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LECTURE 4: COST OF QUALITY (EXTRA NOTES)

LECTURE 4: COST OF QUALITY (EXTRA NOTES)


1. TOTAL QUALITY MANAGEMENT

The modern business environment is remarkably different from the business environment
of a decade or so ago. One change has been the switch in emphasis away from quantity
towards quality. Consumers and customers have become more sophisticated and
discerning in their requirements.

Many organisations are therefore turning to quality to help them to survive the competitive
modern business environment. By developing new products quickly and supplying them
on time at a consistently high level of quality such organisations are likely to become the
success stories of the new millennium.

The process of the management of quality

Establishing standards of quality for a product or service.


Establishing procedures or production methods which ought to ensure that these
required standards of quality are met in a suitably high proportion of cases.

Monitoring actual quality.


Taking control action when actual quality falls below standard.

Quality management becomes total when it is applied to everything a business does.

TQM

Total quality management (TQM) is the process of applying a zero defect philosophy to the
management of all resources and relationships within an organisation as a means of
developing and sustaining a culture of continuous improvement which focuses on meeting
customer expectations.

One of the basic principles of TQM is that the cost of preventing mistakes is less than
the cost of correcting them once they occur. The aim should therefore be to get things
right first time.

LECTURE 4: COST OF QUALITY (EXTRA NOTES)

A second basic principle of TQM is dissatisfaction with the status quo. The belief that
it is always possible to improve and so the aim should be to get it more right next
time.

TQM and performance measures

Performance measures for TQM must embrace every activity of the organisation. They
should not be confined to the production process. Measures should also cover the work of
sales, distribution and administration departments, the efforts of external suppliers and the
reaction of external customers.

In many cases, the measures used will be non-financial ones. They may be divided into
three types:

Measuring incoming supplies


e.g. - Percentage of defective items per delivery
- Number of returns per supplier

Monitoring work done as it proceeds


e.g. - Number of rejects per production run
- Ratio of waste material to used material

Measuring customer satisfaction


e.g. - Complaints per 10,000 units sold
- Number of claims under warranty

The requirements of quality

Accept that the only thing that matters is the customer.

Recognise the importance of the customer-supplier relationship.

Move away from relying on inspecting to a predetermined level of quality and move
towards preventing the cause of the defect in the first place.

Each employee or group of employees must be personally responsible for defect-free


production or service in their domain.

There must be a move away from acceptable quality levels. Any level of defects is
unacceptable.

LECTURE 4: COST OF QUALITY (EXTRA NOTES)

All departments should try obsessively to get things right first time.

Quality certification programmes should be introduced.

The cost of poor quality should be emphasised. Good quality generates savings.

2. QUALITY ASSURANCE PROCEDURES

Because TQM embraces every activity of a business, quality assurance procedures


cannot be confined to the production process but must also cover the work of sales,
distribution and administration departments, the efforts of external suppliers, and the reaction
of external customers.

Quality assurance of goods inwards

The quality of output depends on the quality of input materials, and so quality control should
include procedures for acceptance and inspection of goods inwards and measurement of
rejects.

Each supplier can be given a rating for the quality of the goods they tend to supply, and
preference with purchase orders can be given to well-rated suppliers. This method is
referred to as vendor rating.

Under a quality assurance scheme, the supplier guarantees the quality of goods
supplied. Usually agreed inspection procedures and quality control standards are worked out
by customer and supplier, and checks are made to ensure that they are being adhered to. This
places the onus on the supplier to carry out the necessary quality checks, or face
cancellation of the contract.

Inspection of output

This will take place at key stages in the production process, and provides a continual check
that the production process is under control. The aim of inspection is to satisfy
management that the production process is meeting required quality standards.

Monitoring customer reaction

If sub-standard items or services are supplied, customer complaints ought to be


encouraged and monitored, with a view of identifying quality weaknesses in product
design, production engineering, production standards or the quality of raw materials in use.

LECTURE 4: COST OF QUALITY (EXTRA NOTES)

Employees and quality

When new technology or new practices are introduced, training in the new way of working
is vital if quality is to be maintained or improved. A quality orientation requires well trained
and motivated staff.

Empowerment
o

Allowing workers to have the freedom to decide how to do the necessary work.

Making those workers personally responsible for achieving production targets and
for quality control.

Quality circles
o

A quality circle consists of a group of employees who meet regularly to discuss


problems of quality and quality control in their area of work, and perhaps to
suggest ways of improving quality.

3. COSTS OF QUALITY

Prevention costs

These represent the cost of any action taken to investigate, prevent or reduce defects
and failures.

Example:
o

Quality engineering

Design/development of quality control equipment and inspection equipment

Maintenance of quality control equipment and inspection equipment

Administration of quality control

Training in quality control

Appraisal costs

These are the costs of assessing quality achieved.

Example:
o

Acceptance testing

Inspection of goods inwards

LECTURE 4: COST OF QUALITY (EXTRA NOTES)

Inspection costs of in-house processing

Performance testing

Internal failure costs

These are costs arising within the organisation of failure to achieve the quality specified.
They are discovered before the product is delivered and include down time and scrap
costs.

Example:
o

Failure analysis

Re-inspection costs

Losses from failure of purchased items

Losses due to lower selling prices for sub-quality goods

Costs of reviewing product specifications after failures

External failure costs

These are costs arising outside the manufacturing organisation of failure to achieve
specified quality (after transfer of ownership to the customer).

Example:
o

Administration of customer complaints section

Costs of customer service section

Product liability costs

Cost of repairing products returned from customers

Cost of providing replacement items due to sub-standard products or marketing errors

Example 3.1
A manufacturers inspection procedures indicate that one faulty item out of every 1,000 good
items produced is sent to a customer. The management regards this as acceptable, as a
replacement will be supplied free of charge.
Unit sales are 10,000,000 per year, and each unit costs $20 to manufacture and makes a
profit of $5. It is probable that every customer who buys a faulty product will return it, and will
thenceforth buy a similar product from another company. The average customer buys two
units a year. Marketing costs per new customer are $10 per year.

LECTURE 4: COST OF QUALITY (EXTRA NOTES)

Required:
What is your best estimate of the net cost of this policy for a year?
Notes:
Estimated number of faulty items

10,000,000 unit
1,000 unit

10,000 unit
$

Cost of defects (10,000 units x $20)

200,000

Cost of free replacement (10,000 units x $20)

200,000
400,000

Marketing costs for replacement customers ($10 x 5,000 customers)

50,000

Gross cost of poor quality

450,000

Less: Income from original sales($25x 10,000units)

(250,000)

Net cost of poor quality

200,000

4. THE BENEFITS OF QUALITY PROCESSES

It reduces wastage and mistakes, and therefore leads to contracts being completed on
time without unnecessary remedial work. In addition, due to built-in fault-logging procedures, it
is unlikely that problems will be duplicated in the future.

The Royal Bank of Scotland explained why they choose to gain BS EN ISO 9000
registration:
The benefits are manifold and can be applied to all sectors of business. The primary
benefits enable the business to sustain a competitive edge and include:

A quality-focused environment with the customer at the centre of all activities;

LECTURE 4: COST OF QUALITY (EXTRA NOTES)

Processes are defined and managed consistently. This in turn leads to a more efficient
and effective organisation through effective planning and control;

Our quality management system is designed for continuous self and team based
improvement. This can be achieved with our corrective action system and the process
of internal quality audits.