11 -1

TOPIC 4

Quality Costs and
Productivity:
Measurement,
Reporting, and
Control

11 -2

Objectives
Objectives
1. Identify and describe the four types of quality
After
After studying
studying this
this
costs.
chapter,
should
chapter,
you
should
2. Prepare a quality
costyou
report
and explain the
be
to:
be able
ableconventional
to:
difference between
the
view of
acceptable quality level and the view
espoused by total quality control.
3. Tell why quality cost information is needed
and how it is used.
4. Explain what productivity is, and calculate
the impact of productive changes on profits.

11 -3

Quality Defined
A quality product
or service is one
that meets or
exceeds customer
expectations...

11 -4

Quality Defined
… on the following eight dimensions:
Performance

Durability

Aesthetics

Quality of
conformance

Serviceability
Features
Reliability

Fitness for use

11 -5 Quality Defined … on the following eight dimensions: Performance Aesthetics Serviceability Features Reliability How How consistently consistently Durability and well and well aa product product The appearance of The functions appearance functions of tangible Quality of tangible products products Measures the ease of Measures the ease of (style. beauty) (style. beauty) conformance maintaining maintaining and/or and/or Characteristics of Characteristics ofaa repairing the product Fitness for use repairing the product product that differentiate product that differentiate The probability The probability that that the the functionally similar functionally similar product or will product or service service will products products perform its perform its intended intended function function for for aa specified specified length length of of time time .

11 -6 Quality Defined … on the following eight dimensions: The length of time Performance aAproduct measurefunctions of how a product meets its Aesthetics specifications The suitability of the Serviceability product for carrying out its advertised Features functions Reliability Durability Quality of conformance Fitness for use .

11 -7 Quality Defined A defective product is one that does not conform to specifications. .

.11 -8 Quality Defined Zero defects means that all products conform to specifications.

11 -9 Quality Defined The definition of quality-related activities imply Incurred to Incurred to four categories of quality costs: prevent Incurred to prevent poor Incurredpoor to 1) Preventive costs quality determine quality or or determine services being Incurred when whether products services being Incurred when whether products 2) Appraisal costs Incurred produced products and and services Incurred when produced productswhen and and services 3) Internal failure costs products and services not conform to products and services do not conform todo services fail to conform to requirements services fail to conform to requirements 4) External failure costs conform specifications conformto to specifications requirements requirements after after being being delivered delivered .

Examples of Quality Costs Prevention costs Quality engineering Quality training programs Quality planning Quality reporting Supplier evaluation and selection Quality audits Quality circles Field trials Design reviews 11 -10 .

Examples of Quality Costs Appraisal Costs Inspection of raw materials Testing of raw materials Packaging inspection Supervising appraisal Product acceptance Process acceptance Inspection of equipment Testing equipment Outside endorsements 11 -11 .

Examples of Quality Costs Internal failure costs Scrap Rework Downtime (defect related) Reinspection Retesting Design changes 11 -12 .

Examples of Quality Costs External failure costs Cost of recalls Lost sales Returns/allowances Warranties Repairs Product liability Customer dissatisfaction Lost market share Complaint adjustment 11 -13 .

11 -14 Measuring Quality Costs Hidden Quality Costs are opportunity costs resulting from poor quality.  The Multiplier Method  The Market Research Method  Taguchi Quality Loss Function .

. and the measured external failure costs are $2 million.11 -15 The Multiplier Method The 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 If k = 4. then the actual external failure costs are estimated to be $8 million.

Market research results can be used to project future profit losses attributable to poor quality. . Customer surveys and interviews with members of a company’s sales force can provide significant insight into the magnitude of a company’s hidden costs.The Market Research Method 11 -16 The market research method uses formal market research methods to assess the effect of poor quality on sales and market share.

Furthermore. the hidden quality costs increase quadratically as the actual value deviates from the target value.11 -17 The Taguchi Quality Loss Function The Taguchi loss function assumes any variation from the target value of a quality characteristic causes hidden quality costs. .

The Taguchi Quality Loss Function $ Cost Lower Specification Limit Target Value Upper Specification Limit 11 -18 .

The Taguchi Quality Loss Function L(y) = k(y – T)² k = A proportionately constant dependent upon the organization’s external failure cost structure y = Actual value of quality characteristic T = Target value of quality characteristic L = Quality loss 11 -19 .

040 16.20 0.00 Average 0.010 4.00 4 9.2 0.00 .20 0.025 $10.010 $ 4.8 -0.00 3 10.10 0.9 -0.1 0.00 Total 0.10 0.040 16.00 2 10.11 -20 Quality Cost Report Unit Actual Diameter (y) y-T (y –T)² k(y-T)² 1 9.100 $40.

000 38.04 $25.Image Products Quality Cost Report For the Year Ended March 31.000 2.000 3.000 35.000 85.000 $333.000 15.000 $115.43 $50.000 68.11% $20.000 10. 2004 Prevention costs: Quality training Reliability engineering Appraisal costs: Materials inspection Product acceptance Process acceptance Internal failure costs: Scrap Rework External failure costs: Customer complaints Warranty Repair Total quality costs 1111-22 -21 Quality Costs % of Sales $35.32 11.000 2.000 65.000 4.000 25.000 80.90% .

11 -22 Relative Distribution of Quality Costs External Failure (19.5%) Appraisal (20.4%) .5%) Internal Failure (25.6%) Prevention (34.

11 -23 Quality Cost Graph Total Quality Costs Cost Failure Costs Control Costs 0 AOL Percent Defects 100% .

11 -24 Contemporary Quality Cost Graph Cost Total Quality Costs Failure Costs Control Costs 100% 0 Percent Defects .

Trend Analysis 11 -25 Assume Assume the the following following data: data: 2000 2001 2002 2003 2004 Quality Costs $440.000 2.350.000 Actual Sales $2.800.0 10.000 % of Sales 20.0 15.000 280.000 423.500 392.0% 18.000 2.0 .750.000 2.200.000 412.800.0 14.000 2.

Multiple-Period Trend Graph: Total Quality Costs % of Sales 20 15 10 5 0 1 2 Year 3 5 4 11 -26 .

0%1 3.0 4.Multiple-Trend Analysis for Individual Quality Costs Assume the following quality cost data: 2000 2001 2002 2003 2004 1 Prevention Appraisal Internal Failure 2.4 3.5 11 -27 .4 6.0 2.0% 2.0 4.0 2.0 % 8.5 2.0 Expressed as a % of sales External Failure 10.0 3.0 4.5 1.0 3.0 3.0% 4.6 6.1 2.

Multiple-Period Trend Graphic: Individual Quality Cost Categories Percentage of Sales 10 9 8 7 6 5 4 3 2 1 0 11 -28 Prevention Appraisal Internal failure External failure 0 1 2 3 4 Year .

Productivity: Measurement and Control 11 -29 Productivity Productivity isis concerned concerned with with producing producing output output efficiently.and and isis itit specifically specifically addresses addresses the the relationship relationship of of output output and and the the inputs inputs used used to to produce produce the the outputs. outputs. efficiently. .

the least costly mix is chosen. given the mixes that satisfy the first condition. no more of any one input is used than necessary to produce the output 2. for any mix of inputs that will produce a given output.Productivity: Measurement and Control Total productive efficiency is the point at which two conditions are satisfied: 1. 11 -30 .

Current productivity Inputs: Labor Capital 4 Outputs: 6 11 -31 . Technical efficiency improvement is when less inputs are used to produce the same output or more output are produced using the same input.Technical Efficiency Technical Efficiency is the condition where no more of any one input is used than necessary to produce a given output.

Technical Efficiency Same Output. Fewer Inputs Inputs: Outputs: Labor 3 Capital 6 More Output. Same Inputs Inputs: Outputs: Labor Capital 4 8 11 -32 .

Fewer Inputs Inputs: Outputs: Labor 3 Capital 8 Technically Efficient Combination I: Inputs: Outputs: Labor 3 Capital $20.000.000 8 11 -33 .Technical Efficiency More Output.

.000. chosen.000 8 Of Of the the two two combinations combinations that that produce produce the the same same output. the the least least costly costly combination combination would would be be chosen. output.Technical Efficiency 11 -34 Technically Efficient Combination II: Inputs: Outputs: Labor 2 Capital $25.

Financial Productivity Measure: Partial measure where both input and output are expressed in dollars.11 -35 Partial Partial Productivity Productivity Measurement Measurement Partial Productivity Measurement: Measuring productivity for one input at a time. Partial Measure = Output/Input Operational Productivity Measure: Partial measure where both input and output are expressed in physical terms. .

.11 -36 Profile measurement provides a series or a vector of separate and distinct partial operational measures.

571 150.100 4.000/1.000 37.000 0.571 150.105 .500 Partial Productivity Ratios 150.000/37.) Labor productivity ratio Material productivity ratio 2003 120.428.500 150.000 2004 150.571 2003 Profile 2004 Profile 3.000 0.000 1.428.500 1.11 -37 Profile Productivity Measures Example 1: The productivity of both labor labor and materials moves in the same direction: Number of motors produced Labor hours used Materials used (lbs.428.000 40.000/1.200.000/37.

500 150.100 4.000 40.000 pounds.500 1.000 37.000/37.000 0.700.000 0.11 -38 Profile Productivity Measures Example 2: Assume the same data as Example 1 except the material used is 1.500 Partial Productivity Ratios 150.700.000 150.000/1.000 1.000/1.000/37.) Labor productivity ratio Material productivity ratio 2003 120.088 .700.200. Number of motors produced Labor hours used Materials used (lbs.000 2004 150.000 2003 Profile 2004 Profile 3.000 150.700.

Profit-Linked Profit-Linked Productivity Productivity Measurement Measurement Profit-Linkage Rule: For the current period. calculate the cost of the inputs that would have been used in the absence of any productivity change. To compute the inputs that would have been used (PQ). and compare this cost with the cost of the inputs actually used. The difference in costs is the amount by which profits changed because of productivity changes. use the following formula: PQ = Current Output/Base-Period Productivity Ratio 11 -39 .

500 1.700.000 $48 $12 $3 11 -40 .) 1.000 Unit selling price (motors) $50 Wages per labor hour $11 Cost per pound of material $2 2004 150.000 37.000 Labor hours used 40.000 Materials used (lbs.Profit-Linked Profit-Linked Productivity Productivity Measurement Measurement Example: Kunkul provided the following data: 2003 Number of motors produced 120.200.

000 lbs.000 x $12) Cost of materials: (1.000 x $3) Total PQ cost $ 600.100.000 x $3) Total current cost $ 450.500.000/0.100.100 = 1.000 $5.000/3 = 50.000 11 -41 .500. Cost of labor: (50.000 The actual cost of inputs: Cost of labor: (37.000 hrs.550.Profit-Linked Profit-Linked Productivity Productivity Measurement Measurement PQ (labor) = 150. PQ (materials) = 150.500 x $12) Cost of materials: (1.000 $5.500.000 4.000 5.700.

Total current cost = $5.000 decrease in profits The net effect of the process change was unfavorable.000 – $5.550.100. Profits declined $450. 11 -42 .Profit-Linked Profit-Linked Productivity Productivity Measurement Measurement Profit-linked effect = Total PQ cost .000 because of productivity changes.000 = $450.

840.650.000 $ 1.000 $3.060.000.000 2003 Difference $6.000 5.710.000 $1.000 2.550.000 = $1.000 .200.Price-Recovery Component 11 -43 The difference between the total profit change and the profit-linked productivity change is called the pricerecovery component.160.000 – $450.510.000 Price recovery = Profit change – Profit-linked productivity change = $1.200.000 2. 2004 Revenues Cost of inputs Profit $7.000 $-1.510.

11 -44 Topic Six The The End End .