What is the Cost of Quality? 04 Components of Cost of Quality

Introduction of Cost of Quality

The corporate environment is growing more competitive. Almost every product on the market has many options available to the consumer. To thrive, businesses must keep their prices competitive. Top-performing organizations differentiate themselves from the competition by listening to the customer’s voice and producing products that fulfill their needs while maintaining a high degree of quality and dependability. These companies figure out how many quality costs and then utilize that information to their advantage.

The organization can choose to spend on quality costs upfront to mitigate or prevent failures or pay after the problem is detected by the customer. In far too many circumstances, businesses choose the latter. Product failures can lead to higher warranty expenses and, in some cases, product recalls. The financial consequences can be disastrous. There are also the difficult-to-quantify costs associated with a loss of brand equity and a potential drop in future sales. Quality costs can have a significant positive or negative impact on a company’s bottom line and market credibility.

 What is the cost of quality?

The cost of quality is a way of assessing the costs that businesses pay for ensuring that their products meet quality standards, as well as the costs of manufacturing things that do not. The purpose of cost of quality calculation is to have a better knowledge of how quality affects the bottom line. Both factors matter, whether it’s the cost of scrap and rework associated with poor quality or the cost of audits and maintenance connected with good quality.

Manufacturers can use the cost of quality to examine and improve their quality processes. It is a mechanism for defining and measuring where and how much of an organization’s resources are spent on prevention and product quality maintenance, as opposed to the costs associated with internal and external failures. These companies figure out how many quality costs and then utilize that information to their advantage.

Components of Cost of Quality (COQ)

 There are four different elements of quality costs:

 COQ = AC + PC + IFC + EFC

 

Prevention Cost (PC)

 Prevention costs are induced to prevent or avoid quality issues, planned activities, and designed before operations to ensure good quality and prevent poor quality products or services. They are planned and incurred prior to the product’s actual assembly on the work floor.

Examples of Prevention Cost:

  • Design, implementation, and maintenance of QMS (Quality Management System)
  • New Product Evaluations quality planning (APQP)
  • Use of Mistake Proofing (POKAYOKE Devices)
  • Use of Statistical Process Control (SPC)
  • Failure Mode and Effects Analysis (FMEA)
  • Supplier Surveys, Supplier Development
  • Process Audits, Product Audit, Layered Audit
  • Quality improvement teams, Six Sigma, Quality Circle, and KAIZEN program
  • Instrument and Gauge calibration
  • Education and Training

Appraisal Cost (AC)

 Appraisal costs are expenses related to quality control that a company incurs to detect defective inventory before it is shipped and ensure its products and services meet the expectations of the customers. It enables businesses to keep their products and services defect-free in order to preserve their market reputation.

Appraisal costs are also considered an investment, not a loss, by some organizations because you’re assuring that quality specifications have been met, and you’re preventing unnecessary failure costs, etc.

 Examples of Appraisal Cost:

  • Receipt Inspection
  • In process or Patrolling Inspection
  • Pre-Dispatch Inspection
  • Material Testing (Chemical, Mechanical or Microstructure analysis, etc)
  • Periodic Review of documentation
  • Cost of Measuring devices

Internal Failure Cost (IFC)

  Internal failure costs are quality costs related to product or service faults that are identified before a product leaves the plant or reaches the consumer. Internal inspection methods at the company uncover these errors.

Examples of Internal Failure Cost:

  • Product Rework (within the organization)
  • Product Segregation
  • Scrap Cost
  • Machine Breakdown
  • Cost on rejection/ rework analysis
  • Waste due to poorly planned processes

External Failure Cost (EFC)

  External failure cost is the most expensive category of quality cost, and it includes the costs incurred by the company after a defective product or service reaches the customer and malfunctions, as well as the legal and compensation costs incurred if a customer sues the company for a defective product.

Examples of Internal Failure Cost:

  • Product Rework (at customer end or at the field)
  • Product Segregation (at customer end)
  • Scrap Cost (at customer end)
  • Product Recall
  • Warranty Claims
  • Customer Debit

Why Cost of Quality is important?

 The true definition of cost of quality is a financial measure of an organization’s quality performance that aids in the optimization of various costs in order to attain the greatest quality possible at a more reasonable price. It also aids the company in devising and determining corrective steps in the event of any prospective failures. It frequently occurs when a company discovers defective products both before and after they are shipped to customers. It is a necessary methodology since it allows the company to gain a competitive advantage over its competitors in the industry. These costs ensure that problems and root causes that may have an impact on the business are discovered at an early stage, allowing for proactive measures to be taken.

Why Measure COQ?

COQ can be used to identify opportunities for quality improvement because eliminating defects or abnormalities before production begins lower quality expenses and helps organizations increase profits. The calculation of the cost of quality is still a challenge, and it varies depending on the business. Organizations in competitive sectors will never obtain the upper hand and survive the ever-changing dynamic environment if this cost is not evaluated and defined. As a result, it becomes vital to measure it because it aids the company in maintaining a healthy and favorable bottom line.

What is the Cost of Opportunity Losses?

This category of losses is because of the impact of poor performance of the organization which directly or indirectly impacted financial performance of the organization.

This can be further divided into the following two categories:

  • Direct Opportunity Losses
  • Indirect Opportunity Losses

Direct Opportunity Losses (DOL)

These are losses because of losing share of business from all existing customers or losing all potential customers directly because of poor performance. The following could the reason for direct losses:

  • Poor Product or Service quality
  • Lack of adherence to delivery of products
  • Delay in product development time
  • Poor response to customer
  • No response to customer
  • Noncompetitive product prices

 Indirect Opportunity Losses (DOL)

To understand the impact of indirect opportunity losses, let’s take one hypothetical scenario

You have been to a conference wherein there are hundreds of representatives from the different organizations are there and they discussed various topics. In the same conference, poor product quality performance of one of the vendors say M/S Suraj Automotive Pvt. Ltd was a highlight and as an impact some of the companies who were supposed to give orders to M/S Suraj Automotive Pvt. Ltd, they cancel the proposal to go ahead with product development with them. This type of opportunity losses for M/S Suraj Automotive Pvt. Ltd will be treated under the category of Indirect opportunity losses.

The Purpose and Advantages of a COQ Program

A COQ System’s ultimate purpose is to lower the total cost of quality, resulting in enhanced profitability and quality for the company.

In the following ways, a COQ Program can contribute to overall increased profitability:

  • A COQ Program justifies the cost-benefit of required Corrective Actions and Improvement projects.
  • A COQ Program can help you estimate the costs of inefficient or ineffective procedures that cause unnecessary variation and waste.
  • A COQ Program emphasizes the value of prevention actions as a cost-cutting measure and a means of lowering quality costs.
  • A COQ program prioritizes and integrates your quality efforts and activities with the financial goal of profitability for your firm.
  • A COQ program identifies the quality and manufacturing system’s strengths and deficiencies.
  • For ROI analysis, a COQ Program reframes improvement prospects as financial advantages.
  • A COQ program identifies waste and other areas for improvement.
  • A COQ Program educates all employees that their activities, whether positive or negative, always have an impact on the organization’s bottom line.
  • A COQ Program promotes a holistic approach to Continuous Improvement by ensuring that the overall benefits of a project do not have unexpected implications elsewhere in the organization.

 Conclusion

The cost of quality can be defined as the costs incurred by a business in terms of allocating resources to maintain high-quality outputs for its target consumers and ensuring that the product produced is dependable and has a long-term impact on the minds of the end-users. If a company fails to use its resources to comply with quality measures, it risks losing its competitive advantage. Furthermore, if the cost of quality is not factored in, it can have a significant influence on the company’s bottom line. “The cost of quality is dynamic and changes over time.”

Some quality management system standards also advocate assessing the cost of poor quality, with the emphasis on reducing failure to avoid any negative customer impact.

To begin with, the organization must select whether to measure the Cost of Quality or the Cost of Poor Quality. It’s also worth noting that while there is no universal standard for measuring various indicators across different categories, there are some common methods in the industry that can be used and customized by companies to meet their own needs.

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