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Quality Costs

All organizations generally identify the costs required to carry out


different functions viz. product design, manufacturing, marketing etc.
Until 1950s. this concept had not been extended to quality function,
except for the departmental activities of inspection and testing.
There were many other quality related costs but they were scattered
under different cost accounts, especially overheads.

During 1950s the concept of QUALITY COSTS started evolving.

QUALITY COSTS can have two meanings:


a) Cost of attaining quality.
b) Cost incurred because of poor quality.

Classification- Quality Costs


Quality Costs are classified into four broad categories:

Internal Failure Costs

External Failure Costs

Appraisal Costs

Prevention Costs

Quality Costs - Internal Failure

Costs

Costs associated with defects, errors or non-conformities


present in products which are detected before the product
is shipped to the external customer. These costs can be
saved if no defects are present in products before
shipment.
Scrap (Spoilage, Waste): Defective products can't be
economically repaired. Scrap costs include labor,
material and other costs in producing the scrap.
Rework: Non-conforming items which can be
economically repaired. Costs include expenses of
correcting the non-conformities.
Failure Analysis: Cost of analyzing
the
conforming products and determine causes.

non-

Non-Conforming Supplies: Cost of scrap and rework


because of non-conforming items received from
supplier.

Quality Costs -

Costs

Internal Failure

Sorting Costs: Costs involved in 100% inspection


of lots containing unacceptable levels of
defectives.
Re-inspection and Re-testing: Cost of reinspecting and re-testing the reworked items.
Avoidable Process Losses: Cost of losses which
occur
even
with
conforming
products
(overfilled containers because of variability in
filling and measuring equipment; leakage).
Downgrading: If products are of poor quality,
their selling price is to be reduced. Downgrading
costs are losses because of difference between
normal and reduced selling price.

Quality Costs - External Failure

Costs

Costs associated with defects, errors or non-conformities present in


products which are detected after the product is shipped to the
external customer.

Warranty Charges: Cost of repairing the product, cost of spares,


cost of investigation and adjustment of complaints.

Returned Material: Cost of receiving and replacing defective


products received from field.

Allowances/ Downgrading: Concessions made to customer to


accept a sub-standard product or concessions given even for a
conforming product which does not meet fitness-for-use
requirements.

Quality Costs - Appraisal

Costs

Costs associated with determining the level of


conformance to specifications for manufactured products.
Inspection and Testing: Cost of carrying out
incoming (purchased), process (semi-finished) and
outgoing (completed) inspection.
Maintaining accuracy of Testing Equipment: Cost of
calibration and maintaining accuracy of measuring
equipment.
Evaluation of Stock: Cost of evaluating quality of
stock stored in warehouse or as inventory in factory,
to determine the degree of degradation.
Quality Audits: Cost of performing audits.

Quality Costs - Prevention Costs

sts incurred to keep failure and appraisal costs at a minimum.

Quality Planning: Costs of all quality related activities


performed before manufacturing starts. Includes identifying
customers, their needs, determining product features, design
process etc.
New-Product Review: New product before launching is to be
tested for reliability, performance evaluation through prototype
testing etc.
Process Control: Costs involved in determining the status of
the production process. Cost of collecting data, calculating
control limits, sampling plans, analyzing results, making
decisions.
Supplier Quality Evaluation: Costs of evaluating different
suppliers before selection, during contract and after selection.
Training: Cost of preparing and conducting quality related
training programs.

WHY to evaluate Quality


1. QUANTIFY THE SIZE OF QUALITY PROBLEMS
Costs?
To quantify the size of quality problems in terms of money. This

helps in improving the communication between middle


managers and upper managers. Some managers say, We
do not need to spend time to translate defects into rupees. We
realize that quality is important and we already know what the major
problem areas are. But typically when a study is done, the managers
are surprised by two results:

a. The quality costs are much higher than what managers


otherwise anticipate. In some industries, these are more than 20% of
the sales revenue.
a. The distribution of quality costs, confirm some known problem areas but
also generally reveal areas not previously recognized or thought of.
2. IDENTIFY MAJOR OPPORTUNITIES FOR COST REDUCTION
The quality costs are evaluated to identify the major opportunities for cost
reduction. When quality costs are evaluated, we see that there are
different segments, each traceable to some specific cause. These
segments are unequal in size, and a relatively few of the segments account
for bulk of the costs. Identification of these vital few segments is
very helpful in reducing quality costs .

Hidden Quality Costs


The Quality costs discussed earlier are called obvious quality costs. There are
some other quality costs not covered under the obvious costs (the four categories
discussed earlier). These costs are incurred because of the poor quality of
product or service and are called Hidden Quality Costs.
Potential Lost sales: Because of the poor quality of products, company can
lose orders in future or can loss its goodwill. The cost incurred by the company
because of the lost customers is a hidden cost called Potential Lost Sales.
One method to partially measure this cost is to determine the number of
booked orders cancelled and convert the orders into rupees. The cancellation
of the orders can be because of many reasons, but it is a reflection of less than
satisfactory performance.
Redesigning : The cost of redesigning a product if it was not working
satisfactorily with the original design.
Changing
Process: The cost incurred in changing the manufacturing
processes or redesigning them if the product is not meeting quality
requirements with the existing manufacturing processes.
Carrying and Storage Costs : The storage costs and the carrying costs in
handling the inventory of defective products (Space, Overtime). The cost of
carrying extra or obsolete inventory. All these costs are termed as Extra
Manufacturing Costs.
Incorrect Orders Supplied.

Economic Models of Quality Costs


(Economic Models of Quality of Conformance)
1.

Economic Model of QualityTraditional (prevailed for much of the

2.

Economic Model of Quality Modern (was evolved in the late twentieth

twentieth century)
century)

Each model has three curves:


a)

Failure Cost Curve: Failure costs are Zero when products are 100%

b)

Appraisal + Prevention Cost Curve: These costs are zero when

c)

Total Cost Curve: This curve is the sum of first two curves and

conforming. These costs are Infinity when 0% conformance or 100% nonconforming products (at 100% defective, the number of good units is 0 so
cost per good unit is infinity).

products are 100% non-conforming. Costs rise as perfection is approached


i.e. towards 100% conformance. Amount of rise differs in two models.

represents the total cost of quality per good unit of product.

Economic Model of
Traditional

Quality Costs -

Economic Model of
Modern
.

Quality Costs -

Economic Models of Quality

Costs

For most part of 20th century (particularly earlier part; traditional


model of quality of conformance) was applicable, and in this model,
(A+P) costs consist mainly of appraisal and less of prevention
expenditures. Further appraisal is mainly carried out by humans, who
can neither maintain mental attention for 100% of time, nor can exert
muscular energy for 100% of time. This human fallibility limits the
efforts to attain perfection at finite costs. As a result in Model 1,
(A+P) costs rise to infinity near 100% conformance. In consequence,
the total cost curve also rises to infinity.
In the later part of the 20th century and in recent years, (A+P) costs
consist more of prevention. Further the appraisal activities can
comprise of automated inspection and testing, which reduces errors
due to monotony.
Also failure rates have come down considerably, because of better
technology, materials, etc., and use of robotics, and other forms of
automation.
All this can result in 100% conformance, at a limited cost. The future
lies in this strategy. But for present, we consider the traditional model.
In model 1, the total cost curve reaches a minimum at a level short of
perfection.

Different Zones in the Quality Cost


Curve (Model 1)

The total cost curve in the Economic Model of


Quality of Conformance has three distinct zones
(Model I).
Every company at any point of time lies in one of
the zones that can be identified from the
prevailing fraction (ratio) of each category of
quality costs.
The three zones are:

1. Zone of Improvement Projects


2. Zone of High Appraisal Costs
3. Zone of Indifference

ZONES OF TOTAL COST CURVE


.
.

F > 70%
P < 10%
ZONE 1

F = 50%
P+A = 50%
ZONE 2

A > 50%
F < 40%
ZONE 3

ZONE 1 : ZONE OF IMPROVEMENT PROJECTS


ZONE 2 : ZONE OF INDIFFERENCE
ZONE 3: ZONE OF HIGH APPARISAL COST

Zone of Improvement Projects


This zone is the left portion of the total quality cost curve.
Failure costs are typically high (> 70% of total quality costs).
Prevention costs are typically low (<10%).

Companies in this zone have opportunities to reduce total


quality costs by reducing failure costs.

Take improvement projects to increase quality of conformance.

Zone of High Appraisal Costs

This zone is the right portion of the total quality cost curve.

Here appraisal costs exceed failure costs ( Appraisal costs


> 50%; Failure costs < 40%;

Companies in this zone also have opportunities to reduce


total quality costs by reducing the appraisal costs. The
following can be done:

a) Compare cost of detecting defects to the damage, if it


remains undetected (e.g. Production process producing quality
characteristic X has improved over the years)
b) Review quality standards to check if they are realistic in
relation to fitness for use.
c)

Check feasibility to reduce


(Sampling rather than 100%).

amount

of

d) Feasibility to avoid duplication of inspection.

inspection

Zone of Indifference
This zone is the central portion of the
total quality cost curve.
Failure costs are about half the total
quality costs.
If the company is in this zone, it has
reached the optimum in terms of
worthwhile quality improvement projects
to pursue. Care should be taken that if
the company is even in this zone,
continuous improvement should be the
objective.

Economic Quality Cost Curves


(Some Points to be noted )

Models are conceptual. Illustrate the importance of an


optimum level of quality of conformance for many
industries.

There is a general belief that higher quality means higher


costs. These curves prove this belief to be wrong. For
most part of horizontal spectrum, improving degree of
conformance is resulting in lower total quality costs.

A reduction in total quality costs can be achieved by


moving towards the optimum (i.e. zone of indifference)
from either the zone of improvement projects or the zone
of high appraisal costs.

Hidden costs of quality are not included in these models.

Economic Quality Cost Curves


(Exceptions to these Models)
Economic Models of Quality Costs (Model I and Model II)
apply to a wide variety of industries. However, there are
some exceptions.

Industries which produce products having a critical affect on


human safety require 100% conformance even at
exceptionally high costs. e.g. space vehicles, nuclear power
plants etc.

Companies producing customized products for affluent


customers. Such customers often pay a premium price but
demand perfect quality.

QUALITY MANAGEMENT
( Jurans Quality Trilogy)
Quality Management is the process of
identifying and administering
the
activities needed to achieve quality
objectives of an organization. Quality
Management consists of three main
activities called Quality Trilogy

1) Quality Planning
2) Quality Control
3) Quality Improvement

Quality Planning
It is the set of all those quality tasks which are performed before
manufacturing operations have started. The Quality Planning
activities comprise of the following:
Identify the customer
Determine the customer needs
Develop product features that respond to customer needs
Establish quality goals
Develop a process that can produce the needed product
features
Prove the capability

Quality Planning
Identify the customer: Here the company identifies who are its
customers; internal, external and vendors.

Determine the customer needs: Long term survival of the company

depends upon meeting the needs of the customer. The company can conduct
market surveys, interview the customers to know their needs. Past
complaints, returns, claims can also be an important source.

Develop product features that respond to customer needs:

This refers to the QOD phase. Here design of the product is prepared which
can meet all customer needs.

Establish quality goals: The total cost from an organizational point of

view should be minimized, and the corresponding goals should be set.


e.g. how much scrap level is permissible, say 10%; how much is to be spent
on appraisal costs, how much on prevention costs etc.

Develop a process that can produce the needed product


features: This refers to the QOC phase. This step deals with the design of
tools, equipment and operations which can meet the design specifications.

Prove the capability: In this step, we check whether the system


selected will meet the design specifications or not. For this output is
obtained from a stable process and its level of operation is determined. If the
operating level is good, the process is termed as capable.

Quality Problems - Types


The

costs associated with poor quality are due to two


types of quality problems:

Sporadic Quality
Problems
Chronic Quality
Problems

Sporadic Problems
Most of the time, the performance of a production process (in terms of its defect
level) stays in a rather narrow range (say 10%). However occasionally the
performance departs greatly from the historic level and results in a spike on the
chart.
This spike is a result of some sudden change in the process. These occasional
departures from the usual levels are called sporadic quality problems.
Sporadic Quality problem is a sudden adverse change in the status quo, which
requires remedy through restoring the status quo (replacing a worn out
cutting tool; changing a depleted chemical reagent). Sporadic problems are dramatic
(an irate customer reacting to a shipment of bad parts) and must be given
immediate attention.
Different alarm signals will ring up.
In, response, we shall investigate, find out what has changed and restore the
performance back.
The names given to these actions are Fire Fighting or Trouble Shooting.
Sporadic problems are solved through Quality Control.

Sporadic & Chronic


Problems
Sporadic Hike
(departure from
historic level)
Random
variations
because of
chance causes

The
difference
between historical
level and improved
level
represents
chronic waste which
company
was
bearing
before
improvement.

Historic Level

Improved Level

Time

Chronic Problems
Suppose it is desired to reduce the regular level of 10% defective down to 4%.
This is a chronic quality problem because the 10% level has existed for a long
time.
Chronic problem is not a sudden or adverse change in the status quo. It is a
long standing adverse situation which requires remedy by changing the status
quo.
Because the chronic problem has existed for some time, it is often concluded,
with reluctance, that the 10% level must be lived with and accepted. Several
actions may be taken to condone and make this level legitimate. e.g. order an
extra 10% material so that despite the 10% wastage that takes place, enough
good product will be available to meet the delivery schedules.
Unlike sporadic problems which are dramatic, chronic problems are not
dramatic because they have been occurring for a long period of time (e.g. if
10% scrap has occurred in company for a long time, it is assumed to be
inevitable). Chronic problems are difficult to solve and accepted as inevitable.
This chronic problem goes on until some specific action is taken on the
process called Fire Prevention. Chronic problems are generally solved by
Improvement Process which is best achieved through project by project
approach. Solving Chronic Problems mean improving the level of performance
over yester-years.