Cost of Quality
- Productivity and Quality Relationship
- Cost of Quality
- Cost of Conformance
- Cost of Prevention
- Appraisal Cost
- Appraisal Approach
- Failure Cost
- Internal Failure Cost
- External Failure Cost
- Quality Cost Estimation in Engineering and Service Industries
- Cost Estimating Methods and Best Practices
- Methods for Estimating Cost
- Case Study: A Foundry Shop
- Points to Remember
- Self-Assessment Questions
Productivity and Quality Relationship
Productivity can be defined as the ratio of the entire yield to total effort, i.e. input materials, manpower, investment cost, etc. Quality determines the conformance, performance, reliability, durability, and thus measures the overall performance. A positive correlation always exists between quality and productivity. Product sales can be increased by increasing quality. It also results in a defectless product, enhances efficiency, decreases the replacement of products, and improves customer satisfaction. In fact, better quality acts as the best advertisement through customer satisfaction, and decreases the costs associated with the sales department. In the manufacturing sector, manual operations have been replaced by computerised operations to improve quality. In such a manufacturing environment, standardisation and precision will likely reduce production time and defects and enhance productivity. Increased productivity reduces costs and also obtained competitiveness for organisations. Consumers are also satisfied, as they get good quality products for their money. Thus, enhancing productivity is not only measured in labour performance, but also in other stakeholders of the organisation. It is the sum total of efficiency and the aim to develop a win-win situation for the organisation in inter- and intra-level conditions. The productivity and quality relationship have been shown in Figure 6.1.
Cost of Quality
The Cost of Quality (COQ) is defined as tangible costs, which are accounted based on the actual transaction costs of the production process. These costs involve the commonly used conventional Prevention-Appraisal-Failure (PAF) model projected by Feigenbaum. The theory of COQ has been executed effectively in manufacturing and service organisations. However, COQ has focused on inter-firm quality, but not the complete supply chain. COQ acts as an accounting method that conveys the effect of bad quality and the activities of a quality programme and efforts into a common language for managers. COQ is a language that each member of the supply chain can understand, which is essential as it affects processing costs and consumers’ needs. Thus, it is critical to extend COQ as a peripheral measure and combine these costs into SC modelling. Obvious examples include:
- 1. The adaptation of a manufactured item.
- 2. The re-testing of an assembly.
- 3. The modernisation of equipment.
- 4. The rectification of a bank statement.
FIGURE 6.1 Productivity and quality relationship.
The cost of quality is generally classified into four categories:
- 1. External failure cost.
- 2. Internal failure cost.
- 3. Inspection (appraisal) cost.
- 4. Prevention cost.
The cost of quality classification is shown in Figure 6.2.
Cost of Conformance
Cost of conformance is defined as the element of cost to avoid poor quality of products. It consists of costs associated with quality-assuring activities, like process
FIGURE 6.2 The cost of quality classification.
standardisation, training programmes, and costs associated with quality controlling activities, like reviewing, auditing, inspecting, and testing.
Cost of conformance is then divided into two types -
- 1. Prevention cost.
- 2. Appraisal cost.
The preventive costs are the costs due to enhancing the quality in production and servicing so that any fluctuation in process will be accepted either on upper or lower range of control charts. These costs generally consist of workers’ guidance costs and equipping the workplace with advanced machinery and technologies. These also involve activities in the documentation process. These are the activities that costs are associated with and incurred:
a. Collecting information on consumers’ needs by proper surveying.
b. Transfer of consumers’ needs into the design and documentation stage.
c. Checking the authentication of suppliers.
d. Proper training of employees to enhance their capabilities.
e. Quality administration.
Appraising cost is another element in this category. This cost includes standardisation of the processes and activities so that a high level of quality in products and processes can be achieved. These costs are further incurred by the following activities or processes as elaborated below.
a. Testing and inspecting the data.
b. Inspecting the facilities provided by the suppliers.
c. Evaluating the quality during packaging and dispatching.
d. Performing different types of non-destructive testing.
e. Field trials of new products.
Cost of Prevention
One of the easiest ways to reduce the quality cost is to avoid defects before the first stage of production. This is very much less expensive, as it is easier to prevent a defect than finding and correcting the defect after it has happened. Costs associated with this are mainly focused on activities whose function is to avoid the defects. Organisations adopt some methods to avoid defects, for example, statistical quality control, value engineering, proper training of workers, and a number of techniques from TQM.
In this, there are costs incurred in QCs and statistical quality control. QCs involve groups of workers so that they can get together on continuous basis and debate some special issues to improve the quality awareness programme. Both managers and other employees can participate in this circle.
Statistical Quality Control (SQC) is one of the methods to avoid defects in products by improving processes. SQC basically involves seven principles. The first four techniques are non-statistical, and the other three are based on statistical
- 1. Pareto diagram.
- 2. Process flow diagram.
- 3. Cause-and-effect diagram.
- 4. Check sheets.
- 5. Histogram.
- 6. Control chart for variables and attributes.
- 7. Graphs.
Some organisations offer technological help for their suppliers in avoiding raw material defects. Mainly in the case of just-in-time (JIT), this type of help is necessary for suppliers. In a JIT purchasing system, all vendors and suppliers operate by supplying at just the correct time, in the right situation, and in the right quantity to meet the consumers’ needs. There are advantages of using JIT system to reduce prevention cost, as follows:
- 1. Reduced inventory cost.
- 2. Reduced material handling cost.
- 3. Reduced manpower and other facility at the time of production.
- 4. Easy to maintain a level of quality with lower costs.
- 5. Reduced inspection cost of supplier raw materials.
This cost is another element of quality control cost. Appraisal costs are a specific category in cost estimation. Organisations incur this cost to ensure their products and services are up to the expectations of consumers and other regulatory bodies of their country. These costs also consist of testing and inspecting expense.
Appraisal costs may include following categories:
- 1. Inspection on job floor.
- 2. Following international standard in processes.
- 3. Laboratory inspection.
- 4. Sharing technologies with other firms.
- 5. Continuous meetings of top management.
The appraisal approach values assets based on the below factors:
- 1. Quality of services.
- 2. The income generated from the products and services through consumers.
- 3. Market value of asset, especially when consumers may pay more or less than actual value.
This cost has a great and immediate impact on any organisation’s performance. Whenever a breakdown occurs, there will always be lost profit. This cost may include following elements
- 4. Lost profit.
- 5. The cost of the repair.
- 6. The constant and unpredictable operational wages exhausted during the downtime.
Usually these costs are huge for any organisation per year. These costs are normally recognised by top management even after bankruptcy. Failure costs are mainly incurred as during failure, whether it is of machinery or manpower, no production takes place, though inventory carrying costs and other maintenance costs or repairing costs are incurred continuously. Thus, fixed costs are continuously increasing, but there is no production taking place. Sometimes these costs are difficult to avoid for department managers and other top management.
There are two type of elements into which failure cost can be classified namely:
- 1. Internal failure cost.
- 2. External failure cost.
Total external and internal cost includes the following elements:
- 1. Labour: Both direct and indirect.
- 2. Product waste: This includes product repair and rework costs.
- 3. Services: This includes servicing of failed machinery and equipment cost.
- 4. Cost incurred due to inadequate materials supplied by suppliers.
- 5. Some additional costs of miscellaneous failures.
Internal Failure Cost
This cost occurs with non-conforming products and services namely:
- 1. Product scrapping costs: This cost is associated with non-usable products.
- 2. Product or machinery repair costs.
- 3. Work environment reconditioning costs.
Internal failure costs consist of the following elements of non-conformance costs:
a. Failure cost during the designing phase of the products: This cost is mainly incurred due to inadequate design, reworking on design changes, and scrap produced due to design changes of products.
b. Failure cost due to purchasing: This cost is mainly incurred due to rejection of outsourced equipment and other raw materials, replacement of outsourced facilities, suppliers’ action correction, etc.
c. Operational failure cost: This cost includes a major portion of internal failure cost due to operationally unsuitable products or services, resource reviewing, product scrapping costs, internally active labour costs, etc.
External Failure Cost
This cost is mainly incurred after products or services have been delivered to consumers. This cost may include the following elements:
- 1. Eliminating customers’ complaints, and providing home services.
- 2. Back-ordering products for the consumers.
- 3. Redesigning costs due to faulty design steps.
- 4. Warranty costs paid by the organisation for repairing, cleaning, and poor working condition of the product.
- 5. Costs paid for damage and destruction to consumers and workplaces by products delivered by the organisation.
- 6. Penalties imposed by government regulatory bodies on the organisation due to its poor performance.
- 7. Cost paid to the dissatisfied consumers in the form of rewards or cashback.
- 8. Costs incurred by the organisation to prevent the loss due to fall in sales.
Quality Cost Estimation in Engineering and Service Industries
Quality cost estimation in engineering and service industries includes managing of activity expenditure; it is estimating and management with proper monitoring, appraising the processes and facilities, and finally, risk analysis. The cost estimation process balances between expenditure, cost, and the period of estimation. They seek the optimum balance between cost, quality, and time requirements. Cost engineers play a very important role in cost estimation, as their practical knowledge and information helps in analysing all elements of cost estimation as discussed above (Figure 6.3).
Cost Estimating Methods and Best Practices
Estimation of quality is the description of quality enrichment as per the estimation. These enrichments have to function according to the benchmarks set by government organisations based on various quality standards or Indian standard organisation standards. There are other aspects of quality estimation other than its enrichments for the consumer’s satisfaction. Some of the general scope of estimation includes proper documentation of all the information and quality assurance standards, uniform quality standards, etc.
Developing different facilities for cost estimation is the critical section of quality cost estimation. Early on, estimating follows different techniques by agencies. One of the best techniques is the estimation of resources requirements, e.g., estimating raw materials in manufacturing organisations or requirements of manpower in
FIGURE 6.3 Quality cost estimation.
small-medium enterprises, and then estimating cost associated. One of the returns of cost estimation is the segregation of quantities and costs.
Methods for Estimating Cost
The following are cost estimation techniques used in the engineering and service industries:
- 1. Compilation of costs by the accounting method. It includes estimation by calculating different cost in different activities viz. travelling, telephone bills, etc.
- 2. Compilation of costs on the basis of workers involved in any activities, especially in designing and training activities.
- 3. Calculation of costs on the basis of working hours spent by manpower. Cost is calculating by multiplying the wage rate.
The Cost of Quality (COQ) is defined as tangible costs, which are accounted based on the actual transaction costs of the production process. Cost of conformance is defined as the element of cost to avoid poor quality of products. Costs associated with prevention are mainly focused on activities whose function is to avoid the defects. Appraisal costs are a specific category in cost estimation. Failure cost has a great and immediate impact on any organisation’s performance. The cost estimation process balances between expenditure, cost, and the period of estimation.
Case Study: A Foundry Shop
This is a case history of a foundry shop, which makes casting products by performing foundry operations. This shop has to produce 10,000 kg of its product in the foundry shop. Now, the next step is to estimate the cost of quality.
Sales price of casting product is Rs 30/Kg.
Scrap value of casting product is Rs 10/Kg.
Net worth loss in sales is (30-10) = Rs 20.
Now' taking various type of cost:
1. Preventive cost: This includes costs associated w'ith the product design stage, process control stage, etc.
Therefore, PC = Rs 1000.
2. Appraisal cost: This cost includes costs of inspection of casting products, quality engineering costs, etc.
Therefore, AC = Rs 2000.
3. Internal failure cost: This cost includes cost lost in workers and machine extra works in scrap products, cost of rework etc. For this shop, it is 10% rejection of the total production, i.e. 1000 Kg.
Therefore, IFC = 1000* 20 = Rs 20000.
Other cost (OC1) = Rs 5000.
4. External failure cost: This cost includes costs lost in handling customers’ complaints, loss of sales due to lack of advertisement, etc. For this shop, it is 5% of the total production, i.e. 500 Kg.
Therefore, EFC = 500* 20 = Rs 10,000.
Other costs like customer goodwill lost (OC2) = Rs 2500
5. Hidden cost: This cost includes intangible costs of visit to customer, extra manufacturing costs due to defects, scrap not reported, etc. Therefore, HC = Rs 5000.
Now calculate the total cost of quality = 1000+2000+20000+5000+ 10000+2500+5000/10000 = Rs 4.55 per Kg of casting product.
Points to Remember
- • Failure: This cost is incurred due to defective items produced by any organisation. This cost is zero w'hen product is 100% good, and infinity when product is 100% defective.
- • External failure cost: Costs associated w'ith defects found after the customer receives the product or service. Example: Processing customer complaints, customer returns, warranty claims, product recalls.
- • Internal failure cost: Costs associated with defects found before the customer receives the product or service. Example: Scrap, rework, re-inspection, re-testing, material review, and material downgrades, etc.
- • Inspection (appraisal) cost: Costs incurred to determine the degree of conformance to quality requirements, such as measuring, evaluating, or auditing. Example: Inspection, testing, process or service audits, calibration of measuring and test equipment.
- • Prevention cost: Cost incurred to prevent (keep failure and appraisal cost to a minimum) poor quality. Example: New product review, quality planning, supplier surveys, process reviews, quality improvement teams, education and training.
- • Total quality cost curve: This curve represents the total cost of quality per unit product. It is given as sum of failure and appraisal cost.
- • Cost of conformance: This is that element of cost which avoids poor quality of products. It includes preventive and appraisal costs.
- 1. Define the different types of cost of quality with examples.
- 2. Explain the external failure cost with some example. Also, elaborate the area of the organisation which is associated with this cost.
- 3. Explain the internal failure cost with examples.
- 4. Discuss the different type of appraisal or inspection cost.
- 5. Discuss the quality cost estimation in the engineering field.
- 6. Write down different methods of cost estimation.
- 7. Elaborate the relationship between productivity and quality with examples.
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