-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, AFcCVX7l17ay4wqCLR8LRVqbHMkzkE6d/vimjbToBqobMAXwGZlkMY/e1QI/agAi XB7YncWJVWOtzA9OxW8uHg== 0000891618-01-500739.txt : 20010516 0000891618-01-500739.hdr.sgml : 20010516 ACCESSION NUMBER: 0000891618-01-500739 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 20010331 FILED AS OF DATE: 20010515 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PIXAR \CA\ CENTRAL INDEX KEY: 0001002114 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-PREPACKAGED SOFTWARE [7372] IRS NUMBER: 680086179 STATE OF INCORPORATION: CA FISCAL YEAR END: 0102 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-26976 FILM NUMBER: 1637288 BUSINESS ADDRESS: STREET 1: 1001 WEST CUTTING BLVD CITY: RICHMOND STATE: CA ZIP: 94808 BUSINESS PHONE: 5102364000 MAIL ADDRESS: STREET 1: 1001 WEST CUTTING BLVD CITY: RICHMOND STATE: VA ZIP: 94804 10-Q 1 f72303e10-q.txt FORM 10-Q 1 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 10-Q ------------------------ (MARK ONE) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2001. OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM __________ TO __________ . COMMISSION FILE NUMBER: 0-26976 PIXAR (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) CALIFORNIA 68-0086179 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
1200 PARK AVENUE, EMERYVILLE, CALIFORNIA 94608 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (510) 752-3000 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ]. The number of shares outstanding of the registrant's Common Stock as of May 1, 2001 was 47,789,587. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 PART I -- FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS PIXAR BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE DATA)
MARCH 31, DECEMBER 30, 2001 2000 --------- ------------ ASSETS Cash and cash equivalents................................... $ 78,297 $ 63,241 Short-term investments...................................... 187,805 139,514 Trade receivables, net...................................... 1,251 1,136 Receivable from Disney...................................... 2,199 73,850 Other receivables........................................... 2,949 3,121 Prepaid expenses and other assets........................... 5,055 4,903 Deferred income taxes....................................... 25,699 25,915 Property and equipment, net................................. 110,488 110,891 Capitalized film production costs........................... 69,760 57,032 -------- -------- Total assets...................................... $483,503 $479,603 ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY Accounts payable............................................ $ 1,028 $ 1,622 Income taxes payable........................................ 8,251 9,650 Accrued liabilities......................................... 14,902 17,229 Unearned revenue............................................ 11,818 15,382 -------- -------- Total liabilities................................. 35,999 43,883 -------- -------- Shareholders' equity: Preferred stock; no par value; 5,000,000 shares authorized and no shares issued and outstanding................... -- -- Common stock; no par value; 100,000,000 shares authorized; 47,784,675 and 47,633,372 shares issued and outstanding as of March 31, 2001 and December 30, 2000, respectively........................................... 296,360 293,209 Accumulated other comprehensive income.................... 615 249 Retained earnings......................................... 150,529 142,262 -------- -------- Total shareholders' equity........................ 447,504 435,720 -------- -------- Total liabilities and shareholders' equity........ $483,503 $479,603 ======== ========
See accompanying notes to financial statements. 1 3 PIXAR STATEMENTS OF INCOME (IN THOUSANDS, EXCEPT PER SHARE DATA)
QUARTER ENDED --------------------- MARCH 31, APRIL 1, 2001 2000 --------- -------- Revenue: Film and animation services............................... $14,154 $58,239 Software.................................................. 1,997 2,739 ------- ------- Total revenue..................................... 16,151 60,978 ------- ------- Cost of revenue: Film and animation services............................... 2,173 15,035 Software.................................................. 164 140 ------- ------- Total cost of revenue............................. 2,337 15,175 ------- ------- Gross profit...................................... 13,814 45,803 ------- ------- Operating expenses: Research and development.................................. 1,545 1,413 Sales and marketing....................................... 390 390 General and administrative................................ 2,081 1,816 ------- ------- Total operating expenses.......................... 4,016 3,619 ------- ------- Income from continuing operations................. 9,798 42,184 Other income, net........................................... 3,225 2,837 ------- ------- Income from continuing operations before income taxes............................................ 13,023 45,021 Income tax expense.......................................... 4,838 18,683 ------- ------- Net income from continuing operations............. 8,185 26,338 Income from discontinued operations, net of taxes........... 82 50 ------- ------- Net income........................................ $ 8,267 $26,388 ======= ======= Basic net income per share from continuing operations....... $ 0.17 $ 0.56 Basic net income per share from discontinued operations..... -- -- ------- ------- Basic net income per share.................................. $ 0.17 $ 0.56 ======= ======= Shares used in computing basic net income per share......... 47,731 47,005 ======= ======= Diluted net income per share from continuing operations..... $ 0.16 $ 0.53 Diluted net income per share from discontinued operations... -- -- ------- ------- Diluted net income per share................................ $ 0.16 $ 0.53 ======= ======= Shares used in computing diluted net income per share....... 50,656 49,927 ======= =======
See accompanying notes to financial statements. 2 4 PIXAR STATEMENTS OF CASH FLOWS (IN THOUSANDS)
QUARTER ENDED ---------------------- MARCH 31, APRIL 1, 2001 2000 --------- --------- Cash flows from operating activities: Net income................................................ $ 8,267 $ 26,388 Adjustments to reconcile net income to net cash provided by continuing operating activities: Discontinued operations................................ (82) (50) Depreciation and amortization.......................... 1,925 1,467 Amortization of capitalized film production costs...... 2,173 14,846 Tax benefit from option exercises...................... 1,286 1,327 Deferred income taxes.................................. 216 -- Loss (gain) on disposition or sale of equipment........ 8 (8) Changes in operating assets and liabilities: Trade and other accounts receivables................. 57 1,518 Receivable from Disney............................... 71,651 (25,586) Prepaid expenses and other assets.................... (272) 743 Accounts payable..................................... (594) 3,510 Income taxes payable................................. (1,399) 7,167 Accrued liabilities.................................. (2,327) (5,418) Unearned revenue..................................... (3,564) 231 -------- --------- Net cash provided by continuing operations........ 77,345 26,135 Net cash provided by discontinued operations...... 82 50 -------- --------- Net cash provided by operating activities......... 77,427 26,185 -------- --------- Cash flows from investing activities: Purchase of property and equipment........................ (1,410) (19,227) Proceeds from sale of equipment........................... -- 398 Sales and maturities of short-term investments............ 38,802 153,613 Purchase of short-term investments........................ (86,727) (160,183) Capitalized film production costs......................... (14,901) (5,584) -------- --------- Net cash used in investing activities............. (64,236) (30,983) -------- --------- Cash flows from financing activities: Proceeds from exercised stock options..................... 1,865 885 -------- --------- Net cash provided by financing activities......... 1,865 885 -------- --------- Net increase (decrease) in cash and cash equivalents........ 15,056 (3,913) Cash and cash equivalents at beginning of period............ 63,241 31,170 -------- --------- Cash and cash equivalents at end of period.................. $ 78,297 $ 27,257 ======== ========= Supplemental disclosure of cash flow information: Cash paid during the period for income taxes.............. $ 5,000 $ 10,225 ======== ========= Supplemental disclosure of non-cash investing and financing activities: Credits from patent licensing............................. $ -- $ 24 ======== ========= Unrealized gain (loss) on investments..................... $ 366 $ (5) ======== =========
See accompanying notes to financial statements. 3 5 PIXAR NOTES TO FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION The accompanying unaudited condensed financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. In the opinion of management, the accompanying unaudited condensed financial statements reflect all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair presentation of our financial condition, results of operations, and cash flows for the periods presented. These financial statements should be read in conjunction with the audited financial statements as of December 30, 2000 and January 1, 2000, and for each of the years in the three-year period ended December 30, 2000, including notes thereto. The results of operations for the quarter ended March 31, 2001 are not necessarily indicative of the results expected for the current year or any other period. Certain amounts reported in previous periods have been reclassified to conform to the 2001 financial statement presentation. (2) FISCAL YEAR Effective for fiscal year 1998, Pixar (the "Company") adopted a 52- or 53-week fiscal year, changing the year end date from December 31 to the Saturday nearest December 31. Fiscal year 2001 will end on December 29, 2001 and will consist of 52 weeks. (3) NET INCOME PER SHARE Basic net income per share is computed using the weighted-average number of common shares outstanding during the period. Diluted net income per share is computed using the weighted-average number of common and dilutive common equivalent shares outstanding during the period, using the treasury stock method for options and warrants. Options to purchase approximately 2.6 million shares of common stock were outstanding during the three month period ending March 31, 2001, but were not included in the computation of diluted earnings per share because the options' exercise price was greater than the average market price of the common shares. Reconciliation of basic and diluted net income per share (in thousands, except per share amounts):
QUARTER ENDED ------------------------------------------------------- MARCH 31, 2001 APRIL 1, 2000 ------------------------- -------------------------- NET NET INCOME SHARES EPS INCOME SHARES EPS ------ ------ ----- ------- ------ ----- Basic net income per share............ $8,267 47,731 $0.17 $26,388 47,005 $0.56 Effect of dilutive shares: Warrants/options.................... -- 2,925 -- 2,922 ------ ------ ------- ------ Diluted net income per share.......... $8,267 50,656 $0.16 $26,388 49,927 $0.53 ====== ====== ======= ======
4 6 PIXAR NOTES TO FINANCIAL STATEMENTS (CONTINUED) (4) COMPREHENSIVE INCOME Other comprehensive income (loss) consists of unrealized holding gains or losses on the Company's short-term investments. The following table sets forth the calculation of comprehensive income, net of income taxes (in thousands):
QUARTER ENDED --------------------- MARCH 31, APRIL 1, 2001 2000 --------- -------- Net income.................................................. $8,267 $26,388 Unrealized holding gains (losses) on short-term investments............................................... 366 (5) ------ ------- Comprehensive income........................................ $8,633 $26,383 ====== =======
(5) FEATURE FILM AND CO-PRODUCTION AGREEMENTS Feature Film Agreement In 1991, the Company entered into a feature film agreement with Walt Disney Pictures, a wholly owned subsidiary of Walt Disney Pictures and Television (together with its subsidiaries and affiliates collectively referred to herein as "Disney"), to develop and produce up to three computer-animated feature films (the "Feature Film Agreement"). The Company is entitled to receive compensation based on revenue from the distribution of these films and related products. In 1995, the Company released its first feature film under the terms of the Feature Film Agreement, Toy Story. Based on the individual film forecast method, all significant Toy Story film production costs were fully amortized by the year ended December 31, 1997. Co-Production Agreement In February 1997, Pixar and Disney entered into a new co-production agreement (the "Co-Production Agreement") which now governs all films made by the Company since Toy Story. Under the Co-Production Agreement, Pixar, on an exclusive basis, agreed to produce five original computer-animated theatrical motion pictures (the "Pictures") for distribution by Disney. Pixar and Disney co-own, co-brand and co-finance the production costs of the Pictures, and share equally in the profits of each Picture and any related merchandise and other ancillary products, after recovery of all of Disney's marketing, distribution and other predefined fees and costs. The Co-Production Agreement generally provides that Pixar is responsible for the production of each Picture and Disney is responsible for the marketing, promotion, publicity, advertising and distribution of each Picture. The first original film produced under the Co-Production Agreement was A Bug's Life. Films in development or production at Pixar governed by this agreement include Monsters, Inc., Finding Nemo, the Company's sixth film "Film Six" and the Company's seventh film "Film Seven." A Bug's Life, Monsters, Inc., Finding Nemo, Film Six and Film Seven count toward the five original Pictures, whereas Toy Story 2, as a sequel, is a derivative work that will not count toward the Pictures. However, under the Co-Production Agreement, all provisions applicable to the Pictures also apply to derivative works such as Toy Story 2. All payments to Pixar from Disney for development and production of Toy Story under the Feature Film Agreement, and A Bug's Life, Toy Story 2, Monsters, Inc., Finding Nemo, Film Six, and Film Seven under the Co-Production Agreement have been recorded as cost reimbursements. Accordingly, no revenue has been recognized for such reimbursements; rather, the Company has netted the reimbursements against the related costs. Creative Development Group In addition to the films produced and in process under the Co-Production Agreement, Pixar's creative development group is working on concept development for several new projects that do not come under the Co-Production Agreement. Costs related to these projects are therefore not shared or reimbursed by Disney. 5 7 PIXAR NOTES TO FINANCIAL STATEMENTS (CONTINUED) Such costs are capitalized as film costs and will be amortized under the film forecast method assuming the concept development leads to a successful concept and realization of a film project. In the event a film is not set for production within three years from the time of the first capitalized transaction, such costs will be expensed. The total film production costs and related amounts capitalized are as follows (in thousands):
TOTAL THROUGH MARCH 31, 2001 -------------- RELEASED FILMS.............................................. $ 87,780 Cumulative amortization of film production costs............ (71,652) -------- Total film production costs capitalized for released films.................................. 16,128 FILMS IN PRODUCTION......................................... 44,250 FILMS IN DEVELOPMENT OR PREPRODUCTION....................... 9,382 -------- Total film production costs capitalized........... $ 69,760 ========
Under the Co-Production Agreement, certain operating expenses benefiting the productions, such as certain research and development and certain general and administrative expenses, are paid half by Pixar and half by Disney. From the date of the Co-Production Agreement, the Company recorded the following amounts reimbursed by Disney as offsets to the following expense categories (in thousands):
QUARTER ENDED ------------------------------- MARCH 31, 2001 APRIL 1, 2000 -------------- ------------- Research and development.................................. $1,139 $1,704 General and administrative................................ 899 699 ------ ------ Total........................................... $2,038 $2,403 ====== ======
At March 31, 2001 and December 30, 2000, the receivable from Disney aggregated $2.2 million and $73.9 million, respectively, which consists of a receivable from Disney for film revenue, advances net of Disney's actual share of expenditures for all films, amounts due for animation services and miscellaneous reimbursements. The Company expects to amortize, based on current estimates, approximately $6 million to $7 million in capitalized film production costs over the succeeding twelve-month period. In addition, the Company expects that all released films will have amortized more than 80% of each released film's original production costs by the end of fiscal year 2003. (6) SEGMENT REPORTING The Company adopted the provisions of SFAS 131, "Disclosures about Segments of an Enterprise and Related Information." The chief operating decision-maker is considered to be the Company's Chief Executive Officer ("CEO"). The CEO reviews financial information presented on a summary basis accompanied by disaggregated information about film revenue for purposes of making operating decisions and assessing financial performance. The summary financial information reviewed by the CEO is identical to the information presented in the accompanying statement of operations and the Company has no foreign operations. Therefore, the Company operates in a single operating segment. 6 8 PIXAR NOTES TO FINANCIAL STATEMENTS (CONTINUED) The Company's revenue segment information by film category follows (in thousands):
QUARTER ENDED --------------------- MARCH 31, APRIL 1, 2001 2000 --------- -------- Toy Story 2............................................. $ 7,242 $53,907 Library titles.......................................... 6,899 3,999 Animation services...................................... 13 333 ------- ------- $14,154 $58,239 ======= =======
Library titles include A Bug's Life and Toy Story. (7) EMPLOYMENT AGREEMENT In March 2001, the Company entered into an employment agreement with John Lasseter, (the "Employment Agreement"), which has a term of 10 years. Mr. Lasseter is a two-time Academy Award(R)-winning director and animator. In addition to serving as head of all of the Company's creative projects, he directed Toy Story, the first feature-length computer animated film (for which he won a special Achievement Academy Award(R)), A Bug's Life and Toy Story 2. He is currently in development on his fourth feature film for the Company. This Employment Agreement supercedes the Company's prior employment agreement with Mr. Lasseter, which was entered into in February 1997. Pursuant to the Employment Agreement, Mr. Lasseter received a signing bonus of $4,940,000. The Employment Agreement also provides for a current annual salary of $2,500,000 with 5% annual increases. In connection with the Employment Agreement, Mr. Lasseter was previously granted an option to purchase 1,000,000 shares of our common stock at the fair market value on the date of such grant. The option vests on an equal monthly basis over the ten-year term of the agreement, except for options that vest on the last month will vest on the penultimate month of this ten-year period. (8) IMPACT OF RECENT ACCOUNTING PRONOUNCEMENTS In June 2000, the AICPA issued Statement of Position (SOP) 00-2, "Accounting by Producers or Distributors of Films." The guidance in this SOP applies to all types of films, and is applicable to all producers or distributors that own or hold rights to distribute or exploit films. For purposes of this SOP, films are defined as feature films, television specials, television series, or similar products including animated films and television programming that are sold, licensed or exhibited, whether produced on film, videotape, digital, or other video recording format. The Company adopted SOP 00-2 during the first quarter of fiscal year 2001. Adoption did not have a material effect on the Company's financial statements, liquidity or results of operations. In June 1998, the FASB issued Statement of Financial Accounting Standards SFAS No. 133 (SFAS 133), "Accounting for Derivative Instruments and Hedging Activities", which as amended by SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities, Deferral of the Effective Date of FASB Statement No. 133, and Amendment of FASB Statement No. 133" and SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging Activities, an amendment of FASB No. 133," issued in June 2000, will be effective for all fiscal quarters of fiscal years beginning after June 15, 2000. SFAS 133 establishes accounting and reporting standards for derivative instruments and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. SFAS 133 generally provides for matching the timing of gain or loss recognition of (a) the changes in the fair value of the hedged asset or liability that are attributed to the hedged risk or (b) the earnings effect of hedged forecasted transactions. The adoption of this statement during the first quarter of fiscal year 2001, did not have a material effect on the Company's financial statements, liquidity or results of operations, as the Company had no derivative instruments. 7 9 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This "Management's Discussion and Analysis of Financial Condition and Results of Operations" contains forward-looking statements that have been made pursuant to the provisions of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based on current expectations, estimates and projections about our industry, management's beliefs, and assumptions made by management. Words such as "anticipates," "expects," "intends," "plans," "believes," "seeks," "estimates," variations of such words and similar expressions are intended to identify such forward-looking statements. These statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict; therefore, actual results and outcomes may differ materially from what is expressed or forecasted in any such forward-looking statements. Such risks and uncertainties include those set forth herein under Risk Factors on pages 13 to 18. Particular attention should be paid to the cautionary language in Risk Factors "-- To meet our fiscal 2001 diluted earning per share target, we must receive sufficient revenues primarily from our feature films and, to a lesser extent, our non-film related sources," "-- Our operating results have fluctuated in the past and we expect such fluctuations to continue," and "-- Our scheduled successive releases of feature films will continue to place a significant strain on our resources," as well as those noted in the section entitled "Risk Factors" in our Annual Report on Form 10-K for the year ended December 30, 2000, as amended (the "Form 10-K"). Unless required by law, Pixar undertakes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise. Our operating performance each quarter is subject to various risks and uncertainties as discussed in our Form 10-K. The following discussion should be read in conjunction with the sections entitled "Risk Factors" and "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the Form 10-K. OVERVIEW In February 1997, we entered into the Co-Production Agreement with Disney pursuant to which we, on an exclusive basis, agreed to produce five original computer-animated feature-length theatrical motion pictures (the "Pictures") for distribution by Disney. Pixar and Disney agreed to co-finance the production costs of the Pictures, co-own the Pictures (with Disney having exclusive distribution and exploitation rights), co-brand the Pictures, and share equally in the profits of each Picture and any related merchandise as well as other ancillary products, after recovery of all marketing and distribution costs (which Disney finances), a distribution fee paid to Disney and any other fees or costs, including any participations provided to talent and the like. The Co-Production Agreement generally provides that we will be responsible for the production of each Picture, while Disney will be responsible for the marketing, promotion, publicity, advertising and distribution of each Picture. Our second feature film, A Bug's Life, was released in November 1998 and counts as the first original Picture under the Co-Production Agreement. The Co-Production Agreement also contemplates that with respect to theatrical sequels, made-for-home video sequels, television productions, interactive media products and other derivative works related to the Pictures, we will have the opportunity to co-finance and produce such products or to earn passive royalties on such products. We will not share in any theme park revenues generated as a result of the Pictures. Pursuant to the Co-Production Agreement, in addition to co-financing the production costs of the Pictures, Disney will reimburse us for our share of certain general and administrative costs and certain research and development costs that benefit the productions. In November 1999, Toy Story 2, our third animated feature film was released. As a sequel, Toy Story 2 is a derivative work of the original Toy Story and therefore it does not count toward the five original Pictures to be produced under the Co-Production Agreement. However, as a derivative work, Toy Story 2 is treated as a Picture under the Co-Production Agreement, and all the provisions applicable to the five original Pictures apply. In 1999, we began production on our fourth theatrical film, Monsters, Inc. and concept development on our sixth animated feature film, "Film Six." In 2000, we began production on our fifth animated feature film, Finding Nemo and concept development on our seventh animated feature film, "Film Seven." These films will 8 10 be produced and distributed under the Co-Production Agreement and will count as the second, third, fourth, and fifth films of the five original films to be produced under the Co-Production Agreement. We expect to release Monsters, Inc. in November 2001, and Finding Nemo in summer 2003, at the earliest. Film Six and Film Seven are currently targeted for release no earlier than 2004 and 2005, respectively. Target Earnings per Share for Fiscal Year 2001 We are targeting diluted earnings per share of $0.40 to $0.55 for fiscal year 2001. This estimate is primarily based on our current expectations regarding the following: (1) merchandise revenue and ancillary royalties relating to the sale of products from the Toy Story franchise and A Bug's Life; (2) residual home video sales from A Bug's Life, Toy Story and Toy Story 2; (3) revenues from potential worldwide network television licensing revenues for A Bug's Life, Toy Story and Toy Story 2; and (4) our assumptions, including the timing and amount, for box office receipts, as well as merchandise revenues, from our upcoming film, Monsters, Inc., targeted for domestic theatrical release in November 2001. In addition, we are targeting diluted earnings per share of $0.10 to $0.13 for the second quarter of fiscal year 2001. Our second quarter revenue is expected to be derived primarily from domestic network television licensing of A Bug's Life, continuing sales of the Toy Story 2 home video, continuing merchandise sales from the Toy Story franchise and A Bug's Life, and potential ancillary royalties. These statements are forward-looking, and actual results may differ materially. Factors that could cause actual fiscal year 2001 results to differ include but are not limited to: (1) the timing and amount of worldwide television revenues for A Bug's Life, Toy Story and Toy Story 2; (2) the timing and amount of related revenues from Toy Story 2 domestic and foreign home video; (3) the timing and amount of Monsters, Inc., Toy Story franchise and A Bug's Life merchandise sales and ancillary royalties; (4) the timing and amount of revenue from the Buzz Lightyear of Star Command television series and related home video release; (5) the timing and amount of our remaining revenues from the home video release of A Bug's Life and Toy Story as part of Disney's Gold Collection; (6) the timing of the theatrical release of Monsters, Inc. and the amount of related revenue; (7) the timing and amount of distribution costs incurred in all markets for Monsters, Inc., Toy Story 2, Toy Story and A Bug's Life; (8) the timing, accuracy and sufficiency of the information we receive from Disney to determine revenues and associated gross profits; (9) the timing and amount of non-film related revenues, such as licensing our software and interest income; and (10) the market price for our common stock and related volatility. See "Risk Factors" set forth below for a more detailed discussion of factors that could cause actual results to differ. RESULTS OF OPERATIONS Revenue Total revenue for the three months ended March 31, 2001 was $16.2 million, compared to $61.0 million for the three months ended April 1, 2000. Film and animation services revenue for the quarter ended March 31, 2001 was $14.2 million, compared with $58.2 million in the corresponding period of the prior year. Film revenue for the first quarter of 2001 includes $7.2 million of Toy Story 2 related revenues attributable primarily to home video sales, related merchandise revenues as well as royalties from the home video release of Buzz Lightyear of Star Command and other ancillary royalties. Our library titles, A Bug's Life and Toy Story, comprised the balance of $6.9 million through worldwide home video sales, domestic pay-per-view revenues and consumer products. Also included in film revenue for the first quarter of 2001 were one time revenues associated with interactive products. Film revenue for the three months ended April 1, 2000 resulted primarily from our share of worldwide theatrical revenues and related merchandise from Toy Story 2, which was released in November 1999, of $53.9 million, and to a lesser extent, our share of home video and merchandise revenue from A Bug's Life of $2.1 million. Also included in film revenue for the three months ended April 1, 2000, was revenue of $1.9 million from Toy Story, including residual merchandise and home video sales. Under the Co-Production Agreement, we share equally with Disney in the profits of Toy Story 2 and A Bug's Life after Disney recovers its distribution costs and fees. 9 11 Software revenue includes software license revenue, principally from RenderMan(R), and royalty revenue from licensing Physical Effects, Inc. (PEI) technology to a third party. Software revenue decreased to $2.0 million for the three months ended March 31, 2001 compared to $2.7 million in the same period of the prior year. The decrease in software revenue resulted primarily from a general decrease in RenderMan(R) software licensing, and to a lesser extent, from a decrease in the royalty revenue from licensing PEI technology to a third party. PEI, a company we acquired in 1998, licensed certain of its technology to a third party, from which we now receive associated royalty revenue on a quarterly basis. Due to our focus on content creation for animated feature films and related products, we have not increased the time and resources necessary to generate significantly higher RenderMan(R) sales. Therefore, we expect ongoing variability in revenues derived from software licenses and that such revenue to remain flat or possibly decline, as seen in the current quarter. For the three months ended March 31, 2001, Disney accounted for 88% of our total revenue compared to 96% for the same period of the prior year. The revenue from Disney consisted primarily of film related revenue and to a lesser extent some animation services revenue. Because of our relationship with Disney under the Co-Production Agreement, Disney is expected to continue to represent significantly greater than 10% of our revenue in 2001 and for the foreseeable future. As of March 31, 2001, amounts related to Disney include unearned revenue from Disney, which represents 86% of unearned revenue on the balance sheet. Cost of Revenue Cost of film and animation services revenue for the three months ended March 31, 2001 decreased to $2.2 million from $15.0 million in the corresponding prior year period. Cost of film revenue represents amortization of capitalized film costs. See "Capitalized Film Production Costs." For the three months ended March 31, 2001, cost of film revenue represents amortization of film costs associated with Toy Story 2 and A Bug's Life, and represents 15% of total film revenue. For the three months ended April 1, 2000, cost of film revenue represented amortized costs associated with Toy Story 2 and A Bug's Life, and represented 26% of total film revenue. The decrease in cost of revenue as a percent of revenue for the current period as compared to the prior year period, is attributable to a combination of factors: (1) an increase in Toy Story revenue for which there was no related cost, as all Toy Story film costs were fully amortized by December 31, 1997; (2) revisions of estimates on revenue to be received under the individual film forecast method for A Bug's Life and Toy Story 2 resulting in lower amortization of capitalized film costs; and (3) the mix of film revenue from quarter to quarter as the gross profit percent varies by film. Cost of software revenue consists of the direct costs and manufacturing overhead required to reproduce and package our software products, as well as amortization of purchased technology. Cost of software revenue as a percentage of the related revenue was 8% and 5% for the three months ended March 31, 2001 and April 1, 2000, respectively. Cost of software revenue for the three months ended March 31, 2001 and April 1, 2000, relates primarily to amortization of purchased technology associated with the acquisition of PEI of $120,000. We are amortizing this purchased technology against related license revenue over a period not to exceed four years. Operating Expenses Total operating expenses increased to $4.0 million for the quarter ended March 31, 2001, from $3.6 million in the corresponding prior year period. We intend to continue to increase operating expenses in a number of areas. With respect to general expense growth, as a result of competition, we have had to pay higher salaries for technical and administrative personnel. We expect compensation for such personnel may continue to increase. We still expect future operating expenses to reflect the growth of the studio as we prepare for the release of Monsters, Inc. and as we ramp up toward our goal of producing one feature film per year. Under the Co-Production Agreement, Disney reimburses us for half of certain general and administrative costs and certain research and development costs that benefit the productions. The funding received from Disney is treated as operating expense reimbursements. To the extent that personnel, facilities and other expenditures are not capitalized by us nor allocated to and paid for by Disney, and precede or are not subsequently followed by an increase in revenue, our business, operating results and financial condition will be materially adversely affected. 10 12 Research and Development. Research and development expenses consist primarily of salaries and support for personnel conducting research and development for our RenderMan(R) software and for our proprietary Marionette and Ringmaster animation and production management software and for creative development for future films. Research and development expenses increased to $1.5 million in the three months ended March 31, 2001 from $1.4 million in the corresponding prior year period. During the first quarter of fiscal year 2000 we recorded a one-time adjustment of $523,000, which reduced our research and development expenses for the three months ended April 1, 2000, from $1.9 million to $1.4 million. This adjustment was due to an additional reimbursement from Disney under the terms of the Co-Production Agreement for certain research and development expenses incurred prior to fiscal year 2000. After allowing for this adjustment, the decrease in research and development expenses from 2000 was due to a reduction in short film project costs, which was somewhat offset by our continued investment in proprietary technology. We expect research and development expenses to increase in future periods. To date, all research and development costs not reimbursed by Disney have been expensed as incurred. Sales and Marketing. Sales and marketing expenses consist primarily of salaries and related overhead, as well as public relations, advertising, technical support and trade show costs required to support our software segment. Sales and marketing expenses remained level at $390,000 for the three months ended March 31, 2001 and April 1, 2000. We believe that sales and marketing expenses will increase in future periods, particularly in the areas of public relations and corporate marketing. General and Administrative. General and administrative expenses consist primarily of salaries of management and administrative personnel, insurance costs and professional fees. General and administrative expenses increased to $2.1 million for the three months ended March 31, 2001 from $1.8 million in the corresponding prior year period. This increase is due in part to ramping up the studio toward our goal of producing an animated feature film every year. We expect general and administrative expenses to increase in future periods. Other Income, Net Other income, net was $3.2 million and $2.8 million for the three months ended March 31, 2001 and April 1, 2000, respectively, consisting primarily of interest income on short-term investments. The increase is primarily due to an increase in interest rates and an increase in our average cash, cash equivalents and short-term investment balances through March 31, 2001. Income Taxes Income tax expense from continuing operations for the three months ended March 31, 2001 reflects our federal and state income tax expense of 37.1% versus 41.5% in the same period of the prior year. Our income tax rate is lower in 2001 due to the utilization of research and experimentation credits for federal and state tax purposes, as well as the utilization of certain other state credits and exemptions. CAPITALIZED FILM PRODUCTION COSTS We had $69.8 million in capitalized film production costs as of March 31, 2001, consisting primarily of costs relating to Toy Story 2, A Bug's Life, Monsters, Inc., Finding Nemo, Film Six, and Film Seven all of which are being co-financed by Disney under the Co-Production Agreement. All Toy Story capitalized film costs were fully amortized as of December 31, 1997. LIQUIDITY AND CAPITAL RESOURCES Cash, cash equivalents and short-term investments increased $63.3 million to $266.1 million at March 31, 2001 from $202.8 million at December 30, 2000 due primarily to cash received from Disney for our share of film revenue, as well as software revenue and interest income, which was offset by film production spending and capital expenditures. 11 13 Net cash provided by continuing operations for the three months ended March 31, 2001 was primarily attributable to net income of $8.3 million, the non-cash impact of depreciation and amortization expense and amortization of capitalized film production costs totaling $4.1 million and a decrease in receivables from Disney of $71.7 million, which were offset by decreases in accounts payable, accrued liabilities and unearned revenue totaling $6.5 million. Net cash used in investing activities primarily consisted of investments in short-term securities of $86.7 million, the purchase of property and equipment of $1.4 million and funding of film production costs of $14.9 million, which were offset by net proceeds from sales of short-term investments of $38.8 million. Net cash provided by financing activities consisted of proceeds from exercised stock options. As of March 31, 2001, our principal source of liquidity was $266.1 million in cash, cash equivalents and short-term investments. We believe that these funds will be sufficient to meet our operating requirements through the next twelve months. IMPACT OF RECENT ACCOUNTING PRONOUNCEMENTS In June 2000, the AICPA issued Statement of Position (SOP) 00-2, "Accounting by Producers or Distributors of Films." The guidance in this SOP applies to all types of films, and is applicable to all producers or distributors that own or hold rights to distribute or exploit films. For purposes of this SOP, films are defined as feature films, television specials, television series, or similar products including animated films and television programming that are sold, licensed or exhibited, whether produced on film, videotape, digital, or other video recording format. SOP 00-2. We adopted SOP 00-2 during the first quarter of fiscal year 2001. Adoption did not have a material effect on our financial statements, liquidity or results of operations. In June 1998, the FASB issued Statement of Financial Accounting Standards SFAS No. 133 (SFAS 133), "Accounting for Derivative Instruments and Hedging Activities", which as amended by SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities, Deferral of the Effective Date of FASB Statement No. 133, and Amendment of FASB Statement No. 133" and SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging Activities, an amendment of FASB No. 133," issued in June 2000, will be effective for all fiscal quarters of fiscal years beginning after June 15, 2000. SFAS 133 establishes accounting and reporting standards for derivative instruments and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. SFAS 133 generally provides for matching the timing of gain or loss recognition of (a) the changes in the fair value of the hedged asset or liability that are attributed to the hedged risk or (b) the earnings effect of hedged forecasted transactions. The adoption of this statement during the first quarter of fiscal year 2001, did not have a material effect on our financial statements, liquidity or results of operations, as the Company had no derivative instruments. RISK FACTORS The following is a discussion of certain factors that currently impact or may impact our business, operating results and/or financial condition. You should carefully consider these factors before making an investment decision with respect to our Common Stock. TO MEET OUR FISCAL 2001 DILUTED EARNINGS PER SHARE TARGET, WE MUST RECEIVE SUFFICIENT REVENUES PRIMARILY FROM OUR FEATURE FILMS AND, TO A LESSER EXTENT, OUR NON-FILM RELATED SOURCES. In 2001, our revenue and operating results will be largely dependent upon (1) the timing and amount of worldwide television revenues for A Bug's Life, Toy Story, and Toy Story 2, (2) the timing and amount of related revenues from Toy Story 2 domestic and foreign home video sales, (3) the timing and amount of Monsters, Inc., Toy Story franchise, and A Bug's Life merchandise sales and ancillary royalties, (4) the timing and amount of revenue from the Buzz Lightyear of Star Command television series and related home video release, (5) the timing and amount of our remaining revenues from the home video releases of A Bug's Life and Toy Story as part of Disney's Gold Collection, (6) the timing of the theatrical release of Monsters, Inc. and the amount of related revenues, (7) the timing and amount of distribution costs incurred in all markets for Monsters, Inc., Toy Story 2, Toy Story, and A Bug's Life, (8) the timing, accuracy, and sufficiency of the 12 14 information we receive from Disney to determine revenues and associated gross profits, and (9) the timing and amount of non-film related revenues, such as licensing our software and interest income; and (10) the market price of our common stock and related volatility. Dependence on revenue from our feature films. Under the Co-Production Agreement, Pixar and Disney share equally in the profits of A Bug's Life, Toy Story 2, and Monsters, Inc. after Disney recovers its distribution fee and its marketing and distribution costs. Distribution costs include worldwide theatrical release costs, costs related to merchandise, Disney's costs to distribute home videos in the United States and foreign markets, Disney's distribution fee, and other distribution costs including talent participation and residuals. Beginning with the first quarter of 2000, we have had an improved ability, through information available to us from Disney and other sources, to estimate and record our share of film revenues and gross profits. While we anticipate this improved ability will continue to allow us to recognize our share of film revenues and gross profits on a more timely basis, we will remain dependent on the timing, accuracy, and sufficiency of the information provided by Disney. For our business to be successful, our films must achieve extraordinary box office success. It is rare for animated feature films to achieve extraordinary box office success. While we have been successful in the release of our first three feature films, this level of success is unusual in the motion picture industry, and our future releases may not achieve similar results. Beyond 2001, we will be dependent on the future success of Monsters, Inc., Finding Nemo, Film Six, and Film Seven (together referred to as the "Current Projects"). Unless Monsters, Inc. and Finding Nemo achieve extraordinary box office success and also achieve success in home video and merchandise sales, they may not generate significant revenue and operating results for us in future years. Dependence on Toy Story franchise and A Bug's Life. We will continue to be significantly dependent upon the success of Toy Story 2 in fiscal year 2001. In 2000, we recognized essentially all of Toy Story 2 worldwide theatrical revenues, as well as a substantial amount of anticipated related merchandise revenue. Toy Story 2 was released on home video domestically on October 17, 2000, and was released in various major international markets, including the U.K. and Japan, in November 2000. Consequently, a significant amount of expected lifetime worldwide home video revenues from Toy Story 2 was recognized in the fourth quarter of 2000. We also recognized a significant amount of expected revenues from the Buzz Lightyear of Star Command television series and related home video release in the third and fourth quarter of 2000. In fiscal year 2001, we anticipate revenues from continuing worldwide home video sales, ancillary merchandising revenue from our library titles, as well as some television revenues. However, there can be no assurance that such revenues will be sufficient to meet our targeted earnings for 2001. A Bug's Life was released in November 1998, and we have recognized film revenues to date of $118.4 million resulting primarily from the domestic and foreign theatrical revenues from A Bug's Life, related domestic and foreign home video revenue, related merchandise licensing, and some television revenue, offset by Disney's marketing and distribution costs and its distribution fee. This revenue from A Bug's Life represents a significant amount of the revenue we expect to recognize over the lifetime of A Bug's Life. However, in line with Disney's new home video strategy, by which more titles will be available on a year-round basis, A Bug's Life VHS and DVD were repackaged and released as part of Disney's Gold Collection on August 1, 2000. We expect sources of revenue in fiscal year 2001 to include any revenues from these continuing home video sales, possibly some television revenues, and any residual merchandise revenues and ancillary royalties; however, there can be no assurance that such revenues will be sufficient to meet our targeted earnings for 2001. Dependence on Monsters, Inc. While we anticipate Monsters, Inc. will be released as targeted in November 2001, we cannot guarantee Monsters, Inc. will be released at the scheduled time, and if it is released as scheduled, whether it will be a box office success. A portion of our anticipated revenues for fiscal year 2001, are based on the assumption that Monsters, Inc. will be released in November 2001, and that it will be an extraordinary box office success. If Monsters, Inc. is not released as scheduled or is not an extraordinary box office success, it could adversely impact our targeted 2001 operating results. 13 15 Forecasting revenue from our feature films is extremely difficult. It is difficult to forecast the amount and timing of our future revenues from Toy Story, A Bug's Life, Toy Story 2 and Monsters, Inc. for fiscal year 2001. The amount of future revenues depends not only on customer acceptance of a film in its worldwide theatrical release, but also on customer acceptance of related products in each separate release category -- home video, merchandise and television collectively, being the most significant. While customer acceptance is initially measured by box office success, customer acceptance within each follow-on product category, such as home video, merchandise or television, depends on factors unique to each type of product, such as pricing, competitive products, and the time of year or state of the economy in which a product is released, among many other factors. In addition, we have found that the degree of customer acceptance varies widely among foreign countries. While box office success is often a good indicator of general customer acceptance, the relative success of follow-on products is not always directly correlated, and the degree of correlation is difficult to predict. Disney's strategic distribution decisions also impact the amount of our future revenues. For example, in the first half of 1999, Disney reported general softness in its domestic home video sales and worldwide merchandise licensing as compared to levels associated with many of its previous blockbuster animated feature films. As a result, in 2000 Disney implemented a new strategy of releasing animated films on home video year round, and in special editions in both VHS and DVD formats. However, the relative success of that new strategy is still not yet known. For this reason and all of the above reasons, in spite of Toy Story 2's remarkable box office success, it is difficult to predict how successful its lifetime home video sales will be, or how successful sales of other follow-on products will be for fiscal year 2001. Similarly, it is difficult to predict residual video sales or television revenue from A Bug's Life in 2001. It is also difficult to predict theatrical revenue and related merchandise revenue from the anticipated release of Monsters, Inc. in November 2001. With respect to the difficulty of forecasting the timing of revenues, Disney distributes our films and film-related products and therefore determines the timing of product releases. While the timing of theatrical releases is typically known well in advance of release, the timing of release of follow-on products is often decided just in advance of release, is subject to change, and is therefore less predictable. For example, it was not until the first quarter of fiscal year 2000 that it was determined that the Toy Story 2 home video would be released domestically on October 17, 2000. In all product categories, timing of revenues is particularly uncertain with respect to releases in foreign markets as a foreign product release is often marked by a rollout across many countries over the course of many months. Therefore, the timing of international revenues is inherently more difficult to predict than the timing of domestic revenues. In addition, the amount of revenue recognized in any given quarter or quarters from all of our films depends on the timing, accuracy, and sufficiency of the information we receive from Disney to determine revenues and associated gross profits. Although we obtain from Disney the most current information available to recognize our share of revenue and to determine our film gross profit, Disney may make subsequent adjustments to the information that it has provided which could have a material impact on us in later periods. For instance, towards the end of the life cycle for a revenue stream, Disney may inform us of additional distribution costs to those previously forecasted, as occurred in the second quarter of fiscal year 2000. Such adjustments have and may continue to impact our revenue share and our film gross profit. In addition, through information we obtain from other sources, we may make certain judgments and/or assumptions and adjust the information we receive from Disney. Due to these factors, the amount and timing of our future revenues from Toy Story, Toy Story 2, A Bug's Life and Monsters, Inc. are difficult to forecast, and it is possible, in any given quarter, that we will not recognize sufficient film revenue to generate significant earnings. Under the Co-Production Agreement, Pixar and Disney share the production costs of our feature films. We initially capitalize our share of these costs as film production costs. Our policy is to amortize these costs over the expected revenue streams as we recognize revenues from the associated films. The amount of film costs that will be amortized each quarter will depend on how much future revenue we expect to receive from each film. In any given quarter, if our forecast changes with respect to total anticipated revenue from any individual feature film and becomes lower than was previously forecasted, we would be required to accelerate amortization of related film costs, resulting in lower gross margins. Such lower gross margins would adversely impact our business, operating results, and financial condition. 14 16 Software revenue. Software revenue declined in the first quarter of fiscal year 2001 as compared to the first quarter of 2000. This decline may be indicative of future trends as we continue to reduce our emphasis on the commercialization of software products. We are not increasing the time and resources necessary to generate higher RenderMan(R) licensing revenues; therefore, we expect that revenue from the licensing of RenderMan(R) will remain flat or possibly decline. However, to meet our fiscal 2001 diluted earnings per share target, our revenue estimates include revenues attributable to non-film related sources including software revenue. There can be no assurance that the timing and amount of such revenues will be sufficient to meet our targeted earnings. OUR OPERATING RESULTS HAVE FLUCTUATED IN THE PAST, AND WE EXPECT SUCH FLUCTUATIONS TO CONTINUE. Our revenues fluctuate significantly. We continue to expect significant fluctuations in our future annual and quarterly revenues because of a variety of factors, including the following: - the timing of the domestic and international releases of our animated feature films, - the success of our animated feature films, which can fluctuate significantly from film to film, - the timing of the release of related products into their respective markets, such as home videos, television, and merchandising, - the demand for such related products, which is often a function of the success of the related animated feature film, - Disney's costs to distribute and promote the feature films and related products, - Disney's success at marketing the films and related products, - the timing and accuracy of information received from Disney and other sources on which we base estimates of revenue to be recognized from our animated feature films and related products by Disney, - the introduction of new feature films or products by our competitors, - general economic conditions, and - timing and amount of non-film related revenues such as licensing of our software. In particular, since our revenue under the Co-Production Agreement is directly related to the success of a feature film, our operating results are likely to fluctuate depending on the level of success of our animated feature films and related products. The revenues derived from the production and distribution of an animated feature film depend primarily on the film's acceptance by the public, which cannot be predicted and does not necessarily bear a direct correlation to the production or distribution costs incurred. The commercial success of a motion picture also depends upon promotion and marketing, production costs and other factors. Further, the theatrical success of a feature film can be a significant factor in determining the amount of revenues generated from the sale of the related products. Our operating expenses fluctuate. Our operating expenses and effective tax rate continue to fluctuate. Operating expenses for the first quarter of fiscal year 2001 increased in comparison to the first quarter of fiscal year 2000 and we expect to continue to increase our operating expenses to fund greater levels of research and development, to build to our goal of producing one feature film per year and to expand operations. Specifically, we expect our spending levels to increase significantly due to (1) continued investment in proprietary software systems, (2) potential increased compensation costs as a result of competition for creative, technical and administrative talent, (3) increased costs associated with the expansion of our facilities, (4) number of personnel required to support studio growth and (5) increased investment in creative development. A portion of our operating expenses that are allocable to film productions is either capitalized by us or reimbursed by Disney under the Co-Production Agreement. To the extent that we do not capitalize (or Disney does not pay for) the increases in expenses, our operating expenses will significantly increase in 2001. Finally we expect our tax rate in 2001 to be lower than statutory rates due to the realization of certain tax benefits. We realize tax benefits from the 15 17 exercise of non-qualified employee stock options that reduce the amount of our tax payments and liabilities, but will not reduce our future effective tax rates. Forecasting our operating expenses is extremely difficult. Moreover, our operating expenses will continue to be extremely difficult to forecast. We budget the direct costs of film productions with Disney, and we share such costs equally. We capitalize our share of these direct costs of film production in accordance with SOP 00-2, which we adopted in the first quarter of fiscal year 2001. A substantial portion of all of our other costs are incurred for the benefit of feature films ("Overhead"), including research and development expenses and general and administrative expenses. Portions of our Overhead are included in the budgets for the Pictures, and we will share such costs equally with Disney under the Co-Production Agreement. With respect to the portion of our Overhead that is not reimbursed by Disney, we either (1) capitalize such portion as film production costs, if required under SOP 00-2, or (2) charge it to operating expense in the period incurred. Since a substantial portion of our Overhead is related to the Pictures, and is therefore reimbursed by Disney, and since we capitalize other amounts in accordance with SOP 00-2, our reported operating expenses for the first quarter of fiscal year 2001 have not reflected, and future reported operating expenses will not reflect, our true level of spending on the production of animated feature films, related products and overhead. Film production budgets are likely to continue to increase, and film production spending may exceed such budgets. Given the (1) escalation in compensation rates of people required to work on the Current Projects, (2) number of personnel required to work on the Current Projects, and (3) equipment needs, the budget for the Current Projects and subsequent films and related products may continue to be greater than the budgets for Toy Story, A Bug's Life, and Toy Story 2. We will continue to finance these budgets equally with Disney under the Co-Production Agreement. In addition, due to production exigencies which are often difficult to predict, we believe that it is not uncommon for film production spending to exceed film production budgets, and the Current Projects may not be completed within the budgeted amounts. For example, to meet the production schedule of Toy Story 2, we reassigned employees from other projects, including Monsters, Inc., to complete Toy Story 2. This resulted in a larger production staff than originally anticipated and it increased production costs. In addition, when production of each film is completed, we may incur significant carrying costs associated with transitioning personnel on creative and development teams from one project to another. These carrying costs are shared with Disney and treated as film costs, which increases overall production budgets and could have a material adverse effect on our results of operations and financial condition. OUR SCHEDULED SUCCESSIVE RELEASES OF FEATURE FILMS WILL CONTINUE TO PLACE A SIGNIFICANT STRAIN ON OUR RESOURCES. In order to meet our obligations pursuant to the Co-Production Agreement, we have established parallel creative teams so that we can develop more than one film at a time. These teams are currently working on Monsters, Inc., which is presently targeted for release in November 2001, and Finding Nemo, which is currently targeted for release in summer 2003. We also plan to have parallel creative teams for Film Six and Film Seven and further to work towards producing one feature film per year. We have only produced three prior feature films to date and have limited experience with respect to producing animated feature films in parallel. We have been required, and will continue to be required, to expand our employee base, increase capital expenditures and procure additional resources and facilities in order to accomplish the scheduled release of these two feature films. This period of rapid growth and expansion has placed, and continues to place, a significant strain on our resources. We cannot provide any assurances that Monsters, Inc. or Finding Nemo will be released as targeted or that this strain on resources will not have a material adverse effect on our business, financial condition or results of operations. For example, to meet the production schedule of A Bug's Life, we reassigned employees from other projects, including Toy Story 2, to A Bug's Life. Similarly, to meet the production schedule of Toy Story 2, we reassigned employees from other projects, including Monsters, Inc., to Toy Story 2. In addition, John Lasseter, who was previously providing creative oversight for Toy Story 2 in his role as Executive Vice President, Creative, assumed the role of Director of Toy Story 2 in order to expedite development and production of the film. Using the personnel of future films to meet the immediate deadlines of films nearing release, as we have for both A Bug's Life and Toy Story 2, is likely to have the long term impact of pushing out the targeted release dates of future films, substantially increasing film budgets, and adversely impacting our ability to generate creative concepts for subsequent films on a timely basis. 16 18 In addition, as Director of Toy Story 2, John Lasseter was focused on Toy Story 2 until its completion in 1999, and was less available to assist on Monsters, Inc. during its development phase. John Lasseter's availability has been a key ingredient in the successful completion of our prior films. A lack of his availability may adversely impact our ability to release future films as targeted. If we are able to release films in 2001 and 2003, we cannot provide any assurances that we will release our next film in 2004. Due to the strain on our personnel from the effort required for the release of Monsters, Inc. and Finding Nemo and the time required for creative development of a new film, it is possible that we would be unable to release a successive new film in 2004. It is too early to determine the rate at which any future films are to be released, and we cannot provide any assurances that we will release a film in each successive year or in any particular year. To continue to accommodate growth, we will be required to implement a variety of new and upgraded operational and financial systems, procedures and controls, including improvement and maintenance of our accounting system, other internal management systems and backup systems. In addition, this growth and these diversification activities, along with the corresponding increase in the number of our employees and rapidly increasing costs, have resulted in increased responsibility for our management team. We will need to continue to improve our operational, financial and management information systems and to hire, train, motivate and manage our employees, to integrate them into Pixar and to provide adequate facilities and other resources for them. We cannot provide any assurance we will be successful in accomplishing all of these activities on a timely and cost-effective basis. Any failure to accomplish one or more of these activities on a timely and cost-effective basis would have a material adverse effect on our business, financial condition and results of operations. BUSINESS INTERRUPTIONS COULD ADVERSELY AFFECT OUR OPERATIONS. Our operations are vulnerable to interruption by fire, earthquake, power loss, telecommunications failure and other events beyond our control. We are currently expanding our detailed disaster recovery plan. Our facilities in the State of California are currently subject to electrical blackouts as a consequence of a shortage of available electrical power. In the event these blackouts continue or increase in severity, they could disrupt the operations of our affected facilities. In connection with the shortage of available power, prices for electricity have risen dramatically, and will likely continue to increase for the foreseeable future. Such price changes will increase our operating costs, which could in turn adversely affect our profitability. Although we carry business interruption insurance, our policy does not cover electrical blackouts. Moreover, for interruptions that are covered by our policy, there can be no assurance that such insurance will be sufficient to compensate us for losses that may occur, and any losses or damages incurred by us could have a material adverse effect on our business. WORK STOPPAGES BY THE SCREEN ACTORS' GUILD AND THE AMERICAN FEDERATION OF TELEVISION AND RADIO ARTISTS COULD ADVERSELY AFFECT OUR OPERATIONS. Although none of our employees are represented by a labor union, it is common for animators and actors at film production companies to belong to a union. There can be no assurance that our employees will not join or form a labor union or that we, for certain purposes, will not be required to become a union signatory. We are directly or indirectly dependent upon certain union members, and work stoppages or strikes organized by such unions could materially adversely impact our business, financial condition or results of operations. For example, many of the actors who provide voice talent for the Pictures and Derivative Works are members of the SAG and/or AFTRA and the current SAG and AFTRA contract expires June 30, 2001. If a work stoppage did occur, it could have a material adverse effect on the completion of our films as currently scheduled and on our operations. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Investment Portfolio. We invest in a variety of investment grade, interest-bearing securities, including fixed rate obligations of corporations, municipalities and national governmental entities and agencies. This 17 19 diversification of risk is consistent with our policy to ensure safety of our principal and maintain liquidity. We only invest in securities with a maturity of 24 months or less, with only government obligations exceeding 12 months. Our investments are primarily fixed rate obligations and carry a certain degree of interest rate risk. A rise in interest rates could adversely impact the fair market value of these securities. All of our financial instruments are held for purposes other than trading and are considered "available for sale" per SFAS 115, "Accounting for Certain Investments in Debt and Equity Securities." The table below provides information regarding our investment portfolio at March 31, 2001. The table presents principal cash flows and related weighted-average fixed interest rates presented by expected maturity date (dollars in thousands):
LESS THAN OVER 1 YEAR 1 YEAR TOTAL --------- ------- -------- Available-for-sale securities....................... $149,016 $38,789 $187,805 Weighted-average interest rate...................... 5.53% 5.91% 5.61%
Impact of Foreign Currency Rate Changes. While our products are distributed in foreign markets by Disney and its affiliates, we are not directly exposed to foreign currency rate fluctuations. However, we recognize revenues from foreign territories based on an average foreign currency exchange rate used by Disney for revenue reporting. This rate may differ from the actual exchange rate at the time cash is remitted to Disney and subsequently to us. Therefore, there may be some indirect foreign currency exchange rate exposure as managed by Disney. 18 20 PART II -- OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) EXHIBITS 10.1 Employment Agreement between the Registrant and John Lasseter dated March 21, 2001.* - --------------- * We have requested confidential treatment for a portion of this exhibit. (b) REPORTS ON FORM 8-K No reports on Form 8-K were filed by Pixar during the quarter ended March 31, 2001. ITEMS 1, 2, 3, 4 AND 5 ARE NOT APPLICABLE AND HAVE BEEN OMITTED. 19 21 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. PIXAR By: /s/ ANN MATHER ------------------------------------ Ann Mather, Executive Vice President and Chief Financial Officer (Principal Financial and Accounting Officer and Duly Authorized Officer) Date: May 15, 2001 20 22 EXHIBIT INDEX
EXHIBITS DESCRIPTION - -------- ----------- 10.1 Employment Agreement between the Registrant and John Lasseter dated March 21, 2001.*
- --------------- * Confidential treatment requested for a portion of this exhibit. 21 EX-10.1 2 f72303ex10-1.txt EXHIBIT 10.1 1 EXHIBIT 10.1 Note: Information in this document marked with an "[*]" has been omitted and filed separately with the Commission. Confidential treatment has been requested with respect to the omitted portions. EMPLOYMENT AGREEMENT This Employment Agreement made and entered into by and between PIXAR, a California corporation (the "Company") and JOHN LASSETER ("Employee") effective as of March 21, 2001. Reference is made to that certain executed Employment Agreement ("Prior Agreement") made and entered into by and between Company and John Lasseter dated as of February 24, 1997. As an inducement for the parties to enter into this Employment Agreement, the parties agree that notwithstanding anything to the contrary contained in the Prior Agreement, the Term of the Prior Agreement shall expire as of March 20, 2001 and shall be superceded by this Agreement. 1. ENGAGEMENT: 1.1 Guaranteed Employment Term. (a) The Company agrees to employ Employee and Employee agrees to accept such employment, for a period equal to ten (10) years commencing on March 21, 2001 ("Start Date") and ending on March 20, 2011 (the "Term"). Company may terminate this Employment Agreement prior to the expiration of the Term in accordance with Company's Termination Rights under 6.5 below or in the event of Employee's death, Incapacity or Default or an event of Force Majeure as more fully set forth in paragraph 6.8 below. Employee may not terminate Employee's services hereunder prior to the expiration of the Term except as more fully set forth in paragraphs 6.7 and 6.8 below. 1.2 Duties and Responsibilities. (a) During the Term and any extensions thereof, Employee shall be employed by the Company as a director and as "Executive Vice President - Creative" of the Company, reporting directly to the CEO of Company and/or the President, and/or the Office of the President, if any, as the CEO of Company may from time to time designate. Company and Employee acknowledge that Employee's first priority shall be the directing or supervision of feature length motion pictures ("Picture(s)") and serving, at Company's direction, as Company's representative to Walt Disney Pictures ("Disney") in the exercise of Company's creative control rights and obligations and that Employee's other duties for Company shall not materially interfere with such priority services. Employee agrees that during the Term he will render exclusive services to Company and devote his full time, effort and energies during business hours to his responsibilities for the Company, and that he shall faithfully and to the best of his ability discharge those duties. (b) During the Term, Company and Employee shall have the following creative control rights with respect to the development, pre-production, production and post-production of the Pictures, made for home video productions and short subject motion pictures (collectively, the "Productions"): (i) with respect to Productions for which Employee renders executive producing services (but not directing services) [*], provided that in the event of [*], the [*]; and (ii) with respect to Productions directed by Employee, [*], provided that each party shall [*] and so not to [*]. The parties acknowledge that [*]. [*] Certain information on this page has been omitted and filed separately with the Commission. Confidential treatment has been requested with respect to the omitted portions. 2 1.3 Location. Company agrees that Employee's services for Company will be based at the Company's headquarters in Emeryville, California unless otherwise approved by Employee. 2. COMPENSATION: 2.1 Salary. Subject to the full and complete performance by Employee of all of Employee's material obligations hereunder, Company shall pay to Employee the following: (a) Signing Bonus. Company shall pay to Employee the sum of $4,940,000 within ten (10) business days after the execution of this Employment Agreement. Company shall pay [*], as directed by Employee, the sum of [*] within ten (10) business days after execution of this Employment Agreement. (b) Salary. Company shall pay to Employee the annual salary of $2,500,000, with five percent (5%) cumulative annual increases at each anniversary date of the Start Date. Employee's salary shall be payable in accordance with Company's customary payroll practices, which in no event shall be less frequently than on a monthly basis. All payments made to Employee as salary, signing bonus, or otherwise shall be subject to such deductions, withholdings and limitations as shall from time to time be required by law, governmental regulations or orders. 2.2 Stock Options. (a) As additional consideration under this Agreement, the Company has granted to Employee a non-qualified option for the purchase of 1,000,000 shares of the Company's Common Stock pursuant to the terms and conditions of the Company's Stock Option Plan. The exercise price for said option is $26.50 per share representing the fair market value of the Company's Common Stock as of the date of the grant of said option. The grant of said option occurred on December 6, 2000. The options shall vest on an equal monthly basis over the ten (10) years of the Agreement. (b) In the event of a "Change of Control" (as defined below) or if Company exercises its Termination Rights under Section 6.5 below, the then unvested portion of the stock option held by Employee shall have the vesting accelerated by 100% of the remaining unvested shares under the option. For purposes of this Agreement, "Change of Control" shall mean: (i) any "person" (as such term as used in Sections 13(d) and 14(d) of the Securities Exchange Act of 1934, as amended) other than Steve Jobs becomes the "beneficial owner" (as defined in Rule 13d-3 under said Act), directly or indirectly, of securities of the Company representing 50% or more of the total voting power represented by the Company's then outstanding voting securities; (ii) the consummation of a merger or consolidation of the Company with any other corporation, other than a merger or consolidation which would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving entity) at least 50% of the total voting power represented by the voting securities of the Company or such surviving entity outstanding immediately after such merger or consolidation; or (iii) the consummation of the sale or disposition by the Company of all or substantially all of the Company's assets. [*] Certain information on this page has been omitted and filed separately with the Commission. Confidential treatment has been requested with respect to the omitted portions. -2- 3 2.3 Theatrical Motion Picture Bonus. (a) Employee shall not be entitled to any bonus compensation on Pictures except as specifically set forth below. (b) If Employee received a "directed by" credit on a Picture released prior to March 14, 2001 ("Past Picture") and said Past Picture is re-released, Employee shall be entitled to receive contingent bonuses (which bonuses are cumulative at each box office benchmark) based upon the aggregate domestic theatrical box office gross receipts of such Past Picture derived from the initial theatrical release and the theatrical rerelease(s) as reported in the Daily Variety (or if Daily Variety discontinues such service, the parties shall mutually determine an appropriate replacement, but in the event of a disagreement relating to such replacement, the decision of Company shall govern), as follows, payable within 30 days after such milestone is reported in Daily Variety: [*] Employee acknowledges that Employee has received all bonuses due relating to the initial theatrical release (as opposed to future rerelease) of the Past Pictures. (c) In the event (i) there is a Change of Control, (ii) Employee is entitled to receive a "directed by" credit on a Picture delivered to Company after such Change of Control, and (iii) Employee fully performs all directing services requested by Company in accordance with this Agreement and material obligations requested by Company in accordance with the terms of this Agreement in connection with the applicable Picture under this subparagraph (c), Employee shall be entitled to receive contingent bonuses (which bonuses are cumulative at each box office benchmark) based upon the aggregate domestic theatrical box office gross receipts of such Picture under this subparagraph (c) as reported in the Daily Variety (or if Daily Variety discontinues such service, the parties shall mutually determine an appropriate replacement, but in the event of a disagreement relating to such replacement, the decision of Company shall govern), as follows, payable within 30 days after such milestone is reported in Daily Variety: [*] If Employee's services are terminated (including, but not limited to, termination as a result of expiration of the Term of this Agreement) as director in connection with a Picture under this subparagraph (c) by any reason other than Employee's breach or default of a material term or condition hereunder, the contingent compensation set forth in this Section 2.3(c) with regard to such Picture shall vest each month that Employee performs services on such Picture as to a percentage equal to the quotient obtained when one is divided by the total number of months of scheduled pre-production, production and post-production of such Picture, but in no event shall the total number of scheduled pre-production, production and post-production months exceed forty-eight (48) months. As an example only, if production, pre-production, production and post-production for a Picture under this subparagraph (c) are scheduled for a total of four years (i.e., forty-eight (48) months), then vesting shall be 1/48th or 2.083% for each month of Employee's services on such Picture. Notwithstanding the foregoing, if Employee's services are terminated for any reason other than Default under Section 6.8 below, then if Employee has completed services for seventy-five percent (75%) or more of the total schedule as computed above, then the contingent compensation set forth in this Section 2.3(c) above shall be deemed fully vested. [*] Certain information on this page has been omitted and filed separately with the Commission. Confidential treatment has been requested with respect to the omitted portions. -3- 4 2.4 Fringe Benefits. Employee shall be eligible to participate, in accordance with their terms, in all medical and health plans, life insurance and pension plans and such other employment benefits or programs (other than executive bonus plans) as are maintained by Company for its employees provided that Company shall at all times be free to modify or amend such plans on a Company wide basis in accordance with the provisions thereof. Notwithstanding the foregoing, in no event shall such fringe benefits (other than executive bonus plans) be less favorable to Employee than those accorded to any other employee of Company other than the CEO of Company. 2.5 Paid Vacations. (a) Employee shall be entitled to paid vacation in accordance with the vacation policy of Company (including, without limitation, any restrictions on the amount of accrued time to be paid at the expiration of the Term), but in no event less than four (4) weeks per annum. Notwithstanding the foregoing, Employee shall not be entitled to accrue any vacation time in any contract year in which Employee is [*]. Employee may use up to two (2) weeks of previously accrued vacation time in a contract year in which Employee [*]. (b) Employee shall be entitled to carry forward three (3) weeks of accrued vacation time under the Prior Agreement and utilize the same during the Term. (c) Within thirty (30) days after execution of this Agreement, Company shall pay to Employee an amount equal to Employee's accrued vacation time through the termination date of the Prior Agreement, without regard to any restrictions or limitation on accrual of vacation time. 2.6 [*]. (a) Company shall allow Employee [*] on each Picture which Employee directs under this Agreement. Company and Employee shall mutually determine the [*], which shall be no later than [*] from the initial theatrical release of the Picture directed by Employee, unless Employee otherwise agrees. Employee agrees to [*] no less [*] than [*]. During each [*], (i) Employee shall be entitled to [*] and (ii) all terms and conditions of this Agreement (including, without limitation, exclusivity and vesting) shall remain in effect. In the event Employee fails to [*], Company will have no further obligation to Employee in connection therewith, including, without limitation, [*]. (b) Within ten (10) business days of execution of this Agreement, Company shall pay to Employee an amount equal to [*] on account of Employee's unused [*]. 2.7 Expenses. Company recognizes that in connection with Employee's performance of Employee's duties and obligations hereunder Employee will incur certain ordinary and necessary expenses of a business character including, without limitation, travel and expenses relating to the Pictures. Company shall reimburse Employee for all such reasonable business expenses upon presentation of itemized statements of such expenses and appropriate substantiation thereof, in each case in accordance with Company's standard policies. With respect to business travel, Employee shall be entitled to first class airplane transportation for air travel in excess of one [*] Certain information on this page has been omitted and filed separately with the Commission. Confidential treatment has been requested with respect to the omitted portions. -4- 5 and one-half hours duration and shall be treated no less favorably with respect to expenses than (i) other executives of Company or (ii) any individual on the same business trip as Employee. All such expenses shall be subject to the pre-approval of Company. 3. WRITING SERVICES: 3.1 Services. At Company's request, Employee shall render writing services and supervisory services to create stories, treatments and screenplays for the Pictures hereunder. 3.2 Credits. In the event Employee creates the applicable story and renders writing services in connection with any Picture or Past Picture, Employee shall receive a "story by" credit, in first position, on screen in the end titles, or the main titles if any other person receives credit in the main titles of the Picture or Past Picture, (which credit may be shared with no more than three (3) other writers). The Size (as hereinafter defined) of said credit shall be not less than 50% of the Size of the regular title and no less than that accorded to any other individual (other than principal cast members) receiving credit in connection with the Picture or Past Picture. Additionally, Employee shall receive credit in the billing block portion of paid advertising issued and controlled by Company or the distributor (subject to the distributors customary exclusions and restrictions for animated pictures) in a Size not less than 35% of the regular title. Notwithstanding the foregoing, Employee shall receive credit in excluded advertising whenever a writer, producer, director, technical director or executive producer receive credit in said billing block (other than award or congratulatory ads). "Size" shall mean height, width and thickness. All other characteristics of Employee's credit shall be at Company's sole discretion. Notwithstanding the foregoing, the parties acknowledge that Employee will receive a shared "Story By" credit on "Cars." 4. EXECUTIVE PRODUCING SERVICES: 4.1 Services. Employee shall render executive producing services on a non-exclusive first priority basis on all Productions produced by Company during the Term, other than with respect to those Productions which Employee directs. Employee agrees to render all such services as required by Company in accordance with this Agreement and customarily rendered by executive producers of first class productions in the entertainment industry and to comply with all reasonable instructions, requests, rules and regulations of Company in connection therewith, whether or not the same involve matters of artistic taste and judgment during the development, production and post production of the Productions. 4.2 Credits. As to each Past Picture and Production for which at least seventy five percent (75%) of the actual production schedule was completed during the Term and subject to Employee's full performance of all material executive producing services and material obligations in connection therewith, and further subject to the distributor's standard exclusions and exceptions as customarily negotiated for deals of this nature, Company shall accord Employee the following credit, on screen: Executive Producer, on a card which may be shared, which credit shall be in first position of all other executive producer credits, and which credit may be in the main titles (or end titles of the film if all other individual credits are in the end titles). Said credit shall be no less than 50% of the regular title and in Size of type not less than the Size of type accorded to any other individual (other than the principal cast members) of the Past Picture or Production. In addition, -5- 6 Employee shall be entitled to receive credit in the billing block portion of paid advertising issued or controlled by Company or the distributor (subject to distributor's standard exceptions and exclusions as customarily negotiated for deals of this nature) in a Size of type not less than 35% of the Size of type of the regular title of the Past Picture or Production. Employee shall also receive credit in excluded advertising in which a writer, producer, director, technical director or executive producer receive credit in said billing block (other than award or congratulatory ads). All other characteristics of the foregoing credit shall be subject to Company's sole discretion. Notwithstanding the foregoing, Employee shall not be entitled to an executive producer credit on those Past Pictures or Productions on which Employee receives a "directed by" credit. 5. DIRECTING SERVICES: 5.1 Services. (a) Employee shall render services in the capacity of the director for three (3) Pictures during the Term, it being understood that Employee's services for the third Picture are subject to subparagraph (b) below. The parties acknowledge that the first Picture is a car themed project currently entitled "Cars." The parties further acknowledge that if Company elects to produce and finance (in whole or part) an additional sequel or prequel to "Toy Story" and/or "Toy Story 2," Employee will have the first opportunity to direct such prequel or sequel as Employee's next Picture after "Cars." Employee agrees to render all such services as required by Company and customarily rendered by directors of first-class feature length animated motion pictures in the motion picture industry and to comply with all reasonable directions, requests, rules and regulations of Company in connection therewith, whether or not the same involve matters of artistic taste and judgment. If Company and Employee desire to engage a co-director in connection with any Picture directed by Employee, said co-director shall be subject to the approval of Employee, which approval shall be exercised in Employee's sole discretion. Notwithstanding the foregoing, if Company elects to proceed to production of a Picture during the Term and it is reasonably anticipated by Company that the Term shall expire prior to completion of Employee's directing services in connection therewith and Employee and Company have not concluded an agreement for Employee's post term directing services under subparagraph (b) below, then Company will have the right to engage the services of a co-director in consultation with Employee. In any event, such co-director will be subject to Employee's creative direction during Employee's services as the director. (b) Notwithstanding anything to the contrary contained herein, if Company elects to proceed to production of a Picture during the Term and it is reasonably anticipated by Company that the Term shall expire prior to the completion of Employee's directing services in connection therewith either Company or Employee may initiate good faith negotiations for post Term directing services in connection with the applicable Picture (with the compensation set forth herein and theatrical motion picture bonuses, if applicable, under Section 2.3(c) as a floor for such directing services). If the parties are unable to reach an agreement after a period of thirty (30) days from commencement of said negotiations ("Negotiation Period"), Employee shall have the right by written notice to Company within five (5) business days after expiration of the Negotiation Period to extend the Term for up to six (6) months at the then current salary level. If Employee fails to submit such notice, the Term of this Agreement shall be extended on a week-to-week basis until either party terminates upon seven (7) days written notice. -6- 7 5.2 Credits. As to each Past Picture or Picture produced for which Employee renders directing services, and subject to Employee's full performance of all material directing services requested by Company in accordance with this Agreement and material obligations in connection therewith, and further subject to the distributor's standard exclusions and exceptions as customarily negotiated for deals of this nature Company shall accord Employee the following sole credit, on screen, on a separate card, in the end titles or in the main titles if any other individual receives credit in the main titles: "Directed by John Lasseter," which shall be the last card in the main titles or the first card of individual credits in the end titles, subject to industry wide collective bargaining agreements. Said credit shall be no less than 50% of the regular title and in a Size of type not less than the Size of type accorded to any other individual (other than the cast members) of the Picture or Past Picture. In addition, Employee shall be entitled to receive credit in the billing block portion of paid advertising (including packaging of video devices) issued or controlled by Company or the distributors (subject to the distributor's standard exceptions and exclusions and subject to the distributor's customary restrictions as customarily negotiated for deals of this nature) in a Size of type not less than 35% of the Size of type of the regular title of the Picture or Past Picture and 20% of the artwork title of the Picture or Past Picture. Employee shall also receive credit outside of the billing block or in excluded advertising in which any individual (other than principal cast members) receives credit in said excluded ads or outside the billing block (other than award or congratulatory ads). All other characteristics of the foregoing credit shall be subject to Company's sole discretion. 5.3 Delivery. With respect to each of the Pictures which Employee directs, Employee, to the extent within Employee's control, shall comply with the delivery and picture specification requirements of the distributor of the Picture, of which Employee is informed in writing. 5.4 Sequels/Remakes. If within twelve (12) years after the initial release (if any) of the applicable Past Picture or Picture directed by Employee, Company (or its successor and assigns) elects in its sole discretion to produce a theatrical sequel, theatrical remake, television motion picture, mini-series or series, or "made for video production" based on any of the Past Pictures or Pictures directed by Employee ("Subsequent Productions") then provided that the applicable Picture or Past Picture was completed at a final negative cost not exceeding 110% of the approved budget excluding the contingency (excluding excess cost incurred due to Force Majeure events and other causes beyond Employee's control, changes pre-approved by Company, net insurance recoveries and retroactive increases to scale personnel under any collective bargaining agreement which are not reasonably anticipated), that Employee is not in Default hereunder and provided further that Employee is available when reasonably required by Company, then Employee shall have the first opportunity to be the director for the Subsequent Production which, if after the Term shall be upon terms to be negotiated in good faith within Company's standard parameters. If Company and Employee fail to agree on the terms for Employee's engagement on the Subsequent Productions within thirty (30) days following commencement of the negotiations, or if Employee is unavailable or elects not to direct, then Company shall have no further obligation to Employee under this paragraph 5.4. 5.5 Videocassette. If any Picture is produced and Employee performs his services hereunder, Employee shall be entitled to receive one (1) videocassette copy and one (1) DVD (or -7- 8 comparable retail consumer technology) copy of the Picture if and when commercially available for release to the public. 5.6 Premieres. Employee and his spouse shall be invited to all major celebrity premieres of the Picture (if any) in the United States which he directs and shall be entitled to payment of first class transportation and expenses. Employee shall have the right to utilize each Production for one non-exclusive charity premiere of Employee's choice. 5.7 No Union. The parties acknowledge that Company is not a signatory to the DGA Basic Agreement and that the DGA Basic Agreement does not currently apply to the Pictures. 5.8 E&O Insurance. Company shall include Employee as an additional insured on Company's errors and omissions insurance policy consistent with custom and practice in the industry. 6. GENERAL TERMS: 6.1 Right to Insure. Company shall have the right to secure in its own name, or otherwise, and at its own expense, life, health, accident or other insurance covering Employee and Employee shall have no right, title or interest in and to such insurance. Employee shall assist Company in procuring such insurance by submitting to examinations and by signing such applications and other instruments as may be required by the insurance carriers to which application is made for any such insurance. 6.2 Noncompetitive Employment. (a) Employee acknowledges that the nature of the services furnished by Company to its clients requires that Employee at all times perform Employee's services under this Agreement without divided loyalties or obligations to any other person including, without limitation, to any person who may become an employer of Employee following the end of the Term. Accordingly, and without limiting the generality of the principle set forth in the preceding sentence, it shall be a breach of this Agreement for Employee, without prior written notice to and prior written consent of Company, to accept employment with any business, individual, partnership, corporation, trust, joint venture, unincorporated association or other entity or person other than the Company at any time during the Term of this Agreement. During the Term, Employee may not discuss, seek, solicit or accept future post Term employment. (b) During the Term of this Agreement Employee shall not become financially interested in (other than as a stockholder owning less than one percent (1%) of the outstanding capital stock of any publicly traded corporation) or directly associated with any other business or person engaged in a business that is involved in (i) developing, producing, distributing or exploiting motion pictures, home videos, television programs, interactive products or other audio visual works; (ii) the development, sale, licensing or use of computer software for the creation or production of motion pictures, home videos, television programs, interactive products or other audio visual works or (iii) any other business that is competitive with the Company's business or activities without the prior written consent of Company. -8- 9 (c) After the expiration or termination of the Term for any reason whatsoever, Employee shall not either alone or jointly with or on behalf of others, either directly or indirectly, whether as principal, partner, agent, shareholder, director, employee, consultant or otherwise, at any time during the period of two (2) years following the expiration or termination of the Term, offer employment to, or solicit the employment or engagement of, or otherwise entice away from the employment of Company or Disney or any affiliated entity, either for Employee's own account or for any other person, firm or company, any person who is then employed by Company or Disney or any such affiliated entity, whether or not such person would commit any breach of said person's contract by reason of leaving the service of Company, Disney or any affiliated entity. 6.3 Nondisclosure Agreement. Employee acknowledges and confirms his continuing obligations under the Non-Disclosure Agreement previously executed by Company and Employee regarding confidentiality and inventions (the "Confidentiality Agreement"). Employee further acknowledges that said Confidentiality Agreement applies to the terms and conditions of the co-production agreement between Company and Disney to the extent Employee has knowledge of the terms and conditions thereof. To the extent of any inconsistency between this Agreement and the Confidentiality Agreement, this Agreement shall govern. 6.4 Ownership. The results and proceeds of Employee's services hereunder including, but not limited to, creating, designing, sketching, animation, writing and/or directing in connection with ideas, stories, screenplays and the Pictures, Productions or any other Pixar production's or works shall be deemed a work-made-for-hire specially ordered or commissioned by Company ("Results and Proceeds"). As between Employee and Company, Company shall exclusively own all now known or hereafter existing rights of every kind throughout the universe, in perpetuity and in all languages, pertaining to such Results and Proceeds, and all elements therein, for all now known or hereafter existing uses, media, and forms (including, without limitation, all copyrights and renewals and extension thereof), motion picture, television, sequel, remake, character and allied rights therein, and the foregoing is inclusive of a full assignment to Company thereof. In addition, Company shall have the right, throughout the world and in perpetuity, to use and reproduce, and license others to use and reproduce, Employee's name, likeness and biographical data relating to Employee in connection with the Picture and the advertising or exploitation thereof (including without limitation, in promotional films and featurettes relating to any Pictures or projects); provided that in no event shall Employee be depicted as using or endorsing any product, commodity or service. The use of Employee's credit in a billing block shall not be deemed a use or endorsement of a product, commodity or service. Company shall have the right, but not the obligation, to use, adapt, change or revise any work or product of Employee or any part thereof or the title thereof and to combine the same with other material or works and Employee hereby expressly waives any so-called "moral rights" of authors in the world. 6.5 Termination Without Cause. Company shall have the unilateral right, at any time in the Company's sole and absolute discretion, to terminate Employee's employment by the Company, without cause, and for any reason or for no reason (the Company's "Termination Rights") upon written notice to Employee. The Company's Termination Rights are not limited or restricted by, and shall supersede, any policy of the Company requiring or favoring continued employment of its employees during satisfactory performance, any seniority system or any procedure governing the -9- 10 manner in which the Company's discretion is to be exercised. No exercise by the Company of its Termination Rights shall, under any circumstances, be deemed to constitute (i) a breach by the Company of any term of this Agreement, express or implied (including without limitation a breach of any implied covenant of good faith and fair dealing), (ii) a wrongful discharge of Employee or a wrongful termination of Employee's employment by the Company, (iii) a wrongful deprivation by the Company of Employee's office (or authority, opportunities or other benefits relating thereto), or injury to reputation, or (iv) the breach by the Company of any other duty or obligation, express or implied, which the Company may owe to Employee pursuant to any principle or provision of law (whether contract or tort), unless the Company's determination to terminate Employee pursuant to this Section 6.5 shall constitute a violation of any applicable federal, state or municipal statute, ordinance, rule or regulation, respecting which the parties may not contract otherwise. If the Company elects to terminate Employee's employment pursuant to this Section 6.5, the Company shall have no obligation or liability to Employee pursuant to this Agreement or otherwise, except (a) to pay to Employee within ten (10) business days of the exercise of the Termination Right an amount equal to seventy-five percent (75%) of the balance of the Salary due to Employee under Section 2.1(b) through the remainder of the Term and (b) as stated in Section 2.2 above with respect to the vesting of Employee's stock options. Upon exercise of such Termination Right, Employee shall have no further obligation to provide services to Company hereunder and Employee shall be free to accept third party employment. 6.6 Equitable Relief for Breach. Employee acknowledges that the services to be rendered by Employee under the terms of this Agreement, and the rights and privileges granted to Company by Employee under its terms, are of a special, unique, unusual, extraordinary and intellectual character, which gives them a peculiar value, the loss of which cannot be reasonably or adequately compensated in damages in any action at law, and that a material breach by Employee of any of the provisions contained in this Agreement will cause Company great and irreparable injury and damage. Employee acknowledges that Company shall be entitled, in addition to any other remedies it may have at law, to seek the remedies of injunction, specific performance, and other equitable relief for any breach of this Agreement by Employee. This provision shall not, however, be construed as a waiver of any of the rights which Company may have for damages, or otherwise. 6.7 Breach By Company. In the event of any breach of this Agreement by Company, Employee shall give Company written notice thereof. If Company does not cure such breach within thirty (30) days of receiving written notice thereof, Employee's remedy shall be limited to an action at law for damages and/or declaratory relief and Employee shall not be entitled to rescind this Agreement or to injunctive relief or other equitable remedies; provided, however, the foregoing shall not be deemed a waiver of Employee's statutory or common law right to discontinue rendering services hereunder in the event of a material breach by Company of this Agreement. No inadvertent failure to comply with the provisions of paragraphs 3.2, 4.2 or 5.2 nor any failure by third parties to comply with their agreement with Company shall constitute a breach of this Agreement by Company. Upon written notice from Employee specifying the precise nature of the failure to accord credit as herein provided, Company agrees to use reasonable efforts to cure prospectively any such breach, but Company shall not be obligated to recall any prints or advertising material. Company shall use good faith business efforts to advise third party licensees of the credit obligations to Employee under this Agreement. Notwithstanding the foregoing, if applicable, Company will contractually require Disney to comply with the credit obligations hereunder. -10- 11 6.8 Suspension/Termination. (a) In the event of Employee's death during the Term, Company shall terminate Employee's services and pay pursuant to paragraph 6.8(f) below. (b) If Employee is prevented from fully performing Employee's material obligations hereunder by reason of illness, accident or mental or physical disability, or by reason of any law or authority (all of which events are herein called "Incapacity"), Company may suspend the services and compensation of Employee during the period of such Incapacity and/or extend the Term of Employee's services hereunder for a period of time equal to the period of such suspension. In the event such Incapacity continues for a period of fourteen (14) consecutive days or twenty-one (21) days in the aggregate while Employee is rendering directing services during production of any Picture hereunder or six (6) consecutive weeks or ten (10) weeks in the aggregate, at any other time hereunder, Company may terminate the employment of Employee's services by giving thirty (30) days prior written notice to Employee. (c) The Company may terminate this Agreement immediately upon written notice to Employee for an event of "Default." For purposes of this Agreement, a termination for "Default" occurs if Employee is terminated for any of the following reasons: (i) Gross negligence by Employee of his duties pursuant to this Agreement. (ii) Conviction of Employee of any felony or any lesser crime or offense involving the property of Company. (iii) Any material breach by Employee of any of the terms or covenants of this Agreement, it being understood that Employee shall have a period of five (5) days from written notice from Company to cure an alleged breach. (d) The unearned salary provided for hereunder to Employee may, at Company's option, be suspended during any interruption of Company's business which prevents the performance of Employee's duties which has been caused by an event of force majeure, including, but not limited to, strikes, work stoppage or other labor dispute, acts of God, or other events of force majeure ("Force Majeure"). If any such period of suspension hereunder shall continue for a period of six (6) weeks or more, Company or Employee shall have the right to elect to terminate this Agreement by written notice. In the event Employee elects to submit a notice of termination, said election shall be deemed null and void if Company elects to resume its payment obligations to Employee with one (1) week of Company's receipt of said notice. If this Agreement is terminated due to an event of Force Majeure and Company elects to thereafter resume production of the applicable Picture within eighteen (18) months, Employee shall have the first opportunity upon fifteen (15) business days prior notice to the start date to be reinstated as the director under the terms and conditions of this Agreement. During any suspension for an event of Force Majeure, Employee's services to Company shall be on a non-exclusive basis. -11- 12 (e) In the event of any such suspension or suspensions hereunder, the Term of this Agreement shall be extended (unless earlier terminated as provided above) for an additional period of time equal to the period of such suspension or suspensions, and the dates for any increase in salary provided for herein shall be correspondingly postponed. (f) In the event of Employee's termination for death, Incapacity, Default or Force Majeure pursuant to subsections (a), (b), (c) or (d) above, Company shall be obligated to pay Employee only the specified salary, bonuses, fringe benefits, expenses and vacation accrued through the date of termination and any rights Employee may have under the Stock Option Plan shall be determined under the terms thereof. 6.9 Assignment. Company may not assign its rights under this contract except to a "Successor" (as defined below) or to a single purpose production entity which is formed by Company for purposes of producing the Pictures (in which event Company may only assign Employee's directing, writing and/or executive producing services and Company shall remain liable for all obligations of said single purpose entity), without Employee's consent. This Agreement is personal to Employee and Employee shall not have the right to assign Employee's interest in this Agreement, any rights under this Agreement or any duties imposed under this Agreement nor shall Employee have the right to pledge, hypothecate, transfer, assign or otherwise encumber Employee's right to receive any form of compensation hereunder without the prior written notice to Company. As used herein, "Successor" shall include any person, firm, corporation or other business entity which at any time, whether by purchase, merger or otherwise, directly or indirectly acquires all or substantially all of the assets or business of the Company. 6.10 Successors and Assigns. This Agreement shall be binding upon and inure to the benefit of the parties hereto and their respective Successors and assigns. 6.11 Notices. Any notice, consent or other communication under this Agreement shall be in writing and shall be considered given when mailed by registered or certified mail, postage prepaid, to the parties at the addresses set forth below (or at such other address as a party may specify by notice in accordance with the provisions hereof to the other). Company: PIXAR 1200 Park Avenue Emeryville, California 94608 With a copy to: Wilson Sonsini Goodrich & Rosati 650 Page Mill Road Palo Alto, California 94304 Attention: Larry W. Sonsini, Esq. -12- 13 Ziffren, Brittenham, Branca & Fischer, LLP 1801 Century Park West Los Angeles, CA 90067 Attention: Sam Fischer, Esq. Employee: John Lasseter c/o Weston, Benshoof, Rochefort, Rubalcava & MacCuish 444 S. Flower Street 43rd Floor Los Angeles, CA 90071 Attention: Nancy Newhouse Porter 6.12 Governing Law. This Agreement shall be governed by and construed and enforced in accordance with the laws of the State of California (regardless of that jurisdiction or any other jurisdictions' choice of law principles). 6.13 Complete Agreement, Modification and Termination. This agreement, along with the Stock Option Plan, and the Confidentiality Agreement, contains a complete statement of all the arrangements between the parties with respect to Employee's employment by Company, supersedes all existing agreements, whether written or oral, between them concerning Employee's employment, and may be changed only in a writing executed by all parties hereto. In entering into this Agreement, neither party has relied upon any representation, warranty, assurance or statement of intention not expressly set forth herein. 6.14 Validity. If any one or more of the provisions (or any part thereof) of this Agreement shall be held to be invalid, illegal or unenforceable in any respect, the validity, legality and enforceability of the remaining provisions (or any part thereof) shall not in any way be affected or impaired thereby. 6.15 Waiver. The failure of a party to insist upon strict adherence to any term, condition or other provision of this Agreement shall not be considered a waiver or deprive that party of the right thereafter to insist upon strict adherence to that term or any other term, condition or other provision of this Agreement. 6.16 Commitment to Others. Employee shall not have any right or authority to and shall not employ any person in any capacity nor contract or purchase or rent any article or material, nor make any commitment, agreement or obligation whereby Company shall be required to pay any monies or other consideration without Company's prior consent in each instance. 6.17 I-9. All of Company's obligations under this Agreement are expressly conditioned upon Employee's completion to Company's reasonable satisfaction of an I-9 Form (Employee Eligibility Verification Form) and upon Employee's submission to Company of original documents reasonably satisfactory to Company to demonstrate Employee's employment eligibility. -13- 14 6.18 Headings. The headings of this Agreement are solely for convenience of reference and shall not affect its interpretation. 6.19 Arbitration. Any controversy or claim arising out of, or relating to, this Agreement, or the making, performance or interpretation thereof, shall be fully and finally settled by binding arbitration in San Francisco, California, in accordance with the rules of the American Arbitration Association the existing, and judgment on the arbitration award may be entered in any court having jurisdiction over the subject matter of the controversy; provided, however, that this arbitration provision shall not apply to any dispute concerning any obligations arising under paragraphs 6.2, 6.3 and 6.4 of this Agreement. 6.20 Indemnity. Company shall indemnify and hold harmless Employee from and against any and all liability, costs, damages and expenses (including reasonable attorneys' fees and court costs) which Employee may sustain or suffer by reason of any third party claim resulting from the development, production or distribution of the Picture and which is not caused by a breach by Employee hereunder. 6.21 Severability. If an arbitrator or a court of competent jurisdiction determines that any term or provision hereof is invalid or unenforceable, (a) the remaining terms and provisions hereof shall be unimpaired and (b) such arbitrator or court shall have the authority to replace such invalid or unenforceable term or provision with a term or provision that is valid and enforceable and that comes closest to expressing the intention of the invalid or unenforceable term or provision. 6.22 EMPLOYEE ACKNOWLEDGES THAT HE HAS HAD THE OPPORTUNITY TO CONSULT WITH THE ADVISOR OF HIS CHOICE AND THAT HE HAS FREELY AND VOLUNTARILY ENTERED INTO THIS AGREEMENT. IN WITNESS WHEREOF, the parties have executed this Agreement as of March 21, 2001. PIXAR By /s/ STEVE JOBS ------------------------------------- STEVE JOBS, CHIEF EXECUTIVE OFFICER EMPLOYEE /s/ JOHN LASSETER ---------------------------------------- JOHN LASSETER -14- -----END PRIVACY-ENHANCED MESSAGE-----