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Case Analysis: Fabtek (A)

Gunar Aliyeva

Fabtek’s Overall Situation

Fabtek is a titanium fabrication company serving mainly US market and based in Philadelphia. The main
activity of the company is fabrication of titanium, whereas it also sells titanium metal and specialty
hardware. The company carries out high quality welding, which represents its competitive advantage.

Fabtek has 5 major competitors in the United States. The company has a reputation for higher price and
higher quality.

Despite a steady growth of the company’s sales and equity throughout 1985 – 1988, in 1989 sales dropped
and in 1990 the Fabtek experienced its first net loss.

In June 1991, the company experienced a critical level of backlog for the first time in its history. One
reason for this problem was difficulty of hiring and training qualified welders due to the fact that the
company could not offer higher than average pay because all of its competitors were located in less
expensive areas. Another reason was the lack of reliable information on the shop’s actual capacity at any
given moment.

Now Fabtek is facing a situation where it has received 4 different orders from Refco, Pierce-Pike,
Worldwide Paper and Kathco. Given the limited capacity and the critical level of backlogs the company
has to decide which one(s) of these four orders it should bid on. As the issue is a cross-functional one, i.e.
it involves consideration of capacity issues (Operations Department) and strategic issues (Marketing
Department), the decision will be made jointly by the Operations VP, Rob Lightfoot and the Marketing
VP, Amy Vitali.

The four orders are described briefly below:

• Refco – Refco, Fabtek’s largest single customer, which typically represents 15-20% of the company’s
sales every year, is one of the world’s leading engineering contractors. It specialized-concentrating on
petroleum refineries and petrochemical plants. Refco had requested Fabtek for production of an
above-size Whopper (smaller version of this equipment was designed jointly by the two companies in the
earlier years). The proposed price was $6,000,000. 80% of direct material and labor would be paid as
applied.

There were industry rumors that Refco was going to set up its own fabrication facilities, which Refco
executives were totally unwilling to discuss with Fabtek.

Fabtek’s management has established a corporate policy of allowing a maximum of 20% of its
business to reside with one customer.

• Pierce-Pike – Perce-Pike is a company specialized in constructing proprietary wastewater treatment

plants. Vitali had been pursuing this client for 4 years. Before, Pierce-Pike gave all its work to Fabtek’s
largest competitor. Now the company has received a request for proposal on a pressurized reactor from
Pierce-Pike. Fabtek has quoted $3,900,000 on this job. But this job involved some unusual fabrication
with which Fabtek was inexperienced, but this capability was important to develop. Whether or not the
company could deliver the job on time was uncertain. Vitali believed that Pierce-Pike was unhappy with
the quality offered by both of its existing sources. So this was a good chance to acquire a new important
client as Pierce-Pike.

• Worldwide Paper – WP is a large integrated producer of pulp, paper, and fabricated paper products.
WP has requested Fabtek to give a proposal on a piece of titanium equipment. WP was willing to license

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this item to its manufacturer. For Fabtek this represents a great chance to develop a line of standard
product, which will ease their management task and enable them to train employees on less demanding
standard work. If Fabtek accepts the bid, they will have to subcontract for special heat treatment, which
would cost $450,000. The price that Fabtek is ready to offer is $ 2,400,000. The order offers no proress
payments but a penalty of 0.1% p/day of late delivery.

• Kathco – Kathco is a metal refinery that manufactures its own titanium electrodes for purifying
manganese. Kathco has requested Fabtek to give a proposal on production of electrodes. This order does
not represent any long-term business opportunities for Fabtek as Kathco is currently building its own
electrode production facility and will soon be able to fully meet its own demand for electrodes.

Capacity

| |Welders |Machinists |Fabriators |

|# of hours up to ay(inclusive) | | | |
|Refco | 22,800 | 5,900 | 6,000 |
|Pierce-Pike | 6,900 | 1,000 | 2,750 |
|Worldwide Paper | 7,650 | 830 | 2,950 |
|Kathco | | 1,700 | 4,900 |
|Total | 37,350 | 9,430 | 16,600 |
| |Welders |Machinists |Fabriators |
|# of hours available at Fabtek up to May | 24,950 | 7,650 | 10,760 |
|(inclusive) | | | |

Based solely the available capacity, Fabtek could undertake the following (combinations) of orders:

A.

|Refco | 22,800 | 5,900 | 6,000 |

|# of hours available at Fabtek up to May | 24,950 | 7,650 | 10,760 |
|(inclusive) | | | |
|Difference | 2,150 | 1,750 | 4,760 |

B.

|Pierce-Pike | 6,900 | 1,000 | 2,750 |

|Worldwide Paper | 7,650 | 830 | 2,950 |
|Kathco | | 1,700 | 4,900 |
|Total | 14,550 | 3,530 | 10,600 |
|# of hours available at Fabtek up to May | 24,950 | 7,650 | 10,760 |
|(inclusive) | | | |
|Difference | 10,400 | 4,120 | 160 |

Profitability of Orders

| Profitability Index |Refco |Pierce-Pike |Worldwide |Kathco

|
|Contribution ($000) | 2,745,000 | 1,095,000 | 678,000 |
450,000 |
|Contribution (%) |46% |28% |28% |30% |
|2% of material ($000) | 42,000 | 45,000 | 21,600 | 19,200
|
|Adjusted contribution +2% | 2,787,000 | 1,140,000 | 699,600 |
469,200 |

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|Welding ($000) | 60,000 | 105,000 | 132,000 | |

|Adjusted contribution per welding $ |46 |11 |5 | |
|Material cost ($000) | 2,100,000 | 2,250,000 | 1,080,000 | |
|Material cost per welding $ |35 |21 |8 | |
|Factory overhead ($000) | 1,710,000 | 330,000 | 384,000 |
180,000 |
|Adjusted contribution per $ of factory overhead| 2| 3| 2| 3|

Order Evaluation/ Selection Criteria

Here are the criteria of Fabtek’s Operations and Marketing Departments for order evaluation and
selection:

| Operations Criteria |Refco |Pierce-Pike |WP |Kathco

|
|The job is technically challenging |X |X |X | |
|The job fits with Fabtek’s high-quality image and capabilities|X |X |X |
|
|The company’s engineering expertise is utilized |X |X | |
|
|The job is long-run and repetitive | |X |X | |
|The company has experience with similar products |X | |X |X
|
|Specifications and job scope are clear |X |X |X |X
|
|For larger orders, progress payments can be negotiated |X | | |
|
|(payments made on labor and material as applied, over the | | | |
|
|course of the contract, rather than all at the end) | | | |
|
|Overall contribution before SG&A is near 20% of the product’s |X |X |X
|X |
|price | | | | |
| Marketing Criteria | | | | |
|The job is similar to what Fabtek had built before |X | |X |X
|
|The design is simple and the cost estimate reliable |X |X | |
|
|The job has good payment terms (progress payments on labor and|X | | |
|
|material as applied) | | | | |
|The market area has potential for further development |X |X |X |
|
|The job allows adequate delivery time | |MAYBE |X |X
|
|Price is not the primary factor in the customer’s decision |X |X | |
|

Pros and Cons of Orders

Below are the Pros and Cons of each order:

• Refco

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|PROs |CONs |
|Highest Profitability |Too much reliance on Refco - risk of losing a large |
| |portion of business at once |
|Meets most of the order selection criteria |Late delivery |
|Fabtek is the co-designer of smaller Whoppers |One-time order, it is unknown whther this order will
lead|
| |to further related business |
|Enhancing the relationship with an existing client | Choosing this order eliminates the opportunity to
take |
| |any other order (promising long-term relationships) |
| |because of the high demand for labor |
|Ongoing installments for materials and labor | |

• Pierce-Pike

|PROs |CONs |
|Growing market |Uncertainty about timely delivery (reputation damage) |
|Acquiring a new long-pursued (valuable) client (NEW |No experience in a similar job |
|BUSINESS OPP.) | |
|Fabtek's largest competitor may lose a valuable client | |
|Good opportunity to develop a new important capability | |
|Long-term business opportunity (as PP is currently | |
|unhappy with the quality of its existing sources, it may| |
|switch its manufacturing partially/ totally to Fabtek) | |
|Ongoing installments for labor | |

• Worldwide Paper

|PROs |CONs |
|Opportunity to develop a standard line of product |Penalty for each day of late delivery |
|Ease for management in training the employees |No ongoing installments for material/ labor
|
|Long-term business opportunity (as WP is planning to | |
|license this job to its manufacturer) | |
|Experience in a similar job | |

• Kathco

|PROs |CONs |
|Enhancing the exisiting good relationship with Kathco |The order is a one-shot deal, i.e. no long-term
business |
| |opportunity as Kathco is building its own fabrication |
| |facilities |
| |The job doesn’t fit with Fabtek’s high quality image and |
| |capabilities |

Conclusion

Although Refco’s order is the most profitable one (46% unit contribution ratio), it also has the following
disadvantages:
1. Due to its high demand for labor it doesn’t allow Fabtek to bid for any one order along with Refco.
Orders such as Pierce-Pike’s and Worldwide Paper’s represent a good long-term business opportunity for
Fabtek so they are strategically important to Fabtek.

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2. Refco already represents roughly 20% of Fabtek’s annual sales. This new order will only add to this
share, which is against the company’s policy allowing no more than 20% share for a single customer. This
is particularly risky for Fabtek considering the industry rumors that Fabtek is planning to set up its own
fabrication facilities for titanium. If this happens, Fabtek may loose a significant portion of its business at
once.

Having said the above, I would decline Refco’s order and instead bid for Pierce-Pike and Worldwide
Paper as both of them look very promising in terms of developing long-term business relationships with
Fabtek. Although Kathco could also fit into Fabtek’s labor capacity along with the other two orders, it
doesn’t meet most of the order selection criteria set by the Operations and Marketing Department – most
importantly, it does not fit with Fabtek’s high-quality image and capabilities (it doesn’t even involve any
welding, which is Fabtek’s main competitive advantage), and doesn’t represent a long-term business
opportunity for the company.[pic]

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