One of the tongue-in-cheek justifications for changing the name of the electronics contract manufacturing industry to the electronics manufacturing services (EMS) industry back in the mid 1990s was that some “contract” manufacturers didn’t even have contracts with their customers. The reality is that the industry has two kinds of companies: those that don’t worry much about contracts and those that won’t produce product without a signed contract.
A contract or manufacturing agreement is a lot like a prenuptial agreement in that with a happy marriage you can throw it in a drawer and forget about it. And, business divorce without a contract isn’t much different than marriage breakups without a prenup – there is a lot of latitude to behave badly.
The best reason to take the time to negotiate a contract is that it builds a framework for the business. Potential risks and issues inherent in the outsourcing relationship are discussed, and both sides end up with a better perspective of the expectations and responsibilities inherent in the relationship.
From an EMS perspective, contracts also provide program management with a great negotiating tool if issues arise that are out of sync with the agreed-upon terms. When terms are fuzzy or completely dictated by the back of the customer’s purchase order, the customer’s representative sees their behavior choices as completely justified. Changing behavior at your request may be viewed as weakness on the representative’s part, since lack of a contract sets a tone that customer is completely in charge. Instead of a contentious conversation about slippage in payment terms or excess inventory buildup where perceptions vary on what was verbally agreed upon, a contract offers the ability to highlight a point of written agreement between the parties and negotiate a reasonable solution. It also gives the customer’s representative a defensible position when the course correction is made, since the contract reflects an agreement often approved at a higher level in their company.
Why wouldn’t an EMS provider want contracts in place? Here are the five worst reasons I’ve heard:
5. They are hard to read and understand.
4. Our customers tell us what the terms will be.
3. They take too much time to negotiate.
2. We’ve never had a problem with a customer, so we don’t see the need for them.
1. My competitors don’t use them, and the customer says they won’t do business with us if I insist on one.
Like losing weight, getting a contract negotiated won’t happen unless you really work at it and set a timeline. So how does one motivate a customer to sign a reasonable contract?
Develop a balanced boilerplate contract. Most customer contracts cover suppliers that provide purchased parts to the customer’s specification. The contract manufacturing relationship is more complex and needs clauses not typically found in purchased parts agreements. A balanced agreement is more likely to be accepted than one that favors the EMS provider alone. If the customer insists on using their contract, ask for an electronic copy, redline in the clauses you deem critical and have your attorney review the wording. Then send it back. Most of the time, the customer will opt for your boilerplate contract at that point. However, if they continue to want to use their contract as the foundation, your key clauses are covered.
Introduce that boilerplate with the first quote. Customers don’t like surprises. If you avoid the contract conversation until you’ve won the business, there will likely be no contract. If you position it as a framework to help define the relationship early in discussions, it is more likely to be accepted.
Base contracts on industry standard practices. When a customer’s attorney doesn’t understand a clause that governs a common issue in a contract manufacturing relationship, they typically redline it. If the EMS provider can show that it is a commonly used clause, it is often accepted. IPC has an excellent boilerplate contract example available through its website written by an attorney after soliciting industry consensus on key contract clauses. The IPC EMS Program Management Certification course also discusses best practices in contract terminology.
Create a sense of urgency in negotiation. If your customer perceives negotiating a contract is not a priority, it will never become a priority. If production can’t start without it, it will get done.
Be sensitive to customer preferences. Often the first pushback on a contract is disagreement over location or time for the negotiation. My favorite example occurred with a French company. They maintained they could not possibly negotiate a contract because France had a 35 hr. work week, and with the time difference in the US, it would be impossible to schedule negotiations during their normal workday. I pointed out that the US had no work restrictions on salaried personnel, and we would be happy to schedule negotiations at a time that fit their schedule. It took two weeks of very early morning conference calls, but once they determined we were committed to getting a contract signed, we reached an acceptable compromise.
Understand areas of compromise. Don’t fixate on terms not critical to the overall agreement. When a clause becomes an impasse, discuss the issue of concern with the customer; then have your attorneys work out mutually acceptable language. Often the reason for the objection is that the other party (or attorney) doesn’t understand the clause and is reluctant to admit ignorance. Talking through the purpose of the clause addresses that issue.
Don’t leave it to the attorneys. While your company’s attorney should always be the last word on a contract’s final language, letting attorneys negotiate directly can drive a much longer process. Attorneys tend to see their jobs as negotiating the perfect contract. Comparatively, an EMS executive or program manager sees their job as negotiating an acceptable contract in the shortest period of time possible. The timeline for acceptable is much shorter than the timeline for perfect. Set deadlines and drive the process.
The outsourcing relationship is complex enough that problems will occur in every relationship. EMS providers with contracts in place have already identified and reached agreement on most of the issues likely to occur. The contract provides a tool for program managers to resolve those issues when they are still small and easily manageable. Lack of a contract often drives a “kick the can down the road” mentality that contributes to expensive surprises for both parties at project termination.
Susan Mucha is president of Powell-Mucha Consulting Inc. (powell-muchaconsulting.com), and author of Find It. Book It. Grow It. A Robust Process for Account Acquisition in Electronics Manufacturing Services; email@example.com.