Drug majors' continued dependence on traditional executive compensation plans threatens to work in opposition to the culture of innovation which is needed to restore the sector's health, a new study warns.

While sustained transformation and performance in the pharmaceutical sector will require a level of risk-taking and change to the way that companies define, measure and reward performance, new research shows that executive compensation programmes at Big Pharma companies are still oriented towards rewarding compliance and near-term financial outcomes. Yet these are often the wrong approach in an industry with very long, multi-year product development pipelines, says management consultants Hay Group.

80% of metrics used by large drugmakers to determine incentives are financial, while only 12% are related to drug development and commercialisation, according to Hay Group’s new research, which is based on data from 50 publicly-traded US pharmaceutical companies, both big and small.

For at least a decade, pharmaceutical industry sales and R&D functions have operated on the premise that activity yields results, but that formula does not work anymore, says Ian Wilcox, vice president and global sector leader for life sciences at Hay Group. "The industry now has to turn itself inside out and focus on investments that produce results for customers," he advises.

In a scorecard on the state of affairs within the industry, Big Pharma "would probably be at the bottom of the class," says the firm, while in contrast, biotechnology and biopharmaceutical companies are innovators not only in the technology and products coming out of their laboratories, but also in how they measure and reward their executives.

As well suggesting that companies ask themselves whether short-term incentives should continue to play such an important role for senior executives in an industry with “incredibly long" product development cycles, Hay Group also finds problems with the industry’s long-term incentives. Ideally, these should link executives' interests with the health of the company, but the research finds that, currently, 80% are based on financial data points, and only 20% are related to pipeline development and the commercialisation of innovative new therapies.

Another way to think of this is that financials are a lagging indicator, it suggests; while the last decade has been tough, the next will contain even more pitfalls, with Big Pharma collectively standing to lose revenues totalling as much as $150 billion annually over the next few years as valuable blockbusters fall over the patent cliff. And the situation could get much worse before it gets better, it warns.

Companies’ compensation committees cannot themselves re-fill the firm's pipeline with novel products, but they can implement programmes and practices to encourage executives to place innovation much higher on their list of priorities, the firm suggests. "That's the game in early biotech and emerging biopharmas - not just pay for financial 'performance' but pay for new and innovative technologies which are the lifeblood of these new companies," it adds.

Specifically, while Big Pharma has continued to lean heavily on financial performance measures to drive compensation plans, the mid-size pharmas and small biotech firms that "live and die" based on whether their drugs are approved have been much more creative in weaving pipeline and R&D measurements into their incentives strategies, says Hay Group, and it advises Big Pharma, rather than seeking to “re-invent the wheel,” to look to biotech, or even other industries that have demonstrated track records in product development and innovation, for the way forward.