PowerPoint
Presentations for
Cornerstones of
Cost Accounting
First Canadian Edition
Adapted by
George Gekas
Ryerson University
Copyright © 2013 Nelson Education Ltd.
Quality and
Environmental Cost
Management
16
16-2
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Quality Defined
1
Quality Definitions
• A quality product or service is one that meets or
exceeds customer expectations.
• Quality is customer satisfaction.
• Quality of conformance is a measure of how a
product meets is specifications.
• Quality means zero defects (all products conform to
specifications).
16-3
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Quality Defined
1
Costs of Quality
• These exist because poor quality or potential for poor
quality:
Control costs (prevention & appraisal costs):
•
For activities performed by an organization to prevent or
detect poor quality.
Failure costs (internal & external):
•
Costs incurred by an organization because failure activities
are performed in response to customer requests/complaints
due to poor quality (external failure costs).
16-4
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Quality Defined
1
Four Categories of Quality Costs
1.
Prevention costs:
•
Incurred to prevent poor quality in the products or
services being produced
• Examples: quality training, quality audits, market research,
design reviews, prototype inspection
2.
Appraisal costs:
•
Incurred to determine whether products and services
are conforming to their requirements or customer
needs
• Examples: inspections, testing, vendor verifications
16-5
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Quality Defined
1
Four Categories of Quality Costs
3. Internal failure costs:
•
This nonconformance is detected prior to the product
being shipped or the service being delivered to outside
parties
• Examples: scrap, re-work down time, repairs, design and
process changes
4. External failure:
•
This nonconformance is detected after being delivered
to outside parties
• Examples: recalls, returns and allowances, warranties,
discounts due to defects, lost sales
16-6
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Quality Defined
1
16-7
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Quality Defined
1
Quality Cost Measurement
 Hidden costs of quality:
 Lost sales
 Lost market share
 Customer dissatisfaction can be measured using
three methods:
1.
2.
3.
Multiplier method
Market research method
Taguchi quality loss function
16-8
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Quality Defined
1
Quality Cost Measurement
1. 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
16-9
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Quality Defined
1
2. 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
16-10
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Quality Defined
1
3. The Taguchi Loss Function

Assumes any variation from the target value of
a quality characteristic causes hidden quality
costs

The hidden quality costs decrease quadratically as
the actual value deviates from the target value.
16-11
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Quality Defined
1
The Taguchi Quality Loss Function
2
L(A) = k(A−T)
where
k = A proportionally constant dependent upon the
organization’s external failure cost structure
A = Actual value of quality characteristic
T = Target value of quality characteristic
L = Quality loss
16-12
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Quality Defined
1
16-13
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Quality Defined
1
16-14
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Reporting Quality Costs
2
 Strategy to reduce quality costs recommended by the
American Society for Quality Control:
The strategy for reducing quality costs is quite simple: (1) take
direct attack on failure costs in an attempt to drive them to zero;
(2) invest in the “right” prevention activities to bring about
improvement; (3) reduce appraisal costs according to results
achieved; and (4) continuously evaluate and redirect prevention
efforts to gain further improvement. This strategy is based on
the premise that:
•
For each failure, there is a root cause.
•
Causes are preventable.
•
Prevention is always cheaper.*
*Jack Campanella, ed., Principles of Quality Costs (Milwaukee: ASQC Quality Press, 1990):12.
16-15
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Reporting Quality Costs
2
16-16
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Reporting Quality Costs
See Cornerstone 16-1
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2
16-17
Quality Cost Information
and Decision Making
3
Reporting quality costs improves:
• Managerial planning
• Control
• Decision making
Managers need quality cost information for:
• Strategic planning
• Cost-volume-profit analysis

Companies may also assess the supplier quality
through ISO 9000 (international quality standards) that
ensures quality—like testing products, training
employees, keeping records, fixing defects.
16-18
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Controlling Quality Costs
4
The Total Quality Approach
 Zero-Defects Standards

Philosophy of total quality control and calls for
products and services to be produced and
delivered that meet the targeted value
16-19
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Controlling Quality Costs
4
The Total Quality Approach
 Progress with respect to a current-period
standard or goal (an interim standard report)
 Progress trend since the inception of the
quality-improvement program (a multipleperiod trend report)
 Progress with respect to the long-range
standard or goal (a long-range report)
16-20
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Controlling Quality Costs
4
Interim Standard Report
 Compares actual quality costs for the period
with the budgeted costs
 Measures progress achieved within the
period relative to the planned level of
progress
See Cornerstone 16-2
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16-21
Controlling Quality Costs
4
Multiple-Period Trend
See Cornerstone 16-3
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16-22
Controlling Quality Costs
4
Multiple-Period Trend
See Cornerstone 16-3
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16-23
Controlling Quality Costs
4
Multiple-Period Trend
See Cornerstone 16-3
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16-24
Defining, Measuring, and
Controlling Environmental Costs
5
 Ecoefficiency
 Ability to produce competitively priced goods and
services that satisfy needs while simultaneously
reducing negative environmental impacts, resource
consumption, and costs
 Producing more goods and services using less
materials, energy, water, and land, while minimizing air
emissions, water discharges, waste disposal and the
dispersion of toxic substances
 Complementary and supportive to sustainable
development

Development that meets present needs without
compromising the ability of future generations to meet their
own needs
16-25
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Defining, Measuring, and
Controlling Environmental Costs
5
 Ecoefficiency Paradigm
1. Reduce the consumption of resources
2. Reduce the environmental impact
3. Increase product value
4. Reduce environmental liability
16-26
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Defining, Measuring, and
Controlling Environmental Costs
5
16-27
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Defining, Measuring, and
Controlling Environmental Costs
5
• Environmental Costs
•
Costs that are incurred because poor environmental
quality exists or may exist
• Environmental costs, like quality, can be classified in
four categories:
1. Prevention costs
2. Detection costs
3. Internal failure costs
4. External failure costs
16-28
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Defining, Measuring, and
Controlling Environmental Costs
5
16-29
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Defining, Measuring, and
Controlling Environmental Costs
5
Environmental Cost Report
 Reports two outcomes:
1. Impact of environmental costs on firm
profitability
2. Relative amounts expended in each
category
See Cornerstone 16-5
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16-30
Defining, Measuring, and
Controlling Environmental Costs
5
16-31
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Defining, Measuring, and
Controlling Environmental Costs
5
Environmental Financial Report
 Three types of benefits:
1.
Additional revenues: Revenues that flow into
the organization due to environmental actions
2.
Current savings: Ongoing savings of costs that
had been paid in prior years
3.
Cost avoidance (ongoing savings): Reductions
in environmental costs achieved in the current
year
16-32
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Defining, Measuring, and
Controlling Environmental Costs
5
16-33
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Assigning Environmental Costs to
Products and Processes
6
 Quality and also environmental costs can be
expressed as a percentage of sales
 Interim or long-term reports focusing on
variances in terms of prevention, appraisal,
detection, internal & external failure costs
 ABC activities-variance analysis
See Cornerstone 16-6
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16-34
End of
Chapter 16
16-35
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