Eli Lilly and Co. is pouring more money than ever into its research and development pipeline, but Wall Street has been rewarding companies that cut such spending, according to a recent report by the Oliver Wyman consulting firm.

Wyman points to the massive drop in the payoff of R&D spending by pharmaceutical firms. Wyman’s report concludes that big pharma companies are getting 70 percent less in sales from their R&D spending than they were before 2004.

Lilly is an extreme but not uncommom example in Oliver Wyman’s analysis. In the 1996-2004 period, Lilly and its peers launched a bevy of new drugs. Five years after launch, Lilly posted sales of $500 million per year for every $1 billion it had spent on R&D. But from 2005 to 2010, fifth-year sales of Lilly drugs recorded just $25 million in annual sales for every $1 billion spent on R&D. Ouch.
 
“The current industry mindset for drug development has become mismatched with the realities of the marketplace,” wrote Oliver Wyman consulants Jeff Hewitt, David Campbell and Jerry Cacciotti in their December report.

They suggest there will still be successful pharma companies going forward, but that only those that change their mindsets will win. “Whether your company is among the successful depends on how much you are willing to move the R&D organization away from historical mindsets,” they wrote.

What is mystifying to investors and analysts is that Lilly CEO John Lechleiter appears to have a very old-school mindset about R&D, which has led him to keep ramping up R&D spending to nearly $5 billion per year—compared with less than $4 billion just three years ago.

In June, after Credit Suisse analyst Catherine Arnold asked Lechleiter about Lilly’s Plan B if its 66 drugs currently in human testing don’t produce the new sales Lilly expects, Lechleiter responded with a story from Lilly’s history, which he is sure will happen again.

“Many of us who worked at Lilly in 2000 remember exactly where we were in August, when we got a phone call that our Prozac patent had been overturned and that we stood to lose patent protection for Prozac in 2001, which is what happened, versus what we had anticipated to be 2003. That was sort of an ‘Aha!’ moment," he said. "At that point in time, none of the molecules that subsequently launched form ’01 to ’05 … none of those were out of Phase 3 [testing] yet. … In fact, that entire Phase 3 portfolio basically matured and came through and it’s generated since that time $42 billion in revenue.

“There is absolutely no doubt in my mind that this portfolio of molecules you’ve seen in our pipeline today is going to result in a number of very good products,” Lechleiter continued. “Will they all launch? No, they won’t. We’ll be disappointed in a few along the way. But we have the substrate. So I don’t spend a lot of time on a Plan B thought process. I’m on a Plan A thought process, which is implementing and executing the clinical development and the market preparation to launch these products. We’ve done it before. We are going to do it again.”

To be fair, Lilly under Lechleiter has implemented many of the “new mindset” things that Oliver Wyman suggests, such as the aggressive use of external researchers and funding sources to advance new experimental drugs. Lilly also has tried to tailor new drugs to genetic subcategories of patients.

Lilly calls these efforts “Reinventing Invention.”

But Lilly has not cut its R&D spending, as New York Pfizer Inc. has done, nor has it engineered a major merger, as Pfizer and New Jersey-based Merck & Co. Inc. did, respectively, with Wyeth and Schering-Plough Corp.

Instead, Lechleiter has bet that the “old mindset” is still relevant and, given time, will produce revenue, too.