Transfer pricing can create problems if a company division can purchase inputs outside of the company at a price lower than the internal transfer price from another division.

Question

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If a division can purchase inputs at a lower price from outside the company, it may opt to do so rather than buying from another internal division at a higher transfer price. This can create problems for the company as it may lead to inefficiencies, suboptimal allocation of resources, and potential loss of revenue for the internal division. Therefore, transfer pricing should be set at a level that is fair and consistent with market prices to avoid such issues.

Transfer Pricing Can Create Problems If a Company Division Can