Fourth, consumption is set to grow dramatically in emerging markets. Some industry observers expect the number of reimbursable patients to grow six-fold in the next 10 years, in markets such as China. Many of these patients are opting for low-cost generic drugs from such firms as Teva, Raxbury, and Dr. Reddy's. Will the Western giants simply cede this market—one of the biggest frontiers in healthcare—or will they develop a coherent approach to contest the space?

Finally, these generics makers are beginning to move up-market. Just as Toyota moved into more profitable market tiers after it entered the United States with the lowly Corona, these firms begin by offering "good-enough" drugs for widespread conditions. Will Western pharma firms simply retreat into the highest market tiers? Or can they fight the entrants? Among Big Pharma firms, Novartis is among the few to make major investments in generics and low-end drugs.

Reasons for Hope

As healthcare costs come under pressure, pharma companies can do to doctors what Intel did to the PC makers: commoditize them. By becoming more precise about specific disease states with diagnostics and tailoring therapies accordingly, pharma can facilitate the migration of treatment from specialist to PCP. It can lower overall healthcare system costs while seizing a greater portion of industry profits. Pharma also needs to target common problems that may not be life threatening, but which still threaten quality of life, so it can open new, less competitive markets for growth.

For example, SleepUp, an Israeli firm, has found an alternative to expensive sleep-lab studies, which require polysomnography on a half-dozen or more vital signs to diagnose sleep apnea. Instead, the firm has introduced a moustache-like sensor that a patient wears under the nose in bed, at home. The sensor measures only airflow through the nose and mouth. The result is not good enough to diagnose apnea, but it does appear sufficient to screen out people who present with apnea-like symptoms but who are unlikely to have it. It is far more convenient, and costs 90 percent less than sleep-lab studies.

Genentech markets Herceptin (trastuzumab) for a specific subtype of breast cancer, HER2. By focusing tightly, Genentech begins to redefine an umbrella disease state into precise therapy targets.

GlaxoSmithKline's Requip (ropinirole hydrochloride) treats Restless Leg Syndrome (RLS), a neurological disorder that causes unpleasant sensations in the legs. Many who suffer from RLS never knew they had a medical problem. Doctors did not diagnose it because little treatment could be provided. GSK may help change that dynamic, as the firm invests considerably in DTC and detailing to drive prescriptions.

Building new growth businesses using disruptive innovation is not easy. However, if companies do not systematically build this capacity for above-average growth, they will cede disruptive innovation to start-ups and small challengers. At best, they will be forced to buy these firms later on at vast multiples. At worst, they will lose market share. US Steel, Sears, Zenith, Compaq, Polaroid, Chrysler, and countless other formerly great companies have learned these lessons at great cost. Doing the same thing a bit better is frequently a one-way path to ruin. Conversely, the firms that have pursued disruptive innovation include IBM, eBay, Sony, Nokia, Toyota, and many of the other champion value-creators of the past 50 years. Whether Big Pharma joins yesterday's great companies in the history books or grows in unanticipated ways depends largely on whether companies embrace the logic of disruptive innovation.

Clayton M. Christensen is a professor of business administration at Harvard Business School. Charles McLaughlin is a manager and Steve Wunker swunker@innosight.com
is a partner at Innosight LLC, a consulting firm.