Missing Novelty in Drug Development. (18th March 2021)

• Record Type: Journal Article
• Authors: Krieger, Joshua; Li, Danielle; Papanikolaou, Dimitris
• Editors: Koijen, Ralph
• Is Part Of: Review of financial studies. Volume 35:Number 2(2022)
• Page Start: 636
• Page End: 679
• Publication Date: 2021-03-18
• Subjects: G31 -- G32 -- O31 -- O32 -- I1; Finance -- United States -- Periodicals; Finance -- Periodicals; 332
• DOI: 10.1093/rfs/hhab024
• Languages: English
• ISSNs: 0893-9454

Abstract

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.