Exercise 18.18 Cost-Based Pricing Otero Fibers, Inc., specializes in the manufacture of synthetic fibers that the company uses in many products such as blankets, coats, and uniforms for police and firefighters. Otero has been in business since 1985 and has been profitable every year since 1993. The company uses a stand- ard cost system and applies overhead on the basis of direct labor hours Otero has recently received a request to bid on the manufacture of 800,000 blankets sched- uled for delivery to several military bases. The bid must be stated at full cost per unit plus a return on full cost of no more than 10 percent after income taxes. Full cost has been defined as including all variable costs of manufacturing the product, a reasonable amount of fixed over- head, and reasonable incremental administrative costs associated with the manufacture and sale of the product. The contractor has indicated that bids in excess of $30 per blanket are not likely to be considered. In order to prepare the bid for the 800,000 blankets, Andrea Lightner, cost accountant, has gathered the following information about the costs associated with the production of the blankets. Direct material Direct labor Direct machine costs* Variable overhead Fixed overhead Incremental administrative costs $1.70 per pound of fibers $6.50 per hour S10.00 per blanket S3.00 per direct labor hour $8.00 per direct labor hour $2,450 per 1,000 blankets Special fee** Material usage Production rate Effective tax rate S0.50 per blanket 6 pounds per blanket 4 blankets per direct labor hour 35% *Direct machine costs consist of items such as special lubricants, replacement of needles used in stitching, and maintenance costs. These costs are not included in the normal overhead rates. ** Otero recently developed a new blanket fiber at a cost of $750,000. In an effort to recover this cost, Otero has instituted a policy of adding a $O.50 fee to the cost of each blanket using the new fiber. To date, the company has recovered $125,000. Lightner knows that this fee does not fit within the definition of full cost, as it is not a cost of manufacturing the product