What is Contract Manufacturing?

Contract manufacturing is a kind of international business in which a company gets

into an agreement with one or more local manufacturers in foreign countries to
produce particular components or commodities to its specifications. It is commonly
known as outsourcing.
It can be divided into three categories:
1. Production of specific components, such as automobile components or
shoe uppers to be used later in the production of finished goods, such as
automobiles and shoes.
2. Assembly of components into final products, such as hard disc,
motherboard, floppy disc drive, and modem chip are assembled into
computers.
3. Complete production of products, such as garments.

In order for the local manufacturers to produce and assemble the goods, foreign
businesses provide technological and managerial guidelines. The products
produced through contract manufacturing are either used as finished goods or sold
by international businesses under their brand names in a variety of nations,
including the host nation and other nations. Levi’s, Nike, Reebok, and others, rely
on contract manufacturing to acquire their goods.

Advantages of Contract Manufacturing

Contract manufacturing provides various benefits to both multinational companies

and local manufacturers in foreign countries.
• Less Investment: With the help of Contract Manufacturing, international
firms are able to produce their goods on a large scale without requiring
investment in setting up production facilities.
• Less Risk: It is less risky because it only requires a small investment. In
addition, they are adhered to by local producers who have been given
specific product design and quality standards. Additionally, there is little
or no investment in other nations, and there is little risk associated with
foreign investments.
• Lower Costs: Contract Manufacturing helps international businesses in
getting their product manufactured or assembled at lower costs,
especially when the local producers are situated in countries which have
lower material and labour costs.
• Better Utilisation of Resources: Contract manufacturing is advantageous
to foreign local producers. Contract manufacturing jobs ensure that
businesses can use more of their production capacity if they have any idle
capacity and provide a ready market for their products. Godrej Group, for
instance, produces soaps for numerous multinational corporations,
 including Dettol Soap for Reckitt and Colman. It is thus utilizing its excess
capacity for soap manufacturing.
• Opportunities for Local manufacturers: The local manufacturer also has
the option to get engaged in international business and avail incentives if
any available to export enterprises if the international firm wants the
goods produced to be sent to its home country or to other foreign
countries.

Disadvantages of Contract Manufacturing

The disadvantages of Contract Manufacturing are as follows:

• Issue in adhering to production design and quality standards: Local firms
may fail to follow production design and quality standards, creating
serious product quality issues for foreign enterprises.
• Loss of control: As goods are manufactured exactly according to the
terms and standards of the contract, the local manufacturer in the
foreign nation loses control over the manufacturing process.
• No Authority to sell products: Local businesses that perform contract
manufacturing are prohibited from selling the contractual output at will.
They are required to charge the multinational corporation fixed prices for
the goods they sell. Profits fall if the open market prices for these
commodities are higher than the contract's agreed-upon prices.