Traditional standard costing systems track costs as products pass from raw materials, to work in progress, to finished goods, and finally to sales. Such systems are called ‘sequential tracking systems’ because the accounting system entries occur in the same order as purchases and production. Sequential tracking is common where management desires to track direct material and labor time to individual operations and products.
The implementation of a just-in-time philosophy necessitates changes. Backflush is a single step inventory process that typically occurs and the end of a production line. To trigger the transactions a Work Order or Kanban card with a bar code or RFID tag are used. When a product is packaged into a box or carton the operator wands the bar code. This triggers several events:
- A Carton Label is Printed
- Open Quantity on the Work Order is reduced
- Materials on the bill of material are deducted from Raw Material Inventory
- Finished goods inventory is increased by the carton quantity and standard cost
- Cost of the Finished Goods is based on Standard Cost of materials, labor and overhead
Backflushing simplifies costing and inventory transactions since it ignores both labor variances and work-in-progress. While in a true just-in-time environment there would be no work-in-progress at all, there will, in practice, be a small amount of work-in-progress at any point in time. It is important that standard costs are close to actual costs to keep inventory costing reasonable accurate. Backflush accounting is ideally suited to a just-in-time philosophy and is employed where the overall cycle time is relatively short and inventory levels are low.
- Material Variances are calculated regularly through physical counts and the resulting inventory adjustments.
- Labor Variances are calculated monthly by comparing the labor absorbed at standard cost to the actual payroll expenditures listed in the GL accounts.