“Startup Acquisitions and Innovation: Evidence from the Pharmaceutical Industry” (JMP)

Abstract:

Big pharma is increasingly using acquisitions to fill their R&D pipelines and the proliferation of the biotechnology industry has created a thick market of innovative target startups. This paper analyzes the dynamic equilibrium effects of biotech startup acquisitions by big pharma on drug innovation and entry. Using a novel dataset on 175 acquired startups from 2000 - 2018, I document several new facts regarding the R&D outcomes of acquired drug projects and entry behavior of startups in markets where acquisitions occur. Motivated by this evidence, I build a dynamic oligopoly model of the pharmaceutical industry featuring big firms and startups that endogenizes drug development, startup acquisitions, product market competition, and entry. Firms select on unobserved project quality at each phase of R&D and into acquisition, allowing higher quality projects to reach later phases of R&D and be a more likely acquisition target. Counterfactual simulations focused on oncology markets suggest that banning startup acquisitions leads to a decline in entry among low-quality startups, who benefit most from lower R&D costs of their acquiring big firms. This and higher selection on quality during R&D among startups results in a decrease in the number of projects that reach the product market and an increase in their quality. Both of these effects are generally small in magnitude. This result directly informs recent discussions among regulators who have expressed concern about the implications of startup acquisitions for market concentration and innovation in the pharmaceutical industry.

“The Welfare Effects of Reverse Payment Settlements in Pharmaceuticals”

Abstract:

According to the Federal Trade Commission, one of its top priorities in recent years has been opposing reverse payment settlements in the pharmaceutical industry. These “pay-for-delay” settlements prevent generic entry; the branded drug firm/patent holder pays the generic drug firm/patent challenger to abandon litigation and delay the introduction of its generic drug into the market. This paper seeks to analyze the welfare effects of reverse payment settlements in the U.S. antidepressant drug market, where five settlements with evidence of reverse payments occurred from 2004 – 2014. First, a theoretical model of litigation and settlement with reverse payments is presented. The model allows for the derivation of a counterfactual entry date in the absence of reverse payments, where the key parameter is the strength of the branded drug’s patent. The counterfactual entry date can be estimated using data on litigated drug patents by accounting for selection into settlement. Next, a discrete choice, differentiated products model of demand for antidepressants is estimated. The change in welfare due to pay-for-delay can be estimated using the model together with the counterfactual entry date. In the short run, consumers are expected to gain from earlier entry of lower-price generics and producers lose as monopoly profits are dissipated. The effect on long-run consumer welfare is ambiguous, as lower profits for producers may lead to reduced investment in new drugs in the future.