Covering the Front and Back Pages of the Newspaper
September 8, 2004
POLITICS/BUSINESS: Not That Simple
Mark Cuban, trying his hand at politics, makes a serious error regarding drug company profitability:
They donít run their companies to make a profit. They run their companies to make Wall Street happy, to push their stock prices up, and if they are lucky, to hit the jackpot personally.
They know that in order for their stock prices to go up, they have to sell the future. If all they have to sell is the cash flow from their existing base of drug patents, they have a problem. Could you imagine the CEO of a major drug company saying, ďWell, we canít come up with any new products, and our R&D isnít really working, so we will just play out the patents on our drugs and pay out the cash to shareholders.Ē Yeah Right.
They will do just what they are doing now ó keep on investing in their own R&D hoping they can hit a home run with new drugs, and when that doesnít work, they will use their stock and cash to buy other companies that have better prospects. In all cases, they hope the results will propel their stock and their own net worth.
They arenít going to change how they do business at all. Wonít happen. CEOs are a competitive bunch. You donít get to run a major corporation by not being motivated to succeed. A measure of that success is personal wealth.
As long as CEOs and those around them want to be rich, we can change the laws regarding drug pricing and nothing at all will changeÖNothing.
This is a perfect example of how a smart businessman can believe a stupid idea when it comes to politics. Cuban is right, of course, about the kind of motivations that make executives tick - like any other worker, they work to make their companies profitable because they are given incentives to do so, not out of some abstract love for their shareholders. And he's right that, if drug companies realized tomorrow that they could no longer expect future profits from large R&D layouts, executives would be loath to become doomsaying pessimists about their own companies.
But what would really happen is right under Cuban's nose, and he misses it: what does a company do when it realizes that its current business is throwing off profits that can't sustain in the future? Well, the most common response is what Cuban himself suggests: "use their stock and cash to buy other companies that have better prospects." In other words, diversify.
Which is precisely the point: if R&D in new drugs starts looking like a bad gamble, sooner or later drug company CEOs will devote more of their available resources to acquiring companies who do other things than invest in drug R&D, and less to that R&D. And, in the long run, we'll have fewer drugs produced. Not none; that goose won't stop laying golden eggs entirely. But the natural response of CEOs who want to stay successful will be to migrate their companies' capital investments away from a low-margin business. And we'll all suffer.