Cost of Quality

When it comes to making decisions, most managers speak money.

The Cost Of Quality theory provides the vocabulary to communicate between the quality professionals and
their managers.
The Meaning of "Quality Costs
The term quality costs has different meanings to different people.
Some equate quality costs with the costs of poor quality due to finding and correcting defective
work.
Others equate the term with the costs to attain good quality.
Others use the term to mean the costs of running the quality department.
In my site, the term "quality costs" means the cost of poor quality.
Normally, quality-related costs run in the range of 10 to 30 percent of sales or 25 to 40 percent of
operating expenses. Some of these costs are visible and some hidden. The cost of quality not only
includes factory operation, but the support operations significantly contribute too.

Most companies can avoid quality costs.

But these companies do not assign clear responsibility for action to reduce them. Nor do they create
a structured approach for doing so.

Tips You Must Know:

The language of money is essential.

Without the quality cost figures, communicating poor quality information to upper management is
slow and ineffective.

Quality cost measurement (only) does not solve quality problems.

Some organizations publish it in the form of a scoreboard but these efforts
fail because of lack of action.

Don't limit the scope of quality costs.

Most people focus quality cost only on the cost of nonconformities.
Quality costs include other unmeasured costs such as lost sales due to poor quality.

We call this a hidden cost because we cannot easily measured it

Categories of Cost of Quality:

1- Internal Failure Costs
The costs of deficiencies discovered before delivery. We associate deficiencies or nonconformities with the
failure to meet explicit requirements or implicit needs of external or internal customers.
2- External Failure Costs
The costs associated with deficiencies found after product is received by the customer. These also
include lost opportunities for sales revenue.
3- Appraisal Costs
The costs incurred to determine the degree of conformance to quality requirements. For example
inspection costs is an appraisal cost.
4- Prevention Costs
The costs incurred to keep failure and appraisal costs to a minimum. For example product design or Poke
Yoke costs are prevention costs.
The total cost of quality is the sum of the four above categories.

Creating an Initial Quality Cost Study

1. Review the literature on quality costs. Consult with others in similar industries who have had
experience with applying quality cost concepts.
2. Select one organizational unit of the company to serve as a pilot site.
This unit may be one plant, one large department, one product line, etc.
3. Discuss the objectives of the study with the key people in the organization, particularly those in the
accounting function. Two objectives are paramount...Determine the size of the quality problem and
identify specific projects for improvement.
4. Collect whatever cost data are conveniently available from the accounting system. Use this
information to gain management support to make a full cost of quality study.
5. The proposal should provide for a task force of all concerned parties. The task force will identify the
work activities that contribute to the cost of poor quality. Use work records, job descriptions,
flowcharts, interviews, and brainstorming to identify these activities.
6. Publish a draft of the categories defining the cost of quality. Secure comments and revise.
7. Finalize the definitions and secure management approval.
8. Assign responsibility for data collection and report preparation.
9. Collect and summarize the data. Ideally, this should be done by accounting.
10. Present the initial and final quality cost results from the quality improvement project to
management. Request authorization to proceed with a broader company wide program of
measuring the costs and pursuing projects.
Clearly, the sequence must be tailored for each organization.

Capturing Quality Cost Tips

1. Established expense accounts.
Examples include inspection department appraisal activities and customer response warranty
expenses.
2. Define and analysis the ingredients of established expense accounts: For example, suppose an
account called customer returns reports the cost of all goods returned. Some customers returned
defective goods. Categorized these as cost of poor quality. Some customers return goods to reduce
inventory. These are not cost of poor quality. You must break the customer returns into two separate
expense accounts. To help distinguish the quality costs returns, someone must study of the return
documents and classify all returns.
3. Improve accounting documents:
For example, some production department employees conduct product inspection. By securing
their names, the associated payroll data, and inspection time you can quantify these cost of
quality.
4. Include estimates:
Input from knowledgeable personnel is clearly important.
5. Use temporary records.
For example, some production workers spend part of their time repairing defective product. Here
you can create a temporary record to determine the repair time and thereby the repair cost.
This cost can then be projected for the study time period.
6. Utilize work sampling:
Take random observations of activities. Within a few sampling you can calculate the percent of
time spent in each of a number of predefined quality cost categories.
Ask employees to record the observation as prevention, appraisal, failure, or first time work.
7. Improve allocation of total resources:
For example, some engineers are part-time engaged in making product failure analyses.
The engineering department, however, makes no provision for charging engineering time to
multiple accounts.
Ask each engineer to make an estimate of time spent on product failure analysis.
Do this by keeping a temporary engineering activity log for several representative weeks.
Categorized time spent due to a product failure as a failure cost.
8. Track unit cost data:
Here, the cost of correcting one error is estimated and multiplied by the number of errors per year.

Examples include billing errors and scrap.

Note that the unit cost per error may consist of corrections costs from several departments.
9. Utilize market research data:
Cost of quality includes lost sales revenue due to poor quality.
Although difficult to estimate, market research studies on customer satisfaction and loyalty can
provide input data on dissatisfied customers and customer defections.