7-60. Precision Systems! This case study illustrates that quality cost information can play an important role in alerting top management about the importance of quality improvement in a nonmanufacturing department of a manufacturing firm. The case is based on the following article by S. S. Kalagnanam and E. M. Matsumura: —Cost of Quality in an Order Entry Department.) Journal of Cost Management, Fall 1995, pp. 68—74. Although the actual case takes place quite some time ago, the need for improvement in nonmanufacturing processes remains pervasive. We still encounter firms that take pride in their quality of manufacturing operations while continuing with poor quality nonmanufacturing processes. The required questions are designed to acquaint students with some of the terminology of —costof qualityi and some aspects of conducting a cost of quality study. Quality costs, defined as those that arise because poor quality may exist or does exist, have been classified into the following four categories: + Prevention (prevention of poor qualit + Appraisal (inspection and testing): + Internal failure (costs such as rework or scrappage for nonconforming products identified before delivery to customers); + Extemal failure (costs such as waranty expenses or freight charges for nonconforming products delivered to customers), oF quality assurance); * Source Institute of Management Accoustants, Cases fiom Management Accounting Practice, Instructor's Mana, Volume 12. Adapted wath permassion, 261 Aukinson, Solutions Manual va Management Accounting, OE This case focuses on prevention activities (see question (f)), as well as intemal failure and extemal failure costs for the order entry department at Precision Systems, Inc., where internal and extemal failures are defined with respect to the order entry department.Suggested Solutions to Required Questions (a) (bo) This question is designed to help students recognize how cost management systems can interface with quality improvement efforts. As the case states, in spite of PST’s commitment to quality improvement, —the changes [in order entry] would not have been so vigorously pursued if cost information had not been presented. COQ information functioned as a catalyst to accelerate the improvement effort.! This is because the cost figures captured the attention of top management. Other responses might inclnde the following: (1) It made order entry aware of the dollar impact of its errors; (2) It provided a means of prioritizing quality improvement efforts. There ate many possible flows. For example, a sales representative may contact order entry to request a quote for a system for a customer. Subsequently, the Customer contacts order entry to place the order: and order entry then generates an order acknowledgement, which is sent to manufacturing, invoicing. and sales administration, Once the system has been shipped, an invoice is sent to the customer. Ultimately. collections will receive the invoice. Customer support will contact the customer to arrange installation and will be available to answer questions over the phone. A request for parts from a service representative or directly from a customer would be received by order entry, Which would generate an order acknowledgement that might then be routed to the stockroom. after which the part would be shipped and the customer would be billed. A request for service would result in an order acknowledgement being sent to the service department (see the following chart).Precision Systems, Inc.—Process Flow Internal (to PSI Supplies L Process ‘Outputs Customers Sales sates sepresentaves representatives (quotes) Manufacturing Quote Customers Stockroom (orders) Service Service representatives Onder Shipping (onder) Customer support Technical infomation Order Invoicing depatnent seknosledgement (aoeen sheet) Collections Monk depactnent Sales ad (©) Ttems 1, 2, 5, 8, 10, and 12 are internal failures: the remainder are external failure items. Intemal customers affected by extemal failure items are listed below. Jtem Number Internal Customer(s) Affected 3 4 6 © ‘Manufacturing, service, stockroom, invoicing Invoicing, sales administration (profitability analysis) ‘Manufacturing. service, stockroom. invoicing. sales administration Shipping, invoicing, collectious, customer support ‘Manufacturing. service. stockroom Invoicing. collections. sales administration,‘Other examples (not included in Exhibit 7-1 @ © Error Type. Incorrect serial # of system on _| Service, customer support order acknowledgement Duplicate order Stockroom, shipping, manufacturing. sales administration Incorrect sales rep. code Sales administration An initial step would be to interview employees in order entry, as well as its suppliers and internal customers. Based on the interviews, data collection forms can be developed. For internal failures, order entry staff would keep track of the problems they encounter while preparing quotes and processing orders. For external failures, intemal customers of order enty would keep tack of the emors they encounter when using information fiom the quotes or order acknowledgements (examples of forms appear at the end of this teaching note: Form #1 pertains to intemal failures and Form #2 pertains to external failures).Suppliers to order entry. intemal customers of order entry. and order entry staff should be involved in making improvements to the order entry process, Possible responses include the following: Office equipment and office space: Telephone (to clarify problems); Computer costs (making changes on the computer): ‘Supplies (paper for printing new quotes or order acknowledgements): Lost interest and other costs associated from late payments by customers (due to invoicing mistakes resulting from order entry errors): Lost sales from new customers (due to delay in preparing quotes); Lost future sales from current dissatisfied customers (due to errors in order entry): Shipping costs on returns: Rewotk costs: Frustration and lower morale, possibly leading to poorer quality or high tumover: Costs related to duplication in manufacturing: Crisis management costs (express shipping): Lost revenues if underpricing: Scrappage of returns.oO Students can brainstorm about possible improvements during a class discussion. Possible responses follow: Incremental Improvements Empower employees. Allow sales representatives to correct errors without approval. ‘Urge order entry to improve commmunication with manufacturing and other departments. Provide feedback to order entry on types of errors. numbers of errors, and cost impact. Daily feedback (suggestions for improvement) can be provided via computer. Educate sales representatives about effects of errors and about the process. Provide better training for sales representatives. Train sales representatives to develop accurate quotes and take on the order entry function Have sales representatives take responsibility for the process. Track customer purchases to improve service to customers. Survey customers about problems: use the responses to prioritize problems. Stop the double entry of information. Get input from order entry on development of forms. Implement checking in order entry to help prevent order acknowledgement eirors. Develop a reward system that motivates error-free performance of sales representatives and order entry. Benchmark.Breakthrough Improvements Develop a computer system to decrease the number of times data are entered. Develop a spreadsheet or computer program to check for inconsistencies between P.O. and quotes. check for duplication of orders, and check prices. Develop a computer system that allows sales representatives to prepare accurate quotes. Install a computer system linking order entry, manufacturing. invoicing, ete. Use cross-functional teams to manage —largel costs or different ‘ons Manual va Management Accounting, OF segments. Develop a system that allows parts customers to get their own quotes oneline. Note: Today, customers may add a request for a quote to their shopping cart but the web page does not provide a quote online. Incremental Improvements Made by PSI 1. Key information for quotes is now obtained up-front by the sales representative: carlicr, the sales represcutative faxed partial information to order entry and requested a quote. Order entry staff then spent a great deal of time obtaining missing information. With this change, the sales representative cannot request a quote until he or she has supplied key information to order entry staff. This could be considered a prevention activity. Customers are asked to include quotation numbers on their purchase orders. This allows PSI to match orders with quotes and avoid duplication in manufacturing. PSI prepares. its manufacturing plan based on the quotes received because they have a reasonably good idea of which ones are likely to become ‘firm orders.on Proper tools are provided to the order entry staff: Procedure manuals. Guidelines for sales discounting. Previously. the order entry staff had to call sales to seck clarifications regarding discounts. Printed configuration guides that contain information in the format order entry requires. Previously. the formats did not always match. Order entry staff are now responsible for both quotes and orders. Previously. some staff were responsible only for quotes. and other staff were responsible only for orders. This change had an immediate impact. as the person who prepared a quote now had responsibility for processing the subsequent order. A regular feedback system is now in place. Each internal customer department provides feedback to order entry once every quarter. Benefits: Cycle time for preparing quotes was reduced by 60%. and cycle time for processing orders was reduced by 50%. Also, order entry staff experienced greater pride in their work. Breakthrough Improvement Efforts by PSI as of 1993 Many of these improvements are prevention activities. 1. PSI began working with a vendor to develop an on-line configuring program that would configure their standard systems (order entry staff would avoid Keying-in part numbers), PSI planned to acquire a new, more integrated order entry system that can communicate with the configuring program and tum a quote into an order acknowledgement when the order comes in. The system will also be able to generate an invoice, thereby avoiding rekeying the information. PSI began working toward providing sales representatives with a laptop Computer equipped with a built-in configuring program. It will allow them to prepare quotes in the field. The anticipated benefits include a reduction in errors caused by incorrect or duplicate part numbers aud a reduction in cycle time for preparing quotes or processing orders and preparing invoices.Prioritizing Improvement Activities Three considerations in prioritizing improvement activities are the perceived seriousness of the problems, the benefits of improvements, and the costs of the improvements. In this case study, the breakthrough improvement projects involve higher costs than the incremental improvement efforts. To identify the most serious problems, a Pareto analysis can be performed. In PSI's case, correcting order acknowledgement errors became the highest priority because of its associated cost of 7% of the salary and fringe benefits budget (see Exhibit 7-19) Update: Improvement Efforts by PSI as of 1996 The first incremental improvement, a stringent policy of sale representatives filling out quote forms correctly, was abandoned becaus the forms quickly became obsolete and the policy was unpopular with sale representatives. In addition, the policy slowed the quotation process. The initial vendor’s quote for the desired configuring program wa judged unaffordable. After an 18-month search, however, PSI was able tc purchase a new integrated information system (including materials resoure: planning and accounting) that included a configuring program. In th 267 - ‘lations Manual ks Management Accounting, 6E meantime, PSI developed an in-house configuring program that runs on the sales representatives’ laptop computers. As a consequence, problems with missing. incorrect, or changed part numbers have been greatly reducedInformation on part numbers originates in manufacturing and is maintained and Kept current by the marketing department. A change from line-item pricing (listing each component part with its associated price) to bundling (listing the component parts but providing only a bottom-line price) reduced processing time because customers previously would call for verification if any one of the component prices on the invoice differed from what appeared on the quote The current eycle typically runs as follows: Sales representative prepares a quote using laptop computer configuring program and e-mails it to order entry. Order entry reviews the quote and sends a quote packet to send to the customer (pricing on quote is reviewed by order entry supervisor). When the cusiomer’s order is received by order entry. the order is entered into PSI’s system configuring program: the order entry supervisor approves the order. The controller approves the order. The order acknowledgement is transmitted electronically to manufacturing. Manufacturing builds the product The product is shipped. + The invoice is generated the same day the product is shipped. with no further review. (g) _ PST’s sales representatives have specialized scientific taining in order to provide knowledgeable assistance to customers who wish to purchase high-technology instrumentation. The sales representatives guide the customers in choosing the appropriate instrumentation for the customers” needs. The requirement for specialized knowledge creates difficulty in allowing customers to simply order systems online. Even if the technical issues related to customers determining, what to order can be overcome. PSI must still ensure that its supporting internal processes are of high quality. A web-based ordering capability in and of itself will not necessarily resolve PST's quality problems related to accuracy of orders and appropriate system configurations. For example. the information technology support within PSI must ensure that configuration possibilities and pricing are always accurate.