Page 26 - Six Sigma Demystified

Chapter 1 d e p loy m e n t s t r at e g y 7

consider all the non- value- added costs associated with poor quality: quality assur-
ance departments, customer complaint departments, returns, and warranty
repairs. These associated activities and costs are sometimes referred to as the
“hidden factory,” illustrating the resource drain they place on the organization.
For many organizations, quality costs are hidden costs. Unless specific quality
cost identification efforts have been undertaken, few accounting systems
include provision for identifying quality costs. Because of this, unmeasured
quality costs tend to increase. Poor quality affects companies in two ways:
higher cost and lower customer satisfaction. The lower satisfaction creates price
pressure and lost sales, which results in lower revenues. The combination of
higher cost and lower revenues eventually brings on a crisis that may threaten
the very existence of the company. Rigorous cost of quality measurement is one
technique for preventing such a crisis from occurring.
It’s not uncommon for detailed quality audits to reveal that 50 percent of
the quality costs go unreported to management, buried in general operating
costs. Often these costs are considered “the cost of doing business” to ensure a
high- quality product or service to the customer. Reworking, fine- tuning,
touch- ups, management approvals, next- day deliveries to compensate for
delayed or failed processes, and fixing invoice errors are all non- value- added
costs that may go unreported.
As an organization moves to a 5s level of performance, its cost of quality
drops to around 5 percent of sales. The Six Sigma organization can expect to
spend between 1 and 2 percent of sales on quality- related issues.
How are these cost savings achieved? As a company moves from 3s to 4s
and then to 5s, its quality costs move from “failure costs” (such as warranty
repairs, customer complaints, and so on) to “prevention costs” (such as reliabil-

ity analysis in design or customer surveys to reveal requirements). Consider the
increased costs incurred when customers detect problems. A common rule of
thumb is that an error costing $1 to prevent will cost $10 to detect and correct
in- house and $100 to remedy if the customer detects it. These orders of mag-
nitude provide an incentive to move toward error prevention.
The cost of quality also drops quickly as dollars that go to waste in a 3s orga-
nization (owing to failure costs) go directly to the bottom line in a Six Sigma
organization to be reinvested in value- added activities that boost revenue. Thus,
while the 3s organization is forever in “catch- up” or “firefighting” mode, the Six
Sigma organization is able to fully use its resources for revenue generation. This
infusion of capital helps the sales side of the equation, so the cost of quality as
a percentage of sales (shown in Figure 1.3) drops more quickly.