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Analysing the
System dynamics approach to cost factors
analysing the cost factors effects effects
on cost of quality
685
Behdad Kiani
Green Research Center, Iran University of Science & Technology, Received 28 July 2008
Tehran, Iran, and Revised 18 February 2009
Accepted 24 March 2009
Hadi Shirouyehzad, Fahime Khoshsaligheh Bafti and
Hamidreza Fouladgar
Department of Industrial Engineering, Science and Research Branch,
Islamic Azad University, Tehran, Iran

Abstract
Purpose – The purpose of this paper is to propose a model for analysing the influence of costs of
quality.
Design/methodology/approach – A model is designed by using a causal loop diagram and is
analysed through a system dynamics approach. The model simulation is prepared by Vensim
software.
Findings – Prevention and appraisal costs are the two effective cost factors. The model represented
in this paper reveals that prevention costs have the most effect on total cost of quality and especially
external failure costs. Hence, in order to achieve the customer expected quality level, prevention and
appraisal costs should be considered.
Research limitations/implications – Calculating and measuring non-conformance costs is very
difficult in organizations and some errors and mistakes may happen.
Practical implications – A system dynamics approach can analyse and measure the amount of
prevention cost effects on cost of quality in different organizations.
Originality/value – The proposed methodology demonstrates the use of an innovative approach in
developing a cost of quality concept and constructing a practical framework for system dynamics in a
real case.
Keywords Quality costs, Modelling, Business analysis, Organizational processes
Paper type Research paper

1. Introduction
Juran (Nanda, 2005) defines quality as “fitness for use”; it is also defined as
“conformance to requirement” by Crosby (1979). According to the Deming’s definition,
“Quality is uniformity with respect to a correct target” (Deming, 1986). It is clear that
cost is one of the main factors to achieve quality. The concept of quality was first
introduced by Juran. He proposed that, “there is a direct correlation between quality
and profitability” and advocated the measurement of costs on a periodic basis as a International Journal of Quality &
management control tool. Therefore, better quality results in lower costs and higher Reliability Management
Vol. 26 No. 7, 2009
profitability (Kazaz et al., 2005). pp. 685-698
Nowadays, it is accepted that quality costs are the costs incurred in design, q Emerald Group Publishing Limited
0265-671X
implementation, operation and maintenance of a quality management system; DOI 10.1108/02656710910975750
IJQRM resources committed to continuous improvement; product and service failures; and all
26,7 other necessary costs and non-value added activities required to achieve a quality
product or service. Measuring and reporting these costs should be considered a critical
issue for any manager who aims to achieve competitiveness in the market
(Schiffauerova and Thomson, 2006a).
Cost of quality (COQ hereafter) analysis links improvement actions with associated
686 costs and customer expectations, and this is considered as the coupling of reduced
costs and increased benefits for quality improvement. Therefore, a realistic estimate of
COQ and improvement benefits – which is the tradeoff between the level of
conformance and non-conformance costs – should be considered as an essential
element of any quality initiative, and thus, a crucial issue for managers (Schiffauerova
and Thomson, 2006b). So the achieved result from the quality cost analysis can be used
in all aspects of the process.
This study proposes a comprehensive framework for COQ analysis in which the
system dynamic approach is constructed and the appropriate attributes are specified to
provide guidance for COQ system evaluation. The cost factors are categorized into four
groups, and an integrated analysis of cost of quality based on a usable system
dynamics model is proposed to analyse the total cost of quality and achieve customer
satisfaction. Causal loop diagram and Vensim software are also used to analyse these
factors. To demonstrate the practical viability of the proposed method, an empirical
case in Iran is described.

2. Background and literature review

The definition and categories of quality costs may be given differently by various
authors. They use the terms “quality costs”, “costs of quality”, “eco-nomics of quality”,
“poor quality cost”, “price of non-conformance” or “cost of poor quality”. According to
Sower et al. (2007), while the cost of quality was originated by Shewart and others in
the 1930’s, the modern quality cost system was developed out of the work of Joseph
Juran and others in the 1950’s. In the 1960’s, the American Society for Quality’s (ASQ)
– Quality Cost Committee – refined the technique and promoted its uses (Bottorff,
1997). In the 1970’s and 1980’s Philip Crosby’s work helped to popularize the cost of
quality (COQ) concept beyond the quality professions (Beecroft, 2001). According to
Crosby, The only performance measurement is the cost of quality, which is the expense
of non-conformance (Crosby, 1979). According to Crosby, “quality is free”. What costs
money is failure to do things right the first time. Juran (1951) agrees in his definition of
quality costs as “the sum of all costs that would disappear if there were no quality
problems”. Juran and Crosby were also leaders in the movement to report quality
information in dollar terms in order to attract the attention of top management. The
objective of a COQ system is to find the level of quality that minimizes total COQ
(Schiffauerova and Thomson, 2006b).
To collect quality costs, a firm needs to adopt a framework to classify costs. The
“Feigenbaum” classification system is almost universally accepted (Plunkett and Dale,
1988). Juran divided the failure costs into two other categories: internal failure and
external failure (Juran and Gryna, 1970). Feigenbaum (1974) identified three cost
categories: prevention, appraisal, and failure (cited in Plunkett and Dale, 1988).
COQ is usually understood as the sum of conformance plus non-conformance costs,
where cost of conformance is the price paid for prevention and appraisal (detection) of
poor quality, and cost of non-conformance is the cost of poor quality caused by product Analysing the
and service failure (internal and external failure cost) (Schiffauerova and Thomson, cost factors
2006b).
Two conceptual models are presented for the cost of conformance. Each model effects
shows three curves: failure, prevention plus appraisal, and total cost. As pointed out,
the first model depicted in Figure 1 represents the conditions that prevailed during
much of the twentieth century. A major aspect of this model is the infinite costs 687
required to attain perfection.
Figure 2 represents what has been termed the right costs or par value model. The
optimal quality has been shifted to the 100 per cent conformance level. In contrast to
the older model, the total cost curve indicates less high conformance costs (Weheba and
Elshennawy, 2004).
The COQ system, which was developed has been formalized into four categories of
costs (Campanella, 1990; Sower et al., 2007):

Figure 1.
The traditional model

Figure 2.
The par value model
IJQRM (1) Prevention costs are “the costs of all activities specifically designed to prevent
26,7 poor quality in products and services”. This is a proactive approach to defect
prevention rather than defect correction and removes the idea of quality efforts
essentially being reactive in efforts to “put out fires”. Prevention expenses can
be recovered many times over through reduced appraisal and failure costs.
(2) Appraisal costs are “the costs associated with measuring, evaluating, and auditing
688 products or services to assure conformance to quality standards and performance
requirements”. Appraisal techniques are used for the verification and validation.
These techniques help organization to increase in quality with lower cost.
(3) Internal failure costs are “the costs resulting from products or services not
conforming to requirements or customer/user needs (which) occur prior to
delivery or shipment to the customer”.
(4) External failure costs are “the costs resulting from products or services not
conforming to requirements or customer/user needs (which) occur after delivery
or shipment of the product, and during or after furnishing of a service to the
customer”. External failure can include loss of failure business through
customer dissatisfaction (Tsai, 1998; Kazaz et al., 2005).

Some examples of quality costs in each COQ category are (Roden and Dale, 2001;
Ramdeen et al., 2007; Ramudhin et al., 2008):
(1) Prevention costs: recruiting, quality audits, supplier assurance, quality training,
marketing research, quality engineering, and equipment maintenance.
(2) Appraisal (detection) costs: quality audits, production control, process
acceptance, product acceptance, prototype inspection, inspection of material,
inspection of production, and continuous supplier verification.
(3) Internal failure costs: scrap, rework, retesting, re-inspection, design changes,
failure analysis, downtime caused by defects, and downgrading caused by defects.
(4) External failure costs: product recall, customer service, product liability cost,
complaint adjustment, warranty cost, discount due to defects, reputation loss
cost, and lost sales.

There are also correlations between the maturity of a quality system and the
distribution of quality costs. Some studies have been conducted to determine the actual
effectiveness of COQ systems and the degree of maturity, and total costs model relates
the distribution quality costs to the maturity of the quality system, as shown in Table I
(Sower et al., 2007)

Maturity level
1 2 3 4 5
Table I.
Conceptual model of Prevention Very low Low Moderate High Very high
relative COQ Appraisal Low Low-moderate Moderate Low-moderate Low
expenditures versus Internal failure High Very high Moderate-high Low-moderate Very low
quality system maturity External failure High High Moderate Low Very low
level Total COQ High Very high Moderate-high Low-moderate Low
Measuring quality Analysing the
The operating quality costs of prevention and appraisal are considered to be cost factors
controllable quality costs, while the internal and external failure costs are
uncontrollable. Juran has demonstrated the relationship between the controllable effects
and uncontrollable quality cost (QC) curve and the direct quality cost curve over time.
As the controllable costs of prevention and appraisal increase, the uncontrollable costs
of internal and external failures decrease. The point where the cost of preventing and 689
appraising exceeds, the cost of correcting the product failure is the optimum operating
quality cost (Stamatis, 2001).

3. System dynamics
The concepts of system dynamics were developed in 1961 by Dr Jay W. Forester and
were described in his book Industrial Dynamics. In this revolutionary book, Forester
proposed scientifically modelling the complex behaviour of the business world using a
unique simulation strategy. The term “Industrial dynamics” was renamed “System
dynamics” to emphasize the use of this methodology in other fields besides business
(Forrester, 1961). Coyle (1996) defines system dynamics as:
System dynamics deals with the time dependent behaviour of managed systems with the aim
of describing the system and understanding through qualitative and quantitative models,
how information feedback governs its behaviour, and designing robust information feedback
structures and control policies through simulation and optimization.
Clark (1990) states, “System dynamics is the study of processes through the use of
system and how they can be modelled, explored, and explained”. System dynamics
focuses on the feedback behaviour of variables within the closed loop of the system. All
the variables inside the system, and some exogenous ones, influence each other’s
behaviour. When it is difficult to predict the behaviour of system’s key variables and the
system is relatively complex, System Dynamics can be used. Clark states, “In their
transient states, such systems are virtually impossible to solve mathematically, so they
are usually simulated”. By analysing the relationships and feedback behaviour of the
systems key elements, it is possible to understand the systems behaviour and influences.

Causal loop diagram

System dynamics focuses on the structure and behaviour of the systems composed of
interacting feedback loops. Causal loop diagramming is an easy tool, which helps the
analyser to conceptualise the real world system in terms of feedback loops. In a causal
loop diagram, the arrows indicate the direction of influence, and the plus or minus
signs indicate the type of influence. All other things being equal, if a change in one
variable generates a change in the same direction in the second variable, relative to its
prior value, the relationships between the two variables is referred to as positive. If the
change in the second variable takes place in the opposite direction, the relationship is
negative.
There are several ways to build a system dynamics model. Coyle uses a five-step
approach (Coyle, 1996). Clark (1990) uses a less defined approach. The present research
uses a four-step process involving conceptualization, formulation, testing, and
implementation. This process was originally developed by Randers (1980) and adapted
by Albin (1997) through her work with Jay Forrester’s Road Maps.
IJQRM 4. Proposed methodology
26,7 A quality cost study can reveals considerable information about the health of a quality
system. It tells whether the system produces good quality at the right price. If not, it
indicates where improvement opportunities exist. COQ has a direct effect on quality
levels of products and customer satisfaction. But what is important is to consider in
which area of costs to improve effectiveness in the organization.
690 To analyse the components of quality cost, it is necessary to know how the four cost
features are interrelated. For example, a quality control manager might want to know
how much of an increase in appraisal costs is necessary to reduce the external failure
costs by some amounts or how much an increase in prevention costs will reduce others.
Such information is necessary when the quality control manager has to justify quality
investments through cost-benefit analysis.
Several tools such as Pareto, fishbone, histogram have been used in order to
prioritise and analyse COQ, but these tools do not pay attention to the dynamic
relations of the cost factors. Prevention, appraisal, internal and external failure costs
affect one another, and investment on one of these components can change the other
cost factors. Thus, a dynamics approach is needed to analyse the effect of cost
factors and to determine the most appropriate cost assignment to achieve customer
expected quality level. System dynamics uses causal loop diagram as a dynamic
instrument in order to determine the relation of variables and to analyse the cost
factors.
The relations of cost factors, customer satisfaction, and quality level of product are
shown in Figure 3. Costs of quality directly affect quality level of products and
customer complaints, and these two factors have effect on customer satisfaction.
Cost of quality has also direct effect on production unit cost and indirect effect on
profitability. Figure 4 represents the details of different types of COQ.

Figure 3.
Causal loop diagram of
cost of quality
 Analysing the
cost factors
effects

691

Figure 4.
Causal loop diagram – the
details of cost factors
IJQRM In Figure 5, cost factors are depicted. As shown, different types of costs dynamically
26,7 affect other cost factors. For example, prevention and appraisal costs affect internal
and external costs.

5. Study of test case

This study was carried out in a small scale manufacturing industry, which is called Sabet
692 Print Company. The quality cost elements have been identified under the categories of
prevention, appraisal, internal failure and external failure costs. This list just acts as a
guideline for quality costing. Most elements in such lists are not relevant to a particular
industry, while many elements identified by practitioners are peculiar to an industry or a
company. The required data were collected by using questionnaire technique, which was
used to obtain an indication of the knowledge of quality cost within the industry.
Departmental interviews were also carried out with the various staff of engineering,
quality control department, marketing heads, etc. to find out which element(s) of quality
cost occurred within each department. Finally, a departmental study was done to examine
some of the cost elements in detail. The collected data are given in Table II.
The information in Table II was submitted to Vensim Software and the problem
was simulated. In Figure 6 the structure of costs component is presented.

Confidence in system dynamics

Confidence in system dynamics models can be obtained by a variety of tests that
include tests of model structure, model behaviour, and model policy implications.
Confidence in a system dynamics model accumulates gradually as the model passes
more tests and as new points of correspondence between the model and empirical
reality are identified (Sterman, 2000). In this paper in order to prove confidence of the
model, test of model structure was employed.

Figure 5.
Causal loop diagram of
cost factors
 Analysing the
Prevention Appraisal Internal External Total quality
Month cost cost failure failure cost cost factors
For 2002-2003
effects
April 23,242 31,832 60,300 29,825 145,198
May 31,804 44,365 19,298 22,368 117,836
June 100,000 99,395 16,667 100,000 316,062 693
July 5,300 10,700 60,300 73,200 149,500
August 35,474 53,230 17,544 17,105 123,353
September 44,954 75,500 17,983 12,719 151,156
October 38,838 55,352 17,544 15,790 127,523
November 42,508 59,327 18,300 14,035 134,170
December 56,200 88,073 18,421 7,200 169,895
January 33,028 46,505 18,425 19,737 117,694
February 58,300 97,871 17,983 7,456 181,610
March 60,245 96,330 18,421 7,456 182,452
For 2003-2004
April 11,927 20,489 37,719 58,772 128,907
May 13,150 21,713 36,404 53,509 124,775
June 19,266 27,246 27,632 37,719 111,863
July 62,080 89,100 18,421 8,333 177,934
August 31,804 47,422 18,421 21,491 119,138
September 8,257 17,159 42,544 67,983 135,942
October 10,092 20,184 37,719 58,772 126,766
November 1,000 957 97,368 88,300 187625
December 50,300 87,156 18,860 7,800 164,116
January 16,208 25,412 31,140 45,175 117,936
February 65,138 89,100 18,221 8,333 180,792 Table II.
March 7,200 7,377 66,667 70,300 151,543 Total quality cost (US$)

Figure 6.
Causal diagram in Vensim
software
IJQRM Test of model structure
26,7 Test of model structure assesses structure and parameters directly, without examining
relationships between structure, including the purpose of each test and how the test is
conducted. This test includes five subtests and in this paper two subtests were carried
out (Sterman, 2000).

694 Structure-verification test

Verifying structure means comparing structure of a model directly with structure of
the real system that the model represents. To pass the structure verification test, the
model structure must not contradict knowledge about the structure of the real system.
Structure verification may include review of model assumptions by people highly
knowledgeable about corresponding parts of the real system. Structure verification
might also involve comparing model assumptions to descriptions of decision-making
and organizational relationships found in relevant literature.

Parameter-verification test
Model parameters (constants) can be verified against observations of real life, just as
structure of a model can be compared to available knowledge. Parameter verification
means comparing model parameters to knowledge of the real system to determine if
parameters correspond conceptually and numerically to real life. Conceptual
correspondence means that parameters match elements of system structure. This
model includes parameters that are compatible with parameters in real present model.
In this model by increasing the input value in a parameter, decreasing output value in
another parameter can be observed. As depicted in Figure 7, increasing the input value
causes the output value to decrease in the four parameters f, g, k, and h.
(1) Factor f: the X-axis is prevention costs and the Y-axis is external failure costs.
(2) Factor g: the X-axis is appraisal and the Y-axis is external failure costs.

Figure 7.
Relationship between
conformance costs and
non-conformance costs
 (3) Factor k: the X-axis is prevention costs and the Y-axis is internal failure costs. Analysing the
(4) Factor h: the X-axis is appraisal and the Y-axis is internal failure costs. cost factors
effects
6. Results
According to Table II, which is used in the software, modelling is done for the
coming years (until 2015). As shown in Figure 8, if the organization does not pay
any cost or pay a little on prevention and appraisal costs, total cost of quality 695
would be very high. It is obvious that not paying these costs is not logical and will
have great effect on total cost of quality through failure costs. In contrast,
increasing the prevention and appraisal costs will decrease the total COQ. As
depicted in Figures 9(a) and 9(b), prevention costs have the most effect on total COQ
than appraisal costs. Therefore, customer satisfaction and profitability can be
attained through this methodology.
According to Figure 9(c), both prevention and appraisal costs affect total cost of
quality simultaneously more than the case where one just increases. If prevention costs
gradually increase, but the appraisal costs do not changed (appraisal costs are equal to
$10,000), failure costs and especially external failure costs decrease. This shows that
the quality system attains the highest maturity level (see Table I).

Figure 8.
COQ Diagram – zero
prevention and appraisal
costs
IJQRM
26,7

696

Figure 9.
The effects of different
prevention and appraisal
on cost of quality
7. Conclusion Analysing the
In this paper the cost factor was analysed in order to achieve the expected quality level cost factors
of customer and a model was developed to show the effect of cost factors. To study the
proposed methodology in a real case, an empirical study was also described to effects
demonstrate the practical viability of the proposed method.
Based on the effect of quality costs on the level of customer satisfaction, it has been
proved that increasing prevention costs and decreasing external failure costs can 697
directly improve the level of customer satisfaction. The result of this paper
demonstrated that the effect of prevention costs in decreasing total quality cost is more
than the effect of appraisal costs. The results of this research are compatible with the
definitions of both Juran (1951) and Schiffauerova and Thomson (2006b).
With the use of system dynamics it is determined that increasing both prevention
and appraisal costs simultaneously will have more effect on decreasing failure costs
and total quality cost. This framework is comprehensive because it considers all the
factors and details. These factors are available in all industries; however, their amount
and importance may differ. This study suggests that organizations consider COQ as an
integrated approach and long-term process, and focus on the cost factors in order to
improve customer satisfaction. This study can be very useful to organizations
attempting to identify those characteristics that may provide an opportunity to
improve customer satisfaction and total cost of quality.

8. Suggestions for further studies

For further research the following suggestions are given:
.
Evaluating more detailed cost factors in the model.
.
Since it is needed to calculate quality of costs, it is feasible to determine their
relationship by probabilistic or regression methods without any need to data table.
.
It might be feasible to determine the most effective factor of failure costs on total
costs of a firm.

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Further reading
Campanella, J. and Corcoran, F. (1983), “Principles of quality costing”, Quality Progress, Vol. 16
No. 4, pp. 17-22.
Giakatis, G., Enkawa, T. and Washitani, K. (2001), “Hidden quality costs and the distinction
between quality cost and quality loss”, Total Quality Management, Vol. 12 No. 2, pp. 179-90.

Corresponding author
Hadi Shirouyehzad can be contacted at: info@shirouyehzad.com

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