The recent decision by Pfizer to abandon development of the drug Torcetrapib has lead to a drop of about 11% in Pfizer's stock price, corresponding to a loss of roughly $21 billion in market value. Details can be found here and here. Less noted by the press was a second very similar story, in which Bayer's American partner, Onyx, reported that late-stage tests found the cancer drug Nexavar ineffective against advanced melanoma. Onyx stock dropped of almost 30%.

These two stories contain interesting lessons about the damaging effects that the current patent system has on economic welfare and innovation in the pharmaceutical sector. A few of these, related to legal battles, monopolistic marketing and pricing, strategic retardation in the development of substitutes are summarized here, and here. Let me briefly mention two additional aspects pundits seem to have missed.

The first, and most obvious, has to do with the timing of all this. If we have to believe Pfizer's top executives, the information about the ongoing clinical trials changed dramatically in the space of a few (at most: three) days. The trials had been going on for years, Pfizer had kept releasing a continuous stream of positive news, signaling it was monitoring progresses pretty closely. It had even be criticized by the American Heart Association for releasing some results too early, on October 31 instead of two weeks later at the AHA annual meetings in Chicago. Pfizer's stock had rised recently, gaining about 3% during the last week on the basis of information released by Pfizer iteself, according to which the company was ready to file an application with the FDA to commercialize Torcetrapib in 2007. Apparently, the critical statistics that lead to the decision to completely abandon the development of the drug was that the death rate in the group of patients taking Torcetrapib was about 80/N, whereas it was of about 50/N in the control group of not treated or treated with different drugs (Liptor). Did all those 40+ patients needed to turn the sample mean and the t-statistics around die suddenly and all together between Tuesday, November 28, and Friday, December 1?

Even leaving aside the possibility of insider trading, it is quite clear that, because of the very large profits that a single "blockbuster patent" may entail, stock prices sensitivity to patents has become extreme. The patent system tends to turn stock-trading of large pharmaceuticals into a blind lottery, in which the companies executives can time the release of information as they see fit, and shareholders have absolutely no way of monitoring what is going on until the jeux sont faits.

The second point is less obvious and more important. Pfizer reports having invested, and lost, about $1 billion in the development of the drug, including $90 million to build a plant, in Ireland, that had already started producing it. Also according to Pfizer, the cost of the clinical trial program for Torcetrapib, the largest ever, was about $800 million and involved 25,000 patients. In other words, at least 80% of the total cost is due to the clinical trial. This is the rule not the exception in the development of new drugs; in the Onyx case the number are smaller, but the percentages are very similar, see here and here.

Clinical trials are paid by pharma companies only because of the patent system, and strenghtening patent protection for pharma is continuously advocated because of the high and rising cost of trials. As the examples prove, clinical trial costs generate unwelcome and unnecessary volatility in the the market valuation of pharmaceutical companies. Drastically reduce the length of patent protection on drugs (three to five years) and transfer the clinical trial costs to the federal government. If there is one thing even I would approve the government to pay for, it is this. Let me argue why.

The clinical trials produce scientific evidence and information about the effects of a drug. To the extent that there exists something that is a public good, this is it: it is less rivalrous than national defence. Also, the purpose for which such public good is produced is purely regulatory - it may be good regulation, in fact it probably is: drugs that kill are not good to have around - but regulation for the sake of public safety it is. After Phase I trials are taken care of by the innovating company, let Phase II and III be managed by a Federal Clinical Trial Agency, affiliated to the Surgeon General (not to the US-PTO: the risk of capture is too high) under appropriate secrecy rules. Once the drug is released, mandatory licensing after a few years should be required, with a fee equal to the (properly capitalized and partitioned among licencees) cost of Phase I Clinical Trials.

In regards to the 3 - 5 year patent you have problems because the clinical trials take longer than this. There are a number of workarounds such as delaying the start until the trials are over but these if anything strengthen arguments for the existing regime. Even after trials are complete many drugs are introduced slowly meaning that the patent still won't cover any period of high longterm usage.

I reckon it's broke good and proper and should simply be completely abandoned, a new business model will evolve and good money will still be made.

I particularly liked the numbers out of IBM the other week, $7 bil on R&D, $1 bil return on patent royalties, no mention of payment of royalty amounts paid to other companies, or of costs incurred lodging patents or of legal costs associated with patents. So you have to use the 14% R&D recovery as a maximum. Now if IBM is spending $6 bil p.a. on non recoverable R&D costs just how much will they drop with no patent protection? It would seem to indicate to this little black duck that not very much would change at all!

Trial cost per patient is 32000 USD. What causes this cost? Drug production? Payment to doctors? Any detailed split out there?

Thanks in advance.