Contractibility and the Design of Research Agreements

39 Pages Posted: 2 Jan 2005  

Ulrike Malmendier

University of California, Berkeley - Department of Economics; University of California, Berkeley - Haas School of Business; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR); Institute for the Study of Labor (IZA)

Josh Lerner

Harvard Business School - Finance Unit; Harvard University - Entrepreneurial Management Unit; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: January 18, 2004

Abstract

The pervasiveness of research agreements between pharmaceutical and biotechnology companies is puzzling, since it is hard to contract on the exact nature of the research activities. A major concern of financing companies is that the R&D firms use their funding to subsidize other projects or substitute one project for another. We develop a model based on the property-rights theory of the firm that allows for researchers in the R&D firms to pursue multiple tasks. When research activities are non-contractible, we show that it is optimal for the financing company to obtain the option right to terminate the research agreement while maintaining the property rights to the terminated project. This right will induce the biotechnology firm researchers not to deviate from the proposed research activities. The contract prevents opportunistic exercise of this termination right by conditioning payments on the termination of the agreement. We test the model empirically using a new data set on 584 biotechnology research agreements. We find that the assignment of termination and ownership rights to the financing firm occurs in contractually difficult environments in which the parties cannot specify the lead product candidate. We employ further empirical tests to distinguish the property-rights explanation from alternative stories, based on uncertainty and asymmetric information about the project quality or research abilities.

Suggested Citation

Malmendier, Ulrike and Lerner, Josh, Contractibility and the Design of Research Agreements (January 18, 2004). AFA 2005 Philadelphia Meetings. Available at SSRN: https://ssrn.com/abstract=642303 or http://dx.doi.org/10.2139/ssrn.642303

Ulrike Malmendier

University of California, Berkeley - Department of Economics ( email )

549 Evans Hall #3880
Berkeley, CA 94720-3880
United States
(510) 642-8724 (Phone)
(510) 642-6615 (Fax)

HOME PAGE: http://www.econ.berkeley.edu/~ulrike/

University of California, Berkeley - Haas School of Business ( email )

545 Student Services Building, #1900
2220 Piedmont Avenue
Berkeley, CA 94720
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Centre for Economic Policy Research (CEPR)

77 Bastwick Street
London, EC1V 3PZ
United Kingdom

Institute for the Study of Labor (IZA)

P.O. Box 7240
Bonn, D-53072
Germany

HOME PAGE: http://www.iza.org/en/webcontent/personnel/photos/index_html?key=918

Josh Lerner (Contact Author)

Harvard Business School - Finance Unit ( email )

Boston, MA 02163
United States
617-495-6065 (Phone)
617-496-7357 (Fax)

HOME PAGE: http://www.people.hbs.edu/jlerner/

Harvard University - Entrepreneurial Management Unit

Cambridge, MA 02163
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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