What is Contract Manufacturing?
If you are a fan of Shark Tank you would have heard participants talk about the importation of products or landing costs. Entrepreneurs on the show hire factories as contract manufacturers. For many companies contract manufacturing is among the best ways to bring physical products to market.
A contract manufacturer (CM) is a factory that produces goods for a hiring firm. The hiring firm and contract manufacturer enter an agreement. The contract manufacturer will provide it’s expertise and equipment to the hiring firm for an agreed price, quantity or time.
Outsourcing manufacturing frees the hiring firm to focus on design, marketing, sales or other core tasks. The hiring firm does not need to invest time, money or personnel into setting up a factory to manufacture a product. If your CM isn’t producing to your expectations you can try another. If you’ve invested into in house manufacturing you are locked into recouping your investments.
Specialized Expertise and Equipment:
Good contract manufacturers bring specialized expertise and equipment to the table. They may offer improvements to your design or suggest new ways of manufacturing. Skilled labor may be cheaper if the contract manufacturer is located abroad. Working with several companies at a time allows CMs to benefit from the economy of scale, giving them capital to invest in expensive specialized machines. The use of specialized machinery and labor leads to newer processes or lower overall costs and more efficient production.
Scalability and Added Value:
Contract manufacturers are found in almost every industry and they are usually well connected. Contract manufacturers build strong relationships with their suppliers and subcontractors. They can outsource parts of projects or acquire finishing services like packaging, coloring, painting etc. As your company grows you can hire more contract manufacturers or work with CMs to provide you with private factories. Using a CM can reduce the need for managing suppliers, and subcontractors.
CMs have to be competitive to survive. Their clients will acquire several bids or quotes before deciding, forcing them to reduce costs and optimize production. They will also pursue ISO certifications or licenses to stay competitive. They value relationships; their business depends on having a good portfolio of returning clients.
While you are likely to find a good CM, not all are created equal. They may offer “too good to be” prices or produce substandard quality or charge more than standard rates. Others may promise or hype expectations knowing once you agree to a contract you are stuck to the terms.
Conflict of Interest.
Contractors often cater to a specific niche market. They may produce products for your competitor. They may even offer your design to a competitor, or they themselves may bring copy-cat products to market.
Lack of Transparency:
CMs may not be fully transparent with you, telling you a certain narrative or dodging certain questions. They may be condescending and use jargon to purposely cause confusion to upsell the process. Contract manufacturers may focus on larger clients first, forcing you to wait. They may blame sub contractors for delays rather than taking responsibility. It’s even possible they outsource the whole job.
Cultural and Language Barriers:
CMs are located throughout the world. You must consider the cultural and language differences. Although CMs will often have English speaking business staff, cultural differences may cause problems. Some countries have aversion to conflict, they may agree to something but not actually commit to it. There may also be holidays or traditions that you should consider. In China and Taiwan production ramps up before the Chinese New Year. The reason is it's taboo to have unfinished work or unpaid bills follow you into the New Year.
You Won’t Have Complete Control.
Some factories may simply be “dinosaurs” “set in stone” no matter how many times you explain how a product should be produced. They have procedures that haven’t changed in years. They often have dated ERP or management software, which makes managing them a nightmare. On the flip-side this can be good as you can often have them produce simple parts at lower cost, but it’s usually better to look elsewhere.
Most of the negatives can be avoided through referrals, or doing research. Working with a trusted sourcing company or consultant is often a good solution.
If your product contains IP then a NDA/NNN should be prepared. Or manufacture crucial parts with a local CM or job-shop. If the CM is unwilling to agree to legal terms it’s best to look elsewhere. While litigation is an option, foreign laws or ruling courts may be biased against you.
You should have a general understanding of industry pricing and general practices. It’s best not to take the lowest bid but rather choose a contract manufacturer based on value to price and relationship. Lower bids often have attached service fees that often outweigh the potential savings.
Visiting the factory will quickly give insight on whether the CM is right for you. Hiring a technical translator is wise even if you can speak the local language. My advice is to shop around, never feel obligated to work with a contract manufacturer. You should be looking for a contract manufacturer that wants to build a positive relationship with you.