(Editor’s note: This is the first in a continuing series of articles that seeks to unearth “the metrics behind the metrics.” Rather than cover the numbers that most concern the broad range of finance chiefs — earnings or p/e ratios, for instance — each story will discuss the unique financial gauges most on the minds of CFOs within a given industry.)
When CFOs in the pharmaceutical industry discuss what’s unique about the way they look at finance, invariably the conversation turns to “the pipeline.”
The intricate and lengthy process of bringing a new drug to market puts a distinctive strain on those companies’ economic resources. The process starts with efforts to discover the molecular basis for a new drug, followed by lab and animal tests. Then the company must get the OK from the Food and Drug Administration to enter the drug into clinical trials, perform and analyze a long battery of tests on humans, and win final regulatory approval to market it. End to end, this process averages roughly 14 years.
Even for those drugs that reach the human-testing stage, about three-quarters don’t make it all the way through. In short, the risks of developing a product in the pharmaceutical business are unlike those in any other industry.
One overriding result is that senior finance executives who work in this sector, especially at smaller companies, seem to focus more on corporate potential and less on its quarterly and annual results than do their peers in other industries.
Take the example of Xanthus Pharmaceuticals, a “pre-IPO” company that has licensed three small molecules it hopes to hatch into marketable cures for various types of cancer. Chief financial officer John McCarthy says his approach is one of “strategic finance, instead of operational finance,” and that product-oriented metrics — like the costs involved in helping a drug to clear regulatory hurdles — are “much more important than absolute expenditures or earnings per share.”
The story is similar at Myogen Inc., a Nasdaq-traded company specializing in cardiovascular treatments. When senior vice president of finance and CFO Joseph Turner thinks of financial reporting, the first measurements that spring to mind are current cash balance, cash spent in the company’s most recent period, and the nature and duration of future projects. “What you won’t find is revenue, net loss, net loss per share,” says Turner. “Those fall away.”
To be sure, many such small companies have little or nothing in the way of sales to think about, relying as they do on the capital markets and on grants from organizations like the National Cancer Institute. “Revenues are something we aspire to,” jokes McCarthy. Large pharmaceutical companies, on the other hand, tend to rake in huge amounts of revenue, and their finance chiefs are as focused on managing the top line as are CFOs at large.
But CFOs at the bigger drug companies also have much in common with their small-company brethren, including the need to assess the prospects of medications that may be many years away from the drugstore or hospital. At pharmaceutical giant Wyeth, for instance, between 15 and 20 percent of pretax income goes into research and development, according to chief financial officer Kenneth Martin. Nurturing a specific product from the idea phase to FDA approval costs an additional $500 million to $800 million, according to industry CFOs.