Strategic Management Journal (1994) Measuring Competence? Exploring firm effects in Pharmaceutical Research Rebecca Henderson Iain Cockburn Strategic Management Journal (1994) Modified* by Tom DeBerge *Original Presentation by Amit Darekar

Introduction Questions that emerged from “Scale, scope, and spillovers” (Henderson and Cockburn, 1994): Why was a large part of the variation in productivity across firms attributed to fixed firm effects? Despite the significance of different portfolio structures on productivity, why was there large and persistent variation of structures across firms? The likely answer: firm-specific, heterogeneity as proposed by the resource-based view of the firm The paper is thus built on the above results to explore the nature of firm effects and the role of competence in pharmaceutical research. This paper begins where the paper “Scale, scope and spillovers: The determinants of research productivity in drug discovery' (Henderson and Cockburn (1994) concludes. That paper argues that “large firms were at advantage in management of research through exploiting economies of scope But this paper raised a number of puzzling questions. Measuring Competence? Exploring firm effects in Pharmaceutical Research

Literature Review For an organizational “competence” to be a source of competitive advantage, it must be Heterogeneously distributed within an industry Impossible to buy or sell in the available factor markets at less than its true marginal value Difficult or costly to replicate (Barney, 1986; Peteraf, 1993; Wernerfelt, 1984; ) R&D is a particularly likely source of competitively important competence (Dierickx and Cool, 1989; Nelson, 1991) Two classes of capabilities: Component competence – local abilities and knowledge ['resources' (Amit and Schoemaker, 1993) and 'knowledge and skills‘ or 'technical systems' (Leonard-Barton, 1992; Teece, Pisano, and Shuen, 1992)] Architectural competence – ability to use component competence ['capabilities‘ (Amit and Schoemaker, 1993), 'integrative capabilities‘ (Lawrence and Lorsch, 1967), 'dynamic capabilities' (Teece et al., 1992), 'implicit/social‘ or 'collective' knowledge (Spender, 1994), 'organizational architecture' (Nelson, 1991), 'combinative capabilities' (Kogut and Zander, 1992), 'managerial systems' and 'values and norms' (Leonard- Barton, 1992), and 'invisible assets' (Itami, 1987).] Measuring Competence? Exploring firm effects in Pharmaceutical Research

Hypotheses COMPONENT COMPETENCE Hypothesis 1: Drug discovery productivity is an increasing function of firm- specific expertise in particular disciplinary areas. Hypothesis 2: Drug discovery productivity is an increasing function of component competence in particular disease areas. ARCHITECTURAL COMPETENCE Hypothesis 3: Firms with the ability to encourage and maintain an extensive flow of information across the boundaries of the firm will have significantly more productive drug discovery efforts, all other things equal. Hypothesis 4: Firms that encourage and maintain an extensive flow of information across the boundaries between scientific disciplines and therapeutic classes within the firm will have significantly more productive drug discovery efforts, all other things equal. Hypoethesis #1 & 2 are covers component competencies, whereas # 3 & 4 speak about architectural competencies Measuring Competence? Exploring firm effects in Pharmaceutical Research

Econometric Model We focus on productivity of drug discovery as measured by counts of “important patents” We hypothesize that patent counts are generated by a production function: We assumed that the patent counts “y” is generated by Poisson Distribution function λ as a explanatory function Re-writing the equation, we have r = R&D variables, z = competitive activity/scale & scope, c = heterogeneous firm competencies Normally ,measures like, the use of profitability, sales, market share etc are used to explore competencies of firms. But in research competencies of pharmaceutical firms, these are obviously of of no use and can give a completely skewed picture. Hence, count of important patents which are critical in competitive advantage in the market is considered as a measure. The data- These 10 include both European and American firms and between them account for approximately 28 percent of U.S. R&D and sales and a somewhat smaller proportion of worldwide sales and research. Measuring Competence? Exploring firm effects in Pharmaceutical Research

The Data and Construction of Variables The data are drawn from public sources and internal records of 10 major pharmaceutical companies Quantitative data – up to 30 years of data on each research program & up to 30 program per firm Qualitative data – from primary (interviews) and secondary sources (industry literature) The variables: Hypothesis #2 – KPATS (stock of patents) Hypothesis # 3 – PROPUB (role of publication in promotion) Hypothesis # 4 – CROSS (cross boundary flow of info), DICTATOR (allocation of resources), GLOBAL (integration of worldwide research) Control Variables Measuring Competence? Exploring firm effects in Pharmaceutical Research

Descriptive Statistics for the sample Measuring Competence? Exploring firm effects in Pharmaceutical Research

Results Exploring the roots of firm heterogeneity at the firm level – Rise in R2 confirms firm-specific competence as a factor in competition The standard likelihood ratio tests indicate that our measures of architectural competence are significantly related to research productivity The firm-level analysis suggests that heterogeneity across firms plays a significant role in determining variation in research productivity. [Hypotheses #3 and #4] It also suggests that the ability to integrate knowledge across and within the boundaries of the firm is an important determinant of heterogeneous competence [Hypothesis #3] Exploring firm heterogeneity at the program level – ‘Local' competence appears to have a very significant impact on research productivity. [Hypothesis #2] Measuring Competence? Exploring firm effects in Pharmaceutical Research

Measuring Competence? Exploring firm effects in Pharmaceutical Research

Measuring Competence? Exploring firm effects in Pharmaceutical Research

Measuring Competence? Exploring firm effects in Pharmaceutical Research

Conclusions and Directions for Further Research Results provide strong support for the importance of “competence” as a source of advantage in research productivity It supports the view that the ability to integrate knowledge both across the boundaries of the firm and across disciplines and product areas within the firm is an important source of strategic advantage. It also suggests that a focus on “architectural” capabilities as a source of sustainable competitive advantage; but can have challenges on 2 fronts: It highlights the methodological problems inherent in attempting to measure 'organizational competence‘ It highlights the importance of exploring the sources of organizational competence and their implications for the strategic choices made by the firm Measuring Competence? Exploring firm effects in Pharmaceutical Research

Discussion Is ‘absorptive capacity’ (Cohen and Levinthal 1990) the same as or included in Henderson and Cockburn’s idea of ‘architectural competence’? The use of patents as a measure of research productivity highlights the intertwining of resource-based and property rights theories, and emphasizes the importance of a strict regulatory environment in the pharmaceutical industry. Do the authors capture the way that differences in the institutional environments across countries/continents may influence the architectural competencies of pharmaceutical firms? Measuring Competence? Exploring firm effects in Pharmaceutical Research