walt Disney Company OverviewWalt Disney is one of the major companies in the world that has provided entertainment to generations of fans since 1923. The company together with its subsidiaries consists of four main segments: media networks, parks and resorts, studio entertainment and consumer products. Since the very beginning, the company has been known for its creative content and great storytelling. In 1923 Walt arrived in California, started the Disney Brothers Studio and began making independent movies. In 1927, Walt decided to pursue all-cartoon series and the mouse is born. After his distributor took the rights of the first character, Walt created the

Mergers & Acquisitions

mouse, named Mortimer, which his wife changed to Mickey. Mickey Mouse became an overnight sensation and a series of cartoons followed. In 1932, one of his cartoons of the Silly Symphony won the Academy award for best cartoon, the first year that the award was offered. Until the end of the decade, Disney won that award annually. In 1934, Disney decided to move into animated feature films and created the Snow White and the Seven Dwarfs. This was a radical concept and in 1937 after the film was finished, it became the highest grossing film of all time. During World War II, Disney lost most of its markets and the company lost money on the next several films, bringing financial problems to the company. During the 50s Walt Disney was constantly trying to come up with new ideas, and he felt that there should be a place where adults and children should spend time and have fun together. Thus he created Disneyland in 1955. The park was a huge risk for the company, as it had taken millions of dollars in bank loans to build it. But it paid off. It became an enormous success and finally put the company in solid financial footing. After Walts death in 1966, his successor Roy Disney continued his brothers vision of creating a second park in Orlando. It opened its doors in 1971 and immediately became the top-grossing park in the world with more than 11 million visitors in its first year. Japanese and European parks followed. However, during the years of parks construction, the revenue from movies dropped. Thankfully, in 1984 Mickael Eisner became CEO and managed one of the most impressive turnarounds in history. He revitalized TV and movies, with a strong commitment to quality programming. Disneys next 33 movies were profitable. In addition, he maximized theme parks profitability by raising prices, expanded working hours and lifted restrictions on the number of visitors allowed in the park. In 1995, the company acquired ABC and launched its internet division, Disney Online. Eventually total revenues rose up to $32 billion with a net income of $2.5 billion.

Mergers & Acquisitions

MERGER Walt Disney-Pixar Merger. Background ContextIn May 1991, Pixar and Walt Disney entered into the Feature Film Agreement. Under this Agreement as mentioned, Pixar would develop and produce three computer animated feature films. Disney would be responsible for its marketing and distribution. A few years later in 1997 Pixar and Disney entered into Co-Production Agreement, which replaced the Feature Film Agreement established in 1991. This new Agreement defined, on an exclusive basis, Pixar to produce five animations for distribution by Disney - A Bugs Life, Monsters, Inc., Finding Nemo, The Incredibles, and Cars. The movies revenues of these movies were shared 50% to each partner. This partnership built huge profits for both companies; the total box-office revenue from these 5 movies was more than $3 billion. However as time passed by, some issues occurred amongst the two parties. For example, Disney refused to include Toy Story 2 within the 5 movies mentioned in the Co-Production Agreement. Disney ignored Pixars request in launching Toy Story 2 in form of Home Entertainment, instead of motion pictures. In 2004 both companies attempted to reach a new agreement, which ended up failing. The conditions under the negotiation included Pixar having control of the entire products, getting the ownership over the films and also the films in production under their old agreement. Pixar also wanted financial freedom, which means that they would finance the films on their own and collect all the profits. Disney would only do the films distribution and get 10 to 15 percent from the distribution fee. In early 2006, Disney agreed to acquire Pixar with 2.3 Disneys shares issued for each Pixars share and merged two companies worth $ 7.4 million in an all stock deal. Pixar Vice President, John Lasseter, would become Chief Creative Officer of the combined Disney-Pixar animation studios as well as

Mergers & Acquisitions

the Principal Creative Advisor at Walt Disney Imagineering, to help with the design of new attractions at Disney theme parks. Current Pixar President, Ed Catmull, would become President of the new combined Disney-Pixar animation studios. This alliance would enable both Disney and Pixar to collaborate without the barriers that comes from producing the product from two different companies with different shareholders and management teams. Time Line "I don't think Disney had any choice about doing t