In the past, we have shared tips for setting up outsourcing partnerships. But establishing those initial relationships is just the first hurdle—over time, there are a variety of challenges you will face as your strategy adapts to meet changing market conditions.

I’d like to share three outsourcing challenges you may be facing, and some considerations that may help you handle each decision point along the way.

Challenge #1: Mitigating international delivery costs

You’ve expanded your market reach across the globe and need to mitigate the costs of international delivery. Should you do this by manufacturing closer to customers or should you look for other ways to cut costs?

Your options:

Find suppliers close to your customers to avoid international delivery costs

Stick with your supplier and find another way to cut costs

You may want to consider new suppliers closer to your customers if  . . .

• You have a mature product
• You have a well-documented and well-managed product
• You feel comfortable in your ability to deal with and manage risk
• There are several competing companies that can address your manufacturing needs
• Manufacturing isn’t your core competency or the core driver of your product’s value

You may want to stick with your current supplier team if . . .

• Your product is immature
• You can’t afford a reduction in quality
• You are dependent on a competency owned by your current suppliers

Challenge #2 Keeping up with fast followers

Your first-to-market product is being undersold by fast-followers. Should you cut costs by working with your current supply chain, or by finding a cheaper supply chain partner?

Your options:

Reduce costs with your current supplier

Pursue a new outsourcing strategy

You may want to consider working with your current supplier if  . . .

• You will be introducing new product lines with similar assembly requirements in the future, and can flush out production-related issues for them now
• You can potentially cut costs in other places by implementing lean initiatives throughout your business and supply chain
• Your supplier has bandwidth to reduce costs and is willing to work with you
• A large change is too risky for you at this time
• You are mid-production and can’t afford any setbacks or delays

You may want to pursue a new outsourcing strategy if . . .

• You are well established and have a highly mature product
• You are at a stable place in your company and product life cycle
• Your current supplier is unable or unwilling to cut costs any further
• Your team is up for a challenge and can put additional resources into change management
• You understand how your product is designed and manufactured well enough to explain it to a new set of vendors
• There is little opportunity to cut process costs internally by adopting Lean, Six Sigma, 5S, TQM or other strategies
• You have access to a competitive supplier landscape where sourcing is not prohibitive

Challenge #3: Optimizing for multiple product lines

You’ve developed a new, cutting-edge product and would like to begin manufacturing it alongside your more stable and easy-to-manufacture product lines. Can your current supply chain optimize your part costs for both products, or should you add additional supply chain partners to optimize quality and efficiency for the new product?

Your options:

Stick with your current supply chain to optimize costs

Find the best supply chain for each product line

You may consider having your current supply chain handle the new product if . . .

• You have high-volume, low-complexity products that share similar tooling, raw materials or assembly procedures
• Your organization lacks the resources to manage new supply chain partners
• Your current supply chain partner can offer diverse solutions and has room to grow
• You are confident in your ability to source back-ups if something happens to your current partner

You may consider finding the best supply chain for each product line if  . . .

The components and manufacturing processes of your current and new product lines are very different

• Your management team has the availability to take on additional responsibilities
• Your customers are very quality-sensitive
• You’d like to reduce your overall supply chain risk
• You don’t have strong relationships with your current supply chain partners

For more outsourcing tips

Tips and resources for managing your outsourcing relationships

Why you should be using the PDX file standard

Arena Outsourcing Survey results

Manufacturing outsourcing challenges and how to solve them

This raw information (BOMs, drawings, specifications, purchasing and sourcing information) is of critical importance to your suppliers, yet many OEMs lack visibility into how ambiguous their data can be when it’s received on the other end.

The idea of throwing product data over the wall is a major source of frustration for OEMs. While it can be a struggle to get the right information to the right person at the right time, its important that the people building your product receive the information they need.

Your CM: An ally in the fight against product record ambiguity

Fortunately, your contract manufacturer wants to minimize ambiguity too.

It shouldn’t come as a surprise that your CM partners dislike fighting over quality problems, excess and obsolete inventory, or the costs of a product recall or field service problem. And if the source of confusion is often due to incomplete, messy or outdated product data, this is something you can easily fix.

If you think you may be sharing less-than-perfect data with your suppliers, here is a list of four things you can do to ensure you are giving your supplier team the information they need to be successful.

Four things you must do to eliminate product record confusion!

1. Define:

• what makes each part/revision acceptable
• which parts should be used (and when)
• assembly instructions for how parts go together physically

2. Control:

• who can edit your BOMs (and how)
• how related BOM updates are grouped
• who reviews & approves BOM changes
• how & when BOM changes become effective

3. Communicate:

• sufficient information to build the product
• only the necessary information
• each and every update to the BOM

4. Collaborate:

• sign-off for BOM changes (in advance)
• requests for improvements
• up-to-date status

And a bonus tip (that a lot of companies struggle with): Keep a historical BOM accurate and unambiguous. To do this, it’s helpful to adopt a system that allows you to manage change over time (like Arena.)

Helping your suppliers is a win—win situation

Ambiguity can sometimes seem like an unavoidable part of the outsourcing relationship—especially when it comes to sharing your product record. But with the right processes in place, you can communicate with your CM partners with focus and purpose.

For more information:

Tips and resources for managing your outsourcing relationships

Three tips for effective product revision control and communication

I recently spoke with Kate Vitasek, a faculty member at the Center for Executive Education at the University of Tennessee, and co-author of Vested Outsourcing: 5 Rules That Will Transform Outsourcing, about how a Vested Outsourcing approach can help manufacturers develop better outsourcing relationships, and cut outsourcing costs.

Alex: Tell us about your work at the University of Tennessee and what led you to Vested Outsourcing.

A few years ago, the University of Tennessee asked me to lead a project to identify best practices in outsourcing. My team looked at a lot of deals, and saw what worked and didn’t work. We looked at the research around outsourcing relationships, research done by Nobel-prize-winning economists that showed why certain elements of outsourcing deals work, like behavioral economics and transaction cost analysis. We wanted to help people understand not just the how but the why.

With my two colleagues, Mike Ledyard and Karl Mandrodt, I wrote a book that came out in early 2010 called Vested Outsourcing: 5 Rules That Will Transform Outsourcing. This past summer, we published a second book, The Vested Outsourcing Manual: A Guide for Creating Successful Business and Outsourcing Agreements. We also introduced an online course and a suite of education and consulting services to help people implement Vested Outsourcing deals.  It’s been truly amazing and exciting to see how much interest there is.  A lot of people are struggling and unhappy with their outsourcing deals, and Vested Outsourcing shows them a better way.

Alex: What is the Vested Outsourcing model?

Kate: Vested Outsourcing is a hybrid model that combines outcome-based thinking with relational economics and shared value principles. It’s about creating business agreements where both the buyer and the service provider collaborate to solve business problems—creating a vested interest in each other’s success. In a Vested Outsourcing partnership, partners focus on transformational initiatives that generate value, rather than what it costs for the service provider to perform an activity.

Focus on transformational initiatives that generate value, rather than what it costs for the service provider to perform an activity.

Kate Vitasek
Center for Executive Education
University of Tennessee

We’ve identified 10 elements of a successful outsourcing relationship, using the term “vested” because these deals provide both parties with a vested interest in helping each other be successful. In a Vested Outsourcing partnership, working together is absolutely critical. If you allow your outsourcing relationship to become adversarial or positional, you squelch the potential for transformative solutions that can reduce costs and improve service in ways you could not imagine.

What makes Vested Outsourcing different from other outsourcing models?

Most new outsourcing efforts are driven by a desire to reduce costs, and companies just venturing into outsourcing start from the mistaken premise that reducing price automatically means reducing costs.

Sure, if your sole driver is a lower price you can achieve short term cost reduction, but if you’re not collaborating with your service provider, you’re going to miss out on the opportunities for innovation and total cost reduction through process transformation.

And think about what happens when you shop your deal to see if you can get a better price. There are the transaction costs. You spend resources on the RFP process. Your service provider does the same. Then you have transition costs, which can go way beyond the dollar cost when you consider the disruptive effects on your supply chain or your customers.

So, in many deals, focusing on price just isn’t the smartest way to go about it. In a Vested Outsourcing model, you work together with your service provider to transform your processes and find the value, and this ultimately leads to greater cost reduction.

What are the top risks in outsourcing, and how can Vested Outsourcing help?

I’d say the number one risk is transaction-based pricing. By that, I mean defining a scope of work based on activities—picking, packing, shipping, answering calls, storing servers, etc. We call this the activity trap. If you pay your service provider for every activity, there is no incentive for the service provider to become more efficient.

Now you say you want cost reduction, you say you want transformation in your supply chain, but what did you just buy? You bought activities. You didn’t buy creativity. You didn’t buy innovation. When you just pay for activities, you provide your service provider with absolutely no incentive to innovate. An improved process to reduce activities means lower revenue for the service provider. Why would any service provider voluntarily give up revenue?

When you just pay for activities, you provide your service provider with absolutely no incentive to innovate.

Kate Vitasek
Center for Executive Education
University of Tennessee

A Vested Outsourcing deal structures the pricing model in such a way that the buyer and the service provider both have financial incentives to innovate. One example of this is margin matching. If you (the service provider) figure out a way to streamline a process, than I (the buyer) will pay you your margin on the activities you’ve eliminated, plus a reward for innovating. Additionally, I will cover the costs of the technology required to implement the innovation.

This is an example of the win-win situations in Vested Outsourcing—the buyer ultimately comes out ahead, and the service provider is incentivized to improve the process, which leads to better end-user satisfaction. So everybody wins.

What are some outsourcing problems that Vested Outsourcing addresses?

The most amusing problem Vested Outsourcing addresses is what I call the “Watermelon Scorecard.”  This situation occurs when you build your contract around activities, set your KPIs and SLAs, and watch what happens.

Usually, even if your service provider’s scorecard is green, you’re unhappy—red on the inside—because you’re not getting what you really want. (All too often buyers think what they want is a green scorecard—and once they get it they realize they really wanted business outcomes.) To fix that, you have to step back and clearly communicate what you really want, then build an agreement that provides the proper financial incentives to your service provider to give you what you want.

Another issue Vested Outsourcing addresses is the distrust that sometimes occurs between the buyer and the service provider.  Distrust is a clear symptom that the deal isn’t right, and the big challenge here is breaking down the buyer and seller’s win-lose mental habits and adopting a collaborative approach. This way they can work together to reduce cost structures and drive efficiencies.

When one of the parties is larger than the other, we sometimes see what we call the “800 Pound Gorilla Syndrome.” This happens when buyers try to irrationally squeeze the service provider on pricing. Buyers don’t always realize that if they keep squeezing, it actually poses a threat to the service provider’s viability.

Remember, if you strip the service provider’s margin, the service provider will get it back one way or another. They have to—they have EBITDA requirements just like you do!

How does Vested Outsourcing help organizations manage change and reduce costs?

There are two key principles of Vested Outsourcing that can really improve how you manage change and cut costs.

First, work with your partner. I can’t emphasize this enough. If you are unable or unwilling to collaborate, you’re shooting yourself in the foot unless you are 100% certain that you have all the answers.

If you are unable or unwilling to collaborate, you’re shooting yourself in the foot unless you are 100% certain that you have all the answers.

Kate Vitasek
Center for Executive Education
University of Tennessee

Second, be clear about what you want to accomplish. We call this “defining your desired outcomes.” From the desired outcomes, you sketch out what needs to happen to achieve those outcomes. We have developed a tool we teach in our classes called the Requirements Roadmap. The Requirements Roadmap is a great way to help companies rise above thinking about activities and service levels.

How might manufacturers apply key principles of the Vested Outsourcing model to improve their outsourcing relationships?

First of all, I highly recommend manufacturers educate themselves about the economics of outsourcing and the literature on what makes outsourcing deals succeed or fail.  They can start with the white papers we have on our site which are free as downloads.

Most people think outsourcing is all about price, so they think getting a good deal means getting the best price. But there are serious flaws in that approach when you need your service providers to be smart and help you respond to the constant changes in the marketplace. If you need innovation in your supply chain, it is just plain stupid to outsource purely on price. You have to shift your focus to value.

How do you define the value you need in order to be successful? Which outsourcing partner is best qualified to help you succeed? Notice I said best qualified, not cheapest.

Does Vested Outsourcing work across all industries?

Well that’s a very interesting question because in principle, yes, you can apply the concepts of Vested Outsourcing in any industry, but not every deal needs to be a Vested Outsourcing deal. Let me explain.

In our research we have seen Vested Outsourcing deals in almost every type of service and industry. However, just because you can do a Vested Outsourcing deal does not mean it is right for your business.

If you’re buying pure commodities, you really don’t need to use a Vested approach as long as what you are buying is already extremely efficient and you feel you are getting value from letting the market set the price/value equation. Vested Outsourcing is best suited when you want your service provider to be smart and creative and help you put a solution in place that can add incremental value or doesn’t yet exist.

The simple litmus test I have for a company is this—do you have any desired outcomes?  A desire is something you want – and an outcome is a business result.  So if your company has desired outcomes you are not currently getting from your service providers, Vested Outsourcing may be a good fit.

Any other thoughts?

Well I just want to thank you for asking the questions.  And to the COO or CFO or Chief Procurement Officers, I would say asking questions is a good place to start. Question your assumptions about what makes outsourcing relationships work. Look at the research. Consider alternatives to conventional transaction and price-focused approaches. The “I-win-you-lose” approach is really outdated if you are trying to create value—and that is the name of the game in the 21^st century.

It is imperative that companies create outsourcing deals that provides financial incentives to both the buyer and the service provider to collaborate and innovate to create breakthrough solutions.  This will mean changing practices, changing mental habits, and re-learning, but our research shows it pays off.

For more information

Kate Vitasek’s approaches and insights have been widely published with more than 200 articles in respected academic and trade journals, including the Journal of Business Logistics, Supply Chain Management Review, Inside Supply Management, Forbes, Chief Executive Magazine and Aviation Week. She is also a columnist for Outsourcing Magazine and Procurement Leaders Magazine.

Vested Outsourcing website

Vested Outsourcing: Five Rules That Will Transform Outsourcing

The Vested Outsourcing Manual: A Guide for Creating Successful Business and Outsourcing Agreements

Findings from the 2011 Arena Solutions Manufacturing Outsourcing Survey

The PDX file standard—an easier way to share BOMs with your supply chain

And so you don’t have to wait a second longer, here it is, the 2011 Arena Solutions Manufacturing Outsourcing survey results.

Click here to view survey results.

Survey insights include some interesting differences in the specific benefits and challenges of outsourcing strategies across a wide variety of industries, including high-tech, medical device, consumer products and more. They also reveal the top risks of manufacturing outsourcing, and some differences in the ways high-tech, startup and small businesses can achieve outsourcing success.

Thanks again to everyone who participated, and if you have any questions or comments, please share them below.

I’ll be publishing the full results on Thursday, but if you want to get the results a day early you can request your own copy via email.

And to hold the rest of you over, here are some of the findings in image form. Enjoy!

For more information

The PDX file standard—an easier way to share BOMs with your supply chain

Most companies outsource in some capacity—whether it’s working with an external call center on the sales side, or paying a team in China to manufacture the whole thing—but deciding what to outsource can be tough. While it may be an easy decision to outsource something like custom part manufacturing, when it comes to core business processes like purchasing, inventory management and assembly, the decision gets a bit trickier.

The benefits of outsourcing purchasing, inventory and assembly

If you are thinking about outsourcing major processes like purchasing, inventory and assembly, there are definitely benefits to this approach. In offloading some of these processes to a contract manufacturer (CM), you free your in-house team up to focus on design and engineering. In many cases, this is a smart move because it allows your in-house team to develop strength in specific areas. Because purchasing and inventory is resource-intensive, assembling and training a team to manage it in-house can distract from product maintenance, development and other organizational priorities.

For some companies, outsourcing purchasing, inventory and assembly leads to significant cost savings. You may be able to reduce sourcing and shortage issues—since your contract manufacturer team is building the product, it can be synergistic to task them with finding and purchasing the parts as well. Plus, when you outsource the purchasing and inventory piece to a contract manufacturer, there is considerable potential for cost-reduction. Contract manufacturers often do similar work for multiple customers using the same components—if your parts get lumped in a volume purchase, economies of scale can save you some money.

When does outsourcing purchasing, inventory and assembly make sense?

While there are benefits in outsourcing purchasing, inventory and assembly, it’s not the right decision for everyone.

To help you decide how much of your production process you should outsource, start by asking yourself the following questions:

• What is your company trying to do? (If you are trying to develop core competencies or a competitive advantage in a certain area, you probably shouldn’t outsource it!
• How important is it to protect your IP? Can you take chances with an unknown supply chain partner—is there someone you trust?
• What are your priorities as an organization? Does outsourcing more to a CM free you up to focus on competitive differentiators and core competencies, or are the additional management responsibilities distracting?
• What is your tolerance for dependency? When you outsource major parts of your manufacturing process, you become more reliant on vendors and can increase your vulnerability.
• What is the cost of purchasing errors and rework? Are you willing to risk occasional miscommunications and errors by working with an external team?
• What is your system for managing BOMs and change—some of the outsourcing risks can be mitigated if you have an air-tight solution for collaborating with outside partners.
• How efficient are you operationally? Can your in-house team manage purchasing, or are they too focused on other business aspects?
• What’s your budget? (Everything has a cost!)

Once you get an idea of your business reality, you can begin to weigh your options, and decide if outsourcing purchasing, inventory and assembly is right for you.

A final word on outsourcing partnerships

If you ultimately decide to turn over purchasing, inventory management or assembly to a vendor, make sure you only work with people you trust! As with any outsourcing decision, selecting reliable vendors who supplement your internal skill sets and industry knowledge is key.

For more information

Is there a one-size-fits-all manufacturing strategy?

Share BOMs more effectively with the PDX file standard

How small manufacturers can establish better outsourcing relationships Pt. 1

How small manufacturers can establish better outsourcing relationships Pt. 2

Tips and resources for managing your outsourcing relationships

5 steps to scaling your business when your competition stumbles

As we wrap up analysis of our Manufacturing Outsourcing Trends Survey, it’s becoming clear that although there are some general commonalities, the specific benefits, challenges and impacts of outsourcing differ greatly for large and small companies across different industries.

We received approximately 1000 survey responses from high tech, medical device, consumer products, industrial, clean tech, automotive, aerospace, telecoms and contract manufacturers/EMS companies across the globe, and as the chart below shows, the overall trend for organizations is to outsource less through the various phases of manufacturing.

Sample includes all respondents across a variety of industries, sizes and company ages

High tech companies outsource more across most phases of manufacturing

After establishing a baseline, it was interesting to see how the percentages changed when we isolated the data by industry and company size. For example—we found that high tech is very deeply outsourced as a whole. The data suggests many reasons for this, but in general the industry seems quite mature in its approach to setting up the supply chain, and has less trouble negotiating terms that make business sense.

Sample limited to high tech respondents across all company sizes and ages

Start-ups are not yet fully outsourced and struggle to find the right partners

In contrast, we found that start-ups across all industries are not yet fully outsourced and are not sure how to pick the right partners. Start-ups that do outsource tend to outsource locally, as quality is supremely important to young companies launching first products. We also saw that young companies are more likely to outsource fulfillment than other organizations.

Sample includes companies across all industries that have been in business less than 5 years

In general, as we dissected the data, it became clear that not only is outsourcing a growing manufacturing strategy, but there is no “one-size-fits-all” outsourcing plan that works across all industries and organization types.

We will be sharing the rest of the findings in the next couple of weeks, but if you’d like to request a copy of the results please email me, or request a copy in the comments.

Tuesday, I posted five tips from Manufacturing Outsourcing for Small and Mid-Size Companies: 10 Key Challenges and How to Address Them, a white paper produced by Arena Solutions and Symphony Consulting, created by Bijan Dastmalchi. Today I will be sharing the last five tips from this white paper, with the hopes that you can take the next step toward finding the right CM for your business, determining appropriate pricing and contract terms and establishing a collaborative OEM/CM relationship.

Keep your product data in a centralized location, and adopt tools that provide both your team and CM with real time visibility into product changes

In our recent Manufacturing Outsourcing Survey, almost half of all respondents said that at some point in the last year they had received the wrong product from their CM. If that is a mistake you would like to avoid, there are two very important questions you need to be able to answer. Where is your product record—a complete bill of materials (BOM) that includes sourcing information, part specifications and assembly instructions—kept, and who manages it? Once these two questions are answered, you can begin to develop an effective process for proposing, reviewing and implementing changes.

Small manufacturers’ product data is often kept in a variety of formats, and is managed by a variety of people, which makes effective collaboration difficult and leads to mistakes. If you want to operate more effectively with your CM partner, at the bare minimum you should build and manage your product data in an Excel BOM. And while Excel can help you keep track of a single, simple product, once you have multiple products with more complicated data and change processes to manage, you are better off deploying a product lifecycle management (PLM) software solution like Arena.

In your CM contract, negotiate an exit plan that includes the operational details of ending the relationship

Although you can find plenty of stories about OEM/CM relationships ending amicably, you can find equally numerous examples of abrupt terminations over excess and obsolete inventory, price increases, quality problems, catastrophic product failures or late deliveries. As a smaller manufacturer you are more likely to find yourself in search of a new relationship, as CMs prioritize their larger clients in the case of a capacity crunch. Protect yourself from being left out in the cold by outlining each party’s exit obligations upfront.

In your OEM/CM contracts, be explicit about what will happen when you part ways, Make sure your contract identifies how FGI (finished goods inventory), WIP (work-in-process) and component inventory will be handled, and negotiate to prevent the CM from giving you a short termination notice.

Generally, your CM does not have as much at stake as you do in case of a termination, so don’t be afraid to push for protections in your contract. Consider the alternative—if your CM decides to end the agreement on short notice, you could spend months identifying a replacement, transferring tooling and components and setting up the new CM—all while your business suffers.

Take steps during the CM sourcing process to ensure you get the right team supporting your business

Another common problem smaller OEMs face is a lack of CM attention.  In many cases, this frustration is compounded because the OEM met with a very high caliber team during the sourcing process, and got passed off to less experienced and busy personnel after signing the contract.

While your business may not justify the CM’s best team, you can still get the right team for your business by identifying your greatest needs, and establishing a strong first impression during the sourcing process.

To increase the odds of getting the right team in the first place, know your needs. If you have someone internally with a lot of product engineering and manufacturing experience, getting your CM’s best engineer is not a top priority. Before awarding business to a CM, ask to meet the team you will be working with and be sure to insert contractual language that gives you reasonable control of who will be assigned to you. Lastly, while you’re negotiating your contract with a potential CM, send people from your team that know the ins and outs of the outsourced manufacturing model to negotiate during the sourcing process. Understand that the process you follow, the documentation that you request and the quality of questions you ask during the selection process help the CM decide what caliber of employees to send to your project—so make a good first impression.

Before you decide to manufacture offshore, develop a model and assess hidden costs

Although building products in an Asian or Eastern European country can save you money in some areas, there are challenges and hidden costs that smaller companies in particular tend to underestimate.

While a lower labor cost is enticing, you need to make sure that labor savings isn’t mitigated by the higher transportation costs, higher than expected product price, quality problems, inventory exposure and communication issues that can come with offshore manufacturing. Depending on your industry, these costs can outweigh the savings of cheap labor. (Electronics manufacturers only spend about 10% of their budget on labor, so savings here doesn’t necessarily make a big impact.)

Before you decide to offshore, analyze your components and validate the availability of the supply chain. Additionally, factor in the cost of cash that you will have tied up in inventory when your product is ocean-freighted or the high cost of air transportation if you have short customer lead times. Assess the potential impact of currency fluctuations and intellectual property concerns so you can be ready to mitigate those risks before taking the leap.

Be ready for an audit by taking responsibility for compliance with environmental directives

If you’re blindly relying on your CM and component suppliers for certificates of compliance, you are setting yourself up for trouble down the road. Most environmental regulations, like the European Union’s Restriction of Hazardous Substances (RoHS) directive, place the full burden of responsibility on the brand owner (you)—so do your due diligence.

If your products need to comply with one or more global environmental directives, it’s up to you to work with your supply chain partners to clarify the roles and responsibilities in this objective. Update your supply agreements—especially when it comes to warranties and indemnities—and make sure someone is responsible for assessing the components in your BOM. While you should ask your CM to certify their manufacturing process as compliant, don’t give your CM responsibility at the component level or for the product design unless you are specifically paying them for it.

Regularly audit your suppliers who have questionable records when it comes to compliance, noting that blind acceptance of certificates of compliance from any supplier does not count as due diligence when it comes to the RoHS. Keep careful records of what has been done, and be prepared with all required documentation in case of an audit.

Make manufacturing outsourcing a competitive advantage

As a smaller OEM, you probably have many of the same needs as a larger company, but with fewer resources and less clout, it can be more challenging to achieve your outsourcing goals. While it may require extra effort, if you are knowledgeable and sophisticated in your approach, you will be able to get the performance, motivation, and mindshare that you need from your partners.

For more information

How small manufacturers can establish better outsourcing relationships pt. 1

Manufacturing outsourcing for small and midsize companies: 10 key challenges and how to address them

Share BOMs more effectively with the PDX file standard

Contract Manufacturing for Small- to Mid-Size Companies

Tips and resources for managing your outsourcing relationships

Manufacturing outsourcing: 7 common pitfalls to avoid

The Arena Solutions guide to outsourcing: removing barriers, maintaining boundaries

Small manufacturers face unique challenges when establishing successful outsourcing relationships, so to help I’d like to share some tips based on a white paper created by Bijan Dastmalchi at Symphony Consulting and Arena Solutions. I will post the first five tips today, and the rest on Thursday.

Vet potential contract manufacturers to see if they’re really interested in your business before engaging in a lengthy request-for-quotation (RFQ) process

As you vet contract manufacturers, remember that they are vetting you too—and their main concern is usually the amount of business you will bring to the table. Even if contract manufacturers don’t ask about your volume directly, they may ask for projections, specifications or a bill of materials (BOM) to get a sense of your potential.

Before sending out an RFQ to a CM, ask strategic questions to see if the CM is really interested in you, and to assess the CM’s motivations. For example, if you are expecting two million dollars in business and you are talking to a multi-billion dollar CM, what’s in it for the CM? Is the CM looking to break into your market? Are you just an easy (and temporary) client during tough economic times?

A good rule of thumb: if your annual purchases represent at least 5% of your CM’s plant-level revenue, it will be easier to keep your CM’s attention.

Establish credibility with your CM by becoming an exceptional forecaster

Although forecasting is difficult, it’s a MUST—especially if you are a startup or small manufacturer looking to convince a potential CM that your company is legitimate.

When you’re just starting out, your reputation largely depends on your ability to meet or exceed expectations—so your forecast should be something you can realistically meet. (A good goal to shoot for is less than 10% variation from your predictions at the aggregate level.) Once you establish a baseline for your forecasts, be sure to make regular modifications based on prior levels of accuracy, changing supply conditions, CM capacity and inventory levels at your distributors or resellers.

Focus on inventory exposure throughout your supply chain to regularly assess and mitigate liability risk

Inventory liability causes a lot of contention between original equipment manufacturers (OEMs) and CMs, yet it’s often overlooked until unexpected fees for excess or obsolete inventory occur.

OEMs can mitigate and manage the risks associated with inventory liability by understanding and reducing inventory exposure, and by clarifying the specific conditions of inventory liability agreements upfront. Start by assessing the relative importance of your components, and weighing the risks and benefits of different solutions so you can evaluate potential process and policy changes that could reduce your risk. Determine what parts or products are considered “unique” and could become a liability for you—making sure non-unique parts are excluded—and outline acceptable lot sizes, reels and minimum order quantities.

For small organizations with leaner staffing levels and broader functional responsibilities, committing resources to developing a liability profile is tough, but taking steps to remove ambiguity early will drastically reduce OEM/CM conflict when issues occur.

When it comes to sourcing, focus on price structure and pricing details—not just the bottom line

It’s no surprise that unexpected costs are another major cause of conflict for OEMs and CMs. Unexpected price increases can lead to margin erosion, impact your ability to price your products competitively in the market and ruin the best OEM/CM relationships.

Fortunately, there is an easy fix for this problem—do your due diligence. Ask questions about your CM’s assumptions on the approved vendor list (AVL); make sure you understand the cost breakdown when it comes to raw materials, labor, test, overhead and profit; and don’t get distracted by multiple best case scenarios set up by potential CMs that feature aggressively low set-up, labor and test times. Always validate the assumptions used to build a quote, and make cost-structure transparency a condition of doing business with your company.

Spot quality issues early by monitoring quality before and after shipment

If you are a small manufacturer, mistakes are deadly—because of this, quality management is key. Many small manufacturers are reactive rather than proactive when it comes to quality control, so if you can master quality you will have a clear competitive advantage.

Discuss expected product yields, parts-per-million (PPM) failure rates and control limits for each critical stage in the manufacturing process with your CM, and incorporate quality checks into your product designs. Once you’ve established your projections and talked about the best ways to ensure a high level of quality, you can begin to utilize tools that enable you to achieve real-time visibility into what is happening on the production line so you can monitor trends and identify potential problems.

Remember—how you manage quality will set an example for your CM, so demonstrate its priority in your company.

Make manufacturing outsourcing a competitive advantage

For more information

Manufacturing Outsourcing for Small and Mid-Size Companies: 10 Key Challenges and How to Address Them

Share clean snapshots of your BOM with PDXViewer

Tips and resources for managing your outsourcing relationships

The Arena Solutions Guide to Outsourcing: Removing Barriers, Maintaining Boundaries

Survey says: supply chain risk mitigation is not top-of-mind or top-of-budget for organizations

A recent Chainlink survey revealed that 45% of companies devote less than $50,000 each year to “assessing and auditing supplier and supply chain risk.” And as we begin to analyze data from our Manufacturing Outsourcing Strategies & Trends Survey, we are seeing some interesting initial results that indicate major gaps when it comes to managing supply chain risk.

For example: as the crisis in Japan showed, an entire supply chain can be destroyed in minutes, so it pays to have multiple sources for your components (especially critical ones). Yet more than two-thirds of our survey respondents revealed they rely on a single source for a critical process or component, which admittedly puts their supply chain at risk. And what’s more interesting to me is that in spite of the current global supply chain instability, only one-third of respondents plan to look for additional or alternate sources for parts in the next year.

Of course sourcing is just one component of a comprehensive supply chain risk mitigation strategy, but of those we polled, about 40% are not thinking any differently about their supply chain than they were prior to the earthquake in Japan. And for me, that was surprising to hear.

The realities of supply chain risk mitigation—why it can be a struggle to manage

From an analyst’s perspective, world events suggest that it is a perfect time to shore up your supply chain, but there are many reasons why implementing change in this area is easier said than done.

For one thing, many manufacturers are hoping that the worst is over. And who can blame them? The idea of another global crisis occurring on the heels of the most recent disaster is scary.

But if you are viewing these sorts of disasters as rare and improbable occurrences and adopting the mindset that “it won’t happen to me,” you may be setting yourself up for trouble. Nigel Issa, a European supply chain practice leader at Opera Solutions LLC, said in a recent Financier Worldwide article, “Many global supply chains have developed over the last 20 years based on the assumption of a stable world order with unlimited access to resources dominated by western firms.”

In that climate it made sense to believe that major disruptions were rare, ‘black-swan’ occurrences that can’t be predicted or planned for, but those days are behind us. In today’s interconnected world, geographical disasters and political unrest can impact businesses anytime, anywhere.

Another reason manufacturers neglect supply chain risk management is the constant pressure to cut costs. Organizations are increasingly being pushed to lean-up the supply chain by cutting spare inventory or “extra” talent, moving non-core services to lower cost providers and reducing suppliers. While consolidating inventory and job roles, leveraging single-source suppliers and accessing suppliers and customers in geopolitically, socially and environmentally riskier environments will certainly cut costs, these actions also increase sourcing risk.

Unfortunately, when faced with improving short term ROI versus investing in supply chain security, manufacturers who are being asked to do-more-with-less may very well decide to cut costs and hope for the best.

Even if manufacturers want to invest in shoring up their supply chains, many organizations have delegated supply chain risk management so far down the chain that the authority tasked with the job lacks any budget to invest in it. For about 80% of companies, according to the Chainlink survey, supply chain resilience is only a priority at the executive level if the executive is directly responsible for supply chain functions. Although C-level executives get involved after a crisis—when, as one survey respondent put it, it’s “all hands on deck”—in normal circumstances supply chain risk management is handled by lower-level managers. This means even the most well-intentioned manufacturing department may lack the authority or budget to make supply chain risk mitigation a priority.

Are organizations taking a calculated risk?

With so many organizations choosing not to invest in a Plan B, the last point to consider is that organizations aren’t overlooking supply chain risk management, they are making a calculated decision to not invest in it. Perhaps organizations feel cleanup is a more manageable cost than prevention, or that in times of large disasters someone will step up to fill the market need (think about the UPS strike where FedEx filled in the gaps).

Depending on the industry, there may also be considerable pressure to mitigate risk when it comes to governance, compliance and market demand—and in some cases that may be required. It could be possible that once the requirements are met, the costs of developing additional supply chain risk management processes are too great, and a choice is made to take the chance, relying on quick iteration ability and damage mitigation skills to meet demand in another way.

The future of production in an unstable world

Natural disasters, events in the Middle East and the recent rapid growth of China and India have made global supply routes less secure, and organizations need to examine the possible impact on their supply chains.

Issa warns that stability is a thing of the past—at least for now—and that organizations should be aware. “Globalization, pervasive connectivity, an increase in natural weather catastrophes, a shortage of natural resources and the expansion of the have/have-not chasm have created enormous volatility in the geopolitical and social landscape.” So although there is a lot of pressure to focus on creating value, shoring up your supply chain is increasingly important. And depending on your industry, a low-risk operational structure can even be a competitive advantage, so use it to your benefit if you can.

What do you think about investing in supply chain risk management? Do you see it as a necessary expenditure, a wasted cost or something you’d like to do if you had the resources?

I will be paying close attention to this topic over the next few months, so if you have any thoughts, please feel free to post a comment below.

For more information

• TalkingPoint: Supply chain risk management
• 2011 Supply chain risk survey results
• Manufacturers not investing in supple chain risk management
• No capacity for capacitors: How world issues impact product development and supplier selection
• Supply Chain Issues Are Top Risk to U.S. Tech Industry, According to BDO Study