iSixSigma

Cost of Quality: Not Only Failure Costs

When calculating the business case for a Six Sigma project, the cost of poor quality (COPQ), which is the cost caused through producing defects, is a commonly used concept. Within the total amount of quality cost, however, COPQ represents only a certain proportion. Costs do not result from only producing and fixing failures; a high amount of costs comes from ensuring that good products are produced. This article explains the cost of quality as a more comprehensive concept covering the cost of poor quality and the cost of good quality. In short, any cost that would not have been expended if quality were perfect contributes to the cost of quality.

Cost of Quality

As defined by Philip B. Crosby in his book Quality Is Free, the cost of quality has two main components: the cost of good quality (or the cost of conformance) and the cost of poor quality (or the cost of non-conformance). As Figure 1 shows:

  • The cost of poor quality affects:
    • Internal and external costs resulting from failing to meet requirements.
  • The cost of good quality affects:
    • Costs for investing in the prevention of non-conformance to requirements.
    • Costs for appraising a product or service for conformance to requirements.
Figure 1: Cost of Quality

Figure 1: Cost of Quality

Cost of Poor Quality: Internal Failure Costs

Internal failure costs are costs that are caused by products or services not conforming to requirements or customer/user needs and are found before delivery of products and services to external customers. They would have otherwise led to the customer not being satisfied. Deficiencies are caused both by errors in products and inefficiencies in processes. Examples include the costs for: 

  • Rework
  • Delays
  • Re-designing
  • Shortages
  • Failure analysis
  • Re-testing
  • Downgrading
  • Downtime
  • Lack of flexibility and adaptability
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Cost of Poor Quality: External Failure Costs

External failure costs are costs that are caused by deficiencies found after delivery of products and services to external customers, which lead to customer dissatisfaction. Examples include the costs for: 

  • Complaints
  • Repairing goods and redoing services
  • Warranties
  • Customers’ bad will
  • Losses due to sales reductions
  • Environmental costs

Cost of Good Quality: Prevention Costs

Prevention costs are costs of all activities that are designed to prevent poor quality from arising in products or services. Examples include the costs for: 

  • Quality planning
  • Supplier evaluation
  • New product review
  • Error proofing
  • Capability evaluations
  • Quality improvement team meetings
  • Quality improvement projects
  • Quality education and training

Cost of Good Quality: Appraisal Costs

Appraisal costs are costs that occur because of the need to control products and services to ensure a high quality level in all stages, conformance to quality standards and performance requirements. Examples include the costs for: 

  • Checking and testing purchased goods and services
  • In-process and final inspection/test
  • Field testing
  • Product, process or service audits
  • Calibration of measuring and test equipment
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The total quality costs are then the sum of these costs. They represent the difference between the actual cost of a product or service and the potential (reduced) cost given no substandard service or no defective products. 

Many of the costs of quality are hidden and difficult to identify by formal measurement systems. The iceberg model is very often used to illustrate this matter: Only a minority of the costs of poor and good quality are obvious – appear above the surface of the water. But there is a huge potential for reducing costs under the water. Identifying and improving these costs will significantly reduce the costs of doing business. 

Figure 2: The Iceberg Model of Cost of Quality

Figure 2: The Iceberg Model of Cost of Quality

The Six Sigma Philosophy of Cost of Quality

What is the relation between the cost of good quality and the cost of poor quality? The traditional view would be to conclude that if a company wants to reduce defects and by this reduce the cost of poor quality, the cost of good quality would have to be increased, meaning higher investments in any kind of checking, testing, evaluation, training of operators, etc. Following the Six Sigma philosophy, however, of building quality into process, service and products and doing things right the first time, the increase of the cost of good quality, while striving for zero defect performance, can be smoothed if processes get better. 

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As Figure 3 shows, business processes with better process sigma will have significantly lower prevention and appraisal costs. Although you will never fully eliminate appraisal and prevention costs (as opposed to failure costs that in an ideal zero defect world would also be zero), their reduction due to better process performance will be significant. 

Figure 3: Traditional Management View vs. Six Sigma Philosophy

Figure 3: Traditional Management View vs. Six Sigma Philosophy

Table 1 shows how dramatically the cost of quality as a percentage of sales decreases if the process sigma improves. 

Table 1: Sigma Level and the Cost of Quality

Sigma Level

DPMO

Cost of Quality as Percentage of Sales

2

298,000

More than 40%

3

67,000

25-40%

4

6,000

15-25%

5

233

5-15%

6

3.4

Less than 1%

Assuming that the average performance of a company is 3 sigma, 25 percent to 40 percent of its annual revenue gets chewed up by the cost of quality. Thus, if this company can improve its quality by 1 sigma level, its net income will increase hugely.

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Comments 23

  1. Michelle Baker

    Is your DPMO (shown in your Cost of Quality table), equal to the sum of all the internal and external failures?

    In other words, the DPMO is the sum of multiple process fallout?

    Thanks,

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  2. Akmal

    yes . its the total Defects Per Million Opportunities

    DPMO: (1,000,000 * Number of Defects) / (Number of Units * Number of opportunities).

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  3. zizu

    does cost of quality include marketing costs?

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  4. philip

    I’d say in general not zizu, marketing is a normal activity of finding out what customers want, making sure your service or products are aligned to that and then ensuring the customers know about that, this will go on even if your products and services are defect free, right the first time. However if you had to rebrand a product or launch a marketing campaign especially due to poor products or services then I think it would be.

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  5. Carlos

    Are internal failure cost more or less important thatn external failure cost regarding the cost of quality?

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  6. Pradeep Chellakani

    The prevention cost will increase first reducing the appraisal cost (Meaning moving from Inspection to automation and prevention through right design). This will increase the yield from RTY instead of the FPY or classical yield.

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  7. R.Chakrapani

    Loss of sales due to poor Product image/Brand Image/poor marketing /poor supplier chain bottlenecks,in relation to competition in the same industry needs to be accounted in COQ.

    RC

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  8. Mohd. Haneef

    what is the relation b/w scrap & COQ.

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  9. Pam

    If there is a planned evolution, such as trimming an impeller blade, that occurs because of data obtained from the first pump test, is that considered a cost of poor quality?

    My position is that this is NOT COPQ because the first test, the trim, and the second test are planned into the decision on trimming and are planned into the process.

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  10. DanJ

    Hi, great summary. Question – are the Sigma Levels and Cost of Quality equal for services vs. manufacturing companies? Our service centers do a lot ITIL incident, problem, change, and service management and I am interested in being able to measure COPQ for failed changes, incidents, etc.

    thanks in advance,

    -Dan

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  11. Makary

    Question is what is better
    keeping bad quality service and poor prices
    or high level of quality and high prices.
    maybe sometimes mix is the best way???

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  12. Saji

    Is there any example for The cost of poor quality that incurred high internal or external costs ???

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  13. Jonathan (JT)

    This was very useful and help me to understand the Cost of Quality and the potential cost reduction of the items list below water.

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  14. Ryan

    Hi, what is the source or source data for Table 1 – is it also from Crosby?

    And do you find the cost of quality as a percentage sales changes by industry (i.e., software vs. auto manufacturing)? Thanks!

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  15. Ashok Yadav

    Obsolete inventory due to production phaseout should comes under which category?

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  16. Brdurais

    What should be the % distribution of the COQs in a software industry. Should CoQ prevention be higher than CoQ-Appraisal? I have always evidenced that the appraisal cost is more than the prevention

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  17. Serien Nowailati

    Hi,

    How do you think these quality costs are related to LSS?

    Thanks

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  18. Nick

    I am just starting the Six Sigma process and learning about COQ and DPMO but my question is related to Table 1. How do those numbers get populated? How do you assume that a company that is performing at 3 sigma is between 25-40% with 67,000 DPMO?

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  19. Stephen N. Anderson

    Manufacturing client needs quality management from initial potential customer data gathering to sales communication to engineering to manufacturing and to suppliers to manufacturing.

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