MSc Project Management
GBEPM 620
Quality Management
Quality Measurement and Costs
1
The Economics of Quality
• There is a cost for building in quality
• There is value received for building
in quality
• There is a cost (sometimes hidden) for
poor quality
• The cost of building quality into your processes
is less than the cost of building poor-quality
products
• If the cost of quality is greater than the resulting
benefit, then you are not building in quality into
your processes
Customer Quality Measures
• Customers typically relate quality to:
✓ Feature based measures; “have” or
“have not” - determined by design
✓ Performance measures - “range of
values” - conformance to design or ideal
value
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True Vs Substitute Performance Measures
• Customers - use “true” performance measures
✓ example: a true measure of a car door may be “easy
to close”.
✓ true performance measures typically vary by each
individual customer.
✓ Unfortunately, producers cannot measure
performance as each individual customer does.
• Producers - use “substitute” performance measures
✓ these measures are quantifiable (measurable units).
✓ Substitute measure for a car door: door closing force.
• Other example: light bulb
✓ true performance measure -- brightens the room
✓ substitute performance measure – wattage or lumens
Substitute Performance Measure
• Another term for a substitute performance
measure is a metric.
✓ Metric is a standard of measurement.
✓ In quality management, we use metrics to
translate customer needs into producer
performance measures.
• Internal quality metrics
✓ scrap and rework
✓ process capability (Cp or Cpk)
✓ first time through quality (FTTQ)
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The Economics of Quality and
Producer Perspective
❑ If quality is viewed as the “conformance to
specifications” then the economics of quality
relates to the balance between:
▪ the Cost of Conformance
▪ the cost of Non-Conformance
Performance measurement is a fundamental building
block of TQM and a total quality organisation
Performance Measurement
✓ Improving quality requires the establishment of
effective metrics
✓ In a successful total quality organisation,
performance is measured by the improvements
seen by the customer as well as by the results
delivered to other stakeholders
A supply of consistent, accurate, and timely data
across all functional areas of business provides realtime information for the evaluation, control, and
improvement of processes, products, and services to
meet both business objectives and rapidly changing
customer needs.
4
Quality Metrics
• A metric is a verifiable measure, stated in
either quantitative or qualitative terms, that:
✓ captures performance in terms of how
something is being done relative to a
standard,
✓ allows and encourages comparison,
✓ supports business strategy.
Effective Metrics
• Effective metrics satisfy the following
conditions:
✓ performance is clearly defined in a
measurable entity (quantifiable).
✓ a capable system exists to measure the entity
(e.g., a gauge).
• Effective metrics allow for actionable
responses if the performance is unacceptable.
✓ There is little value in a metric which
identifies nonperformance if nothing can or
will be done to remedy it.
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Performance Measurement Terms
✓ Data: representations of facts that come from
some type of measurement process
✓ Measurement: act of quantifying the
performance dimensions of products, services,
processes and other business activities
✓ Measures and Indicators: the numerical
information that results from measurement
✓ Information: derived from the analysis of
data and measurements and expressed in the
context of a business or organisation
Performance Measurement Process Flow
Measurement
Data
Analysis
Information
6
Understanding Quality Costs
Iceberg illustration of Quality related Costs
Commonly measured
Cost of Quality
Hidden Cost of
Quality
❑ Understanding quality costs enables you to:
▪ Understand hidden costs
▪ Reduce and eliminate unnecessary cost
❑ Prevent problems from happening
Quality Gurus Point of View
❑Philip B. Crosby: Quality is Free
▪ The system for causing quality is Prevention, not
Appraisal
▪ The performance standard must be Zero Defects, not
“that is close enough”
▪ The measurement of quality is the price of nonconformance
▪ Cost of quality is only the measure of operational
performance
▪ “Quality is Free. It is not a gift, but it is free. What
costs money are the unquality things – all the actions
that involve not doing jobs right the first time.”
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Quality Gurus Point of View
❑Edwards W. Deming: Quality can be and should be
improved continuously
▪ Improving quality reduces cost and improves
profitability
What is Cost of Quality?
A quality cost is considered to be any cost
that the company or organization would
not have incurred if the quality of the
product or service were perfect!
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Cost of Quality (COQ)
• Quality costs can mean two things:
• Cost of attaining quality
• Cost of poor quality
• COQ translates defects, errors, etc. into the
“language of management” – We need to
communicate to management the impact of quality
in language they understand which is often in
monetary terms.
• Quality cost measurement and publication does not
solve quality problems, but provides a basis for
identifying improvement opportunities and success
of improvement programs.
Cost of Quality Measurement
❑The cost of doing a quality job, conducting quality
improvements and achieving goals must be carefully
managed, so that the long-term effect of quality on
the organisation is a desirable one
❑These costs must be a true measure of the quality
effort, and are best determined from an analysis of
the costs of quality
❑Such an analysis provides:
▪ method of assessing the effectiveness of the
management of quality
▪ means of determining problem areas, opportunities,
savings and action priorities
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Models of Quality Cost Reporting
❑ Quality costs can be categorised to enable
better understanding
❑ Two basic approaches to the collection and
presentation of the cost of quality have
emerged:
• Prevention, Appraisal and Failure (PAF)
Model
• Process Cost Model
PAF Model
Total Cost
of Quality
Prevention
Costs
Appraisal
Costs
Internal
Failure
Costs
External
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Prevention Costs
❑ Costs of all activities specifically designed
to prevent poor quality in products or
services
✓ Quality planning costs, e.g. development of new
procedures, new equipment design, reliability studies
✓ Process control costs, e.g. analysing production
processes and implementing process control plans
✓ Information systems costs, e.g. developing data
requirements and measurements
✓ Training and management costs, e.g. internal and
external training, clerical staff expenses, and miscellaneous
supplies
Appraisal Costs
❑ Costs associated with efforts to ensure
conformance to requirements, generally
through measurement and analysis of data
to detect non-conformances
✓ Test and inspection costs, incoming materials, work-inprocess, finished goods, and equipment costs and salaries
✓ Instrument maintenance costs, calibration and repair
of measuring instruments
✓ Process measurement and control costs, time spent
to gather and analyze quality measurements
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Internal Failure Costs
❑ Costs associated with the non-conformance
of products or services prior to the transfer
of ownership to the customer
✓ Scrap and rework costs, material, labour and overhead
✓ Costs of corrective action, time spent determining the
causes of failure and correcting production problems
✓ Downgrading costs, revenue lost by selling a product at a
lower price because it does not meet specifications
✓ Process failures, unplanned machine downtime or
unplanned equipment repair
External Failure Costs
❑ Costs associated with the non-conformance
of products and which are detected after
the transfer of ownership to the customer
✓ Costs due to customer complaints and returns,
rework on returned items, cancelled orders, and freight
premiums
✓ Product recall costs and warranty claims, cost of
repair or replacement as well as associated administrative
costs
✓ Product liability costs, legal actions and settlements
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Traditional View of the Cost of Quality
Total quality costs
Cost per good
unit of product
Failure costs
Cost of appraisal
plus prevention
0%
Quality of conformance
100%
Total Quality View of the Cost of Quality
Cost per good
unit of product
Total quality costs
0%
Failure costs
Cost of appraisal
plus prevention
Quality of conformance
100%
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The 1-10-100 Rule of COQ
▪ One dollar spent on Prevention will save $10 on Appraisal
and $100 on Failure costs
▪ This rule helps one to prioritise expenditure on prevention,
which is sure to bring in greater returns
The 1-10-100 Rule of COQ
▪ The lowest cost is generally obtained when
non-conformances are prevented in the first
place.
▪ If non-conformances occur, it is generally
least expensive to detect them as soon as
possible after their occurrence.
▪ The most expensive quality costs are from
non-conformances detected by customers.
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COQ and Quality Management Effectiveness
Take Home Message
▪ Prevention cost is an investment of an
organisation to do things right the first
time
▪ Appraisal and failure costs are
avoidable
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Process Cost Model
Cost of
Quality
(COQ)
Cost of
Conformance
(COC)
Cost of NonConformance
(CONC)
❑ COC is the process cost of providing
products/services to the required standards,
by a given specified process in the most
effective manner.
❑ CONC is the failure cost associated with a
process not being operated to the
requirements, or the cost due to the
variability of the process.
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The Process Cost of Quality Model
Cost Quality Management Tools
• Cost indexes
• Pareto analysis
17
Quality Costs Bases: Performance Measures
• Internal failure costs as a percent of total
production costs
• External failure costs as an average percent of
net sales
• Procurement appraisal costs as a percent of
total purchased material costs
• Operations appraisal costs as a percent of total
production costs
• Total quality costs as a percent of production
costs
Quality Costs Bases: Other Measures
• A labour base (such as total labour, direct
labour, or applied labour)
• A cost base (such as shop cost, operating cost,
or total material and labour)
• A sales base (such as net sales billed, or sales
value of finished goods)
• A unit base (such as the number of units
produced, or the volume of output)
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Pareto Analysis
✓ Identifying the “Vital few”, leading to
corrective action that has a high return for a
low dollar input
✓ 70 to 80 percent of the quality problems are
due to these “Vital few”
✓ Quality costs over time can be analysed to
identify trends that require significant
attention
Cost Indexes Exercise:
Compute a sales dollar base index for Midwest Sales,
Inc., to analyse the following quality cost information,
and prepare a memo to management.(Use a graph)
(Figs in $’000)
Q1
Q2
Total Sales
4,120
4,206
4,454 4,106
External Fail.
280.8
208.2
142.8 128.6
Internal Fail.
468.2
372.4
284.4 166.4
Appraisal
194.2
227.7
274.4 266.2
Prevention
28.4
29.2
971.6
837.5
Total Quality Costs
Q3
50.2
Q4
80.2
751.8 641.4
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Cost of Quality Categories Exercise:
Show the different quality cost categories on a pie chart
Cost Element
Customer complaint remakes
Printing plate revisions
Quality improvement projects
Gauging
Other waste
Correction of typographical errors
Proofreading
Quality planning
Press downtime
Bindery waste
Checking and inspection
Amount ($)
28,000
28,000
14,000
100,000
39,000
210,000
450,000
57,000
285,000
53,000
42,000
Pareto Analysis Exercise:
Beecom Software Corporation has gathered the
data on quality problems as shown in the table
below and in the text. Management wishes to
know which quality loss categories are the most
significant.
Use Pareto analysis to investigate the quality
losses. What conclusions do you reach?
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The Data
Their losses are summarized as follows:
Category
Annual Loss
Rework costs
$ 30,000
Rejected disks (loaded)
360,000
Rejected disks (blank)
89,000
Inspection costs (extra)—incoming
18,000
Inspection costs (extra)—outgoing
28,000
Customer returns
185,000
Training and system improvement costs
67,000
System downtime
138,000
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