Cost of quality

Basic concept:
Cost of quality refers to the sum of costs incurred to prevent non-conformance
from happening and the costs incurred when non-conformance in products
and system occurs which is commonly known as cost of poor quality

Cost of poor quality is actually the cost of

doing things wrong
Cost of poor quality refers to the costs associated
with providing poor quality product or service

Why do we need to know COQ?

This tool speaks in the language of management $$$$
Research shows that cost of poor quality can range from
15 % to 40 % of the business costs
It can prioritize quality improvement actions
Cost of quality data shows how profit is affected by quality
It helps identify the redundant activities

Hidden Failure Costs

Scrap

Warranty

Rework

Engineering time
Management time
Shop and field downtime
Increased inventory
Decreased capacity
Customer dissatisfaction
Lost sales
Lost customer trust

Cost of quality categories

Quality costs fall into two main

categories:

1 - Cost of achieving good

quality
Prevention Costs
Appraisal Costs
2 - Cost of poor quality
Internal failure Costs
failure Costs

External

Preventive costs:
Preventive costs are the cost of all activities specifically
designed to prevent poor quality product or service.
These costs are incurred to keep appraisal and failure
costs at minimum.

Examples of preventive costs:

Process Capability studies

Market surveys
Pilot scale projects and testing
Procedure writing
Vendor evaluation and testing
Training and education
Quality improvement projects
Customer survey
House keeping
Design review

Appraisal costs:
These are the costs associated with measuring,
evaluating or auditing product or service to assure
conformance to standard or performance requirement.

Examples of Appraisal costs:

Internal audits
Incoming material inspection
Laboratory testing
Calibration costs
In process material inspection
Equipment calibration
Procedure evaluation
Final product inspection
Automated testing tools

Internal failure cost

These are the costs incurred when product or service fail
to meet quality requirements prior to the transfer of
ownership to the customer.

Examples of internal failure costs:

Rework
Scrap
Overtime
Downtime
Excess inventory
Excess material handling
Redesign
Downgrading
Retesting
100% sorting inspection
Scrap & rework - supplier

External failure cost

These are the costs incurred by a business due to failure
of product or service at the customer end. These costs
results into warranty claims and loss of reputation.

Examples of external failure costs:

Warranty costs
Customer dissatisfaction
Loss of market share
Price concession
Premium freight
Product recalls
Time spent to resolve customer complaints
Restocking costs
Other penalties

Measuring cost of quality

COQ data can be measured and presented in many
different ways.

% age of sales
% age of profits
% age of manufacturing cost
Rs per direct labor hr
Rs per unit of product

Steps in implementing quality costs

The following sequence applies to most organizations
1.
2.
3.
4.
5.

Review the literature on quality costs or consult others in similar

industries who are using the same tool.
Select one organizational unit of the company to serve as a pilot
site
Discuss the objectives of the study with the key people in the
organization
Collect whatever cost data are conveniently available from the
accounting system
Make a proposal to management for a full study

6.

Publish a draft of the categories defining the cost of poor quality

7.

Finalize the definitions and secure management approval

8.

Secure agreement on responsibility for data collection and report

preparation

9.

Collect and summarize the data

10.

Present the cost results to management along with the results of

a demonstration quality improvement project

Case study: H&S motors

The H&S motor company produces small motors for use in lawnmowers and
garden equipment. The company instituted a quality improvement program in 1999
and has recorded the following quality cost data and accounting measures for 4
years.

The company wants to assess its quality assurance program and develop quality
index using sales basis for the 4 year period.

Key points of study:

Approximately 75% of the H&Ss total quality costs are a result of

internal and external failures.
In 2000 company spent more money on product monitoring and
inspection that resulted into high appraisal cost.
With this strategy, H&S was able to identify more defective items,
resulting in an apparent increase in internal failure cost and lower
external failure cost.
In year 2001 & 2002 company spent more money on prevention
activities i.e. training of employees, redesigning the production
process and planning how to build in product quality etc.
Prevention costs increased by more than 300 % during the 4 year
period resulted into decrease in overall quality costs.

The H&S company also desired to develop index numbers using quality
costs as a proportion of sales.
Quality index no. for 1999 sales is:
= (810,400/4,360,000)*100 = 18.58 and similarly for other years:

Year

Quality sales index

1999

18.58

2000

19.32

2001

12.66

2002

10.49

These index no's alone provide little insight into the effectiveness of the
quality management program; however as a standard to make comparisons
over time they can be useful.

Conclusion:
When the cost of achieving good quality
increases; cost of poor quality decreases
automatically.

Benefits of using quality costs

Quantify the size of the quality problem
Identify major opportunities for cost reductions
It helps in Identification of opportunities for reducing customer
dissatisfaction and associated threats to product salability
Measures the results of quality improvement activities
Align quality goals with organizational goals
Set cost reduction targets