Quality Cost Management Prepared by Douglas Cloud Pepperdine

Quality Cost Management Prepared by Douglas Cloud Pepperdine University 17 -1

Objectives 1. Define quality, describe thethis types of After studying four quality cost. chapter, you should be able to: 2. Prepare a quality cost report, and explain its use. 3. Explain why quality cost information is needed and how it is used. 4. Describe and prepare three different types of quality performance reports. 17 -2

The Meaning of Quality A quality product or service is one that meets or exceeds customer expectations. 17 -3

Distribution of Color Density of Sony Television Sets Sony of Tokyo TVs Sony of San Diego TVs Lower Specification Limit Target Value Upper Specification Limit 17 -4

Measuring the Costs of Quality § Prevention costs § Appraisal costs § Internal failure costs § External failure costs 17 -5

Quality Cost Measurement Prevention Costs Quality engineering Quality training Recruiting Quality audits Design reviews Quality circles Marketing research Vendor certification Appraisal (Detection) Costs Inspection of materials Packaging inspection Product acceptance Process acceptance Field testing Continuing supplier verification Prototype inspection 17 -6

Quality Cost Measurement Internal Failure Costs Scrap Rework Downtime (defect-related) Reinspection Retesting Design changes Repairs External Failure Costs Lost sales (performancerelated) Returns/allowances Warranties Discounts and defects Product liability Complaint adjustment Recalls Ill will 17 -7

Estimating Hidden Quality Costs are opportunity costs resulting from poor quality. q The Multiplier Method q The Market Research Method q The Taguchi Quality Loss Function 17 -8

The Multiplier Method The multiplier method assumes that the total failure cost is simply some multiple of measured failure costs: Total external failure cost = k(Measured external failure costs) where k is the multiplier effect If k = 4, and the measured external failure costs are $3 million, then the actual external failure costs are estimated to be $12 million. 17 -9

The Market Research Method The market research method uses formal market research methods to assess the effect of poor quality on sales and market share. Customer surveys and interviews with members of a company’s sales force can provide significant insights into the magnitude of a company’s hidden costs. Market research results can be used to project future profit losses attributable to poor quality. 17 -10

The Taguchi Quality Loss Function The Taguchi loss function assumes any variation from the target value of a quality characteristic causes hidden quality costs. Furthermore, the hidden quality costs increase quadratically as the actual value deviates from the target value. 17 -11

The Taguchi Quality Loss Function L(y) = k(y – T)² k = A proportionately constant dependent upon the organization’s external failure cost structure y = Actual value of quality characteristic T = Target value of quality characteristic L = Quality loss 17 -12

The Taguchi Quality Loss Function $ Cost Lower Specification Limit Target Value Upper Specification Limit 17 -13

Quality Cost Report Time Gained Unit No. (Lost) (y) 1 -1 y-T -1 (y –T)² 1 k(y-T)² $ 2. 00 2 2 2 4 8. 00 3 4 4 16 32. 00 4 -3 -3 9 18. 00 30 $60. 00 ÷ 4 7. 5 $15. 00 Units Average 17 -14

Goates Company Quality Cost Report For the Year Ended June 30, 2001 Quality Costs Prevention costs: Quality training Reliability engineering Appraisal costs: Materials inspection Product acceptance Process acceptance $10, 000 65, 000 $ 75, 000 $ 5, 000 20, 000 75, 000 100, 000 % of Sales 1. 50 % 2. 00 Continued 17 -15

Quality Costs Internal failure costs: Scrap Rework External failure costs: Customer complaints Warranty Returns and allowances Total quality costs $150, 000 100, 000 $150, 000 250, 000 175, 000 % of Sales 250, 000 5. 00 % 575, 000 $1, 000 11. 50 20. 00 % 17 -16

Quality Cost Categories 8% 10% 57% 25% 17 -17

AQL—Quality Cost Graph Cost Failure Control 0 Optimal (AQL) Percent Defects 100% 17 -18

Zero-Defect Quality Cost Graph Cost Failure Control 0 100% Percent Defects 17 -19

Strategy Pricing Revenues (1, 000 @ $20) $20, 000 Cost of goods sold -15, 000 Operating expenses - 3, 000 Product-line income $ 2, 000 17 -20

Strategy Pricing Data from the low-level instruments are: Quality costs (estimated): Inspection of materials Scrap Rejects Rework Product inspection Warranty work $ 200, 000 800, 000 500, 000 400, 000 300, 000 1, 000 Total estimate $3, 200, 000 17 -21

Reports: New Product Analysis, Project #675 Projected sales potential: 44, 000 units Production capacity: 45, 000 units Unit selling price: $60 Unit variable costs: $40 Fixed costs: Product development Manufacturing Selling Total $ 500, 000 200, 000 300, 000 $1, 000 Projected break-even: 50, 000 units Decision: Reject Reason(s): The break-even point is greater than the production capacity as well as the projected sales volume. 17 -22

ISO 9000 Standards ISO 8402: Quality—Vocabulary ISO 9000: Quality management and quality assurance standards—Guidelines for selection and use ISO 9001: Quality systems—Model for quality assurance in design/development, production, installation, and servicing ISO 9002: Quality systems—Model for quality assurance in production and installation ISO 9003: Quality systems—Model for quality assurance in final inspection and test ISO 9004: Quality management and quality system elements —Guidelines 17 -23

Controlling Quality Costs Zero-defect standards reflects a philosophy of total quality control and calls for products and services to be produced and delivered that meet the targeted value. 17 -24

Types of Quality Performance Reports 1. Progress with respect to a current-period standard or goal (an interim standard report) 2. The progress trend since the inception of the quality-improvement program (a multipleperiod trend report) 3. Progress with respect to the long-range standard or goal (a long-range report) 17 -25

AMD, Inc. Interim Standard Performance Report: Quality Costs For the Year Ended June 30, 2004 Actual Costs Prevention costs: Quality training Reliability engineering Total prevention costs Appraisal costs: Materials inspection Product acceptance Process acceptance Total appraisal costs Budgeted Costs $ 80, 000 160, 000 $240, 000 $ $ 75, 000 40, 000 65, 000 $180, 000 $ 83, 000 40, 000 55, 000 $178, 000 $ 8, 000 F 0 10, 000 U $ 2, 000 U Continued Variance $ 0 0 0 17 -26

AMD, Inc. Interim Standard Performance Report: Quality Costs For the Year Ended June 30, 2004 Actual Costs Internal failure costs: Scrap Rework Total internal failure External failure costs: Customer complaints Warranty Repair Total external failure Total quality costs Percentage of actual sales Budgeted Costs Variance $ 50, 000 100, 000 $150, 000 $ 44, 000 96, 500 $140, 500 $ 6, 000 U 3, 500 U $ 9, 500 U $ 65, 000 78, 000 87, 000 $230, 000 $800, 000 $ 65, 000 68, 500 79, 000 $212, 500 $771, 000 $ 0 9, 500 U 8, 000 U $17, 500 U $29, 000 U 10. 0% 9. 64% 0. 36% U 17 -27

Multiple-Period Trend Report Quality Costs Actual Sales % of Sales 2000 $1, 000 $5, 000 2001 990, 000 5, 500, 000 18. 0 2002 900, 000 6, 000 15. 0 2003 899, 000 6, 200, 000 14. 0 2004 800, 000 8, 000 10. 0 20. 0 % 17 -28

Multiple-Period Trend Report Prevention Appraisal Internal Failure External Failure 10. 0 % 2000 2. 0 % 6. 0 % 2001 3. 0 2. 4 4. 0 8. 6 2002 3. 0 6. 0 2003 4. 0 3. 0 2. 5 4. 5 2004 4. 1 2. 4 2. 0 1. 5 17 -29

Multiple-Period Trend Graph: Total Quality Costs Percentage of Sales 25 20 15 10 5 0 2001 2002 2003 2004 17 -30

Percentage of Sales Multiple-Period Trend Graph: Individual Quality Cost Categories 17 -31

Percentage of Sales Multiple-Period Trend Graph: Relative Quality Costs 17 -32

End of Chapter 17 -33

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