The Pharmaceutical Industry: Specifi city, Challenges, and What You Can Learn from this Topic - Innovation and Marketing in the Pharmaceutical Industry - page 3

The characteristic “live or die” refers to the fact that a fi rm cannot possibly survive
if its innovation level decreases substantially and it can no longer generate new
drugs with suffi ciently profi table patent protection.
“Large in size” means each innovation (new drug) tends to generate a large
amount of revenue for a fi rm. Since the late 1990s, fi rms have adopted the strategy
of developing the so-called blockbuster drugs, which are drugs that will generate at
least US$1B per year in revenue. In their search for blockbusters products, some
pharmaceutical fi rms such as GlaxoSmithKline have already started to design medi-
cines based on bioelectronics, which entails treating the disease through electrical
signals in the brain and elsewhere rather than targeting biochemical structures
( Financial Times 8/1/2012). While this may sound like good news, it means that a
fi rm's loss of income from an innovation is usually accompanied by a sharp drop in
its overall performance in terms of profi t, which makes the challenge of delivering
consistent results at the fi rm level every year nontrivial.
Finally, “fi nite lifespan,” means innovations in the pharmaceutical industry, with
the exception of a few biological drugs, have a fi nite time to create value for its
shareholder. The standard lifespan is in general defi ned by the patent validity.
Chemical drugs, which are the overwhelming majority of drugs, have no other tools
(e.g., trade secret, manufacturing know-how) for extending their standard lifespan.
The manufacture of chemical drugs is standardized and, in general, once the patent
expires, they can be easily reproduced as generics by many competitors. The situa-
tion of biological drugs is much more complex in most cases because they are often
harder to manufacture and have higher manufacturing variable costs as well, as
compared to chemical drugs.
These three characteristics (i.e., live or die, large in size, and fi nite lifespan) set the
context of pharmaceutical innovation. Within this context, a pharmaceutical fi rm must
consider and balance four key dimensions: cost , uncertainty , return , and time .
Figure 1.2 graphically illustrates the relationship and potential tradeoff in supporting
various projects along these dimensions. Project 1, in this case, has large return,
medium uncertainty, and will take medium time to reach the end of its development.
Project 2, on the other hand, has small return, small uncertainty, and can be completed
in short time. Comparing Project 1 and Project 2, we also can see the cost of support-
ing Project 1 is larger than that for Project 2 (represented by the size of the oval).
The cost of pharmaceutical innovation is gigantic. According to the most recent
estimates, the average cost of developing a successful new drug has surpassed
US$1B, increasing from an estimate of US$360M in the mid-1990s. While this
sounds like an astronomical number, the actual cash needed to develop one drug is
substantially smaller. The US$1B+ price tag includes two large components that
people are not aware of sometimes. First, the price tag includes the cost of dry holes.
If on average, 1 in 10 new drug projects succeed and 9 fail, the cost of developing
one successful drug includes as well the cost of the 9 failed projects (dry holes). The
second component is the opportunity cost (interest) due to the long time horizon of
development. $1M in year 1 is worth much more 12 years later, which is the average
time for developing a drug.