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Why a service level agreement is central to meeting customer demand

In a simple world, an original equipment manufacturer (OEM) would take out their smartphone, hit the 'buy' button, an order would be sent immediately to their Manufacturing Services Provider (MSP) and their fully tested, configured-to-order, complex electronic or electro-mechanical product would ship out to the end user on a same day delivery. 

Unfortunately we don't live in a simple world. But that doesn't stop our service expectations increasing thanks to the likes of Amazon and other e-commerce giants. We now expect goods immediately and if supplier A cannot deliver we quickly look for someone else that can.

Consumers of industrial electronic products are starting to have the same expectations which presents both a challenge and opportunity for OEMs and their MSP partners. They must ensure the right products, in the right configuration, are delivered to the right place at the right time. This can create havoc if the MSP is not adequately prepared – for instance they don't have enough finished stock or raw materials in the pipeline to satisfy the order. Or perhaps they don't have the resources to test and then ship products out of the door in a reduced time frame? Either way there's a real risk that the relationship between the OEM and their MSP could turn sour. The former doesn't get product to their exact requirements; and the latter feels that they've been put under unreasonable pressure.

So how do MSP overcome these obstacles, in order to successfully meet the challenge of consistently delivering product to fluctuating customer demand?

The importance of a service level agreement

A service level agreement (SLA) ensures that both parties are on the same page and that each is completely clear on their respective responsibilities - thereby keeping the relationship on the right track. This document, drawn up between the two sides of the partnership, contains details of service expectations, such as pricing, estimated annual usage, call off batch sizes, delivery timescales, quality and warranty. 

While it is difficult to foresee all circumstances, it is vital that an MSP fully understands their customer's delivery expectations. If the OEM is likely to ask for fully configured tested product at the last minute or their design contains components on extended lead times, the MSP will need to make sure any SLA they propose is agile enough to meet such demands. 

An SLA will also provide a robust framework for the OEM and their MSP partner to manage on-going stock liabilities and commitments and will outline the finished goods stocking policy. Best practice is to calculate the P:D ratio, which Blackwell Reference Online defines as: "the ratio of 'demand' time (i.e.: the time a customer must wait between asking for a product and receiving it) to the whole operation production cycle, P (i.e.: how long the operation has to manage the flow of materials and information)".

Furthermore, the SLA should detail how the MSP and OEM will monitor performance. What mechanisms are in place to trigger a formal review if expectations are not met? Are on-time in full delivery metrics built in and if so is there an agreed method of how these will be measured and reported?   Taking the time to draw up a thorough SLA is the best way for MSP to ensure they can meet customer demand on a consistent basis, even when things change at short notice.

When an SLA may not be appropriate

A SLA brings many benefits. It provides flexibility when demand is unpredictable and, for the OEM, can help reduce finished stock liability. It is particularly useful in outsourcing relationships that involve complex supply chains, and multiple products or product variants. 

However, an SLA really works best in long-term partnerships, as it requires commitment and management on both sides. Both parties will need to be in constant communication, to ensure the best outcome therefore, monthly meetings and quarterly reviews are advisable. As an OEM, it's important to take this into account before signing on the dotted line. If you have a habit of changing assembly partners every 12 months, an SLA may not be the best option for you. Similarly, if your demand is stead and predictable, you have a small product portfolio, and your customers are happy to buy to lead-time, the same may be true. Firms scheduled purchase orders also work perfectly well!   

An SLA is critical to meeting fluctuating customer demand, thereby maintaining a healthy, mutually beneficial relationship between OEM and MSP. While not needed in all outsourcing scenarios, they can deliver many advantages. Ultimately, an SLA enables the fulfillment of the key manufacturing goal: excellent products, delivered on-time and exactly to requirements. 


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