Phonetex Phonetex is a medium-size manufacturer of telephone sets and switching...

Phonetex

Phonetex is a medium-size manufacturer of telephone sets and switching equipment. Its primary business is government contracts, especially defense contracts, which are very profitable. The company has two plants: Southern and Westbury. The larger plant, Southern, is running at capacity producing a phone system for a new missile installation. Existing government contracts will require Southern to operate at capacity for the next nine months. The missile contract is a firm, fixed-price contract. Part of the contract specifies that 3,000 phones will be produced to meet government specifications. The price paid per phone is $300.

The second Phonetex plant, Westbury, is a small, old facility acquired two years ago to produce residential phone systems. Phonetex feared that defense work was cyclical, so to stabilize earnings, a line of residential systems was developed at the small plant. In the event that defense work deteriorated, the excess capacity at Southern could be used to produce residential systems. However, just the opposite has happened. The current recession has temporarily depressed the residential business. Although Westbury is losing money ($10,000 per month), top management considers this an investment. Westbury has developed a line of systems that are reasonably well received. Part of its workforce has already been laid off. It has a very good workforce remaining, with many specialized and competent supervisors, engineers, and skilled craftspeople. Another 20 percent of Westbury’s workforce could be cut without affecting output. Current operations are meeting the reduced demand. If demand does not increase in the next three months, this 20 percent will have to be cut.

The plant manager at Westbury has tried to convince top management to shift the missile contract phones over to his plant. Even though his total cost to manufacture the phones is higher than at Southern, he argues that this will free up some excess capacity at Southern to add more government work. The unit cost data for the 3,000 phones are as follows:

Required:

Top management has reviewed the Southern manager’s data and believes his cost estimates on the new contract to be accurate. Should Phonetex shift the 3,000 phones to Westbury and take the new contract or not? Prepare an analysis supporting your conclusions.