Valuing R&D Projects in a Portfolio: Evidence from the Pharmaceutical Industry

• Published in: Management science Vol. 53; no. 9; pp. 1452 - 1466
• Main Authors: Girotra, Karan, Terwiesch, Christian, Ulrich, Karl T
• Format: Journal Article
• Language: English
• Published: Linthicum, MD INFORMS 01-09-2007; Institute for Operations Research and the Management Sciences
• Subjects: Applied sciences; backup projects; Biological and medical sciences; Business studies; Clinical trials; development pipeline; Drug interactions; Exact sciences and technology; Failure; Fundamental and applied biological sciences. Psychology; General aspects; Innovation diffusion; Lead; Licensing; Management science; Mathematics in biology. Statistical analysis. Models. Metrology. Data processing in biology (general aspects); Modeling; Operational research and scientific management; Operational research. Management science; Pharmaceutical industry; Pharmaceutical preparations; Pharmaceuticals; Pipelines; Portfolio management; portfolio properties; Portfolio theory; Product development; Research and development; Studies; Valuation; Drug; Targeting; Firm development; Rupture; Resource development; Transaction processing; pharmaceuticals; Failures; Empirical model; Pipeline; development pipeline; portfolio properties; Stock exchange; Clinical trial; backup projects; Product development; Pharmaceutical industry; Portfolio management
• ISSN: 0025-1909; 1526-5501
• DOI: 10.1287/mnsc.1070.0703

Understanding the value of a product development project is central to a firm's choice of project portfolio. The value of a project to a firm depends not only on its properties but also on the other projects being developed by the firm. This is due to interactions with the other projects that address the same consumer need and require the same development resources. In this study, we empirically investigate the structure and significance of these portfolio-level project interactions . Using a self-developed pharmaceutical industry data set, we conduct an event study around the failure of phase III clinical trials and their effect on the market valuation of the firm. The study exploits the natural experiment of a product development failure to give us a measure of the value of a drug development project to a firm. We then explain the variance in the value of projects based on interactions with other projects in the firm's portfolio. We find that the presence of other projects targeting the same market and a build-up of projects that require the same development resources reduce the value of a development project. In addition to providing evidence on the significance and structure of these portfolio-level project interactions, the empirical model estimated in this paper also provides a data-driven approach to valuing projects that may be relevant to licensing transactions.