What is Backflush Costing?

Backflush costing is a streamlined approach to recording the cost of production only after goods have been produced. In essence, no accounting transactions are recorded until all production has been completed, at which point all related raw materials are charged to a finished goods inventory asset. This approach is vastly less complex than the more traditional cost accounting approach, which is to record a transaction for each movement of raw materials from the warehouse to the production area, and then on to the finished goods storage area. In particular, there is no accounting for work-in-process, which is the set of transactions used to record everything occurring on the shop floor.

Backflush costing works especially well when the production process is relatively short, so there is only a minimal period of time when the accounting database does not accurately reflect the actual location of raw materials.

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How Backflush Costing Works

Backflush costing works backward from the point at which goods have just been completed. At that time, the number of units completed is multiplied by the related bill of materials to arrive at the standard amount of raw materials that should have been used during the production process. These raw materials are then deducted from the inventory records.

Several conditions are required before a business can reliably use backflush costing. First, its production process needs to be quite short. A long production process without any accounting recordkeeping makes it impossible to track inventory levels. Also, all of the goods being produced must be highly standardized, with a well-constructed bill of materials. Thus, it is not suitable for the production of customized goods.

Advantages of Backflush Costing

There are several key advantages associated with the use of backflush accounting, which are as follows:

Simplifies accounting processes. Backflush costing eliminates the need for detailed tracking of raw materials and work-in-process inventory throughout the production cycle. Instead of recording multiple transactions at different stages of production, costs are assigned in a single entry once the finished goods are completed. This reduces the administrative burden on accounting teams and improves efficiency, making it particularly useful for companies with high production volumes and short manufacturing cycles.
Reduces inventory tracking complexity. Since costs are recorded only at the end of production, there is no need to track raw material consumption in real-time or allocate costs to work-in-process inventory. This is especially beneficial for just-in-time manufacturing, where materials are used immediately upon arrival, minimizing excess inventory. By reducing the complexity of inventory management, companies can focus on maintaining lean operations and improving production flow.
Enhances cost efficiency and decision-making. By streamlining cost allocation, backflush costing reduces accounting errors and the time spent on reconciling inventory records. This allows management to quickly analyze production costs and make informed decisions regarding pricing, budgeting, and cost control. Additionally, since fewer accounting transactions are needed, companies can lower their overall administrative costs while maintaining accurate financial reporting.

Disadvantages of Backflush Costing

There are several disadvantages associated with backflush costing, which are as follows:

Bill of material accuracy. The main issue is that the bills of material for produced goods must be extremely accurate, or else the backflushing calculation will relieve incorrect amounts from the raw materials inventory records.
Overlapping systems. Accounting systems will still be needed to deal with anomalies in the production process, such as scrap and rework, that are not accounted for in the bills of material. Without this ancillary recordkeeping, the inventory records will be inaccurate. This means that the streamlined promise of backflushing varies somewhat from the actual amount of recordkeeping required.
No audit trail. There is no audit trail through the production process, since accounting transactions are being inferred from what was produced, rather than being monitored in detail. This can be a problem for internal auditors and external auditors who are investigating the production process.