Cost management

8 August 2016

Cost saving and improve productivity : Improving quality is the best way to reduce manufacturing costs and to increase productivity. > Bird-eye view : TI want to do their job right the first time. Their organizations treat strategic planning and quality improvement planning as an integrated activity. They want to find hidden quality costs and reduce hidden costs using COQ. 2) Reason of choosing a financial measure of quality Cultural change : TI want to create a major cultural change from the bottom line by using COQ. A cultural change was needed from the old to the new.

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All employees are familiar with financial terms, so they chose a financial measure of quality Easy to recognize : The COQ measure was designed to highlight the cost of poor quality, the cost of doing things wrong. They can intuitively recognize poor quality and wrong thing by using financial terms. > TI want to company-wide cultural change. Financial terms are easy to understand from employee to CEO, so they use financial measure of quality in COQ. 2. Evaluate the COQ variables adopted by the Materials & Controls Division. Should they be changed? Why?

Evaluation of COQ variables Prevention cost Appraisal Cost Internal Failure Cost External Failure Cost -Quality Engineering -Receiving inspection -Equipment Repair/Maintenance -Mfg. Engineering -Design Engineering -Quality Training -TSL Laboratory -Design Analysis -Product Acceptance -Mfg. Inspection -Quality Scrap -Rework -Mfg/Process Engineering -Net RMR Cost -Marketing -Mfg/Process Engineering -Repair -Travel -Liability Claims Appeared in the above table are variables that are COQ variables which Texas Instruments currently adopted and practicing variables at their sites.

All of these COQ variables can be easily recognized as useful and needed components for COQ purpose. However, these variables cover only operational COQ variables. It also means that it cares only about quality related costs that emphasizes much on short term cost reducing and profit increasing matters. In addition, these way of controlling quality is easily appeared at American companies. Then, this cannot measure COQ sharply. Japanese companies’ way of looking at the quality is different from Americans’. Japanese companies’ approach to COQ is more like directing action instead of as a goal.

Japanese also allocate responsibility of quality to all level of employees. This align with the concept of “Top-to-Sharp”. In addition to operational COQ variables, operational variables cannot explain all COQ, such Japanese-like strategic approach can help measuring COQ more precise. 2) Suggested Strategic COQ variables. KPI : COQ related KPI must be developed to push people toward participating in quality improvement issues.. Company-wide continuous process improvement : it should not limited to production department, should apply to all level of management for company-wide 3.

What value are the four quality cost categories (prevention, appraisal, internal and external failure)? How can this information be used? There are four categories in the cost of quality as bellows. Prevention costs : Costs incurred to prevent non-conforming units from being produced. Appraisal costs : Costs incurred to ensure that materials and products that failed to meet quality standards were identified prior to shipment. Internal failure costs : Scrap costs and costs incurred in correcting errors caught at appraisal, Before delivery of the product to the customer

External failure costs : Costs incurred in correcting errors after delivery of the product to the customer. Prevention costs and Appraisal costs are called “Control costs” that is incurred to prevent defective products. And “Failure costs” are costs that is incurred to correcting errors by defective products. These two categories of COQ (Control costs and Failure costs) have some correlation as below diagram. [Exhibit 1] Correlation of Quality and COQ The more defective products the larger failure costs but in that time control costs (prevention and appraisal cost) are small.

The less defective products the smaller failure costs but control costs increase very highly. We cannot and do not supposed to effort to make a product`s quality “100% Perfect” because we do more effort to do that our COQ will be increased to unaffordable level. We have to find the optimal level of quality in consideration of the quality needs of customers and the costs level. Actually according to our individual experiences, if we mention cost of quality we mean “Failure cost” in most of real business. Most of control costs (prevention and appraisal cost) are not easy to account by financial measure and the amounts of it is not so large.

And if we try to account the amount of control costs, the measuring costs could be larger than that. This is the reason why most company do not take into account the Control costs seriously and do not try to measure that. But we can see by 1 : 10 : 100 rules (that is.. if we invest $1 to prevention activity we can save $10 of appraisal cost and save by $100 of failure costs), by the small effort to prevent unconformity we can save huge amount of failure costs and prevent disasters. (refer to Exhibit 2) [Exhibit 2] Failure cost and process time

More important point of view about “Control cost” is that the prevention activities are related with company-wide level not restricted to production related departments. If we do not account the Control cost, most of (production) indirect departments do not care about the seriousness of quality loss cost and do know the significance of their quality related activities. So, we have to adopt these COQ and using those information (and by using KPI systems related with these COQ results) let employees know the importance of quality management by each individual and involve employees to company-wide quality management.

The last and most important point of view about COQ lays in the “Intangible Loss”. (refer to Exhibit 3) As we previously explained, we can account the COQ and by using that we can lead employees to quality-oriented activities and improve the level of quality. But there are many variables that is hard to accountable or unaccountable (let us call this “Intangible Loss”) These intangible loss (like loss of reputation or brand image, chilling effect of employees) is so formidable that company can go bankrupt at overnight. So, many of Japanese companies to inculcate the mindset of significance of intangible loss by quality mgt.

Manual inspection cost during work in process Failure Cost (Non-Conformity Cost) Internal F-Cost · Quality scrap · Rework · Reinspection / Retest · Keeping excess inventory · Unreported defective products External F-Cost · Processing Customer Complaints · Field repairs · Recall cost / Warranty Cost · Processing returned Goods · Penalties · Loss of reputation / brand image · Chilling effect of employees · Cancellation or cease of orders [Exhibit 3] Classifications of COQ and examples of variables * Yellow shaded parts are most fatal quality cost and could be a huge amounts. 4.

What changes to the COQ system should Werner Schuele, the Vice President of People & Asset Effectiveness, recommend? 1) Importance of COQ Average net profit for many companies are less than 5% of sales. COPQ (Costs Of Poor Quality) is big, usually 15~20% of sales. Total COQ on the average is 25% of sales. Some companies are as high as 40%. COPQ is usually 3 to 5 times of its profit, can be 10 times. So “Don’t let poor quality costs eat companies’ profits! ” is important. If company reduces COPQ, can have higher profit for company. 2) Limitations of COQ (Traditional way) There are some limitations of COQ.

For example, misunderstanding poor cost of quality drivers means not to figure out the root causes of poor quality correctly. The company put lots of efforts and money to the drivers but they could not get it properly. Additionally, there are some other limitations on process, people, measurement, culture and etc. Finally, these limitations lead unsuccessful COQ implementation. Especially, Mr. Schuele concerned that, in this case, capturing indirect COPQ costs is very important. These costs can cause considerable loss to the company; even the company can be collapsed. But it is very hard to measure and find it out.

If the costs can’t be measures in numbers, then the company can’t handle and invest to reduce costs. 3) Recommendations Increasing Revenue through high quality In traditional way, companies put lot of efforts to reduce costs to maximize their profit. As time goes by, quality is getting important in market. Customers want good quality products than low quality and cheap products. Moreover, nowadays many of companies have heaps of data of customer needs. If they can make high quality products through these data and effective quality control strategy, their profit will be increased.

This approach is a new profit maximization strategy. 4) Point of view The company should change a different point of view about COQ from costs to process or strategy. As successful Japanese company, company-wide efforts from teams directly related with production to indirect teams to do COQ activity constantly will be needed through processes or systems. Constant process like TQM (Total Quality Management) can be an answer. Through TQM, every direct or indirect teams or employees try to find any problems with production, even extend their effort to optimize company and their process.

Therefore the company can find and improve indirect costs naturally which normally hard to find, too. Finally, Long term view will be needed for executing COQ. Short-term COQ and TQM In short term view, their process will be trapped in death spiral, like this picture. For profit, cutting budget for production leads more error, and fixing costs and low quality product. It cause total costs increase and poor profits. Long-term COQ and TQM On the other hand, long term view leads virtuous circle. Proper invest in quality improvement causes improvement of productivity and quality. Finally they will decrease in total costs and get higher profits.

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