Pharmaceutical R&D is healthy but needs to be fitter, according to new analysis from Deloitte and Thomson Reuters
1 December 2010
New analysis into the value generated by the research and development (R&D) carried out by leading pharmaceutical companies indicates that new approaches are needed if R&D is to be able to pay its way.
A study, conducted by Deloitte in conjunction with Thomson Reuters, concludes that an R&D investment model based on ‘percentage of sales revenue’ is no longer fit for purpose given the backdrop of declining R&D productivity. The research finds that in a complex and uncertain innovation environment, an internal rate of return (IRR) approach is a more effective method to assess and manage value from R&D investment. Typically investment returns are expressed for an individual asset or development portfolio; this is the first time the return from investment in innovation has been assessed by looking at R&D as a whole, in other words as a business unit in its own right.
Julian Remnant, head of R&D advisory in the life sciences and health care practice at Deloitte, comments: “Historically, the pharmaceutical industry has used input based measures, such as percentage of sales revenue, to calibrate its investment in R&D. However, this approach is no longer appropriate given a backdrop of declining throughput from R&D to market.
“Our analysis looks at value generated from innovation through a new and different lens. In the future, we believe companies will set performance targets and drive R&D strategy and decision making around output-based value measures, such as internal rate of return (IRR). Life sciences companies that can demonstrate they are outperforming on an IRR basis will gain a distinct competitive advantage in accessing investment capital and external innovation.”
The study also explored causal factors that may lie behind IRR out-performance, for example the proportion of biologics, new molecular entities (NMEs) and origin of assets in the portfolio. No single factor stood out as a clear influencer of performance, IRR simulations highlighted the impact of decision-making, cost reduction and product differentiation as having the biggest influence on improved value generation in R&D.
Hans Poulsen, head of consulting at Thomson Reuters, says: “A key finding of the analysis was the influence success rates have on IRR. Of the four factors we examined, IRR performance was most sensitive to changes in success rates at phase III and submission. This offers good guidance to heads of R&D at life sciences companies about the continued need to focus on high-quality decision making when progressing R&D compounds from one development stage to the next.”
The findings give cause for tempered optimism as all 12 companies analysed are projected to achieve incremental returns above the group weighted average cost of capital. However, the toughening external environment, including rising R&D costs, expanding regulatory requirements, more demanding reimbursement hurdles, and austerity-related price cuts, could exert significant downward pressure on performance. In this context, an IRR-based management framework will equip life sciences companies to shape and execute the strategies necessary for R&D to demonstrate a sustained capability to earn its investment.
Julian Remnant observes: “Our analysis of R&D investment return shows that pharmaceutical innovation is healthy, but R&D will need to be fitter in future given the strengthening headwind presented by the external environment.”
Notes to editors:
In this press release references to Deloitte are references to Deloitte LLP, which is among the country's leading professional services firms.
Deloitte LLP is the United Kingdom member firm of Deloitte Touche Tohmatsu Limited (“DTTL”), a UK private company limited by guarantee, whose member firms are legally separate and independent entities. Please see www.deloitte.co.uk/about for a detailed description of the legal structure of DTTL and its member firms.
The information contained in this press release is correct at the time of going to press.
Member of Deloitte Touche Tohmatsu Limited.
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