The Spirits Within is why he ultimately left, was forced out, however you want to look at it, but it's not what killed Squaresoft and made them merge with Enix. As a matter of fact, Square and Enix were in bed together as early as mid-2000 discussing it. TSW was a pretty big blow but not enough to put them out and they were actually able to recoup a good chunk of the losses over a couple years and a deal with Sony. Whether Sakaguchi-san deviating the series from its roots is a bad thing or not is a matter of preference and perspective. Take myself for example, while I have a huge amount of love for FFVI, VII through X and tactics are my favorite installments in the franchise. So, to me, the offline, numbered installments have only went downhill since he left. It's all about from where you're standing as a fan. They're also the ones that I "grew up" playing, so things of that nature kind of count, too. VII was the game that introduced me to the series, which is undeniably a factor in why it's my favorite, though certainly not the only one.
Fun fact: Square-Enix is worth less right now than they were after The Spirits Within bombed. Or, at least they were last time I was reading about all of this, which was sometime last year iirc. Enix was actually a more wealthy company that Squaresoft back then. They wanted to merge with Squaresoft because they had hardly any ground in NA, and Square's games were really booming over here after FFVII. The benefit Square would receive from merging with Enix would be access to their big bank accounts, heh. When talks of merger started, Squaresoft wasn't in a financially bad spot at all.
Hisashi Suzuki, former Squaresoft Pres and CEO from '95 - '01, never really wanted to Square to merge with Enix, being that Enix was bigger, he and other Sqaure heads were worried about Square becoming the "little guy" in the deal. However, while these talks were going on, Suzuki and Sakaguchi made TSW, which tanked, and actually scared Exix away from merging with Square. This is around the time when Wada was basically handed the responsibility of patching everything up. Actually, I think it has been stated that he was in good relations with Enix and actually offered to be that guy. He's who went back to Enix and got everyone shaking hands again and is the person who ultimately merged Square-Enix.
Also, it should be noted that Sakaguchi was President of Squaresoft LA (later to become Square USA, Inc.) back then. He was in charge of R & D in the US. Before, during and after the merger with Enix, Yoichi Wada was CFO of Square. Additionally, it's worth mentioning that technically Sakaguchi resigned/was fired/whatever from Square 4 months before TSW was even released. Although, I guess they already knew the movie was insanely over budget beforehand.
Anyway, what's really shady (to me) is that in late '01, Hisashi Suzuki actually convinced Sony to buy 18.6% of Square, which amounted to roughly $137 million dollars. Guess how much TSW cost Square overall? That's right, roughly $137 million dollars. So, essentially, Suzuki really went all out to make up for TSW by negotiating with Sony and succeeded. One month later, Suzuki "stepped down" and Wada took his spot and the rest is history.
If I could remember where I read all of this I would link it. It was all much more in-depth than what I've posted here. I mean they really broke it all down with Square financial reports and all kinds of jazz. I'll have to do some digging... I may have it bookmarked on my old laptop.
Edit: So here it is:
http://www.neogaf.com/forum/showthread.php?t=744184?&styleid=40
It was on 'GAF that I originally read it. Check it out, it's very interesting and well put together.