In recent years, a growing number of original equipment manufacturers (OEMs) have transferred their manufacturing processes to specialized firms, known as contract manufacturers. In so doing, contract manufacturers can reduce an OEM's production costs and provide OEMs with flexibility in the production process. We examine another potential reason for the use of contract manufacturing—the potential for efficiency gains from inventory reductions. Employing econometric models and data representing manufacturing industries in the USA, we provide statistical evidence that contract manufacturing can lead to lower industry-wide inventory levels, after controlling for other relevant factors. Key managerial implications are derived from the analysis.