Sunday, August 18, 2013

This Day in Pixar History: Pixar and Disney Film Agreements

In this look at Pixar history, I wanted to dig into the two film agreements between Pixar and The Walt Disney Company. These agreements launched Pixar from being a money-losing software and animated commercial company into creating Toy Story and all its other animated feature films.

Discussions surrounding the first agreement began in late 1990 when Peter Schneider, head of Disney Feature Animation, met with Pixar management to discuss the possibility of creating a feature film. As an aside, this was not the first interaction between Disney and Pixar. Back in the late 1980s, when Pixar was primarily a hardware company, Disney purchased a large number of the Pixar Image Computers for their Computer Animated Production System (CAPS). Disney was extremely happy with the system and this success likely helped pave the way for the feature film deal (If you'd like to hear more about this early Pixar history and the Pixar Image Computer, you should listen to The Pixar Post's episode 14 podcast where TJ, Julie and I discuss these and many other topics).

Discussions continued throughout the rest of 1990 and into 1991, when John Lasseter made his buddy movie pitch to Disney Studios chairman Jeffrey Katzenberg. Katzenberg loved the idea, and the Feature Film Agreement was finalized and announced in the spring of 1991. This agreement was for the development of 3 full-length computer animated feature films and would last through the end of the decade. Pixar would develop and produce the films while Disney was responsible for marketing and distributing them. The agreement called for Disney to reimburse Pixar for almost all production and development costs of the film. In return, when the film was released, Disney would initially receive the majority of all revenue to recover the amounts paid to Pixar, plus its marketing and distribution costs. Once production and marketing costs had been reimbursed, Disney would continue to receive the bulk of any additional revenue from the distribution of the film and associated merchandise such as toys and home videos, while Pixar would be eligible to receive approximately 10% - 15% of the remaining profits. Finally, Disney owned the rights to the characters developed under the agreement, plus controlled the development of any sequels.
Cover of Pixar's first annual report,
which covered the Co-Production
agreement in detail

This agreement was in place until February 24, 1997, when Disney and Pixar announced a new 10 year, 5 film Co-Production Agreement, starting with A Bug's Life. This new agreement split all costs and profits equally between Disney and Pixar, after Disney received a small distribution fee. The agreement covered revenue from the theatrical and international releases plus home video and merchandise sales. In addition, the films would be equally branded as Disney-Pixar and co-owned by both Disney and Pixar, while Disney would have exclusive rights to market and distribute the films. Disney would become an investor in Pixar, purchasing 1 million shares with the option of buying up to 5% of Pixar. As for ownership of the films and characters, the Co-Production Agreement called for Disney and Pixar to mutually agree to any derivative works, but if an agreement couldn't be reached, Disney had the final say. Pixar had no rights to use or distribute any characters or elements from any of the films without first receiving a license from Disney. The 5 films that were produced under this agreement were A Bug's Life, Monsters, Inc., Finding Nemo, The Incredibles and Cars (Toy Story 2 was also produced under the Co-Production Agreement, but since it was a derivative of Toy Story, it was not counted as one of the 5 Co-Production films).

To see how much Pixar gained from the new agreement, let's look at revenue and costs for their first two films, Toy Story and A Bug's Life. From numbers in Pixar's annual reports, the studio made approximately $55M from Toy Story through 1998, while the film earned $362M worldwide, not including home video and other merchandise sales. This film was developed under the original Feature Film Agreement, and Disney was responsible for paying almost all development costs. So we can estimate almost all of the $55M was profit. In comparison, A Bug's Life, which had $363M in worldwide revenue and was  accounted for using the Co-Production Agreement, had brought in almost $115M by the end of 2000. While Pixar was responsible for half of all production costs for A Bug's Life, that amounted to less than 30% of film revenue, meaning Pixar's net income from A Bug's Life was over $80M. So while the original agreement was a breakthrough for Pixar, given it was an unknown and untested studio teaming up with the leader in the animated film industry, it is obvious the new Co-Production Agreement was a much better arrangement in terms of economics.

The Co-Production Agreement was announced just weeks before Pixar's 1996 annual report (their first as a public company) was released, and in the report CEO Steve Jobs did an excellent job explaining why Pixar made the new agreement. The first reason for the new agreement was better economics, which from the previous paragraph we can see worked out perfectly.

The second reason was even more important to the long-term strategy of Pixar. As Jobs explained in the annual report, their goal was to build a world-class studio. In the eyes of Steve Jobs, there were only 2 significant brands in the film industry at the time - Disney and Steven Spielberg. Jobs wanted Pixar to become the third. To accomplish this goal, the new agreement gave Pixar more brand recognition than the first agreement. All products would be equally branded Disney and Pixar, including feature films, home videos, derivative works (sequels), toys and merchandise.

Storyboards of how the new co-branding in films will occur, © Disney/Pixar

I was fascinated to also read that Pixar had contemplated going it alone once the original 3 film agreement expired in 2000, but in the end decided against this direction. As Jobs writes in the annual report,
Going it alone was certainly tempting, especially in the heady atmosphere surrounding Toy Story's success. But it would have been an exercise in hubris.
He goes on to explain the costs and risks of taking on the marketing and distribution functions, noting that marketing can be as expensive as, if not more than, the development of a film. He also points out that Pixar had little experience in marketing, and it was far from their core capabilities of creating memorable animated films. Jobs realized that they would have to grow the company and bring on people with completely different skill sets than the current environment of artists, engineers and production experts. Doing so would have diverted management attention, possibly causing a loss of focus and destroying the unique culture they had built (I have a whole series of posts regarding Pixar's culture stuck in my head, I hope to get it written down someday). Steve Jobs is often referred to as egotistical and arrogant, but I think this gives a much different picture, someone who is savvy, humble and understands the importance of business focus and company culture.

The Co-Production Agreement was in place until 2006, when Pixar was bought out by Disney, just months before the last film of the agreement, Cars, was released. By then, the relationship between Disney and Pixar had soured dramatically to the point where Pixar was looking for a new distribution partner and Disney had plans to move ahead with development of Toy Story 3 without the support of Pixar. That was not a happy time, and is good material for a future blog post!