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Unit VQuality cost managementCost of quality reportingquality costs Quality cost information and decisionmaking Controlling quality costsProductivitymeasurement and control Environmental costs Measurement and control.

30 November 2012 1R.Vasanthagopal, Ph.D.

Quality Cost Management (QCM)

QCM is the process of undertaking quality related activitiesin the organisation to find ways and means to minimizetotal quality costs

There are numerous quality-related activities(such asinspecting or testing with the objective of detecting badproducts) all of which consume resources that determinethe level of quality costs incurred by a firm.

30 November 2012 2R.Vasanthagopal, Ph.D.

Philosophy of QCM

Detecting bad products and correcting them before they aresent to customers is usually less expensive than lettingthem be acquired by customers

If quality is improved, then customer satisfaction increases;if customer satisfaction increases, then market share willincrease; and if market share increases, then revenues willincrease; moreover, if quality improves, then operatingcosts will also decrease.

Thus, QCM enhances a firms financial and competitiveposition.

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Quality Costs

Quality Quality is the degree or grade of excellence. It is a relative measure of goodness. From customers point of view a quality product or service

is one that meets or exceeds customer expectations. Customer expectations relate to attributes such as product

performance, reliability, durability, and fitness for use.


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Quality Costs (cont.)

Quality Costs The costs of performing quality related activities to prevent

poor quality Quality related activities are-

Control activities and Failure activities Control activities are performed by an organization to

prevent or detect poor quality The cost is called Prevention/Control costs


Quality Costs (cont.)

Failure activities are performed by an organization or itscustomers in response to poor quality

The cost is called Failure costsThere are four categories of quality costs:

(1) prevention costs,(2) appraisal costs (3) internal failure costs, and (4) external failure costs.


Costs Meaning Example

PreventionCosts

costs incurred incurred to prevent poorquality in the products or services beingproduced.

Quality engineering, quality trainingsupplier evaluation and selection,quality audits, quality circles

Appraisalcosts

Costs incurred to determine whetherproducts and services are conformingto their requirements or customerneeds.

inspecting and testing materials,packaging inspection, supervisingappraisal activities, outsideendorsements.

Internalfailure costs

Costs incurred because products andservices do not conformto specifications or customer needs.

scrap, rework, re-inspection, retesting,and design changes.

Externalfailure costs

Costs incurred because products andservices fail to conform to requirementsor satisfy customer needs after beingdelivered to customers.

Costs of recalls, lost sales because ofpoor product performance, warranties,repair,

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Quality Costs Report

Quality cost reporting is the process of communicatingquality costs to management, which enable them to assessits relative importance and impact on finance

A quality cost reporting system is essential if anorganization is serious about improving and controllingquality costs.

The report reveals- the magnitude of the quality costs in each category,

allowing managers to assess their financial impact. the distribution of quality costs by category, allowing

managers to assess the relative importance of eachcategory.


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Quality Cost Report (cont.)Goates Company

Quality Cost Report For the Year Ended 31st Dec., 2012Quality Costs Percentage of Sales

Prevention costs:Quality training 10,000Reliability engineering 65,000 75,000 1.50%

Appraisal costs:Materials inspection 5,000Product acceptance 20,000Process acceptance 75,000 100,000 2.00

Internal failure costs:Scrap 150,000Rework 100,000 250,000 5.00

External failure costs:Customer complaints 150,000Warranty 250,000Returns and allowances 175,000 575,000 11.50Total quality costs 1,000,000 20.00%


Quality Cost Report (cont.)

The financial significance of quality costs can be assessedmore easily by expressing these costs as a percentage ofactual sales.

The quality cost report of Goates Company during 2012depicts that quality costs represent 20 percent of sales.

Given the rule of thumb that quality costs should be nomore than 2 to 4 percent, Goates has ample opportunity toimprove profits by decreasing quality costs.


Acceptable Quality Level (AQL) Failure and control costs are inverse in relationships As control costs increase, failure costs should decrease. AQL cost is an optimal trade off between these two costs. This point represents the minimum level of total quality

costs. It is the optimal balance between control costs andfailure costs

After this point, no further improvement is possible. Thus,AQL identifies an optimal level of defective units.

Note that this level does not correspond to that of zerodefects.


AQL Quality Cost Graph

FailureCost

ControlOptimal AQLPercent Defects


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Quality Cost Information and Decision Making

Quality cost information helps decision making in thefollowing areas

1. strategic pricing2. cost-volume-profit analysis3. Strategic design decisions4. Certifying quality through ISO 9000


Certifying Quality through ISO 9000

ISO (pronounced ICE-OH) 9000 is a standard of qualitymeasurement.

Developed by the International Organization forStandardization in Geneva, Switzerland.

It is a certification/ audit by an independent test companythat the company in question meets certain qualitystandards.

These standards do not apply to the production of aparticular product or service. Instead, they apply to the wayin which a company ensures quality, for example, by testingproducts, training employees, keeping records, and fixingdefects.30 November 2012 R.Vasanthagopal, Ph.D. 14

Controlling Quality Costs

Good quality cost management requires that quality costsbe reported and controlled

Control enables managers to compare actual outcomeswith standard outcomes to gauge performance and takeany necessary corrective actions.

Quality cost reports are essential to quality improvementprograms.


Choosing the Quality Standard-Approach

1. The Traditional ApproachIn the traditional approach, the appropriate quality standardis an acceptable quality level (AQL).For example, the AQL may be set at 3 percent.

2. The Total Quality ApproachIt is a new attitude toward quality- A more sensible standard- This standard will be referred to as the robust zero defectsstandard.


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Productivity Measurement and Control

Productivity is concerned with producing output efficiently,and it specifically addresses the relationship of output andthe inputs used to produce the output.

Productivity ratio= Output/Input


Productivity Measurement and Control (Cont.)

Productivity measurement is simply a quantitativeassessment of productivity changes.

The objective is to assess whether productive efficiencyhas increased or decreased.

Productivity measurement can be actual or prospective. Actual productivity measurement allows managers to

assess, monitor, and control changes. Prospective measurement is forward-looking, and it serves

as input for strategic decision making.


Productivity Measurement and Control (Cont.)Partial and Total Productivity Measurement Productivity measures can be developed for each input

separately or for all inputs jointly. Measuring productivity for one input at a time is called

partial productivity measurement. Partial measures allow managers to focus on the use of a

particular input. Measuring productivity for all inputs at once is called total

productivity measurement.


Productivity Measurement and Control (Cont.)

In practice, it may not be necessary to measure the effectof all inputs.

Many firms measure the productivity of only those factorsthat are thought to be relevant indicators of organizationalperformance and success.

Thus, in practical terms, total productivity measurement canbe defined as focusing on a limited number of inputs,which, in total, indicates organizational success.


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Environmental Costs Measurement and Control

Environmental costs are costs that are incurredbecause poor environmental quality exists or may exist.

Environmental costs are associated with the creation,detection, remediation, and prevention of environmentaldegradation.

Environmental costs can be classified into four categories: Prevention costs, detection costs, internal failure costs, and external failure costs.

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Prevention costs(Pollutionprevention activitiesare often referred toas P2 activities)

The costs of activitiescarried out to prevent theproduction of contaminantsand/or waste that couldcause damage to theenvironment.

evaluating and selectingequipment to control pollution,training employees, studyingenvironmental impacts,undertaking environmentalresearch, obtaining ISO 14001certification, etc

Detection costs The costs of activitiesexecuted to determine ifproducts, processes, andother activities within thefirm are in compliance withappropriate environmentalstandards.

auditing environmental activities,inspecting products andProcesses, carrying outcontamination tests, etc


Internal failure costs

The costs of activitiesperformed becausecontaminantsand waste have beenproduced but not dischargedinto the environment.

operating equipment to minimizeor eliminate pollution, treatingand disposing of toxic materials,maintaining pollutionequipment, etc.

External failure costs

The costs of activitiesperformed after dischargingcontaminants and waste intothe environment.

re cleaning up a polluted lake,settlingpersonal injury claims settlingpropertydamage claims, losing sales froma bad environmentalreputation, etc.


Environmental Cost Report

Environmental report is a category wise report ofenvironmental costs, which reveal the impact ofenvironmental costs on firm profitability and the relativeamounts expended in each category.

Environmental cost reporting is essential if an organizationis serious about improving its environmental performanceand controlling environmental costs.


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Environmental Cost ReportVerde Corporation

Environmental Cost Report For the Year Ended December 31, 2011Environmental Costs % of Operating Costs

Prevention costs:Training employees 180,000Designing products 540,000Selecting equipment 120,000 840,000 2.80%

Detection costs:Inspecting processes 720,000Developing measures 240,000 960,000 3.20

Internal failure costs:Operating pollution equipment 1,200,000Maintaining pollution equipment 600,000 1,800,000 6.00

External failure costs:Cleaning up lake 2,700,000Restoring land 1,500,000Property damage claim 1,200,000 5,400,000 18.00Totals 9,000,000 30.00%


Environmental Cost Reduction

Investing more in prevention (P2) and detection activitiescan bring about a significant reduction in environmentalfailure costs.

The lowest environmental costs are attainable at the zero-damage point much like the zero defects point of the totalquality cost model.

Thus, an eco efficient solution would focus on preventionwith the usual justification that prevention is cheaper thanthe cure.


scm-unit-5 imu-c

Documents

quality costsquality

quality product

categories of quality

minimizetotal quality

quality costs cont

quality engineering

quality audits

costs of recalls