An asset-light business model allows a company to focus on revenue generation, sales, marketing and other core competencies, leaving an expert contractor to handle certain specialized responsibilities that lie outside the brand owner's expertise. Asset-light models have become common for retailers looking to incorporate private-label brands into their product lines, or any other consumer brand looking to design and develop intellectual property (IP) without the responsibilities associated with production.
"It's a trade-off between CapEx and OpEx," said Tim Vadney, senior principal at West Monroe, a business and technology consulting firm."If you're a startup or a growth company under $50 million, or even an established company, maybe you don't have a lot of cash on your balance sheet. It makes more sense to outsource, even if it costs you a little bit more long term. You know that you're going to have to give away five or 10 percentage points of profit margin for the overhead of each unit manufactured, but the alternative is spending millions upfront building your own plant."
Asset-light manufacturing operations provide the benefits of a successful business with a lower risk profile, making asset-light, direct-to-consumer (D2C) or omnichannel brands an ideal target for private equity firms and corporate developers that want to run businesses with minimal overhead or involvement. Asset-light companies are paying a premium for the optionality of fixed costs and the ability to better focus on product development, branding or other strengths of the business.
While most private equity groups or strategic acquirers focus on reviewing these strengths, they will often neglect foundational aspects, such as conducting due diligence on contract manufacturing partners. When acquiring asset-light brands, new owners must perform due diligence on the existing contract manufacturers. Upfront attentiveness to partnerships will help to deter unexpected costs and brand damage on the back end.
When done right, asset-light manufacturing can be highly profitable. Part of operating an asset-light manufacturing model correctly requires familiarity with the risks involved when outsourcing manufacturing.
The Risks of Offshore Outsourcing
China, Vietnam, Eastern Europe and other destinations have become popular for their ability to provide production capacity and affordable skilled labor. But not every global contract manufacturer has the same capabilities. Mitigating risks requires a contract with clear governance structures. When vetting an existing contract manufacturer (or sourcing a new one), consider these areas to ensure the manufacturing partner won't negatively affect the acquired entity's brand:
- Labor, safety and social compliance. No business can afford a partner that cuts corners on safety or work practices. Consumers have an increased interest in supporting ethical brands, so consumer-facing brands risk losing sales if their partners engage in unsustainable, unethical or illegal operating practices.
- Quality and visibility. While quality-management certifications such as ISO 9001 may provide a good baseline, any agreement with an overseas supplier must include guidelines for quality and material sourcing to ensure that low-quality goods don't reach the market and negatively affect the hiring company. Additionally, industry leaders consistently deploy technology solutions to enable real-time insight into production throughput and capacity in partner factories.
- Intellectual property controls. Failing to implement appropriate intellectual property protection can be detrimental. Without legal protections, it becomes possible for suppliers to appropriate the client's technology. Engage local counsel who understands local IP laws to ensure proper protections. Provide the partner with only the technology they need to do the job and monitor its use throughout a product lifecycle.
"Due to some of the things that have happened over the years — like the Rana Plaza tragedy in Bangladesh — leading consumer brands have become strict about having standards and enforcing them,"Vadney said."Before you make any decisions, make sure you engage third parties and review the manufacturing assets, operator safety, social compliance, product quality and governance structures as part of the due diligence."
Labor-intensive industries benefit most from offshore models, with examples including footwear and apparel, consumer electronics and medical supplies, among others. These sectors can produce high volumes of goods in markets with a lower cost of labor, then cost-effectively move them to other markets for sale.
Nearshoring/Onshoring Your Contract Manufacturing
Some asset-light brands choose U.S.-based contract manufacturers for a multitude of reasons, including shorter lead times, more familiar quality-control practices and more convenient communication and time zones. That said, U.S.-based manufacturing partners should also be thoroughly vetted in areas such as:
- Quality control. While concerns about production quality tend to be reduced with a U.S.-based provider, quality between providers can still vary widely. Verify that the provider can meet your demands for quality finished goods and that federal, state and local safety regulations are met.
- Supply chain visibility. Shorter lead times are a major benefit to onshoring production. Review the manufacturer's on-time delivery ratings, defect rates, lot tracking/serialization capabilities, capacity constraints and other factors that may extend lead times and affect retail performance. Select providers that can collaborate via technology to provide real-time data about production and logistics.
- Social compliance. U.S. consumers show a marked preference for ethically responsible brands. Select a manufacturing partner that provides clear product traceability and aligns with any internal environmental, social and governance goals.
Onshoring or nearshoring often makes the most sense for products that would be too bulky, expensive or perishable for overseas container shipping. Commonly insourced goods include large plastic injection-molded goods, rigid plastic containers or food and beverage products.
"For these two models, it comes down to a freight versus labor arbitrage play," Vadney said. "And there's a more impactful trade-off for heavy and bulky items or where spoilage is an issue. But both offshore and onshore operating models are valid. If you're going to buy or run a company that's asset-light, don't forget to look at issues like intellectual property, quality and visibility carefully. If you don't, they could blow up your investment."