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What is Contract Manufacturing?

Companies that build motor vehicles often rely on contract manufacturers to supply components like wheels or radios.
The use of contract manufacturers to supply engines allows aircraft companies to design new products around existing engines.
Pharmaceutical companies may be interested in contracting manufacturing companies if they do not have the facilities to package drugs themselves.
Contract manufacturers often supply manufacturing facilities and purchase raw materials.
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  • Written By: Malcolm Tatum
  • Edited By: Bronwyn Harris
  • Last Modified Date: 25 September 2014
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Contract manufacturing is a process that establishes a working agreement between two companies. As part of the agreement, one company custom produces parts or other materials on behalf of their client. In most cases, the manufacturer also handles the ordering and shipment processes for the client. As a result, the client does not have to maintain manufacturing facilities, purchase raw materials, or hire labor in order to produce the finished goods.

The basic working model used by contract manufacturers translates well into many different industries. Since the process is essentially outsourcing production to a partner that privately brands the end product, there are a number of different business ventures that can make use of this arrangement. There are many pharmaceutical contract manufacturing currently functioning today, as well as similar arrangements in food manufacturing, the creation of computer components and other forms of electronics. Even industries like personal care and hygiene products, automotive parts, and medical supplies are often created under the terms of such an agreement.

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In order to secure jobs, the contract manufacturer usually initiates discussions with the potential client. The task is to convince the prospective customer that the manufacturer can use their facilities to produce quality goods that meet or exceed its expectations. At the same time, the manufacturer demonstrates how the overall unit cost of production to the customer will be less than any current production strategies in use, increasing the amount of profit that will be earned from each unit sold.

There are several advantages to this type of arrangement. For the manufacturer, there is the guarantee of steady work since having contracts in place that commit to certain levels of production for one, two and even five year periods makes it much easier to forecast the future financial stability of the company. For the client, there is no need to purchase or rent production facilities, buy equipment, purchase raw materials, or hire and train employees to produce the goods. There are also no headaches from dealing with employees who fail to report to work, equipment that breaks down, or any of the other minor details that any manufacturing company must face daily. All the client has to do is generate sales, forward orders to the manufacturer, and keep accurate records of all income and expenses associated with the business venture.

The general concept of contract manufacturing is not limited to the production of goods. Services such as telecommunications, Internet access, and cellular services can also be supplied by a central vendor and private branded for other customers who wish to sell those services. Doing so allows the customer to establish a buy rate from the vendor, then resell the services at a profit to their own client base.

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Discuss this Article

anon330744
Post 11

I'm interested to know if the trucking industry transports contract parts packaging to Chicago IL?

anon323211
Post 10

You have ownership of the product and brand. You are paying them to produce the product only!

anon265879
Post 7

I am using a contract manufacturer to produce a liquor for me. Who generally has ownership of what the contract manufacturer creates?

anon262265
Post 6

What contribution margin rate should be in contract manufacturing? Is it 30 percent, or is 15 percent enough?

anon249731
Post 5

If I am having a manufacturer package my canned goods and they also supply the food, who assumes the responsibility for the health and the quality of the canned goods? What type of warranty should I have to protect myself from getting sued, just in case of someone out there having an allergic reaction, food poisoning or even chocking on my private label product? Does anyone have a sample contract agreement that I could use with my packaging manufacturer?

anon131605
Post 4

It is good but if everyone thinks on the same line then who will go for manufacturing.

anon123267
Post 3

I started contract manufacturing nutritional supplements about 10 years ago.

At that time, Nutricap Labs was the only supplement manufacturer who offered a complete set of customizable customer service options right from formulation to manufacturing to packaging and labeling.

They also offered storage facilities and order fulfillment services--all for a reasonable price. I still use them to manufacture my products although right now, I could establish my own manufacturing unit. What you've said above rings true - using a contract manufacturer reduces the daily hassles of equipment not working, training personnel, etc. I get more time to keep expanding my business!

innovative1
Post 2

This was very helpful and informative. Thanks.

anon79066
Post 1

thanks - this was helpful.

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