The Cost of Quality

Total Quality Management
Cost of Quality
Total Quality Management - Spring

2010 - IUG
Understand Quality Costs

Understand quality costs enables you to
Understand hidden costs
Reduce and eliminate unnecessary cost
Prevent problems from happening
Management responsibility to enable this
Quality costs are real and estimated at:
25% of costs in manufacturing
35% of costs in service industry
Quality costs can be categorised to enable better
understanding
Why calculate Quality Cost

Management will give special attention when quality is
measured in monetary terms
Quality costing is one of the tools
to provide initial assessments and hard evidence that
improvement is needed or had been made
To monitor the effectiveness of quality improvement
initiatives
To be used in a generic term by senior management,
shareholders and financial institutions, so that they can
readily understand implication of quality in the term of
money
Cost of quality failure is calculated as a percentage of
profit or annual turnover
It is easy to understand
By front-line operator
By middle management
2010 - IUG
Benefits of using quality costing
Greater accuracy in the evaluation and forecasting of

resource use
Justification for investment in the prevention and

appraisal of failures
Ability to cost and compare performance across all

departments functions and activities
Identification and prioritization of activities,

processes and departments in terms of corrective
action, investment, or quality improvement initiatives

2010 - IUG
Benefits of using quality costing (2)
Ability to set cost-reduction targets and then to measure

and report progress
Ability to produce local data which improves

understanding of resource utilization objectives and targets
at all levels throughout the company
Provision of data to support formal quality management

system (including, especially; those based upon the
ISO9000)
Enable decisions about quality to be made in an objective

and systematic manner
Promoting TQM and a company-wide quality improvement

culture
2010 - IUG
COST OF QUALITY
Quality
costs are defined as costs associated with

non-achievement of product/service quality. In simple
terms, quality cost is the cost of poor
products/services.
The
cost of poor quality can add to other costs such

as design, production, maintenance, inspection, sales,
etc. Quality costs cross department boundaries by
involving all activities of the organization marketing,
purchasing, design, manufacturing, service, etc.
The
price of nonconformance (Philip Crosby) or the

cost of poor quality (Joseph Juran), the term 'Cost of
Quality', refers to the costs associated with providing
poor quality product or service.
2010 - IUG
Founders Point of View

Phillip B. Crosby (Quality is
free . . . ):
The system for causing quality is prevention, not

appraisal Quality is Free
The performance standard must be Zero Defects,
not "that's close enough"
The measurement of quality is the Price of Nonconformance.
Cost of quality is only the measure of operational
performance
Quality is free. Its not a gift, but it is free. What
costs money are the unquality things -- all the
actions that involve not doing jobs right the first
time.
2010 - IUG

(TQM)
Customerswill
willseek
seek
Customers
outthe
thehighest
highestquality
quality
out
.product
.product
Improvedquality
qualitythat
thatexceeds
exceeds
Improved
customerexpectations
expectationswill
will
customer
generatemore
morerevenues
revenuesthat
that
generate
.exceedthe
thecost
costof
ofquality
quality
.exceed
Therefore,
Therefore,
quality is
is
quality
.free
free
.
2010 - IUG

(TQM)
W.
W.Edwards
EdwardsDeming
Demingproposed
proposedthat
that
improving
improvingquality
qualityreduces
reducescost
costand
and
.improves
.improvesprofitability
profitability
Quality
Qualitycan
canbe
beand
andshould
shouldbe
be
.improved
.improvedcontinuously
continuously
Total Revenues & Costs
Revenues
Max Profit
Cost
Max Quality
Quality
2010 - IUG
Return on Quality (ROQ)

Profit
Theoptimum
optimumquality
qualitylevel
levelisisalways
alwaysachieved
achieved
Profitis
ismaximized
maximizedat
atthe
the The
. .before
.optimum
beforemaximum
maximumattainable
attainableprofit
profitis
isreached
reached
.optimumquality
qualitylevel
level
Total Revenues & Costs
Cost
Revenues
Max Profit
Optimum Quality
Quality
2010 - IUG
10
Founders Point of View

Feigenbaum (Originator of Total
Quality concept)
Definition of Quality costs (1956)
Appraisal costs
Prevention costs
Failure costs

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11
Cost of Quality
Cost of Achieving Good Quality

Prevention costs
costs incurred during product design
Appraisal costs
costs of measuring, testing, and analyzing
Cost of Poor Quality

Internal failure costs
include scrap, rework, process failure,
downtime, and price reductions
External failure costs

include complaints, returns, warranty
claims, liability, and lost sales
2010 - IUG
12
Prevention Costs
Quality
costs
planning
costs of developing
and implementing
quality
management
program
Product-design
costs
costs of designing
products with
quality
characteristics
Process
costs
costs expended to
make sure
productive process
conforms to quality
Training
costs
costs of developing
and putting on quality
training programs for
employees and
management
Information
costs
costs of acquiring and

maintaining data
related to quality, and
development of
reports on quality
performance
2010 - IUG
13
Examples of prevention Cost

Application screening
Capability studies
Controlled storage
Design review
Equipment maintenance
& repair
Field testing
Fixture design and
fabrication
Forecasting
Housekeeping
Job descriptions
Market analysis
Pilot projects
Procedure writing
Prototype testing
Procedure reviews
Quality incentives
Safety reviews
Time and motion studies
Survey
Quality training
salesperson evaluation and
selection
Personnel reviews
2010 - IUG
14
Appraisal Costs
Inspection
and testing
costs of testing and inspecting materials,

parts, and product at various stages and at
the end of a process
Test
equipment costs
costs of maintaining equipment used in

testing quality characteristics of products
Operator
costs
costs of time spent by operators to gather

data for testing product quality, to make
equipment adjustments to maintain quality,
and to stop work to assess quality

2010 - IUG
15
Examples of appraisal cost
Audit
Document checking
Diagram checking
Equipment calibration
Final inspection
In-process inspection
Laboratory test
Personnel testing
Procedure testing
Prototype inspection
Receiving inspection
Shipping inspection

2010 - IUG
16
Internal Failure Costs

Scrap
costs
costs of poor-quality
products that must
be discarded,
including labor,
material, and indirect
costs
Rework
costs
costs of fixing
defective products to
conform to quality
specifications
Process
costs
failure
costs of determining
why production
process is producing
poor-quality products
Process
costs
downtime
costs of shutting
down productive
process to fix
problem
Price-downgrading
costs
costs of discounting
poor-quality products
that is, selling
products as
seconds
2010 - IUG
17
External Failure Costs

Customer
costs
complaint
costs of investigating
and satisfactorily
responding to a
customer complaint
resulting from a poorquality product
Product
return costs
costs of handling and

replacing poor-quality
products returned by
customer
Warranty
claims costs
costs of complying with

product warranties
Product
costs
liability
litigation costs
resulting from
product liability
and customer
injury
Lost
sales costs
costs incurred
because customers
are dissatisfied
with poor quality
products and do
not make
additional
purchases
2010 - IUG
18
Defects, Scrap, Rework, Inspection,

Returns, Warranty, Quality
Assurance
Prevention
Design Review, Zero Defects
Program, Supplier Training,
Supplier Evaluation,
Specification Review, Quality
Audits, Preventive
Maintenance, Engineering
Changes, Product Liability,
Increased Overhead
Internal Failure
Downtime, Engineering
Changes, Excess Inventory,
Disposal Costs, Reinsertion
Appraisal
Vendor Surveillance, Receiving
Inspection, Product Acceptance,
Process Control, Inspection Labor,
Quality Control Labor, Testing
Equipment Costs
External Failure
Consumer Affairs, Purchase
Changes, Service after Sales,
Product Liability, Lost Market
Share Delivery Delay

2010 - IUG
19
Classifying Quality
Costs

2010 - IUG
20

2010 - IUG
21
Preventing Poor Quality (Comparison)

Prevention Costs
Appraisal Costs
Benefit
Repair Costs
Prevention Costs
Failure Costs
Internal
External
Appraisal Costs
Before Quality
Cost
Alignment
After Quality
Cost
Alignment
Repair Costs
Failure Costs

2010 - IUG
22
Cost of Quality (other

version)
1.
Like all things there is a price to pay for quality. This

total cost can be split into two fundamental areas:
a. Non Conformance. This area covers the price paid
by not having quality systems or a quality product.
Examples of this are:
(1)
Rework. Doing the job over again because it wasn't right the
first time.
(2)
Scrap. Throwing away the results of your work because it is not
up to the required standard.
(3)
Waiting. Time wasted whilst waiting for other people.
(4)
Down Time. Not being able to do your job because a machine is
broken.
b. Conformance. Conformance is an aim of quality

assurance. This aim is achieved at a price. Examples of
this are:
(1)
Documentation. Writing work instructions, technical
instructions and producing paperwork.
(2)
Training. On the job training, quality training, etc.
(3)
Auditing. Internal, external and

2010 - IUG
extrinsic.
23
Cost of Quality (other

version)
: These two main areas can be split further as shown below. 2
FIGURE 1.3

2010 - IUG
24
Rule 1-10-100
1
Prevention
$
Correction
$
Failure
10
100
$
$
$
$
$
$

2010 - IUG
25
The 1:10:100 rule:

Re.1
spent on prevention will save Rs.10 spent on appraisal

and Rs.100 on failure costs.
One
dollar spent on prevention will save $10 on

appraisal and $100 on failure costs.
This
rule helps one to prioritize expenditure on prevention,

which is sure to bring in greater returns.
The earlier you detect and prevent a defect the more

you can save. If you catch a two cent resistor before
you use it and throw it away, you lose two Cents. If you
dont find it until it has been soldered into a computer
component, it may cost $10 to repair the part. If you
dont catch the component until it is in the computer
users hands, the repair will cost hundreds of dollars.
Indeed, if a $5000 computer has to be repaired in the
field, the expense may exceed the manufacturing cost.
2010 - IUG
26
Difficulties in using Quality costing
Management have not believed in the possibilities of improvement
Quality costing is demanding

It requires a lot of data of each activity related to quality
Other limitations
Does not resolve quality problems

Does not provide specific actions
vulnerable to short-term mismanagement
difficult to match effort and accomplishment
subject to measurement errors
may neglect important or include inappropriate costs

2010 - IUG
27
Steps in implementing quality cost
1.
2.
3.
4.
5.
6.
7.
8.
9.
Involve accountants right from the start

Decide purpose and objectives
Decide how to deal with overheads
Distinguish between basic work and quality related
activities
Collection data which offers the prospect of real
gains
Start by examining failure costs
Evaluate the costs of inspection
Analyze and use the data
Collecting and reporting quality cost data
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28
Preventing Poor Quality

Would it not make sense to prevent poor
quality products from happening?
How can this be done?
Whose responsibility is this?

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29
How to Prevent Poor Quality

Prepare to measure costs of quality
Determine categories of quality costs
Create measurement system that
captures categories of quality costs
Assign responsibility to collect data
Analyse collected data

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30
Determine Quality Cost Categories
Understand your product

Understand your process
Understand where problems occur
Determine precisely what goes wrong
Determine what costs represents each
problem
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31
Creating Data Collection System

Create measurement system
Attempt to harness existing financial
accounting system
Manipulate existing financial data
Collect costs as they occur
Whatever you do ensure costs are
accurate
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32
Assign Responsibility
Make individuals at all levels responsible
for collecting quality cost data:
If quality cost data is required then
make it the responsibility of the person
who creates the cost to collect the
data
If no one is responsible no one will bother

2010 - IUG
33
Analyse Collected Data

Data on its own is useless
You must have it analysed to be able to
extract meaning
Determine what knowledge you require
Develop an analysis system that provides
the knowledge you require

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34
Useful Quality Cost Knowledge
What you need to know is useful

What you do not need to know is useless
Only ask for knowledge you need to know
Demand that knowledge is presented so
that it can be understood easily

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35
Management is Responsible
Management decides what to produce in
terms of Products (goods and / or
services)
Management assigns responsibilities to
produce products
Management is accountable for effectively
using resources to produce products
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36
History of Activity-Based Costing
Term activity-based costing created in 1975 by Dr.

Robert Kaplan
Resulted from dissatisfaction with traditional accounting

categories
Identifies activities as the fundamental cost object of an

organization
Widely used in industries (e.g. FedEx, Texas Instruments)

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37
Benefits Associated With ABC

More
precise cost information
Improved
cost control and management
Improved
insight into cost causation
Better
performance measures

2010 - IUG
38
Definitions
Activity Based Costing (ABC) is a methodology that

measures the cost and performance of resources,
activities and cost objects. Cost objects consume
activities, and activities consume resources.
Activity Based Management (ABM) is the broad

discipline that focuses on achieving customer value
through the continuous management of activities.
ABM draws on ABC cost information and
performance measurement as a major (but not only)
source of information.
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39
The Link Between Quality and

Productivity
Effective quality improvement can be
instrumental in increasing productivity and
reducing cost.
The
cost of achieving quality improvements and

increased productivity is often small.

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40
Summary Slide
The
following Slides are for

understanding only (subject to
indirect Questions): 37, 38, 39,
40
Other
slides are required and

subjects to any type of Questions

2010
41

The Cost of Quality

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The Cost of Quality

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Total Quality Management

Total Quality Management - Spring

Understand Quality Costs

Why calculate Quality Cost

Benefits of using quality costing

Greater accuracy in the evaluation and forecasting of

Justification for investment in the prevention and

Ability to cost and compare performance across all

Identification and prioritization of activities,

Total Quality Management - Spring

Benefits of using quality costing (2)

Ability to set cost-reduction targets and then to measure

Ability to produce local data which improves

Provision of data to support formal quality management

Enable decisions about quality to be made in an objective

Promoting TQM and a company-wide quality improvement

costs are defined as costs associated with

cost of poor quality can add to other costs such

price of nonconformance (Philip Crosby) or the

Founders Point of View

The system for causing quality is prevention, not

Total Quality Management

Total Quality Management

Total Revenues & Costs

Return on Quality (ROQ)

Total Revenues & Costs

Founders Point of View

Total Quality Management - Spring

Cost of Achieving Good Quality

Cost of Poor Quality

External failure costs

costs of acquiring and

Examples of prevention Cost

costs of testing and inspecting materials,

costs of maintaining equipment used in

costs of time spent by operators to gather

Total Quality Management - Spring

Examples of appraisal cost

Total Quality Management - Spring

Internal Failure Costs

External Failure Costs

costs of handling and

costs of complying with

Defects, Scrap, Rework, Inspection,

Total Quality Management - Spring

Total Quality Management - Spring

Total Quality Management - Spring

Preventing Poor Quality (Comparison)

Total Quality Management - Spring

Cost of Quality (other

Like all things there is a price to pay for quality. This

Waiting. Time wasted whilst waiting for other people.

b. Conformance. Conformance is an aim of quality

Training. On the job training, quality training, etc.

Auditing. Internal, external and

Total Quality Management - Spring

Cost of Quality (other

Total Quality Management - Spring

Total Quality Management - Spring

The 1:10:100 rule:

spent on prevention will save Rs.10 spent on appraisal

dollar spent on prevention will save $10 on