MacroEconomics of QualityMacroEconomics of Quality

IssuesIssues

Why Estimate Cost of Quality Failures? Quality Costs are Far Greater than Those that are Readily

Identifiable (Iceberg Principle) Gains to be Made if Cut Measured Quality Losses in Half How to Reduce Quality Losses

Rule of “Tens” Eradicate Killer Re’s Play Offense (Prevention) vs. Defense (Detection)

Sound Quality Practices

Why Estimate Cost of Quality FailuresWhy Estimate Cost of Quality Failures

Quantify the Cost of Quality Failures for the Business Identify magnitude of potential savings Sensitize Management to the size of the opportunity Help to re-expose problems we have learned to tolerate

Identify the Highest Loss AreasPermit Prioritizing the Loss Areas for

Corrective Action

Economics of Quality: TCE Statistics 1994Economics of Quality: TCE Statistics 1994

TV Units Sold 5 millionEstimated Revenues $2.5 billion

(5 x $500 per set)Estimated Earnings $125 million

(5% of Sales)

Scrap (Measured) $12 million

Total Cost of Quality $72 - 600 million

(Measured & Hidden)

Cost of Scrap per TV(12/5) $2.40 per unit

Total Cost of Quality $14.40 - $120

(M+H) per TV Sold

(6/1 to 50/1 Iceberg)% Total Cost of Quality 3% - 24% per TV/Selling Price (14.40/500 -120/500)

# Defects per TV ?

Economics of Quality: TCE Statistics 1994Economics of Quality: TCE Statistics 1994

Economics of Quality: STB Economics of Quality: STB Systems Statistics 1998Systems Statistics 1998

Units Sold 6 million Estimated Revenues $300 million

(6 x $50 per unit) Estimated Net Earnings $16.2 million

(5.4% of Sales)

Average Scrap (Measured) $ 1.875 million $1.875 Total Cost of Quality $11.25-93.75 million $52.5

(Measured & Hidden)

Cost of Scrap per Unit $.3125 per unit $.3125

(1.875/6) Total Cost of Quality $1.875 - $15.625 $8.75

(M+H) per Unit Sold

(6/1 to 50/1 Iceberg) % Total Cost of Quality 3.75% -31.25% 17.5%

per Unit/Selling Price

(1.875/50-15.625/50) # Defects per Unit ???

Cost of Quality FailuresCost of Quality Failures

ICEBERG PHENOMENONICEBERG PHENOMENON

Direct/Measured Costs:Direct/Measured Costs:

Scrap/ReworkScrap/Rework

Service CallsService Calls

Warranties/ConcessionsWarranties/Concessions

Indirect/Hidden Costs:Indirect/Hidden Costs: Excess InventoryExcess Inventory

OvertimeOvertime

Reputation/ImageReputation/Image

Hidden Costs = 6 to 50 times Measured CostsHidden Costs = 6 to 50 times Measured Costs

Cost of Quality Failures Cost of Quality Failures WorksheetWorksheet

FAILURE COST CATEGORIES ESTIMATEDANNUAL COSTS

$(000)MEASURED COST OF QUALITY

Internal Waste, Scrap ____________________ Rework ____________________ Reinspect ____________________

External Warranties ____________________ Guarantees ____________________ Concessions ____________________

TOTAL MEASURED __________________

HIDDEN COST OF QUALITYHIDDEN COST OF QUALITYInternal

Troubleshooting and failure analysis __________________ Evaluation to determine usability of off

specification material __________________ Engineering changes, redesign, buy-offs

__________________ Costs of reviewing quality problems

(i.e.,replanning, meetings, expediting, firefighting, reports, etc.) __________________

Inventory costs on held material __________________ Overtime because of quality problems __________________ Late shipment premiums (delayed collections) __________________ Material handling __________________ Tool & fixture redesign __________________ Machine wear __________________ Fringe benefits on labor __________________ Loss of productivity due to rework, scrap

__________________

HIDDEN COST OF QUALITYHIDDEN COST OF QUALITYExternal

Loss of market share due to poor quality reputation ____ Loss of profitability ____ Loss of bond credit rating ____ Other

______________________________________________ ___________________________________________________ ___________________________________________________ ___________________________________________________

Total Hidden ____

Grand Total ____

WHAT IF ???WHAT IF ???

We could cut losses in half?

1/2 x $12,000,000 …………………......$6,000,000

If ICEBERG is between 6/1 to50/1……$36,000,000

to $300,000,000

Total TCE net earnings in 1994 were?

WHAT IF???WHAT IF???

We could cut losses in half?

1/2 x $1,875,000 $937,500 IF ICEBERG is between 6/1 to 50/1 $5,625,000 to

$46,876,000

Total STB Systems net earnings for 1998 estimated to be

$26,250,000$26,250,000

$16.2 million$16.2 million

Economics of Quality: STB Economics of Quality: STB Systems Statistics (1997 vs. 1998)Systems Statistics (1997 vs. 1998)

1997 1998Sales $190 million $300 million

Net Earnings (Income) $10.26 million $16.20 million(5.4% of Sales)

COQ as of % of Sales 10 - 25% 10 - 25%

COQ ($) $19 - 47.5 million $30 - 75 million

What if COQ cut in half? $9.5 - 23.75 million $15 - 37.55 million(Savings) ($16.63 million) ($26.25 million)

Net Income with Savings $26.89 million $42.45 million

How to Reduce Quality LossesHow to Reduce Quality Losses

Rule of “Tens”Eradicate Killer Re’s…WastePlay Offense (Prevention) vs. Defense

(Detection)

RULE OF “TENS”RULE OF “TENS”

Not doing it right the first time costs ten times as much to find and fix each time errors escape to a subsequent stage of handling.

$1 Design Effort

=$10 Production Cost

=$100 Assy/Test Cost

=$1000 Field Cost

The Killer Re’sThe Killer Re’sReadjust ReprocessReapply ReprogramRecalibrate RerunRecertify RescheduleRecheck ResealRecondition ReshipRecycle RestampRefinish ResockReidentify RetapReinspect RetestRelevel ReturnRemearsure ReweldRenormalize RewindReorder RewireRepack Rework

Reject (The worst kind)

Computing Cost of QualityComputing Cost of Quality

Internal Failure Scrap Rework Scrap/Rework - Supplier

Appraisal Inspection Test Quality audits Test equipment - initial cost

& maintenanceExternal Failure Cost to customer Warranty costs Complaint adjustments Returned material

Prevention Quality planning Process planning Process control Training

Note: The listed categories provides an understanding of the COQ structure. In general, COQ is comprised of costs due to failure, appraisal, and prevention.

The Enlightened PerspectiveThe Enlightened Perspective

QualityQuality

Internal &

External Failure

Appraisal &

Prevention

45

6

Old BeliefOld BeliefNew BeliefNew Belief

Sound Quality PracticesSound Quality Practices

Operational Definitions and Standards (Metrics)

Manage by Fact “In God we trust. But everyone else must bring data!” Without good data, everyone is an expert

Focus on Process (Offense) vs Product Results (Defense)

Reduce Variation

Questions?Questions?