The High Cost of Preventable Errors
By David Dodd
Published: May 3, 2010
It's no secret that the past several years have been difficult for many printing companies. The big problems - declining print sales and persistent low profit margins - have been discussed in a variety of venues. The recent recession has exacerbated the difficulties, but the underlying cause has been a fundamental shift in the ways we communicate. Therefore, we cannot depend on a general economic recovery to significantly improve printing company performance.
It's important to remember that, in this kind of environment, every aspect of business becomes more important. Rapid growth and high margins can hide many sins, but slow growth and low profits reduce the margin for error and magnify the importance of performing almost every business activity as close to perfection as possible.
So, this post is about rework. Or, more specifically, about eliminating the errors that create the need for rework. Just how important is this issue? The impact of rework on profits will vary from company to company, but it's fairly easy to illustrate the importance.
Suppose, for example, that a company has a pre-tax profit margin of 5 percent, which means that the average profit margin on jobs is also 5 percent. The average job size in this company is $3,000, and the cost structure of the company is typical for a printing company. Column A in the following illustration shows the job profitability of the average job. The selling price is $3,000, and the profit on the job is $150 (5% of the selling price).
Now suppose that just prior to shipment, an error is discovered that requires this job to be completely redone. Column B in the above illustration shows the financial impact of this rework. The selling price is still $3,000, but now the cost of materials and outside services has doubled. Notice that the internal conversion costs in Column A and Column B are the same. To make my point in this example conservatively, I'm assuming that all conversion costs are fixed and that the company has sufficient unused capacity to redo the job without adding costs such as overtime work, etc.
Because of the rework, the job "profitability" becomes a loss of $900. Therefore, the total negative impact of the rework on profitability is $1,050 - the $150 the company should have earned plus the $900 loss the company actually sustained. That's bad enough, but here's the real significance. With a 5 percent net profit margin, the company will need to sell $21,000 of new business just to make up for the negative profit impact cased by the rework ($1,050 / 0.05).
Rework can be a huge profit drain in a printing company - a profit drain that most companies can ill-afford when replacement profits are hard to come by. Yet, despite its importance, many managers don't pay enough attention to rework or to the errors that create it.
Over the years, I've reviewed dozens of printing company financial statements, and I've rarely seen rework costs reported on the income statement. Rework costs are sometimes tracked in a job costing system, but the issue here is one of timeliness. By the time job cost reports are analyzed, several days or weeks may have elapsed since the error occurred that caused the rework. The people involved may have forgotten what happened and why.
The real tragedy here is that most of the errors that create the need for rework are preventable. To prevent these errors, a company needs three things:
- A system of quality processes and tools that are designed to prevent errors from occurring (or detect them as soon as possible)
- Employees that consistently follow the quality processes and use the quality tools
- When an error does occur, the company must have a process that identifies the root cause of the error and determines whether the error was caused by a flaw in a quality process or tool or a failure to use the process or tool in the right way
Most rework can be prevented. Given the impact that rework can have on profits, managers should take a close look at this important issue. In a slow-growth, low-margin business, even small improvements can significantly boost profits.