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By Elisa Martínez de Miguel, Principal and Chris Barrett, Client Partner, Head of Houston and Mexico City Offices, Head of Energy – North America.

In today’s increasingly competitive market, businesses are constantly seeking new strategies to optimise their operations and increase their competitiveness. One approach gaining popularity across various industries is contract manufacturing. This article explores the concept of contract manufacturing, its benefits and challenges, and how business can leverage it to enhance their growth and efficiency.

Understanding contract manufacturing

Contract manufacturing is also known as outsourcing manufacturing. It involves hiring a third-party manufacturer to produce goods on behalf of a company; instead of investing in their own production facilities, companies collaborate with contract manufacturers to leverage the expertise, resources, and capabilities of both parties.

Sectors that use contract manufacturing

Contract manufacturing is used in one way or another across many industries and sectors. In general, companies use it to manufacture parts or products that require large capital investments in equipment, or specific manufacturing know-how. The main sectors which use a contract manufacturing model are Technology, Automotive, Electronics, Pharma, Packaging, Chemical, FMCG, and Retail.

Benefits of contract manufacturing:

1. Cost efficiency: Contract manufacturing allows businesses to save on capital expenditure, as they themselves can invest less in manufacturing infrastructure and equipment. Businesses can also benefit from the economies of scale achieved by the contract manufacturer.
2. Minimise capital risk: Building a factory or even simply retrofitting a production line requires significant capital investment, as well as construction management, manufacturing engineering, and project management resources.
3. Focus on core competencies: Outsourcing manufacturing operations enables companies to concentrate on their core competencies such as research and development, marketing and distribution, while leaving the production to experts.
4. Access to expertise: Contract manufacturing can provide access to specialised knowledge, skills, and technologies that may not be available inhouse, following the business maxim “Focus on what you do best and outsource the rest”.
5. Scalability: Contract manufacturing offers flexibility in production volume, allowing businesses to scale production up or down based on market demand. The volume can be tailored to the needs of the company without bearing the risks associated with maintaining excess capacity.
6. Reduced time to market: By leveraging the capabilities of contract manufacturers, companies can accelerate the product development and launch process, gaining a competitive edge.
7. Flexibility: Running your own factory requires a commitment of capital and human resources. Once these commitments are closed, it becomes very difficult to make changes and adapt resources to the progress of the project: production processes, manufacturing technologies, tools, raw material suppliers, etc. Conversely, with contract manufacturing, these commitments and their fulfilment are on the contract manufacturer.

Challenges and considerations

While contract manufacturing offers numerous benefits, it also presents challenges that the outsourcing companies must address if they are to use the strategy effectively:

1. Quality control: It can be difficult to maintain consistent product quality across different manufacturing facilities. Companies must establish robust quality control processes, as well as conducting regular audits to ensure compliance with standards.
2. IP protection: Sharing proprietary information with contract manufacturers raises concerns about intellectual property protection. Companies should implement confidentiality agreements and security measures to safeguard their intellectual assets.
3. Communication and collaboration: Successful partnership requires communication and collaboration between the company and the contract manufacturer. Clear expectations, regular updates, and transparent communication channels are vital to ensure alignment and avoid misunderstandings.
4. Supply chain risks: Dependency on external suppliers and manufacturers exposes companies to supply chain risks such as disruptions, delays, and quality issues. A vertically integrated supply chain is necessary to reduce the risk of bottlenecks or geopolitical holdups. It is best practice to implement risk mitigation strategies and diversify suppliers.

White label or contract manufacturing?

There are two main options for outsourcing manufacturing to another company:

1. White label (private label) manufacturing: The outsourcing company orders ready-made parts from another manufacturer, and then puts its own brand on them. The outsourcing company does not control the design of the parts or the price per unit, and it is possible that other companies may receive identical parts from the private label manufacturer.
2. Contract manufacturing: The outsourcing company hires a manufacturer to make parts according to the outsourcing company’s specifications, while maintaining exclusive ownership of the parts and full control over the product.

If a company opts for the contract manufacturing model, the choice of manufacturer is crucial, requiring careful selection, quality assurance and audit processes. Outsourcing companies should consider the following criteria: 

• Short supply chain
• Proximity to the outsourcing company or its market
• Highly skilled labour
• Competitive costs, especially for labour and shipping
• Strict enforcement of intellectual property laws
• Socially responsible manufacturing
• Quality certifications
• Strong industry reputation 
• Existing partnerships with reputable companies
• Ongoing investment in equipment, facilities, and employees

Conclusion

Contract manufacturing offers companies a strategic approach towards optimising operations, reducing costs, and accelerating growth. By partnering with experienced contract manufacturers, business can leverage external expertise, focus on core competencies, and effectively adapt to changing market dynamics. However, if the benefits of a contract manufacturing partnership are to be fully realised, it is vital to address challenges such as quality control, intellectual property protection, and supply chain risks. With careful planning, collaboration, and execution, companies can unlock the full potential of contract manufacturing to drive innovation and competitiveness in a dynamic market.