Within the Balanced Scorecard, there’s an area called internal business processes, which focuses on the efficiency and quality of our products. Focusing on quality isn’t a cheap process. We incur several different costs to ensure our products’ quality.

The first type of cost to maintain our product quality is called conformance costs. Conformance costs are the expenses we incur hoping that nothing goes wrong. What are investing now to ensure nothing goes wrong in the future? These can be broken down into preventative costs and appraisal costs.

Study Tip 😀

Conformance costs are the expenses we incur to prevent a negative situation from occurring.

Prevention costs are the expenses we incur to prevent producing faulty products. For instance, we spend extra time training our employees on how to use a machine, which costs extra, and we ensure that our machines are perfectly calibrated to avoid producing faulty products. Those are prevention costs.

Prevention costs aim to prevent the creation of faulty products, but we’re never going to achieve full prevention, which is why we have appraisal costs. Appraisal costs are the expenses of identifying any faulty products. For example, we might hire a quality control manager to inspect all the products we make. Despite our aim to maintain 100% perfection, there are going to be some faulty products. Those are appraisal costs.

We have these conformance costs to minimize our faulty products. However, we will produce products, and naturally, we’re going to make mistakes. What happens then? We have our non-conformance costs, which are the costs of making a mistake.

Study Tip 😀

Non-conformance costs are the expenses we incur for making errors.

First, we have internal failure and non-conformance costs. This means we created a faulty product, but we identified it internally in the company before we sent it out to the customer. Then we either have to repair that item or dispose of it. Either way, we’re incurring these costs.

If we don’t identify the faulty product internally, it gets shipped out to the customers. Then we have what are called external failure, and non-conformance costs. If we send it out to the customer, the customer may send it back to us, resulting in a restocking fee, or the customer might never buy from us again, which is a considerable cost.

Study Tip 😀

Conformance costs include prevention costs and appraisal costs. Non-conformance costs include internal failure costs and external failure costs.