The Risk Takers June 11, 2009, 5:00PM EST

Novartis: Radically Remaking Its Drug Business

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All these travails help explain the recent frenzy of drug-industry mergers and acquisitions, including the $68 billion union of Pfizer (PFE) and Wyeth (WYE) and the $41 billion marriage of Merck (MRK) and Schering-Plough. Yet the bigger these companies become, the fewer new drugs they seem to produce. U.S. pharmaceutical makers spent $65.2 billion on R&D in 2008, nearly double the tally in 2002, but only eight completely new or first-in-class drugs reached the market last year, half as many as in 2001.

A former physician, Vasella reckons drug executives have strayed too far from their scientific roots and forgotten that their core customers are patients, not shareholders. "It's the tyranny of quarterly earnings," he says, a trace of an accent revealing his Swiss German upbringing. Vasella believes that focusing Novartis' research on smaller, narrowly defined groups of patients will lead to more targeted and effective therapies with fewer side effects. Regulators will therefore be inclined to approve them, and reimbursement will be less troublesome. "With so much waste in the health-care system, insurers cannot afford to bankroll me-too drugs," Dr. Lee N. Newcomer, senior vice-president for oncology at United Healthcare (UNH). "But if new approaches such as Novartis' mean the right patients will get the right drugs, insurers will likely pay for them."

Vasella's vow to break with the status quo has won plaudits from management gurus who marvel at the inefficiencies in the drug sector. "He is not a prisoner of the existing paradigm. Instead, he is trying to change it," says Ram Charan, a leading consultant and author. "Vasella is able to anticipate and visualize radical change much the same way Steve Jobs did at Apple (AAPL), Andy Grove did at Intel (INTC), and Sam Walton did at Wal-Mart (WMT)." William W. George, professor of management practice at Harvard Business School and the former chairman and CEO of medical device maker Medtronic (MDT), says Vasella "has the mind of a long-term strategist."

Some on Novartis' board were skeptical at first. "They kept asking: 'How will we know this huge investment will work?' " recalls George, who resigned from the board this past February when his son Jeff became head of Novartis' generics business, Sandoz. "Dan said: 'You won't know for at least a decade.' "

The remark was vintage Vasella: confident, direct, and searingly honest. When I first met him nearly a decade ago, Novartis had stakes in both agribusiness and pharmaceuticals. Vasella believed gene-based sciences would soon prove the value of this union, but the synergies never materialized. Where hubris might have driven a less self-aware CEO to throw good money after bad, Vasella quickly ditched the seeds and chemicals business and focused on drugs.

It was a natural decision, given Vasella's unusual status as a physician-CEO in a profession where nearly all top executives have backgrounds in law, accounting, or marketing. "The industry really needs more leaders who are as passionate as [he] is about the business. He is a CEO who thinks like a doctor," says George.