An earlier post mentioned the singular importance of product equity reviews that every branded drug company performs annually. Stated plainly, the lifeblood of branded pharma companies consists of developing new drugs that work substantially better than existing ones. At product equity review sessions, pharmas decide which of their compounds they will try to develop, and what resources will go into each one. Given the importance of these sessions and the acumen required to do them effectively, they are matters of high art and science. If justice and rationality prevailed in some ideal world, pharma CEOs would earn their unconscionably high compensations by astutely performing this function, rather than from massaging investors.
In the real world pharmas practice one of at least three approaches to these reviews. At some companies the dominating personalities within R&D drive the process. This doesn't necessarily mean that the choices made by bench scientists and clinicians result from some sense of medical need or humanitarianism. Every disease and condition contains its cadres of advocates against human suffering, so allocating scarce resources among them on the basis of such concerns remains too subjective for business decisions. Besides, scientists and clinicians are no more inclined than anyone else to base their professional decisions upon compassionate impulses. As with other professionals who keep a cold eye on their careers, the people in R&D favor developing those drugs that they believe offer them the best prospects for long-term employment and potential acclaim by their peers. Any connections between such professionally remunerative drugs, the benefits accorded to humanity and the fortunes of their respective companies are usually coincidental.
Often the partisanship that R&D people display for certain compounds does not even result from such transparently materialistic motives. Sometimes the compelling factor for them is simply the researcher's form of vanity, typically referred to by the euphemism of "scientific interest." R&D people will recommend developing one compound rather than others because they deem its mechanism of action or some obscure property to be scientifically captivating. Some cynics see this as merely the researcher's version of the old line from bank robbers who claim they pull holdups because of the challenge.
The upside of letting R&D decide which compounds to develop lies in reducing the chances of an entirely me-too product line. Once in a while, this impetus for scientific novelty can even produce a blockbuster, although the right circumstances and effective marketing can also make me-too's (e.g., Lipitor) into top-sellers.
A market-driven approach to product equity reviews is another way of selecting candidate drugs. As in any industry, planners start by determining the areas of unmet demand or need. Then they rate the profit-making potential of the respective endeavors and, from that, they decide which compounds can generate the best returns. One might judge this to be an unremarkable, common sense approach, but it usually gets complicated very quickly. Since drug development is inherently a high-risk enterprise - only +/-10% of all the compounds that even reach the clinical stage ever get approved - the challenge of trying to create lucrative drugs by satisfying the greatest need or demand may not be practical.
Needless to say, a market-driven approach typically disappoints idealists who seek some relief of human misery because the profitability metric often creates several brands for better erections and fewer wrinkles - and not so many that cure cancer.
So . . . neither R&D nor marketing possess the magic formula for developing new drugs and amassing the consequent riches. In recent years, however, both have lost a measure of their control over drug development decisions to finance.
Unlike R&D, finance doesn't know or care about the chances that individual drug compounds will successfully undergo testing and gain approval. And in contrast to marketing, the bean counters pay little attention to projected user populations, the needs and preferences of physicians or the shortcomings of existing drugs. Instead, the eye of finance focuses principally on near-term revenues, expenditures, and how the resulting earnings will impact management's control over the company.
As an industry that operates with a 10-year interval between synthesizing a compound and eventually gaining its approval in a new drug, one might think that pharma uses long-term planning and a strategic research approach for the critical functions of new product development. In most cases, such thinking would be wrong. Concepts such as "shots on goal" (i.e., start as many compounds as possible in development, in the hope of getting a few approved) are what pass for research strategy. Given that a strategic research plan may take 10 years to bear fruit - while the stock market delivers its verdicts every quarter - the latter considerations rule over the former.
The main function of finance consists of managing these frequently recurring verdicts to palliate investors. So, if a pharma's revenue and earnings appear in jeopardy because the company launches a paucity of new drugs, and the ones it does launch offer minimal appeal, then finance acts on its impulse to increase earnings by cutting R&D and laying off employees. Existing earnings can then be used to buy off investors through increased dividends and share repurchases. From such measures, finance induces investors to retain current managers and generously compensate them.
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