What is “Cost of Quality”?
The Cost Of Quality “COQ” is the cost associated with delivery a product or service to a customer that is perfect, error free, functions as promised, and anything else the customer considers to be required.
Given the definition, the costs associated with COQ are not just the obvious failure costs such as scrap, rework, warranty, but also the costs of inspection, expediting, managing the process, and many other costs as shown in the Iceberg.
If a process delivered a quality product or service every single time without fail, scrap would be zero, warranties could be infinite because they would cost zero, and there would be no need for inspection, expediting, and managing the process including the many other costs that are less obvious.
Why is COQ important?
If the cost of quality is 30, 40, or even 50% of sales as it is in most companies, then it is important – even though most companies consider all of the things mentioned above as a part of COQ as “business as usual.”
Business as Usual
Most companies stop trying to improve at about 30% COQ. They mostly consider those costs as “business as usual” – “you can’t have perfect processes, you can’t operate without mistakes, you can’t have perfect processes, etc.” – but these typical statements fly in the face of the evidence. Companies are finding ways to avoid that cost and when they do, they become fierce competitors because they can quote prices below what you consider to be the cost of doing business. How will you compete with a company doing what you do that has a COQ of 5%?
Want to take a rough cut at your COQ? The traditional way is to just add up the cost of scrap, rework, warranty, inspection, inventory carrying costs (20% per year), expediting, and a healthy portion of supervision and management payroll because they spend most of their days firefighting, and you get a rough COQ.
Another way and possibly more elegant in it’s simplicity is “Rolled Yield.”
A term used mostly in the six sigma movement, it’s a metric that takes the yield at every step of the process – the ‘first pass yield’ is what’s intended here – and multiplies it together to get a rolled yield figure. At first this might seem like gibberish but there is a logic whose explanation goes beyond the scope of this post but if you need it send me a reply with your email and I’ll send you a copy of the article – or you can just pick the book “Six Sigma” and read chapter six. Basically this rolled yield accumulates the amount of work that is done and PAID FOR, that does not result in a usable product or service.
So for instance, if you have four steps in your process and the first pass % yields are 80, 90, 90, 95 then you would simply multiply each as follows .80X.90X.90X.95 = .6156 or roughly 61% rolled yield.
Now to apply that to get COQ, simply multiple the total cost of your operations, say it’s $1M per month times 39% (the reciprocal of 61%) and you get a COQ of $390K per month.
Now notice that’s $390K per month that could be going to your bottom line if you had mature processes that did not require “business as usual.”
Changing Your Mind
As leaders, our job is to define what is and isn’t “Business as Usual” and everyone else will follow our lead – that’s why they call us leaders. If we say that all of this cost is Business as Usual then nobody is going to work on reducing it. But if you say as they do in Toyota, all waste is bad and nothing is Business as Usual, then you have set the pace for excellence. You may not know how to achieve zero defects, but it’s clear that you decide whether it needs to be achieved.
In most cases this means you need to change your mind about what you consider business as usual.
Demanding Process Maturity is a way of changing your mind.