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MISSION:INTANGIBLE, the blog of the Intangible Asset Finance Society, offers critical comments on intangible asset, corporate reputation, and finance; supplemented by quantitative reputation metrics. Intangible assets include business processes, patents, trademarks; reputations for ethics and integrity; quality, safety, sustainability, security, and resilience; and comprise 70% of the average company's value. MISSION:INTANGIBLE is a registered trademark of the Intangible Asset Finance Society.

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Ethical pharmaceuticals

Nir Kossovsky - Friday, May 01, 2009
Earlier this month, Novartis was named one of the three most ethical pharma and biotech companies in the world by Ethisphere Magazine, following an in-depth analysis over a six-month period by several non-governmental organizations and the publication's editors. Ethisphere claims that firms found to be more ethical outperform their peers. We're inclined to agree in principal, because it is our observation that superior stewards of intangible assets build resilient reputations and outperform their peers, and "ethics" is a major intangible asset. On the other hand, league tables are often disparaged as "rank and spank."

It seemed ironic that we should question an organization with a name such as "Ethisphere." Ok, we trust them. But we are obliged to verify. And what better tool to use than the Steel City Re Intangible Asset Finance (corporate reputation) Index, a quantitative tool that measures the financial impact of stakeholder behaviors that are reasonable indicators of corporate reputation.

As shown in the chart below, Novartis (NYSE:NVS) IA index ranking has fluctuated around 0.93 this past year. The EWMA IA volatility was generally very low with a log magnitude of 2. Overall, good IA index values suggesting a strong reputation and creating expectations for an above average return. And indeed, financially, it is outperforming its 84 peers in the Pharmaceuticals sector with an ROE this past year of 13.14% above the median.



As points of comparison, let's look at Pfizer (NYSE:PFE) and Eli Lilly (NYSE:LLY), two strong US-based pharmaceutical companies. Over this same time period, Pfizer's IA index decreased from 0.79 to .72 which is a worrying sign of reputation loss. On the other hand, IA volatility has been dropping slightly suggesting a tightening of the variance on reputation -- a feature we attribute to management's improving command, control and communications. Financially, it is marginally outperforming its peers with an excess ROE of less than 1%.



Last, take a look at Eli Lilly, a firm that has had ethical issues lately relating to criminal and civil charges, now settled, that it illegally marketed its schizophrenia drug Zyprexa. Over the past year, Eli Lilly's IA index decreased from a lofty 0.94 to .85. IA volatility has been fluctuating at levels much higher than either Novartis or Pfizer. Financially, it is underperforming its peers by 3%.



That Lilly's IA index dropped to below 0.8 and then rebounded is testimony to the firm's reputation resilience and is a feature we tend to see in companies with overall high IA index values. Still, there appears to be a rank order in these quantitative market-driven metrics measuring reputation that appear to substantiate, at least in part, the designation conferred by Ethisphere. And yes, the one other pharmaceutical firm that was recognized for its ethics, and that we cover for corporate reputation metrics with the IA index, also scored well. Astra Zeneca (NYSE:AZN). During this period, Astra Zeneca's IA index increased from 0.77 to .88 while its IA volatility has been dropping. Financially, it is outperforming its peers with an excess return of 23%.

The highly regulated ethical pharmaceutical industry (prescription drugs) emerged from the chaos, misbranding, and adulterated products world of the late 19th century. The public benefits derive from the confidence stakeholders have in the safety and effectiveness of the products when used as directed. Knowing how important the distinction between ethical and other products is to market confidence and price point, it should not be too surprising that both the regulatory hammer and the reputation impact can be significant.

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