Tuesday, August 08, 2006

The Perils of Public Animation Companies

There’s an article here saying that even though DreamWorks reported a profit this quarter, the stock price is not reflecting the good news. The reason is that one of the founding investors, Paul Allen, has the right to issue another $300 million in stock in order to recoup on his investment. The problem for other stockholders is that this dilutes the value of their stock, so even though DreamWorks profits are up, their stock might end up worth less.

I wrote an article for fps (you’ll have to pay to read it) stating that with the exception of the games industry, there really wasn’t an animation industry. Animation was a division of larger media industries. The exceptions at the time of the article were Pixar and DreamWorks. Of course, Pixar recently sold itself to Disney, leaving only DreamWorks as an independent animation-only company.

I don’t envy their position. Animation companies do not have good track records for surviving with animation as their only product. Disney was forced to go public to raise money in April, 1940. Prior to that, the company had been family-owned. It was a necessary move, but the 1940’s were probably Disney’s worst decade financially. World War II cut off the foreign market, responsible for a good portion of his revenue. In addition, the U.S. public was not as enthusiastic for the features following Snow White, even though they generally cost more to produce. The ‘40’s were further complicated by the employee strike and the work for the U.S. government. The government films saved the studio financially but still absorbed an enormous amount of the studio’s resources.

What saved Disney was the studio diversifying beyond animation. In the late ‘40’s, the studio began to make live action films. In the early ‘50’s, Disney got involved in TV and of course, Disneyland opened. When Sleeping Beauty failed at the box office in 1959, it was a financial setback, but it did not threaten the continued existence of the company.

Pixar was an incredibly lucky company. Certainly their skills contributed to their success, but their films were consistently profitable at the box office in ways that other film companies could only envy. However, with the exception of Renderman software, their features were their only product. With only one film per year, a failure would have devastated the company’s stock price and probably forced major layoffs. Stephen Jobs’ solution was to sell the company to Disney, hitching his wagon to a more diversified company. A Pixar failure will no longer threaten the division’s existence.

Which leaves us with DreamWorks. When it was formed, it attempted to be a complete media company. There was a music division, a TV division, a live action feature division and, of course, an animation studio. Just as Walt Disney was the victim of events beyond his control in the 1940’s, DreamWorks has similarly suffered. Their TV division was hurt badly by Disney’s acquisition of ABC and the networks’ tendency to buy shows from their own production companies. DreamWorks’ music division was formed at a time of shrinking CD revenues and online file trading. While their live action division had success in the marketplace, there wasn't enough success to justify its continued existence as an independent company and it has been sold to Paramount.

The animation studio was the most profitable part of DreamWorks, so it was spun off as a public company. With two studios going full tilt and an output deal with Aardman, DreamWorks is capable of releasing two features a year. However, that means that each film’s revenue (films, DVD’s, TV sales, merchandising, etc.) represents half of the company’s potential annual income.

The company tried to diversify into TV with Father of the Pride, but the series failed to make it to a second season.

Due to the failure of the other divisions and its reliance solely on animation, DreamWorks is kind of like Disney going in reverse. Instead of diversifying, it’s become more of a monoculture. An animated failure will have a strong negative effect on the company’s bottom line.

Jeffrey Katzenberg is no fool. I think that his creation of DreamWorks after leaving Disney is, from a business standpoint, a far greater achievement than Walt Disney replacing Oswald the Rabbit with Mickey Mouse. I don’t know what the future holds and I can’t begin to guess what’s going on in Katzenberg’s head, but if history is any indication, there are basically two options. DreamWorks can attempt to diversify into other media to cut animation’s risk (the Disney model) or it can sell itself to a more diversified media company (the Pixar model). Katzenberg has defied the odds before and may do so again, but I’m betting that something will have to change within the next three to five years.

(For the record, this is the 100th post on this blog. Two were by John Celestri (Thanks, John!) but the rest have been by me. I've got to tell you, this is a lot harder than it looks.)


Kevin Koch said...

It's definitely harder than it looks! But it's worth it, so please keep doing it!

Nice post on the dynamics a company like DreamWorks faces. My suspicion is that you're right, and that they'll follow the Pixar model, but that's just a guess.

Nancy said...

Wow, Mark! Please give my best to Gian Celestri! (I have read all the posts but my memory for names is as usual horrid.)

I don't pretend to second guess anyone in the studio business since none of us really knows what goes on behind the scenes i.e. financially.

Eddie Fitzgerald said...

A terrific post! keep up the good work!

Anonymous said...

a coupla mistakes in your post.

1) pixar was lucky. going 7 for 7 is not luck. it's skill.

2) track record of animation is actually very very good. why else is every studio getting into the field?

if your argument is that dreamworks is a bad stock because it's independent, then that's a valid argument...unless you owned pixar for the pass 5 years.

no doubt that allen's secondary is handing over the stock, but once that is cleared, dwa will be worth 30+.

as always, bloggers think they know everything.