Reference no: EM132269557

Over a decade ago, OSI Pharmaceuticals, a small biotechnology company based on Long Island, New York, was looking for a partner to share in the development of a newly invented drug for the treatment of lung and pancreatic cancer. The drug was extremely promising, and with 42 companies bidding on a piece of the action, the OSI deal was the year’s most competitive in the pharmaceuticals industry. The winner was San Francisco–based Genentech, a highly successful pioneer in the biotech field. In order to lock up the deal, both Genentech and its largest shareholder (and eventual parent), the Swiss pharmaceuticals company Roche Group, purchased $35 million in OSI stock and offered up-front fees totaling another $117 million. It was certainly an attractive offer, but it wasn’t actually the highest bid. OSI went with Genentech because it had more than money to offer. Joe McCracken, who negotiated the deal for Genentech, argues that OSI accepted his bid because his company paid attention to what OSI wanted (in addition to a healthy infusion of capital): “They wanted to build a company,” he recalls, “and you were not going to help them build a company by giving them a whole bunch of cash.… What we proposed … was a partnership where we would really work together and share the science and be partners in development.” The agreement called for Genentech and OSI to share development costs and profits from U.S. sales and Roche to pay royalties on sales in all other markets. According to McCracken (who was vice president of business development at the time), deals like the one with OSI are mostly about the science and the organizational processes that transform scientific resources into profitable products: At Genentech, he says, “we emphasize scientific rationale and probability of approval much more than we emphasize market size. A strong underlying scientific rationale or a probability of approval will trump market size any time.” For example, McCracken negotiated a deal with a biotech firm called Seattle Genetics Inc. to partner in the commercialization of a cancer drug known as SGN-40. Under the terms of the arrangement, Genentech made an up-front payment of $60 million and agreed to pay for future research, development, and manufacturing through “milestone” payments of more than $800 million based on Seattle Genetics’ clinical and regulatory progress in developing the drug. It was an expensive deal, but McCracken had good reason to make it: “[F]or us to do these larger deals,” he explains, “… we have to believe we have synergies we can exploit in maximizing the development of [the products]. In this case, we really believe we have some good insights and expertise in basic research and in development and manufacturing that we can leverage.… This product,” he adds, “has the opportunity to address an important disease that we don’t have anything else in our pipeline to address. We put a big premium on that.” As of 2012, SGN-40 was performing well in clinical trials on patients with a form of blood cancer known as non-Hodgkin lymphoma. In the pharmaceuticals industry, in addition to the usual run of joint ventures and mergers and acquisitions (M&As), deals come in a variety of forms. In-licensing ventures, for example, are partnerships between firms with shared goals, strategies, or fields of interest; like Genentech’s deals with OSI and Seattle Genetics, they’re often created to share the costs of developing products from which both partners can profit. Out-licensing refers to ventures in which a firm seeks a partner to continue the development of a product that’s previously been developed internally. For instance, Genentech once took a drug called Raptiva through preclinical and midstage clinical trials but didn’t have the financial wherewithal to take it any further. So it out-licensed the drug to a small biotech company called Xoma, which used its familiarity with similar antibodies to complete the development process (“better, faster, and cheaper,” according to McCracken). Raptiva returned $500 million in revenue for Genentech during the first five years after its launch. (Unfortunately, Raptiva turned from an asset to a liability in 2009, when Genentech withdrew it from the market: Studies associated usage of the drug with the risk of a rare and usually fatal brain infection, and Genentech is now contending with a slew of lawsuits.) “Never underestimate the value of a small company that has a singular focus,” advises McCracken, who points out that while Genentech was strapped for both the necessary “human resources and management attention,” Raptiva was Xoma’s “most important project.” In the long run, reasons McCracken, this approach to deal making means that “we have all these opportunities and [we] manage our internal growth. The way you maximize the value of the [biotech] business is by leveraging the resources of partners in manufacturing and development.” It is interesting to note that McCracken’s approach leaves little room for acquisition as a deal-making option; in fact, Genentech has only made one acquisition in its entire history. “We haven’t had to do them to drive growth,” he explains. “We’ve been able to sustain growth with our internal pipeline. We’ve been able to get access to the technologies and products that we needed through licensing activities.” As part of a major reorganization of Genentech’s development, commercial, and manufacturing activities, McCracken was given additional responsibilities as head of a new unit called Strategic Pipeline Development. Among the goals of the reorganization was focusing the efforts of top managers on product innovation and the firm’s product pipeline—the flow of new-product concepts through the process that transforms them into products available to end users. McCracken’s new responsibilities included heading up a team to advise the president of the Product Development unit on the expansion of the company’s product pipeline. Following the reorganization, McCracken’s team would negotiate anywhere from 40 to 50 deals annually, but hooking up with partners soon became a secondary aspect of his job. Following the reorganization, he spent most of his time with what he called “my customers”—the people inside Genentech who conduct the research necessary to develop products already in the pipeline. The shift in his job description, according to McCracken, was important “because business development [at Genentech] is so integrated with our internal customers in research [and] development.” For the record, it wasn’t long before McCracken was back at the job of making partnership deals, first as Roche’s head of Pharma Partnering Asia and, currently, as its global head of business development.

Case Questions

1) You’re an up-and-coming assistant to a manager at Roche Group. Your boss is being transferred to the company’s recently acquired research facilities at the former Genentech headquarters in San Francisco. She’s asked you to compile a brief report on Genentech’s overall approach to product innovation. What will you say in your report? (Hint: Structure your report according to the three forms of innovation discussed in the text: radical versus incremental, technical versus managerial, and product versus process.)

2) Ex-Roche Chairman Franz Humer committed the parent company to sustaining Genentech’s “innovative culture,” and his successor, Severin Schwan, has stated that he intends to “keep the two respective research and early development organizations as independent units”; merging the two R&D units, he says, “would kill innovation” at Genentech. Schwan needs suggestions on how best to follow through on both Humer’s commitment and his own. It is no surprise that your boss has asked you to furnish her with two or three ideas that she might pass on to the CEO. What will your suggestions be?

3) Despite the commitments made by its CEOs, Roche Group is an immense company: It employs more than 80,000 people in 150 countries and posted revenues of $48 billion in 2012. There will undoubtedly be changes at Genentech. Generally speaking, what sort of changes might you expect in the following areas—organization structure and design, technology and operations, and people, attitudes, and behaviors?