Trials and Terminations: Learning from Competitors' R&D Failures

Joshua Lev Krieger

Working Paper | HBS Working Paper Series | 2017

Trials and Terminations: Learning from Competitors' R&D Failures

Abstract

I analyze project continuation decisions where firms may resolve uncertainty through news about competitors' failures as well as through their own results. I examine the trade-offs and interactions between product-market competition and technological learning from parallel R&D projects in the setting of drug development. Leveraging the biopharmaceutical industry's unique characteristics to overcome barriers to measuring the project-level response to competitor news, I employ a difference-in-differences strategy to evaluate how competitor exit news alters a firm's own project discontinuation decisions. The findings reveal that technological learning dominates competition effects. Firms are most sensitive to competitor failure news coming from within the same market and technology area—more than doubling their propensity to terminate projects in the wake of this type of information. I also find evidence that firms overreact to failure news from closely related competitor projects. Finally, I investigate project- and firm-level characteristics that drive persistent differences in decision-making performance.

Keywords: Research and Development; Projects; Failure; Decision Making; Learning;

Language: English

Format: Print

85 pages

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Citation:

Krieger, Joshua Lev. "Trials and Terminations: Learning from Competitors' R&D Failures." Harvard Business School Working Paper, No. 18-043, November 2017.

How do R&D-intensive firms react to negative shocks to their existing products? We explore this question using detailed project-level data from drug development firms. Using FDA Public Health Advisories as an exogenous and idiosyncratic negative shock to approved drugs, we examine how firms and their competitors react in terms of their R&D investment and financing decisions. We document that these negative shocks lead affected firms to increase R&D expenditures, which they finance with debt. In terms of investment behavior, these shocks increase the likelihood of affected firms acquiring drug projects from other firms, rather than developing new projects internally. Examining the channels behind this increase in R&D in-licensing, we explore heterogeneity in treatment effects and competitor spillovers. We find that competitors move resources away from affected therapeutic areas and into more exploratory projects, after indirectly experiencing these shocks. Rather than turning to external acquisitions, these competing firms appear to reshuffle their own drug portfolios—moving resources away from the affected therapeutic area and into more exploratory projects.

We analyze firms' decisions to invest in incremental and radical innovation, focusing specifically on pharmaceutical research. We develop a new measure of drug novelty that is based on the chemical similarity between new drug candidates and existing drugs. We show that drug candidates that we identify as ex-ante novel are riskier investments, in the sense that they are subsequently less likely to be approved by the FDA. However, conditional on approval, novel candidates are, on average, more valuable―they are more clinically effective; have higher patent citations; lead to more revenue and to higher stock market value. Using variation in the expansion of Medicare prescription drug coverage, we show that firms respond to a plausibly exogenous cash flow shock by developing more molecularly novel drug compounds, as opposed to more so-called "me-too" drugs. This pattern suggests that, on the margin, firms perceive novel drugs to be more valuable ex-ante investments, but that financial frictions may hinder their willingness to invest in these riskier candidates.

Case | HBS Case Collection | November 2017

The 'Wonder Drug' That Killed Babies

Joshua Lev Krieger, Tom Nicholas and Matthew Preble

In the early 1960s, a popular drug taken by patients worldwide for a range of maladies was found to cause severe birth defects and other health problems in babies born to mothers who had taken it during a certain stage of fetal development. As many as 10,000 children may have been affected. Just a handful of these children were born in the U.S., where safety concerns were raised by Dr. Frances Oldham Kelsey, the medical officer handling the thalidomide application at the U.S. Food and Drug Administration. However, the company hoping to distribute the product in the U.S. had already given away thousands of pills for doctors to run clinical trials. Once the full extent of the global thalidomide crisis became generally known, the U.S. Congress significantly reformed the country’s drug approval process to ensure that all new products were both safe and effective. It subsequently became much more arduous for pharmaceutical firms to bring new drugs to market. Some critics therefore argued that the new regulations were actually detrimental, as they prevented or delayed good drugs from coming to market. What was the right balance between consumer protection and access to potentially life-saving drugs?

Keywords: regulation; Business and Government Relations; Business and Community Relations; Business and Stakeholder Relations; Product Marketing; Corporate Social Responsibility and Impact; Business History; Health; Government Legislation; Corporate Accountability; Ethics; Governing Rules, Regulations, and Reforms; Pharmaceutical Industry; Public Administration Industry; United States; United Kingdom; Australia; Germany; Europe;

Citation:

Krieger, Joshua Lev, Tom Nicholas, and Matthew Preble. "The 'Wonder Drug' That Killed Babies." Harvard Business School Case 818-044, November 2017. View Details

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Trials and Terminations: Learning from Competitors' R&D Failures

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