Contract Manufacturing -The Ultimate Guide in 2021

The modern business trend has taken another angle, reducing the strain of manufacturing every product your business sells.

Contract manufacturing allows you to hire companies with economies of scale and manufacturing technology to work on your desired products.

This guide offers a detailed explanation of what exactly contract manufacturing is and why it is a perfect option for your business.

What is Contract Manufacturing?

With the ease of shipping and the emergence of online stores such as Amazon, Business has taken a new angle.

Contract manufacturing is closely associated with outsourcing.

It refers to minimizing operation costs by having some part of your business operations handled by others.

Therefore, contract manufacturing can be defined as the process of hiring another company/manufacturer to produce your products.

In this, the nature of the contract is such that you enter into an informal agreement with the manufacturer.

Manufacturing services include engineering and designing the product and manufacturing the product to required specifications.

How Contract Manufacturing works

The whole intent of contract manufacturing is to reduce production costs and benefit from other manufacturers’ technologies.

In this case, the manufacturer provides the design of either making a new product or improving an existing one.

Your only part is to market your products and sell them to your customers.

The process begins by choosing a manufacturer of choice.

When choosing a manufacturer for your products, you must consider their capabilities.

The right manufacturer must have the right machinery, adequate personnel, technologies, access to quality, and affordable raw materials.

Most importantly, they should possess the requisite certifications for manufacturing your kind of product.

Once you have selected your preferred manufacturer, you sign a contract manufacturing agreement.

The agreement should detail the nature of the contract, the quantities you want, price, and quality desired.

should also specify the manufacturing lead-time and penalties for late delivery.

When to use Contract Manufacturing

Many factors dictate the choice of using contract manufacturing.

Your business needs to operate under minimal expenditures but maximum returns.

The following are instances when you can use contract manufacturing:

When your Business is Just Starting

Starting and setting the pace for your business can be challenging and expensive.

The whole process involved, from developing the product idea, getting the necessary machinery and workforce, and delivering the product to the customers, can be overwhelming.

To reduce the strain and huge capital to manufacture your products, you can opt for contract manufacturing.

Not only does contract manufacturing save you on costs, but it can also help set the pace for your business by having quality products manufactured.

Challenges in Financial or Working Capital

When you are faced with difficulties in your business due to financial constraints, you can choose to hire a contract manufacturer.

Moreover, the arrangement is beneficial to you because anytime you feel stable; you can quit and continue manufacturing on your own.

When you need to Improve the Quality of your Products

Sometimes getting the right product to the market can be difficult.

With the experience and technology contract manufacturers have, they can improve your product in a short span.

Remember, these are companies with long manufacturing history.

They can help improve your product quality as fast as possible.

Establishing your Brand

As a business principle, the customers who matter most are those that come back.

This is only achieved through setting the pace by delivering quality first products.

Additionally, identifying your business with a reputable contract manufacturer taints a positive image to your customers’ eyes and can increase sales.

Seasonality in Demand

During certain peak seasons like holidays, the demand for products is high.

You can use contract manufacturing during these seasons to increase your supply and help meet the growing demand.

Examples of Contract Manufacturing

To understand the concept of contract manufacturing better, it would help to look at a real-life scenario of how it works.

Here is one example:

Suppose company X, a Pharmaceutical company, is facing an increase in demand for Tablets.

As a result, company X wants to increase its production capacity.

To accomplish this, they need an updated conveyor and an additional Tablet compressing machine to handle the overflow.

Together with the operations crew, company X decides the right specifications they’ll need for the machinery.

However, they are unsure how it will look like despite having a rough idea on paper.

To put their plan into motion, company X takes the specs to a capable contract manufacturer that will help them smooth out the details.

Company X and the contract manufacturing company agree and sign a contract for the fabrication of the new machinery.

In the next few months, the contract manufacturer finds the needed material for parts.

They then cut the parts and assemble them all into the required machinery.

The new machinery undergoes thorough testing and product inspection to ensure that they work fine as per company X’s expectations.

Upon passing the tests and inspections, the manufacturer delivers the completed machinery to company X by rail or sea.

The method of delivery will depend on the Incoterms initially agreed upon the signing of the contract.

Company X may also assist in installing the machinery and run some final tests to make sure everything is working as it should.

Note that the contract manufacturing service doesn’t end there.

The manufacturer may continue to service the machinery long after the sale, thereby adding extra value.

Difference between Contract Manufacturing vs. Outsourcing

Contract manufacturing and outsourcing differ in the scope and manner in which responsibility is transferred from one party to another.

In contract manufacturing, the operations hired are always conducted in the manufacturing facility instead of your facility.

Again, in contract manufacturing, the emphasis is on hiring someone with the capacity and ability to handle what you cannot.

Outsourcing, on the other hand, has grown importance when specialization and costs saving are a necessity.

It means hiring other firms’ services to handle particular areas of your operation, leaving you to focus on the more critical areas.

In outsourcing, you have the power to perform the tasks yourself. However, due to various reasons such as complexity, you have others take care of it.

The main difference between contract manufacturing and outsourcing comes in the amount of control you have over the company.

In contract manufacturing, the company operates on your terms.

While in outsourcing, you let the company do what they do best.

Who can seek Contract Manufacturing?

Any company or business can seek contract manufacturing as long as there is a need to have quality manufactured at a considerate cost.

The size of your business doesn’t matter.

Suppose the idea of setting your facility and hiring the needed workforce to manufacturer your products gives you a headache.

Then contract manufacturing can help you.

Who can benefit from Contract Manufacturing?

We have mentioned that contract manufacturing aims to save on costs while having others manufacture quality products for you.

Many businesses can benefit from contract manufacturing, and they include:

Startups

For startups, the cost of setting up facilities can be high, and the available capital inadequate.

By having their products manufactured through contracts, they get to reduce production costs.

Also, starting a business by using the services of contract manufacturing is beneficial.

You get to make a long-lasting relationship.

Finally, startups want to avoid risks associated with entry into a new market.

Contract manufacturing can help provide products to help you test and determine the market potential.

Companies Looking to Improve Profitability

When you are producing products yourself, you incur many costs, from product development, raw materials, and labor.

Contract manufacturing reduces these costs leaving you with only marketing and making deliveries to customers.

In the end, you increase your profit margins.

Companies Looking to Improve Quality

As cliché as it may sound, contract manufacturers hone their technology in production.

They have long experience in product development and offer the best quality products.

If you want to improve the quality of your products, contract manufacturers offer the best alternative.

Companies that Want to Improve Overall Efficiency

By letting contract manufacturers take care of your production, you are left with a simple marketing job.

This improves your supply chain efficiency.

Types of Contract Manufacturing

The nature of contract manufacturing varies from merely having the manufacturer improve your products’ quality to building a completely different product.

Some of the typical contract manufacturing includes:

Manufacturing of Entire Products

Suppose your business has discovered a new market with lucrative potential, and it requires an entirely new product.

In this case, the first thing to do is perform an internal analysis of your production techniques.

Check whether you have the resources and technical know-how to develop the product.

If it turns out that you lack the technology or that making a new product will be costly for your business, then you find a contract manufacturer.

You will approach a suitable contract manufacturer, present them with the idea of the product you want to be manufactured and formally agree on the contract.

Hiring of Service or Labor

Service contracting is common when you don’t require your employees or the existing employees don’t have the needed skills.

Under this, you contract a sub-contractor with the needed labor.

This can range from specialized services such as distribution, manufacturing, or designing.

Using Equipment or the Facility

Sometimes your new market can require the manufacturing of exceptional products that require the use of designed facilities or equipment.

In such a case, the best alternative to constructing or purchasing own facility and equipment is using contract manufacturing.

You will use the facility or the contracted manufacturer’s equipment at a small cost compared to having your facilities or equipment.

Manufacturing of a Part of a Product

Contract manufacturing comes in handy when your product uses more than one component.

An example is in the electronic industry, where products have different components each manufacturer in different companies.

Here, you will hire different contract manufacturers, each with their specialization to manufacture your products’ components.

The Benefits of Contract Manufacturing

Contract manufacturing can be beneficial in several ways.

Whether you’re just starting your business or looking to improve your products’ quality, here is how contract manufacturing can benefit you:

Reduced Costs

The profit margins from sales made are greatly affected by the expenses.

As a business, you want to reduce your operating costs as much as possible to increase profits.

In adopting contract manufacturing, you reduce costs significantly.

This is because you don’t have to purchase machinery, construct facilities or even engineer the product’s prototype.

Additionally, you won’t incur daily operation costs or even service the machinery used.

Reduced costs also mean lower labor costs to your business.

When you hire a contract manufacturer, they will be responsible for the labor, and in turn, this will reduce your production costs.

Since the manufacturer enjoys economies of scale in their production, you will enjoy low prices on the manufactured products.

Quality Products

Customers want quality products at the most affordable rates.

Given the advancement in the technology used by contract manufacturers, you are assured of getting quality products.

Your choice of the manufacturer to use will determine the overall quality.

The more experienced the manufacturer is, the more quality products you will get.

Faster Production Time and Market Time

Settling on hiring a contract manufacturer means that you understand their services, and their turnaround suits your business.

Well-established contract manufacturers have the machinery for hastening the production process and getting you products when you want them.

With equipment such as CNC, developing your product prototypes is speeded.

When you are sure of the delivery process, you can easily schedule other aspects of your business, such as delivering the products to the customers.

Streamlined Business Operations

There are many supply chain agents you deal with before getting the products to the final consumers.

Dealing with the many suppliers, distributors, and even warehousing companies can be overwhelming and consume much of your time.

By hiring a contract manufacturer, you control the business because of the freedom and ease of operations.

Your supplier handles the rest while you only get to wait for the product and work to meet your customer’s deadlines and demands.

Cons of Contract Manufacturing

Although beneficial to your business, contract manufacturing, if not handled well, can have negative impacts on your business.

Limited Control on Important Aspects of your Business

The nature of contract manufacturing lets them deliver on your specifications and demand on hiring a company.

This means that you will have minimal control over the processes they use to produce your goods.

On the other hand, the manufacturer has limited control over suggesting and designing products that can suit your needs.

They are only to deliver as per your demands, no questions asked.

Competition for a single Contract Manufacturer

The choice of using a particular contract manufacturer is influenced by the reputation they have.

This good reputation gives them other clients apart from you.

In the end, the manufacturer may have special clients, and once in a while, the agreed delivery time increases.

Job Displacement and Loss of your Valuable Employees

After factoring in the low costs, you incur when you hire a contract manufacturer, chances are you will lay off your workforce and fully rely on the manufacturer.

In the event of a change in terms of the contract, getting back your skilled employees can become difficult.

This change can, in turn, greatly affect your business.

Risks of Hiring the Wrong Contract Manufacturer

Getting the right manufacturer requires in-depth analysis and careful considerations.

If you land on the wrong contract manufacturer, your products’ quality suffers, impacting your business’s reputation.

Contract Manufacturing Strategy

Whether you have long-term or short-term goals of working with your contract manufacturer, you require a strategy that will benefit your business.

Contact manufacturing strategy refers to a decision-making system that ensures you achieve your true intent of the association. In the process, you also get to achieve the desired manufacturing structure.

The true intent of the strategy is to ensure you achieve the best system of manufacturing.

Contract manufacturing strategy is grouped into the following categories:

Regulations Compliance

Under this, the strategy ensures that the contract manufacturing company understands the industry’s cGMP.

Risk Management

Risk is both accessed in terms of delivering defective products to customers and the likelihood of having the manufacturer infringe the agreement.

You should have strategies to reduce all risks that may arise as much as possible.

Effective Technology

Contract manufacturing should constantly update the technology in use to ensure it is current and efficient.

You should also identify a balance between costs, production time, and quality.

How to use Contract Manufacturing to grow your business

Business is evolving, and you want to have a comparative advantage over your competitors.

To uplift your business, you can use contract manufacturing to:

Produce Quality Products

Quality products attract customers. When your brand gains a reputation based on its quality, your business will generate more sales.

Offer Lower Prices

When you efficiently produce quality products at a cheap cost, you can easily reduce your goods’ prices.

Low-quality products increase total sales, thus an increase in profit margins.

Crucial Supply Chain Strategy

Hiring contract manufacturers make it easy to budget with expected produce, accept orders, and schedule deliveries.

A contract manufacturer can help you when your production capacity is low relative to the demand.

This will put you above your competitors, improving your reliability in the market.

Contract manufacturing lowers your operating expenses.

Different Types of Contract Manufacturers you can Choose

Contract manufacturing is wide and can include different parts of your business production chain.

This leads to the rise in different types of contract manufacturers classified into three distinct categories.

Depending on the Manufacturing Agreement

This category groups the contract manufacturers depending on the types of agreement they use.

Individual Component Manufacturer

Individual component manufacturers are suitable when you need specific components that form part of your complex product.

They specialize in one product and do not take part in assembling.

Private Label Manufacturer

Private label manufacturers specialize in manufacturing and assembling complete products.

They are suitable if you need ready-for-safe products.

They develop the products and deliver them to your specified location.

End-to-end Manufacturing

Although similar to private label manufacturing, they develop a superior quality product and go overboard to seek feedback from you.

They are important when you want simply-the-best products.

Labor Subcontracting

Just like the individual contractor, the labor subcontractor specializes in handling only one aspect.

They are important when you have complex products because they can help develop quality and affordable products faster.

Depending on the type of manufacturing services, tools, and materials

This category classifies contract manufacturers based on the in-house resources they have.

Your manufacturer’s choice will depend on their specialization and the tools they have at hand to speed up your product’s manufacturing.

Some of the common tools used in the manufacturing industry include:

• Laser Scanners
• CNC machinery
• CAD software

Also, not all manufacturers specialize in using all materials.

Depending on the materials you want your products to be made from, you should check to ensure your manufacturer has it.

Common materials include:

• Different types of metals and wood
• Silicon’s such as gels and RTV
• Polyurethanes such as viscoelastic foams.

Besides, your manufacturers should have a qualified team of engineers skilled in machine and equipment operation.

Your manufacturer should have the best labor force to speed up manufacturing and guarantee quality products.

Types of Industries that the Manufacturers Support

Contract manufacturers specialize in different industries.

When you sport a contract manufacturer who operates across different industries, first check their reputation.

This will help you verify if they excel at producing your good.

The contract manufacturer should have knowledge of the latest trends in the industry your products fall under.

They should understand your customers’ expectations and be able to help through product development.

Some of the major industries that contract manufactures can fall under include:

• Electronics industry
• Healthcare industry
• Telecommunication

Elements of Contract Manufacturing

The purpose of contract manufacturing is to ensure improved quality of products and consistency in your supply chain.

This means your relationship with the manufacturers should be guided by prompt communication and ethical behaviors.

The elements of contract manufacturing include:

Information Sharing

To ensure trust and commonality of the contract, your relationship should be transparent through the absolute sharing of information.

The information to be shared in this case includes new production trends, market anticipation, and sales forecasts.

Cooperation

Despite being the boss and deciding the products your manufacturers should deliver, you should see them as worthy partners.

This calls for cooperation at all levels of the agreement.

Integration of Processes

Integration involves setting out everything from the start of the contract agreement.

This can be done by planning and incorporating all parties involved in the manufacturing of the product.

Partnership

Partnership involves linking with all participants in the supply chain, including suppliers, distributors, and customers.

It involves valuing their role and striving to form strategic alliances with them to boost business relationships.

Risk and Reward Sharing

You should not be self-centered when risks occur; you let your manufacturer suffer the consequences alone.

Risk and reward sharing boosts contract manufacturing and allows you to focus on your business’s long-term aspects.

How to select the best Contract Manufacturer

We have mentioned that contract manufacturers are worthy partners in saving you on costs while providing quality products.

Getting such a partner can be overwhelming, and you should pay attention to your choice of manufacturer.

The best contract manufacturer should be able to walk with you through the entire product development process.

They should help you develop the product and give you approximate costs to incur in the whole process of developing a product.

When choosing a contract manufacturer for your needs, you need to first consider their reputation.

You would want to work with someone who knows what they are doing.

You can check their website for reviews and ratings from previous clients.

This will give you a look into what they can and cannot accomplish regarding manufacturing your product.

Finally, don’t settle on the first contract manufacturer who offers pricing rates that seem appealing to you.

While you may want to save on costs, this does not mean you should compromise on quality.

Popular Myths and Misconceptions about Contract Manufacturing

With the rise in the number of companies that offer contract manufacturing, there are many fears about their legality and worth investing in them.

Also, the nature of contract manufacturing in terms of delegating the most important aspect of your business production to others can be tough.

This has led to numerous myths and misconceptions about working with a contract manufacturer.

They include:

Lower Quality

Numerous questions and doubts have arisen on how a third party can surpass or produce quality products as per the given specification.

However, this is not the case; contract manufacturers hone their manufacturing technologies and value your business.

They strive to ensure they produce quality products according to your specification.

Loss of Control

Many businesses fear opting for contract manufacturing because they fear losing control of the whole manufacturing process.

Others fear that making important business decisions such as arranging for sales and controlling the production process may affect their business.

Contract manufacturing should not limit you from having control of your business.

Depending on the agreement, you can be there throughout the manufacturing process.

A good contract manufacturer should allow you to communicate your needs and integrate customer demand in every related aspect.

Low Priority

Not all businesses adopt contract manufacturing because they believe that contract manufacturers serve many customers and prioritize some.

On choosing a contract manufacturer, you should strive to develop a trustworthy relationship by ensuring proper communication.

This way, you will reduce the worry of having other customers favored.

Additionally, the right contract manufacturer should balance their customers’ demand and ensure each of their needs is met as per the agreement.

Furthermore, you are their customers, and they need you as a partner.

Contract manufacturers also understand the repercussions because you can shift to other manufacturers if they misbehave.

Contract Manufacturing Affects Employees

There has been concern that hiring contract manufacturers affect existing employees and can lead to layoffs.

This is not necessarily true because employees are left to focus on fewer remaining responsibilities within the business, increasing their productivity.

Loss of Intellectual Property

Contract manufacturing involves developing your products through third-party facilities.

As such, many have raised concern that processes, technologies, and propriety methods can land in competitors’ hands.

However, this is not the case. Before signing a contract manufacturing deal, the manufacturer signs a non-disclose agreement.

This agreement safeguards your business’ intellectual property rights. Competitors cannot access your production techniques.

Contract Manufacturing Agreement

A contract manufacturing agreement is a binding document between you and the manufacturer.

The agreement specifies every party’s role and that the manufactured goods are as per your specification and should not be manufactured for other customers.

The agreement is applicable when you want your products manufactured once or over a period.

A contract manufacturing agreement entails both your details and those of the manufacturer.

Some of the details include respective addresses, details of the goods, contact details.

After filling the document, every party involved should sign and retain a copy of the document.

The contract manufacturing agreement is legal and is subject to the rule of law.

How to Coexist with your Contract Manufacturer

In as much as contract manufacturing may seem cheap and safe in producing quality products for your business, there are risks involved.

Your manufacturer has access to your products together with other customer’s products.

This means that they understand the production process and sometimes have access to intellectual rights.

Your manufacturer can decide to leak your product to other competitors.

Even worse, they may start producing the product and selling directly to retailers and wholesalers.

This can greatly impact your business, reducing your profit margins and sales.

In this case, your solution to be safe is to adopt strategies that can minimize the occurrence and not put your business in jeopardy.

Be Careful what you Source.

You should be careful about what you hire the contract manufacturer for.

They shouldn’t have access to all details of the product you want from the manufacturer.

This involves keeping key details that can make them an equal partner and start producing the same product to rival you.

Here, you should also keep the terms of the agreement private and advocate for professionalism in your dealings with them.

Suit Relationship to the Circumstance

The contract should serve its purpose with your contract manufacturer doing their part and not going beyond the set limits.

When your products are complex to the manufacturer, you would want to have a long relationship with the manufacturer.

This is because the whole process requires devotion of time.

Additionally, when your products are simple to make, shorter contract duration would be appropriate.

This can help to avoid the manufacturer’s cases using alternatives to produce the same product.

Give Trustworthy Partners their Freedom.

Trust is two-way. By having trust in your contract manufacturer, you gain their loyalty and become a valuable partner they wouldn’t want to betray.

When a contract manufacturer is willing to share another client’s procedure of making products, this should be a warning that they can do the same for you.

Deepen your Distributors and Customers Loyalty

The fact that the contract manufacturer enjoys economies of scale does not mean that they can beat you in the business.

You can gain customer and distributor loyalty and have them develop a liking for your product.

This way, when the contract manufacturer faces them, their chances of opting for those products because of low prices