What Is Contract-Based Development? Differences from Lab-Based Development, Contract Types, and Key Points for Outsourcing

Contract-based development refers to a form of outsourcing system development through a "contract-based agreement" (ukeoi-keiyaku).

It is also a type of offshore development where system development is outsourced to overseas companies. The two representative models of offshore development are “contract-based development” and “lab-based development.”

Some project managers may have the following thoughts about contract-based development:

“I don’t understand the difference between contract-based and lab-based development.”
“I want to know the pros and cons of each.”
“I want to accurately understand the contract types.”

This article provides a clear comparison of contract-based and lab-based development, including their overviews, advantages, and disadvantages, in a table format.

We will also explain key points and contract features you should know when outsourcing via contract-based development, so please use this as a reference.

Akira Shimazoe

CEO of Solashi Japan LLC. Engaged in the development and operation of internal systems at Suntory. Founded Yper Inc., serving as CTO and CPO, contributing to product launch and growth.

What is Contract-Based Development?

Contract-based development is a form of development carried out under a contract known as a "contract-based agreement."

A company requiring system development defines the specifications and requirements, places an order, and the contractor delivers the product by the agreed deadline as per the contract.

Contract-based development is a form of offshore development and is sometimes called “fixed-scope development.” The ordering company typically does not manage the development process and instead pays based on the final deliverable, which is a key characteristic.

It is suitable when the specifications and requirements are fixed, with minimal changes after the order is placed, or when the ordering company wants to reduce the burden of managing the development process.

The Contract Type is a Contract-Based Agreement

Among delegation contracts for system development, contract-based development involves a “contract-based agreement.” This type of contract promises the delivery of a product, and the client pays compensation based on the product delivered.

The contractor is obligated to guarantee the quality of the product.

If a defect occurs within a certain period after delivery, the seller is legally responsible to the buyer under what is known as “liability for nonconformity.”

When outsourcing app or software development, be sure to clearly define the specifications and requirements in advance to avoid unnecessary troubles. This minimizes misunderstandings and makes it easier to build the desired product.

The Main Development Model is the Waterfall Model

Generally, contract-based development is carried out using the “waterfall model.”

The waterfall model is a method where development progresses step-by-step from upstream to downstream processes. It is named after the way it flows from top to bottom, like a waterfall.

The waterfall model is based on the assumption that no backtracking occurs. It involves confirming the product at each stage to complete development, and is mainly used for large-scale projects.

Because development is carried out according to pre-defined specifications and requirements, and the product is checked at each stage, it is easier to ensure the expected quality.

Advantages of Contract-Based Development

Here are three advantages of contract-based development from the client’s perspective.

1. Quality is easier to ensure
2. Development costs are easier to estimate
3. Less burden in management tasks

Quality is Easier to Ensure

One of the advantages of contract-based development is that it’s easier to ensure the quality of the final product.

Contract-based development mainly uses the waterfall development model, where quality is checked at each stage of the process.

Specifications and requirements are finalized before the contract is signed, and the contractor must meet quality standards and deadlines. They are also responsible for quality assurance.

If the standards are not met, corrections must be made, making it easier for the client to receive a product that meets their expectations.

Development Costs are Easier to Estimate

Since compensation is paid for the final product in a contract-based agreement, the client does not need to calculate costs based on development time.

In in-house development, delays caused by problems can increase engineer working hours and raise costs.

In contrast, with contract-based development, the contractor determines the development process and pays for the required labor costs.

Even if additional labor costs arise, the client only pays the pre-determined compensation. This makes it easier to control development costs.

Less Burden in Management Tasks

In contract-based development, the client does not participate in the development process, which reduces the burden of managing engineers and progress tracking.

In in-house development, there are various management tasks such as monitoring working hours, scheduling, quality control, task management, and troubleshooting.

Depending on the situation, additional work may arise, such as hiring new engineers or establishing training systems.

However, in contract-based development, the management work required during development does not arise. You can entrust the work to a company with specialized knowledge and expertise, allowing you to allocate your valuable internal resources to core operations.

Disadvantages of Contract-Based Development

Here are two disadvantages of contract-based development from the client's perspective.

1. It's difficult to change specifications after the contract is completed
2. Know-how is not accumulated within the company

It's difficult to change specifications after the contract is completed

In a contract-based agreement, changing specifications after contract completion is difficult, and any necessary revisions will incur additional costs.

If the specifications and requirements are not clearly defined at the time of the contract, additional costs may arise later, so caution is needed.

Moreover, it is often difficult to determine whether the client's request falls within the contract scope, and if it's outside, extra costs must be paid.

If discrepancies in understanding arise, it can lead to serious issues such as project cancellation or even damage claims. Therefore, it is crucial to clearly define the specifications and requirements before signing the contract.

Know-how is not accumulated within the company

One of the disadvantages of contract-based development is that internal know-how is not accumulated.

This is because the development process is handled entirely by the contractor, and in-house employees are not directly involved.

No matter how advanced the developed system or software may be, the know-how does not accumulate internally, and in-house engineers do not gain experience or grow. Continuously outsourcing through contract development can prevent internal talent from being nurtured and lead to a decline in the company's development capabilities.

What is Lab-Type Development?

Let’s explore the characteristics of lab-type development, which is often compared with contract-based development.

Lab-type development is a type of offshore development where a dedicated development team (lab) is set up externally for a fixed development period, and projects are carried out under this arrangement.

The client pays a fixed monthly fee. For a period of about six months to one year, they can secure development professionals. A key feature is that if there are changes to the specifications during the development period, the client can issue new instructions accordingly.

Rather than focusing on product delivery, lab-type development aims to execute the development-related operations.

The Contract Type is a Quasi-Delegation Agreement

Lab-type development operates under a quasi-delegation contract.

Under a quasi-delegation contract, the condition for contract completion is “the execution of tasks during the contract period.” Unlike contract-based development, delivering a product is not a requirement, and not doing so does not constitute a breach of contract.

There are two main forms of quasi-delegation in development: “lab-type development” and “SES (on-site development)”. For more information, see the section “1. Differences Between Contract and Quasi-Delegation Contracts (Lab-Type and SES)”.

The Agile Model is the Mainstream Development Approach

Lab-type development mainly adopts the “agile model,” a development approach that responds flexibly to client needs and market changes.

It advances the project by repeatedly developing features from planning to release. The cycle of analysis, design, implementation, testing, and release is repeated in short intervals, allowing for trial and error improvements.

In agile development, it is crucial to build a strong team by maintaining close communication with the external dedicated team to work together toward the goal.

Advantages of Lab-Type Development

Here are some benefits of lab-type development from the client's perspective.

1. Supports addition and modification of requirements
2. Enables cost-effective collaboration with skilled overseas development partners
3. Enables internal accumulation of know-how

Supports addition and modification of requirements

Even if the product's final form is unclear and specifications and requirements are not fixed, lab-type development allows for additions and changes.

Changes can be made based on project progress, and the work can proceed flexibly through discussions with the dedicated external team.

Lab-type development suits agile approaches with short development cycles, making it ideal for cutting-edge technologies such as AI and blockchain.

Enables cost-effective collaboration with skilled overseas development partners

Lab-type development makes it possible to collaborate with talented overseas partners at lower costs.

Japan is facing a severe shortage of engineers, and securing highly skilled talent is not easy. To address this issue, lab-type offshore development is attracting attention.

Vietnam is currently the most popular outsourcing destination, allowing companies to secure talented engineers at lower labor costs compared to Japan. It also supports cutting-edge technologies, enabling high-quality development.

Vietnamese offshore development company “Solashi Co., Ltd” delivers cost-effective system development tailored to client needs with high technical and Japanese language capabilities. Please feel free to contact us.

Enables internal accumulation of know-how

Since lab-type development involves continuous collaboration over a fixed period, development know-how can be accumulated internally.

It leads to in-house engineer growth without needing to invest heavily in internal training systems. Recently, some companies are choosing lab-type offshore development specifically to accumulate development know-how.

By combining in-house resources with the technical expertise of dedicated external teams, companies can achieve high-quality system development.

Disadvantages of Lab-Type Development

Now, let’s look at the disadvantages of lab-type development from the client's side.

1. Management is required
2. Costs occur even when there is no work

Management is required

In lab-type development, the client must also give directions and manage the team, which requires effort for task management and communication.

As this involves working with overseas engineers, physical distance and language barriers may arise.

Understanding the skills of domestic and overseas engineers, managing schedules and tasks, checking quality, and overseeing project progress can all add up to significant workload.

If it’s the client’s first time with offshore development, it may take time to build the team.

Costs Incur Even Without Active Work

Since lab-type development is contracted for a fixed period, costs will still incur even if the project finishes early and work ends. This requires careful attention.

Maintaining the team still incurs costs even when there is no active work. As a result, the expected cost-saving benefits of lab-type development may be lost.

When outsourcing lab-type development, it is important to plan ahead and make effective use of the dedicated external team.

If a project is likely to finish earlier than expected, consider adjusting the schedule or assigning related tasks. Additionally, instead of placing orders for long periods such as six months to a year, updating the contract every few months can help reduce the risk of over-ordering.

Differences Between Fixed-Price Development and Lab-Type Development

Fixed-price development and lab-type development are often compared as forms of offshore development.

Both are used to compensate for a lack of internal resources and to efficiently proceed with development, but they have different characteristics.

Here, let’s compare the differences between fixed-price development and lab-type development in a table, and explore the cases where each is suitable.

Comparison of Features: Fixed-Price vs. Lab-Type Development

Development Type	Fixed-Price Development	Lab-Type Development
Overview	The contractor develops and delivers a product based on defined specifications and requirements. The client pays for the completed product.	A dedicated development team (lab) is secured externally under a fixed-term contract to proceed with the project. The contractor is not obligated to deliver a product.
Merits	・Quality is easier to ensure ・Development costs are easier to estimate ・Reduces the burden of management tasks	・Can handle added or changed requirements ・Can collaborate with skilled overseas developers at lower costs ・Allows for internal knowledge accumulation
Demerits	・Difficult to change specifications after contract signing ・No internal knowledge accumulation	・Requires management efforts ・Costs occur even when there is no active work
Contract Type	Fixed-price contract	Quasi-delegation contract
Development Model	Waterfall model	Agile model

Fixed-price development involves ordering based on clearly defined specifications and requirements, and entrusting the development process to the contractor. In contrast, lab-type development allows starting without finalized specifications or requirements.

In lab-type development, close collaboration with an external dedicated team enables the accumulation of internal knowledge.

Additionally, fixed-price development ends with the delivery of the product. On the other hand, the goal of lab-type development is to continue the work until the end of the contract period.

Although lab-type development involves everything from design to release in an agile model, it is not necessarily required to complete a product, which is a major distinction.

When Fixed-Price Development is Suitable

Fixed-price development is suitable in the following cases:

• The specifications and requirements are finalized and won’t change after ordering
• Large-scale projects with high complexity and specialization
• You want to place a one-time order, not for ongoing projects
• You want to develop within budget and maintain cost control
• You want to reduce the effort required for process management on the client side
• You plan to use government subsidies such as the “Monozukuri Subsidy”

When Lab-Type Development is Suitable

Lab-type development is suitable in the following cases:

• Specifications and requirements are not yet fully defined
• You want to develop closely with skilled external engineers
• You want to develop using cutting-edge technology
• You want to quickly iterate development cycles and continuously improve
• You want to accumulate know-how in offshore development

4 Key Points to Consider When Outsourcing Development Under a Contract

When outsourcing development under a contract, it’s important to understand the differences in system development contract types and clearly define the terms in the agreement. Here are four key points to consider when making a request.

1. Understand the difference between contract work and quasi-delegation contracts (lab-based development/SES)
2. Recognize the difference between contract-based and commissioned development
3. Clarify the content of the contract agreement
4. Clearly state copyright and intellectual property clauses in the contract

Understand the Difference Between Contract Work and Quasi-Delegation Contracts (Lab-Based Development / SES)

Before placing an order, it’s important to organize the contract types involved in system development outsourcing. Misalignment of understanding between the client and the developer may lead to future disputes.

For example, even if the client assumes it is a contract-based agreement, if the developer interprets it as a quasi-delegation contract, it can lead to significant misunderstandings regarding payment methods or whether deliverables are required.

Therefore, it is essential to understand the differences between contract work and quasi-delegation agreements. Here’s a table outlining each contract type.

	Contract Work	Quasi-Delegation Contract
Overview	A contract form that promises the delivery of a product, and payment is made for the deliverable.	A contract form where the implementation of work during a fixed term is promised, and a fixed monthly fee is paid.

Additionally, quasi-delegation contracts are used in “lab-based development” and “SES (on-site development)”. Let’s take a look at each.

	Lab-Based Development	SES (On-Site Development)
Overview	A form of development where a dedicated team (lab) is secured outside the company to proceed with the development project over a fixed period.	A form in which engineers are dispatched to the client’s office to work on specific tasks.

SES stands for “System Engineering Service,” where external engineers are stationed at the client’s office to perform specific tasks. Like lab-based development, the goal is not to deliver a final product.

Recognize the Difference Between Contract-Based and Commissioned Development

There is a similar term to contract-based development called “commissioned development,” which can be confusing. Let’s clarify the differences. The characteristics of each are as follows:

	Contract-Based Development	Commissioned Development
Overview	A form where specifications and requirements are defined, and development is outsourced to an external party to deliver the product.	A form where development is outsourced for a specific period or under certain conditions to perform the development work.

Contract-based development is a type of commissioned development, but the key difference is that contract-based development requires delivery of a product, whereas commissioned development does not necessarily require deliverables.

Clarify the Content of the Contract Agreement

In contract-based development, it is necessary to clarify the specifications, requirements, delivery date, and compensation. Here are the main items that should be included in a contract agreement.

＜Items in a Contract Agreement＞

• Purpose…Purpose and scope of the contract
• Validity period…Expiration date of the contract
• Definitions…Clarification of terms used in the contract
• Specifications…Detailed description of the product
• Implementation location…Where the project will be carried out
• Delivery date…Deadline for product submission
• Compensation…Payment amount and method for the deliverable
• Defect handling…How issues are addressed and compensated
• Rights…Ownership of the product

It is also important to decide in advance how to respond if there are changes to the specifications or requirements.

If there is a high possibility of change, consider a quasi-delegation contract through lab-based development for greater flexibility.

Clearly State Copyright and Intellectual Property Clauses in the Contract

Regardless of whether it’s offshore development or not, it is crucial to clearly specify copyright and intellectual property ownership in the contract when outsourcing system development.

By default, copyright and intellectual property rights belong to the development company (contractor). If not explicitly stated in the contract, the client may not be able to resell the product.

Just because payment is made does not mean copyright is transferred to the client, so be sure to agree on this before signing the contract.

Outsource Development Under Contract to Streamline Your Process

Contract-based development, where development is conducted according to the client's defined specifications and requirements, is known for its ease of quality assurance. It also reduces the management burden since the development process is entrusted to the contractor.

When considering offshore development, it’s important to thoroughly compare the characteristics, advantages, and disadvantages of both contract-based and lab-based development.

Solashi Co., Ltd flexibly supports both contract-based and lab-based development to suit your needs.

We mainly hire engineers from top Vietnamese universities such as Hanoi University of Science and Technology, Vietnam National University, and Foreign Trade University. Our team also works on applications utilizing technologies like blockchain and NFTs.

With several Japanese project managers who have experience launching businesses and working in startups, communication gaps are minimized, allowing development to proceed smoothly. We also offer hands-on support and IT implementation consulting services, making it easier to accumulate know-how in your own company.

If you’re wondering “Which is better, contract-based or lab-based development?” or “What does an offshore development team structure look like?”, we’d be happy to assist—please feel free to contact us.

Akira Shimazoe

Representative of Solashi Japan LLC. Born in April 1989 in Fukuoka Prefecture. Graduated from the Graduate School of Information and Mathematical Sciences at Osaka Prefecture University. Joined Suntory System Technology Co., Ltd., an IT subsidiary of Suntory Holdings, in 2014. Broadly responsible for the development, operation, and implementation of vending machine delivery management, efficiency improvements, and sales management systems. Founded Yper Inc. in 2017, serving as CTO and CPO. Contributed to the launch and growth of the app-linked delivery bag "OKIPPA." Selected for Toyo Keizai's prestigious "Amazing Venture 100" and Forbes' "Forbes 30 Under 30 Asia 2019."