A few weeks ago I participated in an online discussion about the Cost of Quality. The person initiating the discussion wanted some advice as to how to calculate the Cost of Quality for the company.
Most companies I have worked with over the years make an attempt to calculate the Cost of Quality. The most popular method to do this is to use the standard costing system. I have seen some companies calculate the Cost of Quality as the total material cost scrapped. Other companies went further – they included the standard labor & overhead of scrapped material.
Why do companies do this? I think the primary reason is to be able to report summary information to senior management to answer this question:
How much is poor quality costing the company?
Let’s look at how Lean Accounting answers this question:
Material Cost – this is a true cost – the value of material scrapped due to poor quality. The only difference between Lean Accounting and standard costing is the cost of the material. Lean Accounting uses the actual purchase price of the material scrapped rather than some standard material price.
Labor and Overhead – traditionalists would argue that the time spent making poor quality products is a cost to the company and would use standard costing to calculate this cost. Lean Accounting does not consider this a true cost because it considers labor & overhead costs to be primarily fixed. We will incur these costs no matter if operations is making good product or scrapping product.
The real “Costs of Quality” from a Lean Accounting viewpoint are lost productivity, the possibility of poor quality products being passed to customers and the root causes of poor quality. None of this information comes from standard costing, it comes from performance measurements.
We want to measure quality incidents at every production cell daily & in every value stream weekly. Measures such as First Time Through or First Pass Yield will give us the true root causes of quality, from which corrective action can be taken. This is the most valuable quality information for a company. Senior management must ask questions about the speed & impact of the corrective actions taken as these corrective actions will eliminate quality issues.
Use Lean Accounting performance measurements to focus the quality efforts of your company on identifying the root causes of quality and the corrective action taken and stop efforts to calculate a company-wide “Cost of Quality”.