Continuous improvement and quality costs - Prevention apprai...

Learning Outcomes

This article explains the concept of continuous improvement in performance management, analysing quality cost types: prevention, appraisal, internal failure, and external failure. You will be able to classify and assess these costs, recognise their effects on performance and strategy, and apply appropriate approaches for minimising total quality costs. After reading, you should be able to discuss, calculate, and evaluate quality cost implications in ACCA APM exam scenarios.

ACCA Advanced Performance Management (APM) Syllabus

For ACCA Advanced Performance Management (APM), you are required to understand the strategic role of quality management in performance improvement and its cost implications. Specifically, revision should focus on:

• The distinction between continuous improvement and traditional approaches to quality.
• The four categories of quality costs: prevention, appraisal, internal failure, and external failure.
• The relationship between quality costs and performance measurement.
• Methods for minimising total quality costs and supporting continuous improvement.
• Evaluation of quality-related performance data in management reporting.

Test Your Knowledge

Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.

1. Which of the following best describes a prevention cost?
   1. Repairing faulty products after delivery.
   2. Inspecting finished output.
   3. Training staff to avoid defects.
   4. Compensating customers for returns.
2. Identify which cost below is classified as an external failure cost:
   1. Process rework caused by detected defects in production.
   2. Cost of running customer support hotlines for complaints.
   3. Annual quality staff training.
   4. Equipment testing before production.

3. True or false? Increasing prevention costs usually leads to a decrease in both internal and external failure costs.

4. Briefly explain how appraisal costs differ from prevention costs in a manufacturing company.

5. List the four main categories of quality-related costs.

Introduction

Continuous improvement aims for ongoing, incremental improvements in quality, efficiency, and performance. In performance management, measuring and minimising quality-related costs is central to achieving competitive advantage and customer satisfaction. Understanding the sources, types, and implications of quality costs supports strategic decision making and effective control. This article explores the four main categories of quality costs—prevention, appraisal, internal failure, and external failure—and explains how continuous improvement approaches can reduce these costs over time.

Key Term: continuous improvement
A management approach focused on regular, incremental improvements to processes, aiming to improve quality, efficiency, and performance on an ongoing basis.

Key Term: quality-related costs
All costs incurred to ensure that products or services meet quality standards, and the costs arising when quality fails to meet those standards.

Categories of Quality Costs

Quality costs are typically classified into conformance costs and non-conformance costs, each with two subcategories.

Prevention Costs

Prevention costs are incurred to stop defects or quality problems before they occur. Common prevention activities include staff training, process design improvements, supplier evaluation, and routine equipment maintenance.

Key Term: prevention cost
The cost of activities undertaken to avoid or minimise defects and ensure products or services are made right the first time.

Appraisal Costs

Appraisal costs arise from activities that assess or monitor product or service quality. They include inspection of materials, tests on finished goods, audits, and other measurement activities carried out to detect defects before reaching the customer.

Key Term: appraisal cost
The cost of evaluating products, materials, or processes to detect defects or ensure quality standards are being met.

Internal Failure Costs

Internal failure costs result from defects discovered before delivering products or services to customers. This includes rework, scrap, downtime due to process errors, and losses from rejected items in production.

Key Term: internal failure cost
Cost incurred to correct or dispose of defective products or services detected before delivery to customers.

External Failure Costs

External failure costs arise when faults are discovered after delivery to the customer. These include product recalls, warranty claims, lost sales, legal liabilities, and negative reputational effects.

Key Term: external failure cost
The cost resulting from defects found after the product or service has been delivered to the customer, including compensation, recalls, and reputational loss.

Relationship Between Quality Costs

Prevention and appraisal are conformance costs aimed at meeting quality standards. Internal and external failures are non-conformance costs, incurred when standards are not achieved. Investing in prevention usually reduces total failure costs over time.

Worked Example 1.1

Define which of the following costs incurred by a high-tech manufacturer fit under prevention, appraisal, internal failure, or external failure:

• Cost of employee training on equipment operation.
• Customer returns due to faulty power supplies.
• Destruction of defective units found during final inspection.
• Regular calibration of measurement devices.
• Free replacements provided under extended warranties.

Answer:

• Employee training: Prevention cost.
• Customer returns: External failure cost.
• Destruction of defective units: Internal failure cost.
• Device calibration: Prevention or appraisal cost (context required, but usually prevention).
• Free warranty replacements: External failure cost.

Worked Example 1.2

An electronics company spends $10,000 per quarter on staff training (prevention), $8,000 on final product testing (appraisal), $3,000 on in-process scrap (internal failure), and $6,000 compensating customers for post-sale defects (external failure). Management proposes to invest an extra $5,000 in prevention activities. Predict the possible effects on overall quality costs over the next year.

Answer:
Increased prevention spending typically reduces failures and the need for appraisal over time. Internal and external failure costs are expected to decrease, potentially resulting in reduced total quality costs even though prevention spending rises.

Exam Warning

In exam scenarios, avoid classifying all quality costs simply as "overheads." Be specific: prevention, appraisal, internal, or external failure. Answer requirements precisely and always justify your classification using the scenario's facts.

Continuous Improvement and Quality Cost Strategy

Continuous improvement methodologies such as Kaizen, Total Quality Management (TQM), and Six Sigma focus on systematically reducing defects and quality costs over time. The aim is to raise prevention investment and minimise non-conformance costs for sustained competitive advantage.

Well-designed information systems can identify trends in quality costs and highlight priority areas for action. Performance indicators should measure not just the frequency of defects, but cost trends by category.

Key Term: Total Quality Management (TQM)
A company-wide management approach focused on long-term, continuous improvement of all processes to support quality and satisfy customer requirements.

Summary

Organisations should not focus solely on detecting and fixing defects after they occur. Investment in prevention and appraisal can drastically cut failure costs. Over time, a balanced and informed approach to quality costs, supported by continuous improvement, will improve both performance and profitability.

Key Point Checklist

This article has covered the following key knowledge points:

• Identify and define continuous improvement in performance management
• Distinguish between prevention, appraisal, internal, and external failure quality costs
• Recognise how increased prevention generally reduces failure costs
• Explain the relationship between conformance and non-conformance costs
• Apply the classification of quality costs to provide recommendations in scenario-based exam questions

Key Terms and Concepts

• continuous improvement
• quality-related costs
• prevention cost
• appraisal cost
• internal failure cost
• external failure cost
• Total Quality Management (TQM)