The International Consortium on Agricultural Biotechnology Research (ICABR)
Market Structure in Biotechnology: Implications for Long-Run Comparative Advantage
Brian F. Lavoie, Ian M. Sheldon, The Ohio State University
Lavoie and Sheldon (AgribusinessAn International Journal, 2000) have advanced the hypothesis that US comparative advantage in biotechnology can be explained by sources of heterogeneity within the biotechnology R&D investment process. Using the real options theory, they show how these sources of heterogeneity could translate into the emergence of the US as the dominant presence in the biotechnology industry, as measured at the aggregate industry level.
Analysis of long-term comparative advantage in biotechnology requires explicit consideration of market structure. The biotechnology industry is populated with two types of firms: start-ups and multinationals. Start-ups are small, un-diversified firms whose capital is obtained from external sources; multinationals are large, diversified firms with access to internally generated capital. In general, start-ups were the earliest entrants to the biotechnology industry, followed by entry of the multinationals, who are currently initiating consolidation in the industry through the acquisition of established start-ups and other multinationals.
The asymmetric entry strategies adopted by start-ups and multinationals can be analyzed using the real options framework. Specifically, we can consider a scenario where at time t, a start-up and a multinational each acquire the opportunity (the option) to invest in a biotechnology R&D program. Empirical observation suggests that, on average, start-ups exercise their investment option earlier than multinationals. The objective of this paper is to explain this investment behavior, and to examine its consequences for the long-term pattern of international specialization in biotechnology.
We construct a real options model to represent the investment process faced by biotechnology start-ups and multinationals. Using this framework, we investigate the maintained hypothesis that biotechnology start-ups invest earlier than multinationals. In particular, we argue that start-ups invest first, and the success/failure of their investment activity is monitored by the multinationals. The performance of the start-ups is the criterion by which the multinationals evaluate the decision whether or not to exercise their option to invest in biotechnology, either by direct investment in biotechnology R&D or through acquisition of an established firm.
Using industry data and dynamic stochastic simulation methods, we use the real options formulation of biotechnology investment to investigate the evolution of comparative advantage in biotechnology. Competition for external investment capital causes the early entry of start-ups relative to the multinationals. As a result, comparative advantage in biotechnology is determined by factors within the biotechnology R&D investment process. The sources of comparative advantage relevant at this formative stage of the biotechnology industry favor the US, resulting in an industry dominated by US start-ups. Multinationals delay investment in order to observe the performance of the start-ups; their lagged entry into the industry initiates a process of consolidation, marked by the increasing presence of multinationals relative to start-ups. This suggests that as the biotechnology industry matures, long-term comparative advantage may be determined by more traditional factors as described in the literature on multinationals. Our computer simulation suggests that the US dominance of biotechnology established by the start-ups may suffer gradual erosion by the lagged entry of multinationals, and an increased presence of non-US biotechnology firms.