Pricing and market entry decisions in personalized medicine

In the pharmaceutical industry, personalized medicine is increasingly replacing the traditional blockbuster drug concept. Personalized medicine consists of a targeted drug that is only prescribed if a companion diagnostic test detects the corresponding biomarker. This concept promises improved treatments of various diseases. However, personalized medicine also presents pharmaceutical firms with new challenges resulting from interdependencies in the drug and diagnostic test development processes. Although pharmaceutical firms generally benefit from competition among diagnostic firms, the threat of substitutes from competitors could cause diagnostic firms to step back from new product development in the first place, leading to lost revenues for the pharmaceutical firm. We consider a pharmaceutical firm that may inform two competing differentiated diagnostic firms about a drug under development, such that these firms can develop a corresponding diagnostic test. We show which diagnostic firm the pharmaceutical firm should inform first and how granting early exclusivity to a single diagnostic firm can maximize pharmaceutical profits from personalized medicine.