Historical evolution of quality costs

To compete successfully in an environment as aggressive and changing as the one we are living in, service companies need increasingly detailed and accessible information for the exploitation of which they have to use increasingly sophisticated analysis methods. Companies that provide services must face new realities. One of them is the growing demand from the public for a greater commitment to quality on the part of suppliers concerning the products or services they sell.

Quality is no longer just another factor but has become one of the main competitive factors, without which every company will be doomed to failure and subsequent disappearance.

At present the cost of quality is an indispensable factor. If a company is not competitive in terms of these, it cannot even enter the market. In this diploma work, it is proposed to address the problem of poor quality costs and its implementation in a service company.

1.1   Quality background

Until the middle of the 20th century, quality was seen as a problem that was solved using inspection tools. In the 1940s, all final products were 100% tested to try to ensure the absence of defects. At this time Quality was defined as the suitability of a product for its use (Evans, 1995).

In the 1960s, the Quality departments had Quality Assurance as their function and had a strong development. According to (Ivancevich 1997), already at this time the Japanese had launched and were implementing their theories on Total Quality in the company as a whole and had assumed the approaches on the effectiveness of group work, with the massive implementation of Circles. Quality and Improvement Groups, generally made up of personnel from different areas, analyze the causes of the most important problems and seek their solution.

In the 70s, principles such as: “Quality is everyone’s responsibility” and “You have to do things right the first time” were already established in Japanese companies, and it was common to talk about “internal customer”. All these concepts were adapted throughout the 80’s in the rest of the world, when observing the excellent results they had given in Japan. In the 1990s, the liberalization of markets, new technologies, increased competition, and the need to make drastic cost reductions have given rise to programs for the implementation of Total Quality Management Systems in many companies, with the fundamental objective of increasing competitiveness and meeting customer expectations.

This vision changes when considering quality as a strategic factor. It is no longer an inspection activity but a preventive one: planning, designing, setting objectives, educating, and implementing a process of continuous improvement. Strategic quality management makes it a source of competitive advantages that requires the collective effort of all areas. and members of the organization. ( Romero, 2003).

Diagram 1 shows a set of quality concepts that have evolved throughout history.

Source: Own elaboration from the consulted bibliography

1.1.2 Overall Quality

To study the development of a Total Quality program we are going to divide it into four bases:

1. 1 . Technical aspects.
2. Human factor
3. Strategic imperatives
4. The External Client.

Technical aspects:

These are the procedures or techniques responsible for achieving greater organizational effectiveness. They are also techniques directed towards the interior of the company that tends to maximize production and improve and eliminate waste. On the other hand, they shore up cost and time, emphasizing increasing value, reducing waste, and simultaneously embracing a philosophy of continuous improvement.

Quality costs are those that the company incurs in meeting customer requirements. There is a culture that accepts failure as something inevitable that cannot be prevented, which is why complex ‘quality control’ agencies, inspectors, etc. are oversized. and in many cases, it is the clients themselves who act as detectors of this non-conformity. Phill Crosby has defined quality costs as input from two factors: conformance costs and nonconformance costs.

Compliance Costs:

Reducing quality costs is possible from the investment in preventive activities that focus on meeting customer requirements (internal and external). It is about looking for root causes of failures, analyzing them, and implementing preventive solutions that avoid their recurrence permanently.

There is a group of tasks associated with prevention that have a cost to carry them out, from here arises this so-called compliance cost:

1. Investment in preventive activities.
2. Operating Procedures Manuals.
3. Operations planning.
4. Statistical Control of Processes.
5. Equipment calibration and testing.
6. Provider development.
7. Audits and quality systems.

Non-conformity costs:

To call attention to the cost of not doing things right the first time and to the need for continuous improvement, they are measured as “Costs of Non-Conformance” (CONC).

Nonconformity costs are all those incurred because errors occur. Without errors, evaluation and correction tasks would not be necessary. These costs are produced by:

1. a) The right job is not done: for example, a superfluous task to the client’s requirements or a report that nobody reads.
2. b) An activity is carried out incorrectly the first time (defective products, reprocessing).

The main sources that are had to identify the CONC can be the Costs for failures, the Costs of Inspection, and the Costs of not doing the correct things.

Failure Costs:

Warranty repairs, product returns, scrap, products sold as lower value, excessive after-sales support, complaints management, rework, lost efficiency and production capacity, excess stock, late collections, overtime for poor planning, idle capacity, loss of sales, and loss of image with customers.

Inspection Costs:

To find the economic value of the inspection costs, the costs of direct and indirect labor involved, materials consumed, costs of services (electricity, gas, telephone, etc.), depreciation and maintenance of equipment, and financial effects will be considered. and extraordinary expenses or losses (sale at a lower value, waste treatment, etc.).

Taking as an example the company that receives a return of a product for not meeting the requirements, the tasks to be carried out would be:

1. a) Give attention to the claim by a vendor or Customer Service.
2. b) Start up the internal administration.
3. c) Withdraw the merchandise from the customer and pay the freight with their labor.
4. d) Generate a credit note to the customer.
5. e) Give entry of the material to the deposit and reclassify it.
6. f) Reprocess it if possible or dispose of it.
7. g) Replace the material with the client or lose the sale.
8. h) Internal investigation of the cause of the error.

Human factor:

This aspect refers to the human component of the organization. Within the company, transactions are carried out in which individuals or sectors offer a service to others to continue the production chain. This is where the notion of Internal Customer arises. These definitions allow for extending the concept of “meeting requirements” within the organization.

The different techniques that work in the field of Organizational Development deal with this problem. This focuses on values, relationships, and the organizational climate, “the man variable” implies facing communication problems, etc.

It tends to achieve the following goals:

• Improvement of interpersonal competence.
• Human factors and feelings come to be considered legitimate.
• Greater understanding between and within working groups.
• More effective team management.
• Better methods for conflict resolution.
• Organic and non-mechanical systems.

The goal is to create an environment in which people can express themselves as individuals and feel fulfilled in an increasingly organized and impersonal society that imposes more and more restrictions and forces employees to work in a formal structure.

Strategic imperatives: 

Within the organization, we find in the strategic imperatives of the business vital imperatives that must be met for the company to prosper. A process is a linear chain of related activities. Such processes cross departmental lines. Focusing on business imperatives and looking at the cross-departmental processes on which they depend will help groups avoid becoming myopic about their function or department by forgetting the overall strategy or customer concern. Within the company, the activities are made up of a series of chains of suppliers and customers. If you want the quality process to be carried out correctly, the requirements must be identified and fulfilled in each of these stages.

The external client:

Organizational development thus far has been inward-looking and isolated, concentrating entirely on the internal climate and employee interaction. The customer and the interest in satisfying his needs and exceeding his expectations and at the same time producing what has been promised must be the driving force of total quality. Doing so ensures customer loyalty, which translates into greater market share. In addition, this achieves an extremely strong impact on the internal climate.

The aim is to involve clients in the improvement process so that their voice is dominant and clear at the same time. The total quality is dependent on the client and originates from a deep interest in meeting the needs of the client and exceeding his expectations. “Total quality describes the state of an organization in which all activities of all functions are designed and performed in such a way that all external customer requirements are met, while reducing internal time and costs. and enriching the working environment”.

The first part of a quality system is the clear identification of customer requirements. The external customer is the engine of the quality system, so the following two steps must be taken:

1. Identify external customer requirements.
2. Ensure that internal processes produce compliance with requirements at minimum cost.

Customer requirements are translated into specifications. These are classified as Hard or Soft.

By Hard specifications, we understand the properties that must be met by the product: size, weight, packaging, deadlines, price, technical support, etc.

Soft specifications are determined by the soft features of the product and services to improve business relationships with customers and increase customer loyalty. They are called soft because they are not written in any contract but they represent something very valuable in customer satisfaction.

1.1.4 Continuous Improvement

Currently, the Economies need to focus on an organizational change oriented to the continuous improvement of all levels of the organizational structure.

The company must focus on knowing the needs of its internal and external customers since the change in their needs is very dynamic, practices must be developed that make this change a valuable opportunity to improve toward competitive positions.

The philosophy of continuous improvement assumes that the way of life in the work and family environment deserves to be constantly improved, since at any time and place that improvements are made in performance standards, these will eventually lead to improved quality and services.

The Continuous Improvement process is a human task and for it to work it needs all the people involved in it to play their part in the best possible way.

This process does not work with the effort of a single person, it is necessary for the entire group to be directly involved and to be convinced of the benefits that the process of continuous improvement brings.

1.1.5 Quality Trilogy

This theory establishes three basic points to obtain, maintain and improve quality.

1. Quality planning: Determine customer needs and develop the best products and activities to satisfy them.
2. Quality control: Evaluate the real behavior of quality, compare the proposed results obtained, and then act to reduce the differences.
3. Quality improvement: Establish an annual plan for continuous improvement to achieve beneficial and permanent change.

2.1 Quality of services

2.1.1 Importance of service activity and its Quality

Service activities have existed, in terms of economic category, since classical Greece. The importance that Greek society gave to the education of young people is recognized, although here it had a marginal economic role, given the slave-owning and agricultural nature of this society. Already in the late Middle Ages, the transport services of spices and fabrics through the Silk Road, which crossed Europe and the East to China, constituted the wealth of city-states such as Venice, becoming an economically more important activity. important of entire countries like Portugal and the Netherlands with their shipping companies.

Starting in the 18th century, with the first Industrial Revolution, services lost their economic importance, which would only be resumed in the mid-20th century and maintained, increasingly, up to the present. Traditionally, economic activities have been classified into three sectors:

Primary Sector (agriculture, livestock, and extractives, Secondary Sector (industry), and Tertiary Sector (service). During the 1980s, a trend that placed the service in a predominant position in the development of the economy has been observed with particular clarity.

1. Albrecht’s thesis is confirmed: “There is a true Service Revolution”.
2. We are in the Age of Service.

This means:

1. a) That the service must be treated as a differentiated activity
2. b) That the service is no longer a simple provision: it is an art, a culture!
3. c) That the “problem of systems (management models) and service provision must be resolved, based on a new philosophy (way of thinking) generated by the changes.

These are two different approaches. A traditional approach where the producer produces with his back to the clients and the market, although for them and where the client simply submits to the offer of the companies (PUSH). Another, is where the client and the market come to occupy the central place, the starting point, the force that pulls the system (PULL).

This idea is represented in the graphic that is presented. As it is logical to suppose, this Revolution poses new challenges, which must be faced from a strong desire for transition and change.

Quality of services is called the perception that a client has about the correspondence between performance and expectations, related to the set of secondary, quantitative, and qualitative elements of a main product or service. [Larrea, 1991].

The quality of the service is the responsibility of the entire organization from the strategic apex to the operational core, including the elements of the technostructure, Media Line and Support Staff, including everything that is directly and indirectly related to customers, because the more the quality of the service and the behavior of the Human Resource, the greater the risk that it will not be by what is established.

Those who produce service must be taught that the client only sees in the service “what does not work”, that is, when a client evaluates and does so constantly, the quality of a service does not separate its components, he judges it entirely, what prevails is a general impression and not the relative success of one or another specific action.

That is to say, that quality is rather the correspondence between the perception of the properties of a good and/or service with what is expected of it. For this reason, “the quality of the service is total or non-existent. When a client values ​​the quality of the service, he does not dissociate its components. He judges her as a whole.” [Horovitz, 1990].

According to the perception that the client has about the satisfaction of each of their needs, there are three types of quality: [Pérez, 1994]

Required quality: Level of compliance with the service specifications.

Expected quality: Satisfaction of unspecified or implied aspects.

Underlying quality: Related to the satisfaction of the unexplained expectations that every customer has.

According to Juran and Gryna [1999], “customer satisfaction is defined from two components: the characteristics of the product and the lack of deficiencies”. Constituting customer satisfaction is one of the characteristics that define the aptitude of the processes.

In the memory “Quality management in service organizations”, the author, Fernandez Clúa, [2001] raises the need to integrate the terms of real and substitute quality into the Quality Loop [Ishikawa, 1988], quality perceived [Larrea, 1991] and potential quality [Fernández Clúa, 1996], which would allow it to be analyzed in all its dimensions. the actual quality is given by expectation or necessity. Substitute quality is the derivation of the actual quality to the conditions of service in terms of specific quality characteristics. The perceived quality is the impression, the impact that the service has caused on the client, and the potential quality refers to that which the entity is capable of giving with the conditions it possesses; Generally, it is modified as a result of an analysis or improvement process.

2.1.2 The service cycle

It represents the continuous chain of events that a customer must go through when experiencing the service. In this way, the cycle helps to solve the conflict between the technical approach and the customer approach and the staff to collaborate with the customer. The cycle helps to solve the conflict between Technical Approach and Customer Approach. As we already know, in the former, providers do not generally think of the process as a single stream of related experiences. They think about their tasks and responsibilities.

The customer is the only one who sees the big picture, the organization as a whole, even though Moments of Truth is, as a rule, heterogeneous in its customer impact.

The analysis and improvement of service cycles is a fundamental part of the “Engineering” process of service management.

3.1 Quality Costs

3.1.1 Historical Evolution of Quality Costs

Source: Own elaboration from consulted bibliography

The development that leads to this assertion occurs from a clear identification of the “quality costs” of a product. These costs are the specific indicator of Quality Management. The concept and identification of costs for various functions (Marketing, Production, Services)

These costs are evident in the usual account lists and summary submission systems and do not meet the needs of the Quality function.

Likewise, the specialists raise two clear requirements:

1. a) Establish a classification of Quality Costs for its correct elevation.
2. b) Clarify and determine the “optimal level” of said costs.

3.1.2 Quality Costs and their Classification

There are several classifications given by the authors for the categories of quality costs on different approaches, which are appropriate to the organization. Quality costs can be classified into the categories of conformance and nonconformance costs.

Conformance Costs: Costs incurred by meeting a set of requirements for a product or service adequate to satisfy the implicit or explicit needs of customers. These costs are controllable by the company since it is she who will decide how much is spent on preventing and evaluating the quality costs that occur, these are subdivided into prevention and evaluation costs.

The elements that could be presented in a service company can be the following:

Prevention costs: administration of the quality system, research, planning, and development of new services, training, protection, safety, and health at work, verification, and calibration of measuring equipment, preventive maintenance, and insurance coverage.

Evaluation costs: supervision of the service process, measurement of customer satisfaction, and evaluation of the state of the opinion of the staff.

Internal failure costs: An internal failure is one in which the client does not feel harmed, either because he does not get to perceive it, or because it does not affect him. The fact that these failures are not perceived by the clients depends to a great extent on the evaluation activities that the company undertakes.

External Failure Costs: External failures are those that affect customers since they are capable of perceiving them. Logically, when a product is being manufactured, if a failure is detected in the early stages of the production cycle, the cost is lower than if that failure is detected when the product has already been delivered to the customer since in the latter case the product incorporates many more operations. The cost of failures increases as more value is added to the product. That is why external failures, in addition to incurring the costs of internal failure, are increased by all the tangible costs that are caused when the customer perceives the failure (processing of claims, after-sales service, returns, etc.) plus the intangible costs that this failure also causes (loss of company image,

The activities caused by external failures are the same as those needed to correct internal failures plus all those that intervene to satisfy the customer by solving the problem caused as a result of the failure.

Here are some examples that demonstrate the importance of an organization striving to minimize Failure Costs:

¨ Accepting 3% of defective products or services implies accepting that for every 1000 Clients, there will be 30 dissatisfied ones.

¨ Accepting components with 5% defects means accepting 950 good ones and 50 bad ones.
¨ When a Client complains, it is estimated that there are 260 dissatisfied Clients.

It could be said that the ideal percentage of Failure Costs would be zero, in practice, 6% or more offers great opportunities for improvements, and 2% or less allows a great possibility of competitiveness (Source).

Tangible Costs: tangible costs or explicit costs are those that can be calculated using conventional cost criteria, normally following generally accepted accounting principles. In general, these costs are accompanied by a cash outlay by the company, it is personnel costs and raw materials and materials.

Intangible Costs: Intangible costs, also called implicit costs, are those that are calculated using subjective criteria and that are not recorded as costs in accounting systems.

Most intangible costs fall into the category of external failure costs, such as loss of company image. However, they can also appear when the company incurs internal failures, for example, the demotivation of employees.

In quantitative terms, the relative importance of intangible costs is greater than that of tangible costs. Many authors use the example of the iceberg, pointing out that most of the intangible costs are located in the hidden part of it, being ignored by conventional accounting systems, taking possession of the tangible ones in the visible part, implying that they are perfectly located in the accounting system.

3.1.3 Types of Calculation and Analysis of Quality Costs

The way of calculating quality costs according to Lidia Gómez Napier ( ¿? ) is shown below:

Where:

e: an activity that constitutes an element of cost to quality

n: number of workers who worked in the activity e.

m: Total Materials used in the activity e.

l: total equipment used in the activity e.

h: total other expenses in the activity e.

Quality costs _eprev = Salary cost _e + Cost of materials _e + Cost of equipment _e + Cost of Other expenses

Quality costs _eeval = Salary cost _e + Materials cost _e + Equipment cost _e + Other expenses cost

Quality costs _eF.int = Salary cost _e + Cost of materials _e + Cost of equipment _e + Cost of Other expenses

Quality costs _eF.ext = Salary cost _e + Cost of materials _e + Cost of equipment _e + Cost of Other expenses

Total Quality Costs = ∑ (Quality Costs _eprev ) + ∑ (Quality Costs _eeval ) + ∑ (Quality Costs _eF.int ) + ∑ (Quality Costs _eF.ext )]

Where:

Quality Costs _eprev. : Costs of the quality expenditure element that is classified in prevention.

_eeval Quality Costs: Costs of the quality expense item e that is classified under evaluation.

Quality Costs _eF.int : Costs of the quality expense item e that is classified as internal failures.

Quality Costs _eF.ext : Costs of the quality expense element e that is classified as external failures.

Differences in poor quality costs are best measured on a percentage basis or relative to some appropriate basis. The total costs of quality, whether of the company or a process, are compared with a base indicator, resulting in an index that can be graphed or analyzed periodically.

The specialized literature emphasizes using the company’s net sales as a comparison guide. For long-term analysis, they may be a better basis for comparison, but in industries where they vary significantly from period to period, they will not be the basis for short-term comparisons.

A report must be made to the management of the entity where it summarizes the behavior of quality costs in a determined period Tables, graphs, and descriptions will be used. Graphs will present data as a function of time and trend curves may also be given.

Reports to senior management can be monthly or quarterly. For middle and lower managers they are generally more frequent. All management levels should receive the cost of quality reports and the information may vary depending on who will be delivered.

Another way of calculation according to the author (Garbey 2001) to compare quality costs and the most used according to his criteria is the following:

The Quality Costs/Real Sales Volume coefficient is compared, in such a way that the Quality Costs can increase, provided that the Real Sales Volume is increased in a greater proportion.

3.1.4 Advantages of the Implementation of a Quality Cost System

Source: Own elaboration from the consulted bibliography

3.1.8 Steps to Follow in an Implementation of a Quality Cost System

Before beginning with an implementation of a Quality Cost System, it is necessary to plan, a work plan or a schedule must be made in which the dates and the sequence of each of the tasks are defined and coinciding with (Garbey 2001) We detail them below:

Step 1: The creation of a work team that is trained to implement the Quality Costing System. It is recommended to start by creating this working group since the financial reports from the Quality area are generally questioned, in addition to the fact that it is advisable to take advantage of the roles established for both areas, the inconvenience that may arise at the beginning is to convince the financial area of ​​the need to calculate the Quality Costs.

Step 2:Select a Test Area:

It is recommended to establish selection criteria such as:

¨ Being an autonomous area, since it allows evaluating the impact of costs on sales.
¨ Possess a good database on Costs.

¨ Management is open to new ideas and changes.

¨ Being an area that needs to improve Quality. Step 3: Analysis of the key process diagram.

The working group together with the person in charge of the test area must carry out the analysis of the key processes of the selected department or area to determine the elements that will be included in the calculation of quality costs.

Step 4: Identify and classify cost elements.

It consists of identifying all the elements of the Cost of Quality related to the test area, classifying them into Prevention, Evaluation, Internal Failures, and External Failures. By brainstorming and taking into account the analysis of the key processes, each member of the workgroup suggests the costs that he considers should be included in the Quality Cost System.

Step 5: Establishment of the elements of Inputs to the System and the primary and statistical records.

Based on the classification made in the previous step, the elements to be included are defined. It is recommended that to obtain the necessary information to calculate the Quality Costs, models and reports that are already established in the organization are used, either as they are established or by adding small changes and avoiding the creation of new models.

Step 6:Setting the Output Formats:

Performance Reports are designed that reflect the calculation of the Quality Costs classified into Prevention, Evaluation, Internal Failures, and External Failures.

Step 7: Automation of the system.

It is recommended to use computer techniques, such as Excel spreadsheets.

Step 8: Begin the test period and set-up of the system.
To do this, first of all, the period during which the test will be carried out must be delimited, the improvement teams are formed and the team that analyzes the Costs of Quality begins to function. Since it is a living process, from the changes generated by practical experience, it is modified according to the expectations of the Client (Senior Management).

Step 9: Review the Monthly Cost of Quality Report.

Monthly reports of quality and non-quality costs are issued and are reviewed in detail by the Board of Directors.

Step 10: Generalization of the Program to the rest of the areas.

When it is considered that all issues related to the Quality Cost System have been foreseen, it is generalized to the entire organization, developing a strategy that takes into account the capacity of the Accounting area.

3.1.9 Quality Cost Quantification Methods

This is one of the most important and difficult points when implementing the (SCC). Below we present some of the methods with which it is possible to calculate these costs (tangible and intangible):

• Accounting for primary documents.
• Explicit items in the monthly income statements.
• Calculation and registration of costing by events.
• Activity Costing (ABC).

Bibliography:

• GARBEY CHACON NORGE and SARMIENTO SANTANA JOSE: » Proposal of a methodology for the implementation of activity-based costing in the Cuban hotel industry. Practical experiences achieved.» Paper presented at the II International Accounting and Finance Event in the Third Millennium, Havana, April 2001. (Published in the Book of Abstracts.)
• – GARBEY CHACON NORGE: “Activity-Based Costing: A proposal for its application in the Cuban Hospitality”, Thesis in Option to the academic title of Master in Tourism Management, Santiago de Cuba, 2001.
• – GARBEY CHACON NORGE: “Quality Cost System for Tourist Facilities”, Internet http://www.gestiopolis.com/recursos/documentos/fulldocs/fin/siscostocalidad.htm, October 2, 2002.
• – KAPLA ROBERT S and COOPER ROBIN: “Cost and Effect” Editora Gestión 2000, Spain, 1999.
• – MFP: «General Accounting Standards Business Activity. General Guidelines for the Planning and Determination of the Cost of Production”, Cuba, 1997.
• – MIJUS: “General Bases for Business Improvement”, Official Gazette of the Republic of Cuba, September 14, 1998.
• – PPC: “Economic Resolution V Congress of the Communist Party of Cuba”, Political Editor, Havana, CUBA, 1998.
• – SHANK JK and GOVINDARAJAN V.: «Strategic Cost Management», Editora Norma, Spain, 1995.