Everything has its own merits and demerits and backflush costing is not beyond the rule as well. Probable disadvantages of backflush costing which may occur are described as follows. The successful implementation of backflush costing depends upon the expected levels of efficiency and relatively steady material prices and usage. In other way, there would be insignificant material price and usage variances.
Disadvantages of backflush costing:
(a) Where production and sales volumes are almost equal, backflush costing is only appropriate for those JIT operations.
(b) Several critics claim that backflush costing should not be applicable for external reporting purposes. Operating income and inventory valuations derived from back-flush accounting will not be materially different from the results using conventional systems if inventories are low or are practically unchanged from one accounting period to the other.
Hence, in such situations, backflush costing and accounting is not suitable for external financial reporting because this system does not adhere to GAAP [Generally Accepted Accounting Principles]. For example, even though work-in process (WIP) exists, this system does not recognize WIP in the financial statements. Again, there is a lack of audit trails, i.e. the incapability of the accounting system to identify the uses of resources at each step of the manufacturing process. If there is huge amount of inventory, there is possibility of manipulation of earnings.
(c) It is important that satisfactory production controls system be existent so that cost control during the manufacturing process is maintained to set aside the problems with backflush costing.
Anothar Disadvantages of backflush costing is, it is unsuitable when manufacturing process is lengthy in nature. Again, it may also be unsuitable when the bill of materials contains not only piece commodities but also many parts with more or less variable use.
In describing point (b) Disadvantages of backflush costing may be listed as:
- This system ignores GAAP [Generally Accepted Accounting Principles].
- This system does not recognize WIP in the financial statements.
- There is a lack of audit trails, i.e. the incapability of the accounting system to identify the uses of resources at each step of the manufacturing process.
- If there is huge amount of inventory, there is possibility of manipulation of earnings.