Nova Company has two divisions: OPA Division and LPA Division. The OPA Division manufactures a single product, presently operates at 95 per cent of full capacity (100 000 units) and can sell all 95 000 units produced to outside customers. This product is also a component used in a product made by the LPA Division. OPA's full cost of production is $22.50 per unit, including $4.50 of applied fixed overhead costs. The applied fixed overhead is calculated based on production of 95 000 units. OPA's management believes that production can be raised to 100 000 units without affecting cost behaviour. OPA's selling price per unit is $30 with a 10 per cent sales commission on outside sales. LPA is presently negotiating the purchase of units from OPA. LPA can purchase a comparable component outside for $29.
Using the general transfer-pricing formula, calculate a transfer price for 5000 units that would be in the best interests of the company as a whole.
A) $18.00
B) $22.50
C) $27.80
D) $29.00

Question

Quizplus · Accepted Answer

The correct transfer price is $18.00, which is the full cost of production for OPA Division excluding the applied fixed overhead costs. This transfer price would allow LPA Division to purchase the component from OPA Division at a lower cost than it could purchase it from an outside supplier, and it would allow OPA Division to sell all of its production at a profit.

Nova Company Has Two Divisions: OPA Division and LPA Division