#PM Cost Management—Life Cycle Costing

This is a continuance of my review of the topics of project management covered in our study group.   Although I passed the project management examination last Tuesday, our study group is reconvening so I can work on getting the other members to pass the test.    This next series of posts is on the cost management area of the PMBOK Guide.

Many of the concepts in the cost management area actually touch upon other knowledge areas as well. One such concept is that of “life cycle costing”, which borders on the quality knowledge area.

The idea of life cycle costing is that if your project is developing a product, you need to consider the entire life cycle of the product including the costs of repair when you estimate the costs of quality.

Here’s how it works:

The cost of quality (aka the cost of conformance) is made up of two parts:

1. Prevention Costs

The cost of preventing defects are prevention costs, examples of which are the quality planning process itself (including all the associated documentation), training of the team in quality methods (such as Six Sigma), and the Quality Assurance or quality audit process to make sure the correct quality processes developed during the quality plan are being carried out by the now-trained team.

2. Appraisal Costs

The cost of controlling and monitoring for defects are appraisal costs (think inspection), examples of which are the costs of the quality control process, including the cost, manpower, time and equipment used to do the testing and to analyze the results.

Fig. 1 Cost of Quality or Cost of Conformance

Someone may have the bright idea of reducing the level of quality to reduce these costs, because that will reduce the project costs. This may have the unintended consequence of raising other costs associated with that project. These are the costs of nonconformance, or the costs of poor quality, which also consist of two parts.

3. Internal Failures

What if defects are not prevented? Then if they are detected on the assembly line, these defective parts either have to be scrapped or reworked, which may adversely affect the company’s just-in-time inventory system, on top of the cost of repairing or replacing these parts. The defects have to be tracked and analyzed for the cause of the defect, and this tracking system adds costs as well.

4. External Failures

Even more serious than the internal failure costs, are the costs if the defects are produced and undetected on the assembly line. These get shipped out the door to customers, and become external failures. The customer will want to get the goods returned or repaired under warranty. However, if the failure is of a more serious nature that the customer becomes injured, then the costs escalate if a product liability claim or lawsuit is brought against the company. Customer satisfaction is adversely impacted, and the costs of the help desk or customer service department are increased.

Fig. 2 Cost of Poor Quality or Cost of Nonconformance

Now it is possible that the cost of getting to a certain level of quality may be higher than the cost saved in terms of internal failures or external failures. However, the calculation of life cycle costs of quality has to include all four of these categories. You should not lower the cost of quality on your project at the expense of the increased costs to the company on the overall life cycle costs of the product that is the result of your project.

Tomorrow, I will talk about another cost management area that happens to touch upon other knowledge area: cost risk, that is, cost-related risk involving procurements.

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