-----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, RvSQzULQL2+MXfLj9ngBwClXlv1lBnMf0owmsmTjh/jSjKCmahIaB8nnmxoHawDT wfhqMIlbcEgnViUkVr4+2Q== 0000891618-01-502143.txt : 20020410 0000891618-01-502143.hdr.sgml : 20020410 ACCESSION NUMBER: 0000891618-01-502143 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 20010929 FILED AS OF DATE: 20011113 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: 1934 Act SEC FILE NUMBER: 000-26976 FILM NUMBER: 1783690 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 f77082e10-q.txt FORM 10-Q QUARTER ENDED SEPTEMBER 29, 2001 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 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 SEPTEMBER 29, 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 November 2, 2001 was 48,646,821. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- PART I -- FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS PIXAR BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE DATA)
SEPTEMBER 29, DECEMBER 30, 2001 2000 ------------- ------------ ASSETS Cash and cash equivalents................................... $ 40,027 $ 63,241 Short-term investments...................................... 250,029 139,514 Trade receivables, net...................................... 682 1,136 Receivable from Disney...................................... 2,712 73,850 Other receivables........................................... 5,826 3,121 Prepaid expenses and other assets........................... 3,234 4,903 Deferred income taxes....................................... 24,805 25,915 Property and equipment, net................................. 112,421 110,891 Capitalized film production costs........................... 82,472 57,032 -------- -------- Total assets...................................... $522,208 $479,603 ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY Accounts payable............................................ $ 360 $ 1,622 Income taxes payable........................................ 4,130 9,650 Accrued liabilities......................................... 14,374 17,229 Unearned revenue............................................ 21,946 15,382 -------- -------- Total liabilities................................. 40,810 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; 48,406,796 and 47,633,372 shares issued and outstanding as of September 29, 2001 and December 30, 2000, respectively........................................... 313,825 293,209 Accumulated other comprehensive income.................... 2,127 249 Retained earnings......................................... 165,446 142,262 -------- -------- Total shareholders' equity........................ 481,398 435,720 -------- -------- Total liabilities and shareholders' equity........ $522,208 $479,603 ======== ========
See accompanying notes to financial statements. 1 PIXAR STATEMENTS OF INCOME (IN THOUSANDS, EXCEPT PER SHARE DATA)
QUARTER ENDED NINE MONTHS ENDED ----------------------------- ----------------------------- SEPTEMBER 29, SEPTEMBER 30, SEPTEMBER 29, SEPTEMBER 30, 2001 2000 2001 2000 ------------- ------------- ------------- ------------- Revenue: Film and animation services............. $ 9,836 $15,511 $38,643 $90,290 Software................................ 1,481 1,785 5,490 6,317 ------- ------- ------- ------- Total revenue................... 11,317 17,296 44,133 96,607 ------- ------- ------- ------- Cost of revenue: Film and animation services............. 1,989 2,061 6,520 20,662 Software................................ 131 129 422 408 ------- ------- ------- ------- Total cost of revenue........... 2,120 2,190 6,942 21,070 ------- ------- ------- ------- Gross profit.................... 9,197 15,106 37,191 75,537 ------- ------- ------- ------- Operating expenses: Research and development................ 1,840 1,404 4,948 4,579 Sales and marketing..................... 541 390 1,350 1,117 General and administrative.............. 2,101 1,873 6,039 5,694 ------- ------- ------- ------- Total operating expenses........ 4,482 3,667 12,337 11,390 ------- ------- ------- ------- Income from continuing operations.................... 4,715 11,439 24,854 64,147 Other income, net......................... 5,093 3,579 11,760 9,474 ------- ------- ------- ------- Income from continuing operations before income taxes......................... 9,808 15,018 36,614 73,621 Income tax expense........................ 3,643 6,232 13,602 30,553 ------- ------- ------- ------- Net income from continuing operations.................... 6,165 8,786 23,012 43,068 Income from discontinued operations, net of taxes................................ -- 35 172 161 ------- ------- ------- ------- Net income...................... $ 6,165 $ 8,821 $23,184 $43,229 ======= ======= ======= ======= Basic net income per share from continuing operations.............................. $ 0.13 $ 0.19 $ 0.48 $ 0.91 Basic net income per share from discontinued operations................. -- -- -- 0.01 ------- ------- ------- ------- Basic net income per share................ $ 0.13 $ 0.19 $ 0.48 $ 0.92 ======= ======= ======= ======= Shares used in computing basic net income per share............................... 48,328 47,376 48,002 47,187 ======= ======= ======= ======= Diluted net income per share from continuing operations................... $ 0.12 $ 0.18 $ 0.45 $ 0.86 Diluted net income per share from discontinued operations................. -- -- -- 0.01 ------- ------- ------- ------- Diluted net income per share.............. $ 0.12 $ 0.18 $ 0.45 $ 0.87 ======= ======= ======= ======= Shares used in computing diluted net income per share........................ 52,090 49,837 51,400 49,918 ======= ======= ======= =======
See accompanying notes to financial statements. 2 PIXAR STATEMENTS OF CASH FLOWS (IN THOUSANDS)
NINE MONTHS ENDED ----------------------------- SEPTEMBER 29, SEPTEMBER 30, 2001 2000 ------------- ------------- Cash flows from operating activities: Net income................................................ $ 23,184 $ 43,229 Adjustments to reconcile net income to net cash provided by continuing operating activities: Discontinued operations................................ (172) (161) Depreciation and amortization.......................... 5,988 3,545 Amortization of capitalized film production costs...... 6,347 20,178 Tax benefit from option exercises...................... 5,835 5,537 Deferred income tax.................................... 1,110 218 Changes in operating assets and liabilities: Receivables, net..................................... (2,251) 12,356 Due from Disney...................................... 71,138 (2,555) Prepaid expenses and other assets.................... 1,309 (863) Accounts payable..................................... (1,262) 2,397 Income taxes payable................................. (5,520) (16,757) Accrued liabilities.................................. (2,855) (4,304) Unearned revenue..................................... 6,564 15,157 --------- --------- Net cash provided by continuing operations........ 109,415 77,977 Net cash provided by discontinued operations...... 172 161 --------- --------- Net cash provided by operating activities......... 109,587 78,138 --------- --------- Cash flows from investing activities: Purchase of property and equipment........................ (7,179) (41,100) Proceeds from sale of equipment........................... -- 399 Proceeds from sale of short-term securities............... 156,595 281,789 Investments in short-term securities...................... (265,232) (276,928) Capitalized film production costs......................... (31,766) (19,044) --------- --------- Net cash used in investing activities............. (147,582) (54,884) --------- --------- Cash flows from financing activities: Proceeds from exercised stock options..................... 14,781 5,267 --------- --------- Net cash provided by financing activities......... 14,781 5,267 --------- --------- Net increase (decrease) in cash and cash equivalents........ (23,214) 28,521 Cash and cash equivalents at beginning of period............ 63,241 31,170 --------- --------- Cash and cash equivalents at end of period.................. $ 40,027 $ 59,691 ========= ========= Supplemental disclosure of cash flow information: Cash paid during the period for income taxes.............. $ 13,800 $ 41,886 ========= ========= Supplemental disclosure of non-cash investing and financing activities: Loss on equipment disposals capitalized as film production costs.................................................. $ 21 $ 396 ========= ========= Unrealized gain on investments............................ $ 1,878 $ 308 ========= =========
See accompanying notes to financial statements. 3 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 for each of the years in the three-year period ended December 30, 2000, including notes thereto. The results of operations for the three and nine months ended September 29, 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 dates 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 potential common shares outstanding during the period, using the treasury stock method for options and warrants. Of the outstanding options to purchase shares of common stock, for the three and nine month periods ended September 29, 2001, options to purchase approximately 345,000 shares and 545,000 shares of common stock 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 ------------------------------------------------- SEPTEMBER 29, SEPTEMBER 30, 2001 2000 ----------------------- ----------------------- NET NET INCOME SHARES EPS INCOME SHARES EPS ------ ------ ----- ------ ------ ----- Basic net income per share.................. $6,165 48,328 $0.13 $8,821 47,376 $0.19 Effect of dilutive shares: Warrants/options.......................... -- 3,762 -- 2,461 ------ ------ ------ ------ Diluted net income per share................ $6,165 52,090 $0.12 $8,821 49,837 $0.18 ====== ====== ====== ======
4 PIXAR NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
NINE MONTHS ENDED --------------------------------------------------- SEPTEMBER 29, SEPTEMBER 30, 2001 2000 ------------------------ ------------------------ NET NET INCOME SHARES EPS INCOME SHARES EPS ------- ------ ----- ------- ------ ----- Basic net income per share................ $23,184 48,002 $0.48 $43,229 47,187 $0.92 Effect of dilutive shares: Warrants/options........................ -- 3,398 -- 2,731 ------- ------ ------- ------ Diluted net income per share.............. $23,184 51,400 $0.45 $43,229 49,918 $0.87 ======= ====== ======= ======
(4) COMPREHENSIVE INCOME Other comprehensive income 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 ----------------------------- SEPTEMBER 29, SEPTEMBER 30, 2001 2000 ------------- ------------- Net income................................................. $6,165 $8,821 Unrealized holding gains on short-term investments......... 1,629 222 ------ ------ Comprehensive income....................................... $7,794 $9,043 ====== ======
NINE MONTHS ENDED ----------------------------- SEPTEMBER 29, SEPTEMBER 30, 2001 2000 ------------- ------------- Net income................................................. $23,184 $43,229 Unrealized holding gains on short-term investments......... 1,878 308 ------- ------- Comprehensive income....................................... $25,062 $43,537 ======= =======
(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. 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 5 PIXAR NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) 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 are not governed by the Co-Production Agreement. Costs related to these projects are therefore not shared or reimbursed by Disney. 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 when it is expected that the film will be set for production. 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):
SEPTEMBER 29, 2001 ------------- RELEASED FILMS.............................................. $ 87,776 Cumulative amortization of film production costs............ (75,826) -------- Total film production costs capitalized for released films.................................. 11,950 FILMS IN PRODUCTION......................................... 58,476 FILMS IN DEVELOPMENT OR PREPRODUCTION....................... 12,046 -------- Total film production costs capitalized........... $ 82,472 ========
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 beginning of each respective fiscal year, the Company recorded the following amounts reimbursed by Disney as offsets to the following expense categories (in thousands):
NINE MONTHS ENDED ----------------------------- SEPTEMBER 29, SEPTEMBER 30, 2001 2000 ------------- ------------- Research and development................................... $3,700 $3,660 General and administrative................................. 2,560 2,109 ------ ------ Total............................................ $6,260 $5,769 ====== ======
At September 29, 2001 and December 30, 2000, the receivable from Disney aggregated $2.7 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. 6 PIXAR NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) For released films, the Company expects to amortize, based on current estimates, approximately $3 million to $5 million in capitalized film production costs over the succeeding twelve-month period. This forecast does not include Monsters, Inc., which was released domestically on November 2, 2001. In addition, the Company has amortized more than 80% of each released film's original production costs as of September 29, 2001. (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 income and the Company has no foreign operations. Therefore, the Company operates in a single operating segment. The Company's revenue segment information by film category follows (in thousands):
QUARTER ENDED ----------------------------- SEPTEMBER 29, SEPTEMBER 30, 2001 2000 ------------- ------------- Toy Story 2................................................ $7,287 $ 6,380 Library titles(1).......................................... 2,352 9,073 Animation services......................................... 197 58 ------ ------- $9,836 $15,511 ====== =======
NINE MONTHS ENDED ----------------------------- SEPTEMBER 29, SEPTEMBER 30, 2001 2000 ------------- ------------- Toy Story 2................................................ $17,717 $73,621 Library titles(1).......................................... 20,716 15,797 Animation services......................................... 210 872 ------- ------- $38,643 $90,290 ======= =======
- --------------- (1) 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 7 PIXAR NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) the agreement, except for options that vest on the last month will vest on the penultimate month of this ten-year period. (8) NEW ACCOUNTING PRONOUNCEMENTS In June 2001, the FASB issued SFAS 142, "Goodwill and Other Intangible Assets", which supersedes APB 17, "Intangible Assets". SFAS 142 addresses the accounting treatment for goodwill and other intangible assets acquired individually or with a group of other assets upon their acquisition, but not acquired in a business combination. This statement also addresses how goodwill and other intangible assets should be accounted for after they have been initially recognized in the financial statements. With the adoption of SFAS 142, goodwill is no longer subject to amortization over its estimated useful life; rather, goodwill will be subject to at least an annual assessment for impairment by applying a fair-value-based test. Also, if the benefit of an intangible asset is obtained through contractual or other legal rights, or if the intangible asset can be sold, transferred, licensed, rented or exchanged, an acquired intangible asset should be separately recognized. The terms of SFAS 142 are effective as of the beginning of the first quarter of the fiscal year beginning after December 15, 2001. Certain provisions of SFAS 142 shall be applied to goodwill and other acquired intangible assets for which the acquisition date is after June 30, 2001. The Company does not expect the adoption of SFAS 142 to have a material impact on its financial position or results of operations. On October 3, 2001, the Financial Accounting Standards Board issued FASB Statement No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, ("SFAS 144") which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. SFAS 144 supersedes FASB Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, and also supersedes the accounting and reporting provisions of APB Opinion No. 30, Reporting the Results of Operations-Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for the disposal of a segment of a business. SFAS 144 is effective for fiscal years beginning after December 15, 2001 and interim periods within those fiscal years. The Company is in the process of determining the impact of this new accounting standard. In June 2001, the FASB issued Statement of Financial Accounting Standards No. 143, "Accounting for Asset Retirement Obligations" ("SFAS 143"). This Statement addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. This Statement applies to legal obligations associated with the retirement of long-lived assets that result from the acquisition, construction, development or normal use of the asset. As used in this Statement, a legal obligation results from existing law, statute, ordinance, written or oral contract, or by legal construction of a contract under the doctrine of promissory estoppel. SFAS 143 is effective for fiscal years beginning after June 15, 2002. The Company does not expect the adoption of SFAS 143 to have a material impact on its financial position or results of operations. (9) SUBSEQUENT EVENT In conjunction with the signing of the Co-Production Agreement, Pixar issued to Disney two warrants, each exercisable for five years: one warrant to purchase 750,000 shares of Common Stock at an exercise price of $20.00 per share and another warrant to purchase 750,000 shares of Common Stock at an exercise price of $25.00 per share. On October 25, 2001, pursuant to the terms of the Common Stock Purchase Warrant Agreement, Disney fully exercised both warrants. In lieu of exercising the warrants for cash, Disney surrendered the warrants in exchange for 640,651 shares of Common Stock. 8 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 14 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. On November 2, 2001, we released Monsters, Inc., our fourth animated feature film, which counts as the second original Picture under the Co-Production Agreement. In 2000, we began production on our fifth animated feature film, Finding Nemo. We began concept development on our sixth animated feature film 9 "Film Six" and seventh animated feature film, "Film Seven," in 1999 and 2000, respectively. These films will be produced and distributed under the Co-Production Agreement and will count as the third, fourth, and fifth films of the five original films to be produced under the Co-Production Agreement. We expect to release 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 about $.60 for fiscal year 2001. This estimate is primarily based on the results from the first nine months of the fiscal year and our current expectations regarding the following: (1) initial theatrical and merchandise revenues from Monsters, Inc., released domestically on November 2, 2001; and (2) licensing of international television rights, continuing home video and merchandise revenue from Toy Story, A Bug's Life and Toy Story 2. These statements regarding our targeted earnings 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 revenues from the worldwide theatrical release of Monsters, Inc.; (2) the timing and amount of related revenues from all home video releases of our films and the Buzz Lightyear of Star Command direct-to-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 worldwide television revenues from our films; (5) the timing and amount of distribution costs incurred in all markets for our films; (6) the timing, accuracy, and sufficiency of the information we receive from Disney to determine revenues and associated gross profits; (7) the timing and amount of non-film related revenues and expenses, such as software licensing, interest income and effective income tax rate; (8) the market price of our common stock and related volatility; (9) political and economic events beyond our control; and (10) the competitive environment entering the holiday season. 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 and nine months ended September 29, 2001 were $11.3 million and $44.1 million, respectively, compared to $17.3 million and $96.6 million in the corresponding periods of the prior year. Film and animation services revenue for the three months ended September 29, 2001 were $9.8 million compared with $15.5 million in the corresponding prior year period. Film revenue for the three months ended September 29, 2001 included domestic network television licensing of Toy Story and Toy Story 2, merchandise sales, derivative works and ancillary royalties. These revenues were partially offset by additional expenses associated with home video sales. Film revenue for the three months ended September 30, 2000 were comprised of continued merchandise sales, home video sales, derivative works and international television licensing of A Bug's Life and the Toy Story franchise, as well as royalties from the direct to video release of Buzz Lightyear of Star Command. Film and animation services revenue for the nine months ended September 29, 2001 were $38.6 million compared to $90.3 million in the corresponding prior year period. The decrease in the current nine-month period from the corresponding prior year period was largely due to the timing and success of Toy Story 2's theatrical performance in the first quarter of 2000. 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 $1.5 million for the three months ended September 29, 2001 compared to $1.8 million in the corresponding period of the prior year and decreased to $5.5 million for the nine months ended September 29, 2001 from $6.3 million in the corresponding prior year period. The overall decrease in revenue for the nine month period ended September 29, 2001 resulted primarily from decreases in RenderMan(R) software licensing during the 10 period and to a lesser extent, from a decrease in 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 will remain flat or possibly decline, as seen for the nine month period ended September 29, 2001. For the three and nine months ended September 29, 2001, Disney accounted for 87% and 88%, respectively, of our total revenue compared to 92% and 94%, respectively, for the corresponding periods 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 September 29, 2001, amounts related to Disney include unearned revenue from Disney, which represents 95% of unearned revenue on the balance sheet. COST OF REVENUE Cost of film and animation services revenue for the three and nine months ended September 29, 2001 was $2.0 million and $6.5 million, respectively, compared to $2.1 million and $20.7 million, respectively, in the corresponding prior year periods. Cost of film revenue represents amortization of capitalized film production costs. See "Capitalized Film Production Costs." For the three and nine months ended September 29, 2001, cost of film and animation services revenue represents amortization of capitalized film production costs associated with Toy Story 2 and A Bug's Life, and represents 20% and 17%, respectively, of total film revenue as compared to 13% and 23%, respectively, for the corresponding prior year periods. The increase in cost of revenue as a percent of revenue for the three month period ended September 29, 2001 as compared to the prior year period, is primarily attributable to the mix of film revenue from quarter to quarter as the gross profit margin varies by film. For example, Toy Story and A Bug's Life have lower amortized costs as a percentage of revenue relative to Toy Story 2. Toy Story revenue has no related cost, as film costs were fully amortized by December 31, 1997. Since the majority of revenues for the quarter ended September 29, 2001 related to Toy Story 2, the cost of revenue percentage was higher. Cost of revenue as a percent of revenue decreased for the nine months ended September 29, 2001 as compared to the prior year period, as the prior year period experienced a higher mix of Toy Story 2 revenue resulting in an increase in cost of film revenue. 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 9% and 8% for the three and nine months ended September 29, 2001, respectively, compared to 7% and 6%, respectively, for the three and nine month corresponding prior year periods. Cost of software revenue for the three and nine months ended September 29, 2001 and September 30, 2000, relates primarily to amortization of purchased technology associated with the acquisition of PEI of $120,000 and $360,000, respectively, in both years. We are amortizing this purchased technology against related license revenue over a period not to exceed four years. OPERATING EXPENSES Total operating expenses were $4.5 million and $12.3 million for the three and nine months ended September 29, 2001, respectively, compared to $3.7 million and $11.4 million in the corresponding prior year periods. We anticipate an increase in operating expenses in future periods impacting a number of areas. We expect future operating expenses to reflect the growth of the studio 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. 11 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 $1.8 million and $4.9 million, respectively, for the three and nine months ended September 29, 2001 from $1.4 million and $4.6 million, respectively, in the corresponding prior year periods. 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 nine months ended September 30, 2000, from $5.1 million to $4.6 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 for the nine months ended September 29, 2001 from the same period in 2000, was due to reduced short film project costs in the current period. The increase for the three months ended September 29, 2001 from the same period in the prior year, was primarily due to increases in employee related expenses associated with additional staffing. 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 increased to $541,000 and $1.3 million, respectively, for the three and nine months ended September 29, 2001, from $390,000 and $1.1 million, respectively, in the corresponding prior year periods. The increase is primarily due to additional expenses associated with the corporate marketing and creative resources departments in preparation for the release of our new film, Monsters, Inc. 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 and $6.0 million, respectively, for the three and nine months ended September 29, 2001 from $1.9 million and $5.7 million, respectively, in the corresponding prior year periods. The increase is a result of employee related costs and insurance, which was offset by reductions in public company costs. General and administrative expenses may increase in future periods. OTHER INCOME, NET Other income, net was $5.1 million and $11.8 million, respectively, for the three and nine months ended September 29, 2001 and $3.6 million and $9.5 million, respectively, in the corresponding prior year periods. Other income for the quarter ended September 29, 2001 includes interest income and a one time, non-recurring settlement of approximately $2 million not derived from our ordinary course of business. The increase relates primarily to this settlement, but was partially offset by decreases in interest income due to falling interest rates during 2001. INCOME TAXES Income tax expense from continuing operations for the three and nine months ended September 29, 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 $82.5 million in capitalized film production costs as of September 29, 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. 12 LIQUIDITY AND CAPITAL RESOURCES Cash, cash equivalents and short-term investments increased $87.3 million to $290.1 million at September 29, 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 proceeds from stock option exercises, software revenue and interest income, which was offset by film production spending and capital expenditures. Net cash provided by continuing operations for the nine months ended September 29, 2001 was primarily attributable to net income of $23.2 million, the non-cash impact of depreciation and amortization expense and amortization of capitalized film production costs totaling $12.3 million, the tax benefit from option exercises of $5.8 million, a decrease in receivables from Disney of $71.1 million and an increase in unearned revenue of $6.6 million, which were offset by decreases in income taxes payable and accrued liabilities totaling $8.4 million. Net cash used in investing activities primarily consisted of investments in short-term securities of $265.2 million, the purchase of property and equipment of $7.2 million and funding of film production costs of $31.8 million, which were offset by net proceeds from sales of short-term investments of $156.6 million. Net cash provided by financing activities consisted of proceeds from exercised stock options. As of September 29, 2001, our principal source of liquidity was $290.1 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 2001, the FASB issued SFAS 142, "Goodwill and Other Intangible Assets", which supersedes APB 17, "Intangible Assets". SFAS 142 addresses the accounting treatment for goodwill and other intangible assets acquired individually or with a group of other assets upon their acquisition, but not acquired in a business combination. This statement also addresses how goodwill and other intangible assets should be accounted for after they have been initially recognized in the financial statements. With the adoption of SFAS 142, goodwill is no longer subject to amortization over its estimated useful life; rather, goodwill will be subject to at least an annual assessment for impairment by applying a fair-value-based test. Also, if the benefit of an intangible asset is obtained through contractual or other legal rights, or if the intangible asset can be sold, transferred, licensed, rented or exchanged, an acquired intangible asset should be separately recognized. The terms of SFAS 142 are effective as of the beginning of the first quarter of the fiscal year beginning after December 15, 2001. Certain provisions of SFAS 142 shall be applied to goodwill and other acquired intangible assets for which the acquisition date is after June 30, 2001. We do not expect the adoption of SFAS 142 to have a material impact on our financial position or results of operations On October 3, 2001, the Financial Accounting Standards Board issued FASB Statement No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, ("SFAS 144") which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. SFAS 144 supersedes FASB Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, and also supersedes the accounting and reporting provisions of APB Opinion No. 30, Reporting the Results of Operations-Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for the disposal of a segment of a business. SFAS 144 is effective for fiscal years beginning after December 15, 2001 and interim periods within those fiscal years. The Company is in the process of determining the impact of this new accounting standard. In June 2001, the FASB issued Statement of Financial Accounting Standards No. 143, "Accounting for Asset Retirement Obligations" ("SFAS 143"). This Statement addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. This Statement applies to legal obligations associated with the retirement of long-lived assets that result from the acquisition, construction, development or normal use of the asset. As used in this Statement, a legal obligation results from existing law, statute, ordinance, written or oral contract, or by legal construction of a contract under the doctrine of promissory estoppel. SFAS 143 is effective for fiscal years beginning after June 15, 2002. We do not expect the adoption of SFAS 143 to have a material impact on our financial position or results of operations. 13 RISK FACTORS The following is a discussion of certain factors that currently impact or may impact our business, operating results and/or financial condition. In addition, please refer to the section entitled "Risk Factors" in our Form 10-K, as amended, for additional factors that may impact our business, operating results and/or financial condition in the future. 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 revenues from the worldwide theatrical release of Monsters, Inc.; (2) the timing and amount of related revenues from all home video releases of our films and the Buzz Lightyear of Star Command direct-to-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 worldwide television revenues from our films; (5) the timing and amount of distribution costs incurred in all markets for our films; (6) the timing, accuracy, and sufficiency of the information we receive from Disney to determine revenues and associated gross profits; (7) the timing and amount of non-film related revenues and expenses, such as software licensing, interest income and effective income tax rate; (8) the market price of our common stock and related volatility; (9) political and economic events beyond our control; and (10) the competitive environment entering the holiday season. See "Risk Factors" set forth below for a more detailed discussion of factors that could cause actual results to differ. 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 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. Although the domestic opening box office results for Monsters, Inc. are very positive, continued uncertainty regarding such factors as the competitive environment entering the holidays as well as general political and economic conditions could impact the ultimate success of the film. In addition, 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 (Film Six and Film Seven are together referred to as the "Current Projects"). Unless Monsters, Inc., Finding Nemo, and our Current Projects achieve 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. A portion of our anticipated revenues for fiscal year 2001 is based on the assumption that Monsters, Inc. will be a box office success. Therefore, if Monsters, Inc. does not generate sufficient box office receipts or merchandise sales to be deemed successful, it could adversely impact our targeted 2001 operating results. To date, we have recognized a significant amount of the revenues we expect to recognize over the lifetime of the Toy Story franchise and A Bug's Life resulting primarily from domestic and foreign theatrical revenues, related domestic and foreign home video revenue, merchandise licensing, and television revenue, offset by Disney's marketing and distribution costs and its distribution fee. Although our forecast assumes some 14 continued revenues from these titles, there can be no assurance these revenues will be achieved, and this may adversely impact our targeted earnings. 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 the remainder of 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. It is also difficult to predict theatrical revenue and related merchandise revenue from the release of Monsters, Inc. on November 2, 2001. While Monsters, Inc. experienced a very successful opening weekend at the domestic box office, it is difficult to predict the ultimate domestic and foreign theatrical revenues to be realized as well as related home video, merchandising and ancillary revenue streams. In particular, it is difficult to predict how the potential audience for Monsters, Inc. may be affected by the terrorist attacks against the United States on September 11, 2001, the heightened security measures and military action in response to such attacks, and the possibility of further acts of terrorism in the United States and elsewhere. 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. 15 Software revenue. Software revenue declined in the first nine months of fiscal year 2001 as compared to the first nine months 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 political and 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 nine months ended September 29, 2001 increased in comparison to the first nine months 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. Although we have experienced some recent leveling off on the competition of personnel, our spending levels may still increase significantly due to (1) continued investment in proprietary software systems, (2) potential increased compensation costs as a result of possible competition for creative, technical and administrative talent, (3) increased costs associated with the expansion of our facilities, (4) number of personnel required to 16 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 utilization of certain federal and state tax credits, as well as the realization of certain tax benefits. We realize tax benefits from the 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. We expect our tax rate in the future to be at or near statutory levels. 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 nine months 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 may increase, and film production spending may exceed such budgets. In spite of recent economic events which have reduced competition for certain personnel, future film budgets may still increase due to (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. Therefore, 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. 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 Finding Nemo, which is currently targeted for release in summer 2003, Film Six and Film Seven as well as future projects as we move towards producing one feature film per year. We have only produced four prior feature films to date and have limited experience with respect to producing animated feature films in parallel. We have been required, and may 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 our feature films. This growth and expansion has placed, and continues to place, a significant strain on our resources. We cannot provide any assurances that 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. In addition, John Lasseter's availability has been a key ingredient in the successful completion of our prior films. As the Company moves towards achieving one film a year, there will be additional demands placed on his availability. A lack of his availability may adversely impact the success of our films. 17 If we are able to release Finding Nemo in 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 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. 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 and national governmental entities and agencies. This 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 September 29, 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......................... $98,649 $151,380 $250,029 Weighted-average interest rate........................ 4.92% 4.08% 4.41%
Impact of Foreign Currency Rate Changes. While Disney and its affiliates distribute our products in foreign markets, 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. PART II -- OTHER INFORMATION ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS The following proposals were submitted to shareholders at our Annual Meeting of Shareholders held September 14, 2001. Each of these proposals was approved by a majority of the shares present at the meeting. 1. To re-elect eight directors to serve for the ensuing year or until their successors are duly elected and qualified. 18
SHARES FOR SHARES WITHHELD ---------- --------------- Steve Jobs................................................ 44,107,170 802,109 Edwin E. Catmull.......................................... 44,092,526 816,753 Jill E. Barad............................................. 44,663,068 246,211 Skip M. Brittenham........................................ 44,089,093 820,186 Joseph A. Graziano........................................ 44,710,692 198,587 Lawrence B. Levy.......................................... 44,711,344 197,935 Joe Roth.................................................. 44,698,424 210,855 Larry W. Sonsini.......................................... 43,440,477 1,468,802
2. To approve an amendment to our 1995 Stock Plan to increase the number of shares reserved for issuance thereunder by 750,000 shares. Results of the voting included 42,286,868 shares for, 2,594,579 shares against and 27,832 shares abstained. 3. To ratify the appointment of KPMG LLP as our independent auditors for the fiscal year ending December 29, 2001. Results of the voting included 44,866,352 shares for, 27,357 shares against and 15,570 shares abstained. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits None (b) Reports on Form 8-K No reports on Form 8-K were filed by Pixar during the quarter ended September 29, 2001. ITEMS 1, 2, 3 AND 5 ARE NOT APPLICABLE AND HAVE BEEN OMITTED. 19 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: November 13, 2001 20 -----END PRIVACY-ENHANCED MESSAGE-----