3755, Chapter I: Expansion
Gonzo (TSE: 3755) stock prices from 2005 to 2009. Prices listed in Japanese Yen.
On July 28th, 2009, Gonzo Digimation Holdings was officially removed from the Tokyo Stock Exchange. Citing more than two years of consecutive loss, the corporation was forced to stop trading in compliance with TSE regulation. How did Gonzo, a company once renowned for its innovative style and unique productions, fall to such financial ruin? Fans speculate that Gonzo’s failure began when it abandoned innovation for fanservice with shows such as Rosario and Vampire, Kurogane no Linebarrels and the (in)famous Strike Witches. Bear in mind that DVD sales for Strike Witches was considerably greater than sales for any other series hitherto produced by the studio. Yet, the animation department was indeed losing money; by Fiscal Year 2008, it was operating on a loss of several hundred million yen (several million US dollars.) Gonzo’s collapse as a corporation was not a simple result of shoddily-produced anime; rather, many reasons led to its collapse, including an over-ambitious push into the global market, declining DVD sales and the global financial meltdown of 2007-2008. In this multi-part series, I will attempt, to the best of my limited ability, to chronicle and comment on the anime industry’s first casualty in its relentless push into the global market.
THE BEGINNINGS
Gonzo was founded in 1996— like all animation studios— as a small company consisting of a handful of animators working together. In 2000, Gonzo LLC. officially became Gonzo KK, and was listed on the Tokyo Stock Exchange under the ticker symbol 3755.
Fast forward five years. Gonzo, now a well-established major animation studio and industry leader, was operating in the black. Its stock was valued at around 500,000 JPY (5,000 USD) per share. This sort of high price per share of a given stock is not unheard of. Several successful companies, most notably Berkshire Hathaway, do not split their stock in an effort to gain loyal, long-term investors as opposed to those who are simply interested in playing the market. Yet, Gonzo’s high stock prices most likely deterred further investment in the company, as the company was already operating in a niche market. To further exacerbate the problem, Gonzo made it very clear that it would not pay dividends to shareholders. From the company’s 2005 Fiscal Report: “While we believe that it is very important to take care of the needs of our shareholders, we believe that using capital generated from the trading of stock for the purposes of strengthening the company in the long-term to be a more justified use of funds. We have considered paying dividends to shareholders, but this issue will be discussed at a later time.”
At the time, this may have seemed like a brilliant idea. Gonzo was experiencing a period of rapid growth and expansion, reaping the benefits from a rebound in the Japanese economy predicated upon increased trade revenue derived from exports to China and the United States and a subsequent boost in investor confidence and consumer spending. The animation industry itself was also undergoing expansion: no longer limited to traditional methods of distribution such as television and cinema, companies began experimenting with online and mobile distribution of their works. Gonzo, unwilling to fall behind, also began flirting with the idea of online distribution, as part of a larger plan to continue the company’s expansion.
The company decided that it would expand on three separate fronts: online, domestically and internationally:
ONLINE EXPANSION
Using the newest technologies, Gonzo researched and assessed the viability of online distribution mechanisms as well as other online ventures that could potentially be profitable. (Out of this assessment grew Gonzo Rosso, the corporation’s successful MMORPG division.) Gonzo already had a few projects operating online: it was in charge of Kadokawa Shouten’s Newtype Mobile, the online mobile phone version of the highly popular monthly magazine. In addition, it also launched Gonzo Late Night, a mobile website that gave fans information about new and upcoming works produced by the studio. The company’s expansion efforts online were profitable, growing 21% as compared to fiscal year 2004.
DOMESTIC EXPANSION
Domestically, the company recognized that its works were often geared towards “anime fans”, or otaku. The company realized that this was not a viable marketing and expansion strategy, as shows geared towards otaku only represented around one-third of the entire market. A push was made to expand into more mainstream, traditional cartoons aimed at younger children; as part of these efforts, it began production of two series, Transformers: Galaxy Force and GI Joe, both aimed at a significantly younger audience. Gonzo also began exploring the possibility of working on larger projects such as full-length feature films, both animated and live-action.
GLOBAL EXPANSION
Gonzo’s exploration of full-lengths films represented part of its global expansion strategy as well. Using film, it sought to combine Japanese expertise in animation with the massive market of Hollywood. Gonzo wanted to produce, with the help of American directors and actors, an adaptation of one of its more successful animation titles. This idea eventually fell through, but it is indicative of Gonzo’s determined drive to enter the global market. The corporation had an aggressive policy of expansion; by 2005, it had already agreed to a joint partnership with two French producers hailing from GO-N Productions, a French distributor. In addition, Gonzo was also working together with Geneon USA, FUNimation and ADVision, three US distributors, to promote and market its works overseas. During the 2005 fiscal year, foreign sales represented 18.5% of total revenue. The corporation was poised to become one of the forerunners in the animation market, the first true global anime production studio.
RISK MANAGEMENT
Of course, expansion is not without its risks. Fortunately for Gonzo, anime is an extremely inelastic market. A raise in price of a certain anime-related good, be it a DVD or a figurine, does not result in a sharp decrease in demand. As there are virtually no substitutes for anime, otakus are pigeonholed into consuming anime as long as studios keep on producing. The inherently high costs of DVDs and other merchandise also creates a cushioning effect for studios that are cash strapped; even a small volume of sales generates a hefty amount of profit, as DVDs are relatively cheap to produce, and animators are a dime a dozen.
Therefore, Gonzo’s biggest threat would be a downsizing of the anime industry itself. Were the number of otaku to decrease, the market itself would shrink, and therefore, the corporation’s revenue would be dramatically affected by such a shrinkage. There is nothing that Gonzo, as an animation company, can do to decrease such a risk other than expand. If the domestic anime market became smaller, Gonzo believed that it could rely on emerging markets overseas to counterbalance a decrease in domestic sales. In addition, it also explored the emerging popularity of MMORPGs as a second potential source of anime-independent revenue.
But the market was not shrinking. It was expanding, both domestically and globally. This expansion led to a greater amount of competition within the market as start-up animation companies and old, established corporations alike scrambled to secure rights to the newest light novel or manga. The expansion of the anime market is inextricably tied to a boom in light novel and manga production. With more material to work with, studios spent less time worrying about creating original storylines, and more time on technical direction and artistic creation. Gonzo sought to distinguish itself and make itself attractive to authors by marketing its own distinct brand of animation, featuring both traditional two-dimensional animation and three-dimensional computer graphics. In a market with so many competitors, the only way Gonzo could hope to survive was to distinguish itself from the rest. Failure would result in financial insolvency and collapse.
Thus, in 2005, Gonzo was poised to become one of the leaders of the animation world. Through aggressive marketing and expansion, it attempted to be “first to market” in many respects. Weaning itself from the exclusive tastes of anime fans, it also sought to push further into the mainstream as a means of diversification.
A sound plan for expansion, but where did it all go wrong? In the next installment, we will examine closely Gonzo’s continued expansion into the global market, as well as the beginning signs of collapse.
Interesting write-up.
Would be awesome if it had citations! But nonetheless keep going.
Echoing above comment, though I will say that not paying dividends isn’t necessarily a bad thing if the money can be reinvested towards a venture that gives a higher rate of return. Berkshire operates on the same principle. Dividends do attract a certain type of shareholder, but somehow, I don’t think Gonzo needed more capital as much as it needed to stay in the black. Looking forwards to your next installment!
To add to the above comment, a high share price only means that there may be less liquidity and so the price action is subject to large swings. I say may, because AAPL and GOOG are doing just fine.
Also dividend paying stocks are usually associated with companies with steady, predictable cash flows first and growth is nice but not necessary. If Gonzo consistently demonstrated that it could grow its business by, say, 10% per year or better, I would rather they not pay a dividend.
Share issuance is not the only method of financing expansionary activity. A company can issue preferred shares, or convertible debentures, or bonds.
But in light of where Gonzo was in 2005, it would appear as if they didn’t need the extra capital/debt. They had reasonable organic growth, projects were paying for themselves in short order, etc.
“Fans speculate that Gonzo’s failure began when it abandoned innovation for fanservice…”
In other words, their failure began after the initial three episodes of [insert Gonzo TV series here, with the exception of Gankutsuou and possibly Last Exile].
Certainly, shoddy productions aren’t the only thing that did them in, but I do honestly believe it to be the most important. They were right to realize the value in expanding out into the non-otaku market, but their attempts at doing so–Transformers Galaxy Force, GI Joe: Sigma Six, Origin: Spirits of the Past–were all their typically sub-par efforts. By the time they declared their intention to revise their “high-quantity, low-quality” output philosophy, it was too late.
Great post, though. I look forward to Part 2.
[...] This post was mentioned on Twitter by Alex Leavitt and レビット・アレックス. レビット・アレックス said: "ハメ撮りの失敗を始めたときにfanserviceのためのイノベーションを放棄した。" http://bit.ly/Fmrou [...]
I like the article, informative and indepth. Certainly there are more factors contributing to a company’s success and failure other than just the product we the public see. The argument that Gonzo’s production of “bad anime” directly lead to it’s downfall just doesn’t hold much water. Plenty of studios make bad shows, or companies in other industries make lesser quality stuff, and they still hang around.
There’s a line I want to bring attention to, the second sentence under Risk Management: “anime is an extremely inelastic market.” Is this true in Japan, and is that a reflection of the Japanese otaku? I was taught that inelastic goods were the bare essentials: food, soap, gas, etc. Anime being a highly luxury good, I’m bewildered that anime goods, like DVDs, are 2-3 times as expensive in Japan as to what Americans pay, considering that North American DVDs typically have twice the episode count, a dub track, and overall considerably less variety available than in the Japanese market. Yet anime DVDs in North America are still more expensive than other DVDs of movies or TV shows, and the lower market demand shows.
Wouldn’t anime goods in Japan also have to compete with other entertainment related products for the yen of the Japanese consumer? The sensible answer I’m thinking of doesn’t seem to apply to the otaku market there.
I’m very interesting in seeing where this goes. We all know how this ends, but the underlying “why”s in all of this (obviously plural) need more light.
@Kadian1364
This is starting to get off-topic, but I’ve been thinking recently that otaku’s willingness to fork out so much money for anime products is almost as much about them having “ownership” of a part of the media as it is about owning the products themselves. Anime is, to a large extent, niche and otaku tend to be insular. If otaku make themselves a visible driver of the economics of anime (as they do) it gives them a pretty big influence in the types of anime that get made and the direction the culture goes in. I think this is why otaku encourage each other to pay high prices and owning DVDs is a validation of fandom… being seen to be prepared to pay the price is kinda like a having a vote in the anime plutocracy.
In other words, otaku probably like the idea of anime being niche because it’s their niche, and they can have their say and call it their own.
This sounds a whole lot like ADV Film’s rise and fall here stateside so far. Though their fall was mainly due to trying to have an over expansive presence in such a small market. They simply grew too big for their foundation, and basically built an upside down pyramid on a point smaller than its converging point. Though with GONZO actually being an animation studio in Japan, their collapse was probably somewhat different. Looking forward for the continuation.
@Kaidan:
Market Elasticity is an indicator of a given market’s “resilience to change.” Elastic markets change quickly, with a rise in prices quickly lowering demand; inelastic markets are the opposite. Thus, inelastic goods are not necessarily staple goods; though, because of their absolute necessity, goods such as salt, sugar and cereal grains are usually inelastic, because a change in price will not affect consumers’ willingness to pay for the good.
Now that being said, luxury goods can be highly inelastic. Looking at drug markets such as heroin, cigarettes and cocaine, one can see that all three of these represent highly inelastic markets, because an addict is ready and willing to pay higher and higher prices for drugs.
I claim that anime is an inelastic good because fans are willing to pay exorbitantly high prices for DVDs, merchandise, et cetera. Even if these prices were to go higher (as they have in the past), consumers of anime would not be deterred to consume more. In fact, one could argue (dubiously) that certain goods’ demand rises when prices rise; this effect is due to the perception that said good is premium, rare or highly desirable, thus driving up demand. Looking at rare doujinshi and special first-press edition goodies for eroge and anime DVDs, this is most likely true.
@Sorrow-kun
Maybe a telling theory of the otaku hive-mind, but in the end I can only believe it’s wishful thinking. In a lot of ways the video game industry was in a similar dilemma a generation ago. Insular and derivative for many years, consoles were getting bigger, more expensive and intimidating, and games were getting more complicated to play and were taking more resources and money to produce. Driving harder and harder at the core gamer audience while being mostly unapproachable to casual or occasional players.
Cue the advent of mass appeal games like Rock Band, and major consoles like the DS and Wii actively engaging the casual market. Hardcore gamers said it was a fad, games for grandmas, babies, and the brain dead, but in truth the industry was finally coming out of it’s decades long self-induced niche-dom. Now that’s the big push by all 3 primary console makers, family-friendly, simple, approachable, and all signs point to that being the profitable trend continuing into the next generation.
Is the current anime industry in need of a major shake up? There might not be the one iconic company, with sizable market share power, to enact the big Blue Ocean strategy like Nintendo did for video games, so what force can pull anime out of it’s self-imposed niche?
@Akira
Anime as premium goods? Unfathomable for my sensibilities. Anime as drugs? Makes more sense.
Geez Akira, you must be an econ major at some fancy pants school in the east.
Thoroughly interesting article, can’t wait for part two.
This is fascinating to me. I think there are a lot of people out there who hear that Company X is going out of business and just think “oh, well, they must have sucked at business”. Few people actually realize what can give rise to or bring down a corporation. Rarely is it something so simplistic as incompetent management. When you look at the sheer magnitude of the things that went into the recent economic crisis in America, a story like this seems almost pedestrian. But it’s still a lesson to be learned: not all business ideas are bad, but not all of them are going to work either. It sounds like, honestly, GONZO got unlucky. A few twists and turns here and it could have all been beautiful for them.