TOTAL

QUALITY
MANAGEMENT
T Q M
QUALITY COSTING MEASUREMENT
& PRODUCTIVITY
By: -
Hakeem–Ur–Rehman
IBIT–PU
 QUALITY COST
 Feigenbaum defined quality costs as:
“Those costs associated with the definition,
creation, and control of quality as well as the
evaluation and feedback of conformance with
quality, reliability, and safety requirements, and
those costs associated with the consequences of
failure to meet the requirements both within the
factory and in the hands of customers.”

“QUALI TY I S FREE” (Crosby)

 COST OF QUALITY
 CATEGORIES OF QUALITY COST:
– COST OF ACHIEVING GOOD QUALITY
– COST OF POOR QUALITY

 COST OF ACHIEVING GOOD QUALITY

– PREVENTION COSTS
 The cost of any action taken to investigate, prevent or reduce the
risk of a non-conformity
 Include quality planning costs, designing products with quality
characteristics, Training Costs, etc.
– APPRAISAL COSTS
 The costs associated with measuring, checking, or evaluating
products or services to assure conformance to quality
requirements
 Include inspection & Testing Costs, Test Equipment Costs,
Operator Costs, etc.
 COST OF QUALITY
 CATEGORIES OF QUALITY COST:
– COST OF ACHIEVING GOOD QUALITY
– COST OF POOR QUALITY

 COST OF POOR QUALITY

– INTERNAL FAILURE COSTS
 The costs arising within the organization due to non-
conformities or defects
 include scrap, rework, process failure, downtime, and
price reductions
– EXTERNAL FAILURE COSTS
 The costs arising after delivery of product or service to
the customer due to non-conformities or defects
 include complaints, returns, warranty claims, liability,
and lost sales
THE 1-10-100 RULE
 GOAL OF
COST OF QUALITY SYSTEM

TO FACILITATE
QUALITY EFFORTS
THAT WILL LEAD TO
OPERATING COST
REDUCTION
OPPORTUNITIES

STRATEGY
 Directattack on Failure Costs to minimize them
 Investment in Prevention activities
 Reduction in Appraisal Costs
 MODEL OF
OPTIMUM COST OF QUALITY
 MEASURING AND
REPORTING QUALITY COSTS
 INDEX NUMBERS
– ratios that measure quality costs against a base
value
– LABOR INDEX
 ratio of quality cost to labor hours
– COST INDEX
 ratio of quality cost to manufacturing cost
– SALES INDEX
 ratio of quality cost to sales
– PRODUCTION INDEX
 ratio of quality cost to units of final product
 AN EVALUATION OF QUALITY
COSTS & QUALITY INDEX NUMBERS
 EXAMPLE: The H&S Motor Company small motors (e.g., 3 hp) for use
in lawnmowers and garden equipment. The company instituted a quality
management program in 2004 and has recorded the following quality cost
data and accounting measures for four years.
YEAR
2004 2005 2006 2007
QUALITY COSTS
Prevention $27,000 41,500 74,600 112,300
Appraisal 155,000 122,500 113,400 107,000
Internal Failure 386,400 469,200 347,800 544,400
External Failure 242,000 196,000 103,500 106,000
TOTAL $810,400 829,200 639,300 869,700
ACCOUNTING MEASURES
Sales $4,360,000 4,450,000 5,050,000 5,190,000
Manufacturing Costs 1,760,000 1,810,000 1,880,000 1,890,000
The company wants to assess its quality–assurance program and develop
quality index numbers using sales and manufacturing cost bases for the
four–year period.
 AN EVALUATION OF QUALITY COSTS & QUALITY
INDEX NUMBERS: “EXAMPLE (Cont…)”

 Quality Index = [(Total Quality Costs) / Base] X 100

 The Index Number for 2004 sales is:

– Quality Cost per sale = [(810,400/4,360,000)] X 100 = 18.58%

Year Quality Sales Quality Manufacturing

Index Index
2004 18.58 46.04
2005 18.63 45.18
2006 12.66 34.00
2007 10.49 28.80

 “The H&S Company quality index numbers reflect dramatically improved quality
during he four – year period”
 Quality Costs as a Proportion of both sales & manufacturing costs improved
significantly
 Quality Index Numbers are useful in showing trends in product quality over time
and reflecting the impact of product quality relative to accounting measures with
which managers are usually familiar
 QUALITY INDEX NUMBERS: “QUESTION”
Backwoods American, Inc., produces expensive water-repellent, down-lined
parkas. The company implemented a total quality management program in
2002. Following are quality related accounting data that have been
accumulated for the five year period after the program’s start.
YEARS
2003 2004 2005 2006 2007
QUALITY COSTS (000s)
Prevention $3.2 10.7 28.3 42.6 50.0
Appraisal 26.3 29.2 30.6 24.1 19.6
Internal Failure 39.1 51.3 48.4 35.9 32.1
External Failure 118.6 110.5 105.2 91.3 65.2
ACCOUNTING MEASURES (000s)
Sales $2,700.6 2,690.1 2,705.3 2,810.2 2,880.7
Manufacturing Cost 420.9 423.4 424.7 436.1 435.5

Compute quality–sales indices and quality–cost indices for each of the five
years. Is it possible to assess the effectiveness of the company’s quality
management program from these index values?
QUALITY INDEX NUMBERS: “QUESTION”
ANSWER:

These index values do not provide much information regarding

the effectiveness of the quality assurance program. They are,
however, useful in making comparisons from one period to the
next and in showing trends in product quality over time.
 QUALITY MANAGEMENT
AND PRODUCTIVITY
 Productivity
– ratio of output to input
 Yield:
– is a measure of output used as an indicator of
productivity
– Improved quality increases product yield
Yield=(total input)(% good units) + (total input)(1-%good
units)(% reworked)

or
Y=(I )(% G)+(I )(1-% G)(% R )
 COMPUTING PRODUCT YIELD
 EXAMPLE:
– The H & S Motor company starts production for a particular type of motor with a
steel motor housing. The production process begins with 100 motors each day.
The percentage of good motors produced each day average 80% and the
percentage of poor–quality motors that can be reworked is 50%. The company
wants to know the daily product yield and the effect on productivity if the daily
percentage of good–quality motors is increased to 90%.

Yield=(total input)(% good units) + (total input)(1-%good

units)(% reworked)

 Y=(I )(% G)+(I )(1-% G)(% R )

 Y = (100)(0.80) + (100)(1 – 0.80)(0.50) = 90 M otors

I f product quality is increased to 90% good m otors, the yield w ill be:
 Y = (100)(0.90) + (100)(1 – 0.90)(0.50) = 95 M otors
A 10% point increase in quality products results in a 5.5% ((95/ 90 )*100)
increase in productivity output.
COMPUTING PRODUCT YIELD “QUESTION”
The Colonial House furniture company manufactures two-draw oak file
cabinets that are sold unassembled through catalogues. The company
initiates production of 180 cabinets’ packages each week. The percentage of
good-quality cabinets averages 83% per week, and percentage of poor-
quality cabinets that can be reworked is 60%.
a) Determine the weekly product yield of file cabinets.
b) If the company desires a product yield of 174 units per week, what
increase in the percentage of good quality products must results?
PRODUCT COST PER UNIT

( K d )( I ) + ( K r )( R)
Product Cost =
Y
where:
Kd = direct manufacturing cost per unit
I = input
Kr = rework cost per unit
R = reworked units
Y = yield
 COMPUTING PRODUCT COST PER UNIT
 EXAMPLE:
– The H & S Motor company has a direct manufacturing cost per unit of $30, and
motors that are of inferior quality can be reworked for $12 per unit. From
previous Example, 100 motors are produced daily, 80% (on average) are of good
quality and 20% are defective. Of the defective motors, half can reworked to
yield good–quality products. Through its quality management program, the
company has discovered a problem in its production process that, when corrected
(at a minimum cost), will increase the good – quality products to 90%. The
company wants to assess the impact on the direct cost per unit of improvement
in product quality.

The Original manufacturing cost per motor is: ( K d )( I ) + ( K r )( R )

Product Cost =
Y
= [($30)(100) + ($12)(10)] / 90 motors
= $34.67 per motor
The manufacturing cost per motor with the quality improvement is:
 Product Cost = [($30)(100) + ($12)(5)] / 95 motors = $32.21 per motor

“The improvement in the production process as a result of the quality management program will
result in a decrease of $2.46 per unit, or [(34.67–32.21)/34.67] X 100 = 7.1%, in direct
manufacturing cost per unit as well as a 5.5% increase in product yield (computed in previous
example), with a minimal investment in Labor, plant, or equipment.
 COMPUTING PRODUCT COST PER
UNIT: “QUESTION”
The Omega Shoe Company manufactures a number of different styles of
athletic shoes. Its biggest seller is the X–pacer running shoe. In 2005 Omega
implemented a quality–management program. The company’s shoe
production for the past three years and manufacturing costs are as fellows.

YEAR
2005 2006 2007
Units Produced (Input) 32,000 34,600 35,500
Manufacturing Cost $278,000 291,000 305,000
Percent good quality 78% 83% 90%

Only one–quarter of the defective shoes can be reworked, at a cost of $2

apiece.
Compute the manufacturing cost per good product for each of the three years
and indicate the annual percentage increase or decrease resulting from the
quality management program.
 COMPUTING PRODUCT COST PER
UNIT: “QUESTION”
ANSWER
 COMPUTING PRODUCT
YIELD FOR MULTISTAGE
PROCESSES

Y = (I)(%g1)(%g2) … (%gn)

where:
I = input of items to the production process that will result in finished
products
gi = good-quality, work-in-process products at stage i
 COMPUTING PRODUCT YIELD FOR
MULTISTAGE PROCESS
 EXAMPLE:
– At the H&S motor company, motors are produced in a four–
stage process. Motors are inspected following each stage,
with percentage yields (on average) of good–quality, work in
process units as follows:
STAGE AVERAGE PERCENTAGE GOOD QUALITY
1 0.93
2 0.95
3 0.97
4 0.92
1. The company wants to know the daily product yield for product input of
100 units per day.
2. Furthermore, it would like to know how many input units it would have to
start with each day to result in a final daily yield of 100 good – quality
units.
 COMPUTING PRODUCT YIELD FOR
MULTISTAGE PROCESS
 SOLUTION:
– Y = (I)(%g1)(%g2)(%g3)(%g4) = (100)(0.93)(0.95)(0.97)(0.92)
– Y = 78.8 motors
 Thus, the production process has a daily good – quality product yield of
78.8 motors.

– To determine the product input that would be required to

achieve a product yield of 100 motors, “I” is treated as a
decision variable when Y equals 100:
– I = (Y) / (%g1)(%g2)(%g3)(%g4)
– I = (100) / (0.93)(0.95)(0.97)(0.92)
– I = 126.8 motors

 To achieve output of 100 good – quality motors, the production process

must start with approximately 127 motors.
 COMPUTING PRODUCT YIELD FOR
MULTISTAGE PROCESS: “QUESTION”
The Colonial House Furniture Company manufactures four–drawer oak filing cabinets in six
stages. In the first stage, the boards forming the walls of the cabinet are cut; in the second
stage, the front drawer panels are wood-worked; in the third stage, the boards are sanded and
finished; in the fourth stage, the boards are cleaned, stained, and painted with a clear finish; in
the fifth stage, the hardware for pulls, runners, and fittings is installed; and in the final stage,
the cabinets are assembled. Inspection occurs at each stage of the process, and the average
percentage of good quality units are as fellows.
Average The cabinets are produced in weekly production runs with a
Stage Percentage product input for 300 units.
Good Quality a. Determine the weekly product yield of good–quality
1 87% cabinets.
2 91% b. What would weekly product input have to be in order to
3 94% achieve a final weekly product yield of 300 cabinets?
4 93%
5 93%
6 96%
QUALITY–PRODUCTIVITY RATIO
QPR:
– productivity index that includes productivity and
quality costs
– It increases if either processing cost or rework
costs or both decrease.
– It increases if more good-quality units are
produced relative to total product input(i.e.,
number of units that begin the production
process)

(non-defective units)
QPR =
(input) (processing cost) + (defective units) (reworked cost)
 COMPUTING QUALITY & PRODUCTIVITY RATIO
 EXAMPLE:
– The H&S Motors Company produces small motors at a process cost of
$30 per unit. Defective motors can be reworked at a cost of $12 each.
The company produces 100 motors per day on average 80% good-
quality motors., resulting in 20% defects, 50% of which can be reworked
prior to shipping to customers. The company wants to examine the
effects of:
1. Increase the production rate to 200 motors per day
2. Reducing the processing cost to $26 and the rework cost to $10
3. Increasing, through quality improvement, the product yield of good
quality products to 95%
4. The combination 2 & 3
 SOLUTION:
– QPR for the base case:
(non-defective units)
QPR =
(input) (processing cost) + (defective units) (reworked cost)
 QPR = [(80 + 10) / {(100)($30) + (10)($12)}] X 100
 QPR = 2.89
 COMPUTING QUALITY & PRODUCTIVITY RATIO
 SOLUTION:
– Case#1: “Increase input to production capacity of 200 units”
 QPR = [(160 + 20) / {(200)($30) + (20)($12)}] X 100
 QPR = 2.89
“Increasing production capacity alone has no effect on the QPR”
– Case#2: “Reduce processing cost to $26 and rework cost to $10”
 QPR = [(80 + 10) / {(100)($26) + (10)($10)}] X 100
 QPR = 3.33
“Processing & Rework cost decreases caused the QPR to increase”
– Case#3: “Increasing, through quality improvement, the product yield of
good quality products to 95% ”
 QPR = [(95 + 2.5) / {(100)($30) + (2.5)($12)}] X 100
 QPR = 3.22
“Again, QPR increases as product quality improves”
– Case#4: “Decrease costs & increase initial good-quality units”
 QPR = [(95 + 2.5) / {(100)($26) + (2.5)($10)}] X 100
 QPR = 3.71
“The larger increase in the QPR results from decreasing costs &
increasing initial good quality products through improved quality”
 COMPUTING QUALITY &
PRODUCTIVITY RATIO: “QUESTION”
Air–Phone, Inc., manufactures cellular telephones at a process cost of $47 per
unit. The company produces an average of 250 phones per week and has a
yield of 87% good-quality phones, resulting in 13% defective phones, all of
which can be reworked. The cost of reworking a defective telephone is $16.
a. Compute the Quality–Productivity Ratio (QPR).
b. Compute the QPR if the company increase the production rate to 320
phones per week while reducing the processing cost to $42, reducing the
rework cost to $12, and increasing the product yield of good–quality
telephones to 94%.
Questions
& Answers
QUESTIONS
&
ANSWERS
Questions
& Answers