Dori Brewer is a partner at Perkins Coie LLP and leads the firm’s Food & Beverage industry group. She has more than 30 years of experience advising companies on commercial contracts, M&A transactions and corporate governance matters.
Emily Klick is a counsel in Perkins Coie’s Seattle office, and works closely with Ms. Brewer on legal issues that are common in the food and beverage industry.
Making money in the food business usually goes hand in hand with scaling production. Partnering with the right co-packer can be an effective way to add production capacity, but doing it right can be tricky. Here are three tips for food producers that will set the stage for a successful co-packing relationship.
1. Be diligent in picking a co-packing partner
You should investigate the experience and reliability of your prospective co-packing partners. For many food companies, a co-packer will be your most important business partner. Save yourself time and headache by doing some real due diligence up front. Marketing materials and online research are good places to start, but endeavor to verify the information and draw upon the experiences of others who may have worked with a particular co-packer. You can get substantive information directly by visiting the co-packer’s facilities, meeting with representatives and checking references.
2. Negotiate an agreement that preserves room for your business to grow
Once you’ve selected a co-packing partner, take the time to read and negotiate terms that preserve room for your business to grow.
At a minimum, you must understand the terms of your contract. There is not a standard form of co-packing agreement. Even for early stage companies with relatively less negotiating leverage, there are a few key topics that should be addressed and a few terms that should be avoided.
A. Safety and quality
Food safety and quality control should be each party’s first and highest priority. A good co-packing agreement will clearly address how products are sampled or tested, and how nonconforming product issues and recalls are handled. A food company should also have the right to audit and inspect the co-packer’s facilities and records. Those rights can be limited in frequency or scope, but as you do business together, it is important to actively manage the co-packer relationship. Having an express right to inspect a co-packer’s facilities and records is one tool for identifying and addressing any quality control bumps in the road.
B. Protect the brand and product formula
A close second priority is making sure the agreement has adequate protections for the food company’s brand, intellectual property, and product formulas. A co-packer sits in the unique position of knowing how to make some portion — or potentially all — of your product. A good co-packing agreement will appropriately limit your co-packer’s ability to use your intellectual property and confidential information for its own benefit or for the benefit of third parties.
At a minimum, any co-packing agreement should clearly state who owns the brand elements and recipes, and any permitted (or prohibited) uses by the other party. For example, if the food company owns the product recipe, a robust agreement will prohibit the co-packer from using the recipe for anyone else’s product. For a growing food company, it may also be important to address how new products will be developed. In general, the default rule is whoever develops the intellectual property has the ownership rights. If you plan on selling your food company, it is especially important to avoid ambiguity around who owns the necessary intellectual property. You can address this risk by having the agreement expressly say the food company owns all intellectual property associated with products, even for products that are jointly created.
Your co-packer should also be bound by a non-disclosure agreement or detailed confidentiality provision in the co-pack agreement. Even so, be conscious of what is disclosed from a practical matter and limit disclosure of trade secrets as much as possible.
In addition to addressing ownership and confidentiality, the agreement should also address how disputes should be handled. Many food companies will want to avoid the publicity and cost inherent in litigation, and opt instead to use mediation and arbitration. A well-drafted alternative dispute resolution provision can have the dual benefit of not only avoiding brand-damaging negative publicity from a public lawsuit, but it can also level the playing field between a co-packer with a large legal budget and a smaller food company.
C. Focus on term and termination rights
As with any business contract, your co-pack agreement should have a definite term, clear termination rights and impose as few limitations on future operations as possible. Part of scaling your business may require changing or adding co-packers. Executing that decision can be complicated if your co-pack agreement requires substantial advance notice of termination, imposes termination penalties, or has exclusivity or restrictions that survive termination.
Similarly, scaling your business may result in an acquisition of your company. Sales of food companies have reached near-record levels in recent years, with many acquisitions of small, niche, and artisanal brands, according to the Food Institute’s annual Mergers & Acquisitions report. In a sale transaction, you may need to assign or terminate your co-pack agreement. If the buyer is a branded food company, it may have its own production facilities, or it may already have a co-packing relationship in place. A transaction will be easier if your co-pack agreement clearly permits assignment or termination in the event of a change of control or sale of assets to a third party.
3. Be wary of using a single co-packer
Using a single co-packer for all of your production can be cost efficient, but it definitely comes with operational risk. Performance issues can be difficult to address if you don’t have an alternative way to produce your product. If you do use a single co-packer, consider picking one that has multiple production locations so that production can be shifted in the event of issues with a particular facility.
A food company’s relationship with its co-packer is among the most important aspects of developing a successful business. Care should be taken in choosing the co-packer and making sure the terms of the co-pack agreement protect a growing business.