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12 SEG NEWSLETTER No 65 • APRIL 2006... from 11The Mineral Exploration Business: Innovation Required (Continued)budget in 2004, created eight separate“Discovery Sites” and a CentralDevelopment Site in 2000 with a viewto maintaining the excitement of asmall discovery unit (http://pfizer.com/pfizer/main.jsp). GlaxoSmithKline, thesecond pharmaceutical company with a2004 R&D budget of £2.8 billion ($5.0billion), also restructured their R&D in2001 into six “international biotechnologycompanies” which would competefor resources and operate autonomously.These are called “Centres of Excellencefor Drug Discovery” (CEDDs). The unitsare divided along therapeutic or diseaselines (equivalent to commodities).Their job is to deliver drugs with“proof of concept” to GSK’s drug developmentorganization—in other words,their role is discovery. They describe theidea as being to maintain agility,entrepreneurial spirit, and individualaccountability. The parent companywill then carry out the high cost development(clinical trials, equivalent toreserve definition and feasibility studyin the mining sector) in theirDevelopment Organization. At thattime, GSK had a “less-than-ideal latestagepipeline”—i.e., a lack of new discoveries—with50 drugs at the trialstage. In a mining company, thisequates to depletion of reserves andlack of new projects. By 2004 they wereable to claim substantial R&D growthfrom 118 to 140 projects in clinicaldevelopment between 2001 and 2004,including an 80% increase in “NewChemical Entities” in their pipeline.Building on the success of theCEDDs, they introduced six MedicineDevelopment Centres (MDCs) in 2004to integrate R&D with manufacturingand marketing in order to speed up thedelivery of new products to the market(i.e., patients; GlaxoSmithKline, 2005).However, in spite of high spendingand innovative management of R&D,many of the big pharmaceutical companiesare failing to deliver significantnew products (Wood Mackenzie,2005a), leading some analysts to questionthe current R&D focus on blockbusterdrugs (those with sales of over $1billion per year—read, world-classmines).Yet there is a strong “junior” sector,well-funded biotech companies developingnew ideas. Why should biotechnologycompanies share their ideas andpotential development with companiesthat could be seen as competitors? Itcomes down basically to survival, andalso that a major corporate partner providescredibility to that biotechnologyfirm’s research.Typical biotechnology/big pharmaceuticalcompany deals include the following(Robbins-Roth, 2000):• An up-front licensing fee that givesthe big pharmaceutical partnerrights to use the technology;• R&D funding for the life of the agreement(typically 3 to 5 years, initially),which covers the people andsupplies used by the biotechnologypartner to carry out the work;• Milestone payments that give thebiotechnology partner rewards formoving the project forward andreaching benchmarks that are significantfor product commercialization(for example, filing for FDA permissionto start clinical testing, startingPhase I / II / III trials, filing for marketingpermission, product launch);• A purchase of equity in the biotechnologypartner by the big pharmaceuticalpartner.The last point is not always included.Robbins-Roth (2000) points out that thebig pharmaceutical companies do notalways see stock as useful commodity,and usually buy shares only becausethe biotechnology firm wants them to.The amount of money a biotechnologycompany can command for each ofthese points is very dependent on theperceived quality of the company andits technology; i.e., whether the technologyis seen as “cutting edge” or thethird runner-up in an area, how crucialthe technology is to the big pharmaceutical’sinternal strategy, and how hungrythe big pharmaceutical partner isfor new product candidates to fill itspipeline.Although associations betweenmajor mining companies and explorationcompanies are becoming morecommon, there is a need for innovativefinancing models that require less capitalto get to discovery, which meansthat we need management teams thatcan do more with less.The oil business is in a similar situationto mining, with a decline inreserves considered to be partly responsiblefor the oil price reaching over $70per barrel recently. Oil companies areno longer replacing reserves throughnew discoveries (Wood Mackenzie,2005b). Exploration spending is at twothirdsof the 1998 level, resulting in a50% decline in reserve replacement. Thereduction in exploration spending hasbeen caused by growing technical risksand uncertain oil prices, and while thishas resulted in good returns for thecompanies, it has been at the cost ofreserve depletion. This is due to the philosophyof “capital discipline” whichhas been in vogue since at least 1998when the oil price last crashed(Brethour, 2004). This is a conservativestrategy of risk-avoidance which focuseson the short-term returns of quarterlyresults at the expense of buildingreserves. As a result, exploration spendingis 73% of six years ago in the top 10listed oil companies, down from $11 billionin 1998 to $8 billion in 2003. In relativeterms, the fall has been evengreater, with the average annual explorationexpenditure per unit of productionfalling from US$1.70/barrel of oilequivalent (boe) to US$1.00/boebetween 1998 and 2003. This is at amuch lower level than the mid-cap peergroup where relative spends have fallenfrom US$2.80 to US$2.50/boe (WoodMackenzie, 2004).THE BUSINESS OFEXPLORATION:MANAGING FOR SUCCESSMany articles have been written on theingredients required for success inexploration (e.g., Miller, 1976; Bailly,1979; Frost, 1980; Eggert, 1993; Sillitoe,1995; Stevens, 1996). Sillitoe (1995), inanalyzing the case histories of the 54most important discoveries made in theCircum-Pacific region from 1970 to1995, concluded that the most importantelements were the following: longtermexploration, systematic and wellplanned,scientifically groundedprograms, quality of the geologicalteam; competitive remuneration toattract and retain the right people, androck contact time of those quality people.Yet from our experience, manycompanies pay only lip service to theseingredients.The importance of people is a recurringtheme in analysis of explorationsuccess. Stevens (1996, p. 37) wrote that“... best people, in my experience are