Three years after Steven Spielberg, Jeffrey Katzenberg and David Geffen formed DreamWorks SKG Inc. in 1994, the company seemed to make good on its ambitious promise by capturing the best picture Oscar for "American Beauty."

Over the years, the studio also produced a hit television series, "Spin City," the most successful animated film ever, "Shrek," and had success with its music label as well.

But ultimately, DreamWorks simply could not afford to take the kind of risks that required the capital that only giant media conglomerates can generate.

Last year, the company spun off its highly profitable animated film business. And Sunday, DreamWorks agreed to be bought by Paramount Pictures , itself a unit of media company Viacom Inc. (VIA.B), in a deal worth $1.6 billion in cash and debt.

The sale comes 11 years into what was an industry-shaking partnership of three entertainment titans: former Walt Disney Co. (DIS) executive Katzenberg, recording mogul Geffen and Hollywood's most successful director. Their ambitions went beyond the formidable, seldom-attempted task of creating a studio from scratch; Spielberg said in 1994 that he wanted to create a "playground" for filmmakers.

"When Steven, Jeffrey and I started the company and had to put an entire infrastructure together from day one, we had hoped to be able to make enough films to rationalize the cost of being our own distributor," Geffen said Sunday.

"Sadly, we were never able to make enough films to make that economically sound."

The company was forced to scale back its ventures over the years. It abandoned plans to build a high-tech studio lot in Los Angeles in 1999, sold DreamWorks Records to Universal Music Group in 2004 and has curtailed its TV production.

But the company will retain some of its independence. DreamWorks plans to make four to six films a year that Paramount will distribute under the DreamWorks banner, which features a crescent moon cradling a tiny fisherman making big ripples with a slender line.

The $1.6 billion deal is seen as critical for Paramount, which has been under orders from its parent company to reverse its troubled fortunes.

Paramount will pay $775 million in cash and assume $825 million in debt and other obligations, the company said.

"We see this at Paramount as a transforming event for the studio," said Brad Grey, Paramount's chairman and CEO.

The studio will finance the deal by immediately selling the DreamWorks film library, which Paramount values at between $850 million and $1 billion. The company said it is in advanced talks with several parties and expects to have a deal within several weeks.

Paramount will retain distribution rights to the 59 library titles, which includes such hits as "American Beauty" and "Gladiator." The company is not likely to sell the library to a rival studio but to an investment group that would pay Paramount fees to distribute future products derived from the films.

Though DreamWorks has had some hits over the years, it also has more than its share of misses, including this year's "The Island," which tanked at the box office this summer.

The agreement does not include DreamWorks Animation SKG Inc. (DWA), which went public last year. Paramount does gain the right to distribute the animated studio's lucrative films for the next seven years, including the "Shrek" franchise.

It will also have the right to make television shows using DreamWorks Animation characters.

Grey said the arrangement with DreamWorks Animation makes Paramount a larger player in family and children's movies. Paramount already produces films with Viacom's Nickelodeon and MTV cable channels.

Upon completion of the deal, expected to close early next year, Paramount would sign new employment agreements with Spielberg as a producer and director, and Geffen, who will become chairman of DreamWorks.

Spielberg and Geffen will be responsible for producing four to six live action films a year, Paramount officials said. The move will increase its overall annual production to between 14 and 16 titles annually.

Paramount put its offer together just last week, after DreamWorks had been discussing terms with NBC Universal, a unit of General Electric Co., for nine months.

NBC Universal made an offer in September, then reduced it at the last minute. That angered Geffen, who said he was still talking to NBC Universal as late as Friday before finally accepting the Paramount offer.

"We tried very, very hard to conclude a deal with General Electric (GE), which we were never able to do," Geffen said.

Geffen said Paramount was able to produce completed contracts within a week, something GE never did.

A deal with NBC Universal had been considered more likely because of Spielberg's long ties to Universal, which gave him his first jobs directing TV shows and eventually feature films.

In fact, even after agreeing to be bought by Paramount, DreamWorks will continue to have its main offices on the Universal lot because of Spielberg's desire to remain there, Geffen said.

The deal makes sense in the short term for Paramount, which was in much bigger need of an immediate boost in production and prestige, according to Harold Vogel, a longtime media investor and head of the Vogel Capital Management investment firm.

"Basically, GE was book smart and Paramount was street smart," Vogel said. "They're aggressive, they're hungry and they figured they could pay the price," Vogel said of Paramount. "GE was counting the beans."