R&D Investments, Profitability and Regulation of the Pharmaceutical Industry
37 Pages Posted: 29 Nov 2014 Last revised: 25 Apr 2017
Date Written: April 24, 2017
Pharmaceutical firms are frequently in the center of political debate due to their high accounting profitability. We show that, under plausible assumptions, abnormal profitability in the U.S. pharmaceutical industry is a kind of optical illusion created by accounting standards for investment in research and development and their influence on reported accounting profit and book equity. We further show that the perception of high profitability of U.S. pharmaceutical firms triggers excessive regulatory scrutiny and increases regulation of the pharmaceutical industry. Regulators seem to fixate on reported profitability and do not adjust for accounting distortions caused by R&D accounting. We discuss the likely consequences of regulation that is largely motivated by distorted profitability.
Keywords: Pharmaceutical firms, ROE, accounting for R&D, regulation
JEL Classification: L65, M41, G18
Suggested Citation: Suggested Citation