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15-23 Quality Cost Report; Quality Cost Categories LO1, LO2 In September 2007, Olson Company received a report from an external consulting group on its quality costs. The consultants reported that the company's quality costs total about 25 percent of its sales revenues. Somewhat shocked by the magnitude of the costs, Frank Roosevelt, president of Olson Company, decided to launch a major quality-improvement program. This program was scheduled for implementation in January 2008. The program's goal was to reduce quality costs to 2.5 percent by the end of 2008 by improving overall quality. In 2008, it was decided to reduce quality costs to 22 percent of sales revenues. Management felt that the amount of reduction was reasonable and that the goal could be realized. To improve the monitoring of the quality-improvement program, Frank directed Pamela Golding, the controller, to prepare quarterly performance reports comparing budgeted and actual quality costs. He told Pamela that improving quality should reduce quality costs by 1 percent of sales for each of the first three quarters and 2 percent in the last quarter. Sales are projected at $5 million per quar- ter. Based on the consulting report and the targeted reductions, Pamela prepared the budgets for the first two quarters of the year. Quarter 1 Quarter 2 $5,000,000 $5,000,000 Sales Quality costs: Warranty Scrap Incoming materials inspection Product acceptance Quality planning Field inspection Retesting Allowances New product review Rework Complaint adjustment Downtime (defective parts) Repairs Product liability Quality training Quality engineering Design verification Process control measurement Total budgeted costs Quality costs/sales ratio $ 300,000 150,000 25,000 125,000 40,000 30,000 50,000 65,000 10,000 130,000 60,000 50,000 50,000 85,000 30,000 $ 250,000 125,000 50,000 150,000 60,000 0 40,000 50,000 10,000 100,000 20,000 40,000 35,000 60,000 70,000 40,000 20,000 30.000 $1,150,000 23% 0 O $1,200,000 24% Required 1. Assume that Olson Company reduces quality costs as indicated. What will qual- ity costs be as a percentage of sales for the entire year? For the end of the fourth quarter? Will the company achieve its goal of reducing quality costs to 22 per- cent of sales? 2. Reorganize the quarterly budgets so that quality costs are grouped in one of four categories: prevention, appraisal, internal failure, or external failure (effectively, prepare a budgeted cost of quality report). Also, identify each cost as variable or fixed. (Assume that none are mixed costs.) 3. Compare the two quarterly budgets. What do they reveal about the quality- improvement plans of Olson Company? 15-23 Quality Cost Report; Quality Cost Categories LO1, LO2 In September 2007, Olson Company received a report from an external consulting group on its quality costs. The consultants reported that the company's quality costs total about 25 percent of its sales revenues. Somewhat shocked by the magnitude of the costs, Frank Roosevelt, president of Olson Company, decided to launch a major quality-improvement program. This program was scheduled for implementation in January 2008. The program's goal was to reduce quality costs to 2.5 percent by the end of 2008 by improving overall quality. In 2008, it was decided to reduce quality costs to 22 percent of sales revenues. Management felt that the amount of reduction was reasonable and that the goal could be realized. To improve the monitoring of the quality-improvement program, Frank directed Pamela Golding, the controller, to prepare quarterly performance reports comparing budgeted and actual quality costs. He told Pamela that improving quality should reduce quality costs by 1 percent of sales for each of the first three quarters and 2 percent in the last quarter. Sales are projected at $5 million per quar- ter. Based on the consulting report and the targeted reductions, Pamela prepared the budgets for the first two quarters of the year. Quarter 1 Quarter 2 $5,000,000 $5,000,000 Sales Quality costs: Warranty Scrap Incoming materials inspection Product acceptance Quality planning Field inspection Retesting Allowances New product review Rework Complaint adjustment Downtime (defective parts) Repairs Product liability Quality training Quality engineering Design verification Process control measurement Total budgeted costs Quality costs/sales ratio $ 300,000 150,000 25,000 125,000 40,000 30,000 50,000 65,000 10,000 130,000 60,000 50,000 50,000 85,000 30,000 $ 250,000 125,000 50,000 150,000 60,000 0 40,000 50,000 10,000 100,000 20,000 40,000 35,000 60,000 70,000 40,000 20,000 30.000 $1,150,000 23% 0 O $1,200,000 24% Required 1. Assume that Olson Company reduces quality costs as indicated. What will qual- ity costs be as a percentage of sales for the entire year? For the end of the fourth quarter? Will the company achieve its goal of reducing quality costs to 22 per- cent of sales? 2. Reorganize the quarterly budgets so that quality costs are grouped in one of four categories: prevention, appraisal, internal failure, or external failure (effectively, prepare a budgeted cost of quality report). Also, identify each cost as variable or fixed. (Assume that none are mixed costs.) 3. Compare the two quarterly budgets. What do they reveal about the quality- improvement plans of Olson Company

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