In the past 10 years, the animation industry has developed rapidly due to new technology and market expansion. Leading firms such as Disney are continuously seeking strategies to expand business towards products and service innovation, whereas Pixar and DreamWorks focus mainly on technology management. Driven by market and government policy, there is a blooming of the animation industry in China. However, most Chinese companies, in shortage of knowledge and experience, are unclear about innovation strategies. Thus, this paper aims to investigate the innovation system of China’s animation industry as a late comer. The literature is covered together with an industry review. To further explore the details, an in-depth case study into a Chinese company is conducted. This company has developed an open innovation system by interacting with industry, university and government; meanwhile, it is penetrating into the character business and service sector, seeking for sustainability. Findings indicate that a combination of internal knowledge management and open innovation is important; government plays a vital role at the early stage of forming the innovation system; innovation is a dynamic process with different configurations at each stage. Discussions are given to address the critical issues of the innovation system in the animation industry, followed by conclusions and recommendations for future research areas.