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A Breath of Fresh Air? Firm Type, Scale, Scope, and Selection Effects in Drug Development

  • Ashish Arora


    (Fuqua School of Business, Duke University, Durham, North Carolina 27708; and National Bureau of Economic Research, Cambridge, Massachusetts 02138)

  • Alfonso Gambardella


    (Department of Management and KITeS, Università Bocconi, 20136 Milan, Italy)

  • Laura Magazzini


    (Department of Economics, University of Verona, 37129 Verona, Italy)

  • Fabio Pammolli


    (IMT Lucca Institute for Advanced Studies, 55100 Lucca, Italy; and Fondazione CERM, 00187 Rome, Italy)

This paper compares the innovation performance of established pharmaceutical firms and biotech companies, controlling for differences in the scale and scope of research. We develop a structural model to analyze more than 3,000 drug research and development projects advanced to preclinical and clinical trials in the United States between 1980 and 1994. Key to our approach is careful attention to the issue of selection. Firms choose which compounds to advance into clinical trials. This choice depends not only on the technical promise of the compound, but also on commercial considerations such as the expected profitability of the market or concerns about product cannibalization. After controlling for selection, we find that (a) even after controlling for scale and scope in research, established pharmaceutical firms are more innovative than newly entered biotech firms; (b) older biotech firms display selection behaviors and innovation performances similar to established pharmaceutical firms; and (c) compounds licensed during preclinical trials are as likely to succeed as internal compounds of the licensor, which is inconsistent with the "lemons" hypothesis in technology markets.

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Article provided by INFORMS in its journal Management Science.

Volume (Year): 55 (2009)
Issue (Month): 10 (October)
Pages: 1638-1653

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Handle: RePEc:inm:ormnsc:v:55:y:2009:i:10:p:1638-1653
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  1. Danzon, Patricia M. & Nicholson, Sean & Pereira, Nuno Sousa, 2005. "Productivity in pharmaceutical-biotechnology R&D: the role of experience and alliances," Journal of Health Economics, Elsevier, vol. 24(2), pages 317-339, March.
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  4. Stiglitz, Joseph E & Weiss, Andrew, 1981. "Credit Rationing in Markets with Imperfect Information," American Economic Review, American Economic Association, vol. 71(3), pages 393-410, June.
  5. Ashish Arora & Andrea Fosfuri & Alfonso Gambardella, 2004. "Markets for Technology: The Economics of Innovation and Corporate Strategy," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262511819, June.
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  9. J. Myles Shaver, 1998. "Accounting for Endogeneity When Assessing Strategy Performance: Does Entry Mode Choice Affect FDI Survival?," Management Science, INFORMS, vol. 44(4), pages 571-585, April.
  10. Holmström, Bengt, 1989. "Agency Costs and Innovation," Working Paper Series 214, Research Institute of Industrial Economics.
  11. Ilan Guedj & David Scharfstein, 2004. "Organizational Scope and Investment: Evidence from the Drug Development Strategies and Performance of Biopharmaceutical Firms," NBER Working Papers 10933, National Bureau of Economic Research, Inc.
  12. DiMasi, Joseph A. & Hansen, Ronald W. & Grabowski, Henry G., 2003. "The price of innovation: new estimates of drug development costs," Journal of Health Economics, Elsevier, vol. 22(2), pages 151-185, March.
  13. Marco S. Giarratana, 2003. "The Birth of a New Industry: Entry by Start-ups and the Drivers of Firm Growth. The Case of Encryption Software," LEM Papers Series 2003/28, Laboratory of Economics and Management (LEM), Sant'Anna School of Advanced Studies, Pisa, Italy.
  14. Rosenberg, Nathan, 1990. "Why do firms do basic research (with their own money)?," Research Policy, Elsevier, vol. 19(2), pages 165-174, April.
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  16. Kenneth Arrow, 1962. "Economic Welfare and the Allocation of Resources for Invention," NBER Chapters, in: The Rate and Direction of Inventive Activity: Economic and Social Factors, pages 609-626 National Bureau of Economic Research, Inc.
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