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Missing Novelty in Drug Development

Author

Listed:
  • Joshua Krieger
  • Danielle Li
  • Dimitris Papanikolaou

Abstract

We provide evidence that risk aversion leads pharmaceutical firms to underinvest in radical innovation. We introduce a new measure of drug novelty based on chemical similarity and show that firms face a risk-reward trade-off: novel drug candidates are less likely to obtain FDA approval but are based on more valuable patents. Consistent with a simple model of costly external finance, we show that a positive shock to firms’ net worth leads firms to develop more novel drugs. This suggests that even large firms may behave as though they are risk averse, reducing their willingness to investment in potentially valuable radical innovation.

Suggested Citation

  • Joshua Krieger & Danielle Li & Dimitris Papanikolaou, 2022. "Missing Novelty in Drug Development," The Review of Financial Studies, Society for Financial Studies, vol. 35(2), pages 636-679.
    • Handle: RePEc:oup:rfinst:v:35:y:2022:i:2:p:636-679.
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    File URL: http://hdl.handle.net/10.1093/rfs/hhab024
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    JEL classification:

    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • O31 - Economic Development, Innovation, Technological Change, and Growth - - Innovation; Research and Development; Technological Change; Intellectual Property Rights - - - Innovation and Invention: Processes and Incentives
    • O32 - Economic Development, Innovation, Technological Change, and Growth - - Innovation; Research and Development; Technological Change; Intellectual Property Rights - - - Management of Technological Innovation and R&D
    • I1 - Health, Education, and Welfare - - Health

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