Hansen, Mowen, Elias & Senkow (ITP, 1998)

Week 11 - Quality Costs and Productivity: Measurement, Reporting, and Control Chapter 16

Chapter 16-1

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Learning Objectives
1. Identify and describe the four types of quality costs. 2. Prepare a quality cost report and explain the difference between the conventional view of acceptable quality level and the view espoused by total quality control. 3. Explain why quality cost information is needed and how it is used. 4. Explain what productivity is and calculate the impact of productivity changes on profits.

Chapter 16-2

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Quality Defined
Quality of Design: The degree of excellence, which is a function of a products specifications

Example: Compare a Cadillac Seville with a Honda Civic. The Seville is a luxury car with specially designed features and the Civic is an economy car with standard features. Both are designed to provide transportation but the design quality are obviously different

Quality of Conformance: The degree of excellence, which is a measure of how well the product meets its requirements or specifications

Example: If the Honda Civic does what it is designed to do and does it well, quality exists. If an economy car is designed to provide reliable, low-cost, low-maintenance transportation, the desired quality exists

Chapter 16-3

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Quality Dimensions

Performance consistently Aesthetics Serviceability Features or quality of design Reliability Durability Quality conformance Achievement of advertised functions
Chapter 16-4

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Measuring the Costs of Quality

Control activities Prevention costs Appraisal costs Failure activities Internal failure costs External failure costs

Chapter 16-5

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Estimating Hidden Quality Costs

The Multiplier Method The Market Research Method

Chapter 16-6

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Examples of Quality Costs

Prevention costs Quality engineering Quality training Quality planning Quality audits Design reviews Quality circles Appraisal Costs Inspection of raw materials Packaging inspection Product acceptance Process acceptance Field testing Supplier verification

Chapter 16-7

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Examples of Quality Costs

Internal failure costs Scrap Rework Downtime (defect related) Reinspection Retesting Design changes External failure costs Lost sales Returns/allowances Warranties Repair Product liability Complaint adjustment

Chapter 16-8

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Reporting Quality Costs

Quality Costs
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 $35,000 80,000

%of Sales

$115,000

4.11

$20,000 10,000 38,000

50,000 35,000 25,000 25,000 15,000

68,000

2.43

85,000

3.04

65,000 $333,000

2.32 11.90%

Chapter 16-9

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Traditional Quality Cost Graph

Cost Cost of Failures

Cost of Control

0 Optional (AQL) Percent Defects

Chapter 16-10

100%

Hansen, Mowen, Elias & Senkow (ITP, 1998)

ZERO-DEFECT GRAPH
Cost Total Quality Cost

0 Percentage Defects
Chapter 16-11

100%

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Types of Quality Performance Reports

Progress with respect to a current-period standard or goal. Progress with respect to last years quality performance. The progress trend since the inception of the quality improvement program. Progress with respect to the long-range standard or goal.

Chapter 16-12

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Interim Quality Cost Report

Cost Item
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

Actual Costs
$35,000 80,000 $115,000 $20,000 10,000 38,000 50,000 35,000 25,000 25,000 15,000

Budgeted Costs

Variance

$30,000 $5,000U 80,000 $110,000 0 $28,000 15,000 35,000 $78,000 $44,000 36,500 $80,500 $25,000 20,000 17,500 $62,500 $331,000

$5,000U

$68,000

$8,000F 5,000F 3,000U $10,000F 6,000U 1,500F $4,500U $ 0 5,000U 2,500F $2,500U $2,000U

$85,000

$65,000 $333,000

Chapter 16-13

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Quality Cost: One-year Trend

Cost Item 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 Actual Costs 1998 $35,000 80,000 $115,000 $20,000 10,000 38,000 50,000 35,000 25,000 25,000 15,000 Actual Costs 1997 Variance

$36,000 $1,000F 120,000 $156,000 40,000F $41,000F $33,600 16,800 $39,200 $13,600F 6,800F $89,600 1,200F $21,600F 2,000U 5,000F $3,000F $8,000F 2,000U 1,400F $7,400F $73,000F

$68,000

$85,000

$48,000 40,000 $88,000 $33,000 23,000 16,400 $72,400 $406,000

$65,000 $333,000

Chapter 16-14

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Multiple-Period Quality Costs

Assume the following data:
Quality Costs
1994 1995 1996 1997 1998 $462,000 423,000 412,500 406,000 333,000

Actual Sales
$2,200,000 2,350,000 2,750,000 2,800,000 2,800,000

%of Sales
21.0 18.0 15.0 14.5 11.9

Chapter 16-15

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Multiple-Period Total Quality Costs

Total Quality Costs as a % of Sales
25 20 15 10 5 0 1994 1995 1996
Chapter 16-16

1997

1998

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Multiple-Trend Analysis for Individual Quality Costs

Assume the following quality cost data:
Prevention
1994 1995 1996 1997 1998 6.0%1 6.0 5.4 5.6 4.4

Appraisal
4.5% 4.0 3.6 3.2 2.4

Internal Failure
4.5% 3.5 3.0 3.1 3.0

External Failure
6.0% 4.5 3.0 2.6 2.3

1Expressed

as a % of sales

Chapter 16-17

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Quality Cost Information

For monitoring quality performance For understanding the relationship between quality and costs For suggesting alternative programs For implementing new programs

Chapter 16-18

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Illustration of Productivity Improvement

Technical Efficiency: Condition where no more of any one input is used than necessary to produce a given output. A. Technical efficiency improvement: using less input to produce the same output or producing more output using the same input. B. Price efficiency improvement: using a less costly input mix to produce the same output.

Chapter 16-19

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Partial Productivity Measures

I. Partial Productivity Measurement: measuring productivity for one input at a time. Partial Measure = Output / Input II. Operational Productivity Measure: partial measure where both input and output are expressed in physical terms.

Chapter 16-20

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Productivity: Measurement and Control

Productivity Measurement Defined - Productivity is the relationship between output and the inputs used to produce the output.

Partial Productivity Ratio = Output/Input

Chapter 16-21

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Productivity Measurement
Assume the following data:
1995
Number of heaters produced Labour hours used Material used (kgs.) Unit selling price (heaters) Wages per labour hour Cost per pound of material 110,000 11,000 110,000 $25 $10 $5

1996
110,000 10,000 88,000 $25 $10 $5

Chapter 16-22

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Operational Productivity Measurements

1995a
Labour productivity ratio Material productivity ratio 10.00 1.00

1996b
11.00 1.25

Ratios do not reveal the value of the improvement

labour:

110,000/11,000; Materials: 110,000/110,000 bLabour: 110,000/10,000; Materials: 110,000/88,000

Chapter 16-23

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Profit-Linked Productivity Measurement

Profit-Linkage Rule: The measure of value of productivity changes is the difference between costs of inputs that should be used in the absence of any productivity change and the cost of inputs actually used. The difference in costs is the amount by which profits changed because of productivity changes.

Chapter 16-24

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Profit-Linked Productivity
Input PQa PQ x P AQ
10,000 88,000

AQ x P
$100,000 440,000 $540,000

(PQ x P) - (AQ x P)
$10,000 110,000 $120,000

Labour 11,000 $110,000 Materials 110,000 550,000 $660,000

labour:

110,000/10; Materials: 110,000/1

Profit-linked effect = Total PQ cost - Total current cost = $660,000 - $540,000 = $120,000 increase in profits Implications: $10,000 came from labour improvement while $110,000 came from a reduction in material usage.
Chapter 16-25

Hansen, Mowen, Elias & Senkow (ITP, 1998)

In-Class Assignment
Prevention - quality engineering - receiving inspection - quality training Appraisal - product inspection Internal failure - scrap - rework External failure - net cost of returned products
Chapter 16-26

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Cost of Quality Report Shortcomings

Information is not explicitly gathered Budgets are not prepared Quantitative measures are missing Responsibility not properly delegated

Chapter 16-27

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Numerical Questions from the Back of Chapter 16

W16-3, E16-3, E16-7,E16-13.

Chapter 16-28

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Question E16-3
Please return to the textbook to read the question.

Chapter 16-29

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Question E16-7
Please return to the textbook to read the question.

Chapter 16-30

Hansen, Mowen, Elias & Senkow (ITP, 1998)

Question E16-13
Please return to the textbook to read the question.

Chapter 16-31