Cell Design produces cell phone covers for all makes and models of cell phones. Cell Design sells 1,050,000 units each year at a price of $ 10 per unit and a contribution margin of 40%. A survey of Cell Design customers over the past 12 months indicates that customers were very satisfied with the products but a disturbing number of customers were disappointed because the products they purchased did not fit their phones. They then had to hassle with returns and replacements. Cell Design’s managers want to modify their production processes to develop products that more closely match Cell Design’s specifications because the quality control in place to prevent ill-fitting products from reaching customers is not working very well.

The current costs of quality are as follows:

Prevention costs ......................$ 210,000

Appraisal costs .....................$ 100,000

Internal failure costs

Rework ..........................$ 420,000

Scrap ..........................$ 21,000

External failure costs

Product replacements ...................$ 315,000

Lost sales from customer returns ..............$ 787,500

The QC manager and controller have forecast the following

additional costs to modify the production process.

CAD design improvement .................$ 150,000

Improve machine calibration to specifications ..........$ 137,500

Required

1. Which cost of quality category are managers focusing on? Why?

2. If the improvements result in a 60% decrease in customer replacement cost and a 70% decrease in customer returns, what is the impact on the overall COQ and the company’s operating income? What should Cell Design do? Explain.

3. Calculate prevention, appraisal, internal failure, and external failure costs as a percentage of total quality costs and as a percentage of sales before and after the change in the production process. Comment briefly on your results.