A Short Guide to Manufacturing Contract Relationships

May 5, 2021



min read

A Short Guide to Manufacturing Contract Relationships

Manufacturing can be the costliest element in your entire business plan. You need to either build the manufacturing capacity from scratch or buy an existing facility and then customize it to your needs. Once done, you'll have to order and install massive equipment, look for the correct handling tools, and choose and order supplies. The expense and challenge of this task means that many businesses choose to outsource production through a manufacturing contract. This approach offers your business convenience while also improving your efficiency and productivity.

What is a Manufacturing Contract?

Contract manufacturing refers to when a company enters an agreement with a contract manufacturer to develop specific products or components within a specified period. Usually, the contract manufacturer is a third-party agency that exclusively focuses on subcontracting or selling their products to other entities.  

In a typical manufacturing contract, the hiring company presents its formula or design to the contracted manufacturer, who will either improve or replicate it. The hiring organization will be freed up to focus on marketing and selling products from their central warehouse.

In this case, you'll be marketing the products you developed. Alternatively, you may allow the contract manufacturer to ship some of the products within a specified market. Either way, the arrangement helps you enjoy the following benefits:

  • Cost savings – You'll save on your capital costs like paying for equipment or the facility. The approach also relieves you from labor costs, especially if you subcontract in a low-cost country.
  • Mutual benefit – The contract may last several years, and the manufacturer will be guaranteed steady business till the contract expiration.
  • Advanced skills – Contract manufacturing lets you leverage a talent pool, skillset, and supplier networks that you may never achieve.
  • Quality – Contract manufacturers usually have unique quality control strategies and policies for detecting damaged or counterfeit materials.
  • Freedom to focus – Handing off your base production to a contract manufacturer allows you to focus on your core competencies.
  • Economies of scale – Most likely, our partner also serves multiple customers. So they can easily acquire raw materials in bulk and benefit from economies of scale, which trickles to your end.

Considerations When Choosing a Manufacturing Contractor

The manufacturing space has substantially transformed over the last few decades. Companies can now access subcontractors from different corners of the globe, and making the pick from the vast choices can be overwhelming.

Here are the primary considerations to have in mind when making your selection.

Contract Manufacturer Size

Small or medium-sized entities must be keen when choosing large contract manufacturers. At this stage, you'll require more personalized support. So if you have just one, or a small group of products, any delays or failure can severely impact your bottom line. What you need is a champion to resolve issues quickly.

You also don't want your partner to be too small either. They may fail to deliver the required quality or ramp up to meet a sudden increase in demand. To make the correct pick, ensure you ask the right questions, including a catalog of the clients they've served, for comparison.

Their Willingness to Share Efficiencies

Manufacturing improves over time. As production increases, the cost of supplies reduces. This means consistent reviews can help you save substantial costs. Some manufacturers don't reveal this information and keep the savings, while others are willing to share it with their clients. You definitely know who you'd love to work with.

Confirm whether your manufacturer accepts open-book manufacturing where they share with you their expenses and profits. If they do, agree on each party's share of the profits. This gives both parties the incentive to develop more improvement approaches. But if they're unwilling to open their books, you should agree on specific efficiency targets, which should be reviewed regularly.

What's Their Corporate Culture Like?

Quality and efficiency go hand in hand, and they directly relate to a flourishing corporate culture. When employees are treated fairly and valued, they'll work more efficiently. So pay a visit to your manufacturer and review the entire operation. Speak to staff as you walk through to ascertain the nature of their company culture. If there are concerns, you need to reconsider your decision.

Creating a Comprehensive Manufacturing Contract Agreement

Contract manufacturing comes with its challenges. The biggest concern for most companies is that they don't have direct control over product quality. There's also a risk of working with an unethical contract manufacturer who might give away your product idea to a favored client or use it to develop theirs with only slight tweaks. You also need to weigh the potential economic and political risks when choosing a subcontractor.

Fortunately, a contract manufacturing agreement addresses most of these risks. In essence, this is a contract between you and the manufacturer for product manufacturing and sales. The contract clearly defines the specifications, quantity, and type of goods. It also sets out the issued warranties, minimum purchase obligations, payment terms, and how the product's risks and title are passed.

For it to be legally binding, the agreement must include the following vital elements:

  • Non-Disclosure Agreements – If you're especially careful with your proprietary services and products, an NDA will always ensure you reveal your product with the element of surprise.
  • Licensing agreements – If the contract manufacturer uses your trademarked intellectual property, they'll be aware that any mistake could lead to a trademark infringement lawsuit.
  • Quality standards – You should include numerous stipulations regarding quality standards to save time and ensure consumers get high-quality services or products.
  • Purchase orders – The documents define the terms between the two parties.
  • Essential processes – The agreement must also define key processes' terms to avoid headaches and ensure satisfaction in all parties.
  • Supply chain agreements – Since products won't stay in the same place throughout their life, establishing the supply chain enables communication and improves efficiency in production.
  • Termination clauses – Once the contract period ends, termination clauses address everything regarding intellectual property and patents to avoid a messy conclusion. You should also outline the circumstances that can cause termination.

The Bottom Line

Contract manufacturers have revolutionized operations across sectors. Investors are now left to handle core business and act as marketers for their products. But it's not an easy job to find the right subcontractor that can meet your quality agreements, align with your goals, and satisfy your demand.

Fortunately, you don't need to rummage through the vast cultural, legal, and political environments in search of a subcontractor – you're home. Launchpad is considered by its clients as the future of product manufacturing and has the right talent and technology to meet your quality, efficiency, and time requirements.

Feel free to join our private Alpha test, where we'll evaluate your product and offer pricing, assembly, and delivery feedback.

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