Quality Counts

It's been a few days since the Dow fell below 10,000 points, and as I write this, the Index is threatening to dip below 8000. Even though the economic turmoil has its origins in the financial and banking sectors, there may just be an object lesson in it all for the pharmaceutical industry.

Michelle Hoffman

This situation, we are told, started with something called "subprime." As I understand it, subprime loans are those given to people who are not ideal borrowers based on their poor credit history (i.e., defaulting on past loans). Why all of a sudden were they given these loans? It appears that Congress, in an attempt to make homeownership possible for more people, allowed lending institutions to relax standards so that previously unqualified borrowers could qualify.

In some cases, unethical lenders compounded the risk by deceiving financially naïve buyers into taking on more debt than they could pay back. These risky subprime loans were packaged and sold to supposedly sophisticated investment banks, who intended to sell the loans to someone else—the public—in the form of securities (which could now be more aptly named "insecurities"). But suddenly that wasn't possible.

Declines in the housing market made the newly purchased houses less valuable than the dollar amount of the loans themselves. So the loan-based securities were suddenly very unattractive, and investment banks were left holding the subprime bag.

The problem is that these banks borrowed money themselves to buy loans. When the mortgage-backed securities wouldn't sell, the investment banks had to default on their loans. Some of those loans were insured, so insurance agencies such as AIG were also financially imperiled by having to pay the banks for the defaulted loans. (Fortunately, the government bailed out AIG, whose executives promptly spent almost a half-a-million dollars on spa treatments, thus demonstrating the kind of fiscal responsibility that made it seem like a good idea to insure high-risk loans in the first place. It seems they were happy to take the lucrative premiums, believing it was highly unlikely that they'd ever have to pay anything out. But I digress.)

I wonder whether the investment banks knew they were buying low-quality loans? At the core of this crisis lies a low-quality product—the subprime mortgages—sold and resold to unsuspecting buyers. The consequences for the companies involved in the production, sale, and resale of this shoddy merchandise are bankruptcy and ruin. The consequences for the executives of those companies, however, seem to be anything but. I'm not the only one to note in horror that CEOs and other top managers of companies driven to ruin have been awarded, or should I say rewarded with, enormously generous severance packages.

There's an adage in business that you get the behavior you reward. So what does it say about the value of quality when executives who allowed their companies to produce, sell, or buy (for resale) the very lowest quality goods available get paid for it? Nowhere, it seems, are there incentives to produce quality goods or disincentives for moving shoddy goods. But shouldn't firms—and more specifically—executives at firms be held responsible for the quality of the goods they produce and/or sell? Now that we've seen the results, might we think differently about executive accountability?

A member of Pharmaceutical Technology's editorial board got me thinking about this when he shared a rumor (as yet unsubstantiated) that the European Medicines Agency (EMEA) is considering punishing executives in pharmaceutical firms if their product fails to meet quality standards. Wouldn't it be interesting if corporate heads were held accountable for the quality of the goods manufactured by their companies? Pay raises could be tied, in part, to the quality of their company's products. Conversely, corporate heads could take a pay cut or pay fines when quality dips.

If corporate officers were held responsible for outcomes, as determined by product quality, we may be able to reduce the burden on oversight agencies such as EMEA and FDA to monitor the integrity of the supply chain and finished products. There's one more possible consequence of such a system. Producing quality products may just be good for business.

Michelle Hoffman is editor-in-chief of Pharmaceutical Technology. Send your thoughts and story ideas to mhoffman@advanstar.com