why is variance important

It is used to provide insight into the spread of a set of data, mainly through its role in calculating standard deviation. If you’re a data analyst or scientist, you may need to know about this important statistical calculation. In this article, we define variance, how to calculate it and other things you need to know about variance as a statistician. Squaring these deviations yields 25%, 225%, and 400%, respectively. When you divide the sum of 650% by the number of returns in the data set—three in this case—it yields a variance of 216.67%.

An introduction to inferential statistics While descriptive statistics summarize data, inferential statistics help you come to conclusions and make predictions based on your data. Research exampleAs an education researcher, you want to test the hypothesis that different frequencies of quizzes lead to different final scores of college students. You collect the final scores from three groups with 20 students each that had quizzes frequently, why is variance important infrequently, or rarely over a semester. They need to find the probability of observing a difference in proportions at least as large as 0.123, when they were expecting a difference of zero. Although that proof may make you feel better about the theorem , it’s not likely to warm the hearts of most of your students. Let’s have a look at some arguments you can make in class that show your students the theorem makes sense.

why is variance important

Most businesses apply variance analysis at the operating income level to determine what they projected and what they achieved. The variances usually are displayed in the form of floating bar charts—also known as walk, bridge, or waterfall charts. These graphics are often used in internal corporate documents as well as in investor-facing documents such as quarterly earnings presentations. When you collect data from a sample from a population, the sample variance is used to make estimates about the population variance.

Sales Quantity Variance

You log on to a server and you need to wait for some time to access your information. This is a queueing network where ‘jobs’ get in the queue upon arrival and wait for the ‘server’ . It is difficult to analyze whether the variance is material or not since no materiality threshold is defined. Purchase of new advance machinery that consumes lesser time for production of single unit resulting in a favorable variance. Variable overheads are indirect production costs incurred by the company that vary as the output varies. Depending on your goals, you can analyze any of the following variances in order to optimize your operational performance. In this article, we explore Indeed’s new survey, which reveals why many in the LGBTQ+ community still resist coming out at work.

Managers should aim to identify as many important sources of variability as they can. I’ve already noted that gender and nationality are two sources. Age may well be a third, and one can identify plenty of others as well.

why is variance important

Since the units of variance are much larger than those of a typical value of a data set, it’s harder to interpret the variance number intuitively. That’s why standard deviation is often preferred as a main measure of variability. Because variance analysis is such a powerful risk management tool, there is a strong case for including it in the finance portion of any MBA curriculum. Yet fewer than half of finance professors believe they should be teaching this subject; they view it as a topic more typically taught in accounting classes. At the same time, in practice, variance analysis is such a cross-functional tool that it could be taught throughout the business school curriculum—but it’s not.

And we’ve long believed that creating a culture of meeting and exceeding commitments requires aligning interaction across functions in the workplace. With this article, we hope that, at the very least, we can start a larger discussion about the need for cross-disciplinary teaching of variance analysis. Only 59 percent of finance faculty and 48 percent of accounting faculty are familiar with examples of walk charts from real-world companies. Yet these visual portrayals of operating margin variances are commonplace in quarterly earnings presentations and readily found on investor relations websites.

From what I gather, calculating robust standard errors is somewhat preferred to WLS regression because with the former you maintain the original coefficient and the causal meaning of your model. The meaning of your model can be somewhat altered and much more complicated to interpret. Another alternative is to rerun your multiple regression model using a weighted least square regression that will resolve the heteroskedasticity issue. Second, resourceful researchers such as Harwell have gleaned from many Monte Carlo simulations some helpful guidance in making adjustments in the face of such violations. Provided both spouts were centrally located, this would produce two distributions with identical skew with different variances – violating the homogeneity of variance assumption.


To calculate variance, you need to square each deviation of a given variable and the mean. Variance is a measurement of the spread between numbers in a data set. Investors use the variance equation to evaluate a portfolio’s asset allocation.

why is variance important

The variance of a population is denoted by σ2; and the variance of a sample, by s2. The technical definition is “The average of the squared differences from the mean”. The standards can be achieved by the companies by announcing any extra benefits to the labor so everyone will try to achieve the set standards. The achievement of the goal is always a very positive impact on human life. The standards sets by the company for labor should achievable so that it will act as a motivational factor for the labor. The implementation of high standards in labor departments will enhance the production capacity of the company which is the ultimate results in controlling the cost of the company’s products.

Students often see nothing wrong with Plan A. Such a conclusion would be inaccurate. Whether the two intervals overlap depends on whether the two means are farther apart than the sum of the margins of error. The mistake rests in the fact that we shouldn’t add the margins of error.

So we must understand the reasons for variance analysis before undertaking retained earnings one. Assuming we have a positive variable overhead expenditure variance.

We also share tips for how to bring your authentic self to the workplace. Downside risk is an estimation of a security’s potential loss in value if market conditions precipitate a decline in that security’s price. Volatility measures how much the price of a security, derivative, or index fluctuates.

There are some controllable and non-controllable factors associated with labor efficiency. And that’s why companies make special attention to this segment. Because in today’s cut-throat competition selling price is really matters and labor efficiency can play a major part in lowering the cost of any product. Cost variance allows you to monitor the financial progression of whatever it is you are doing in your business. When cost variances are low, you know you have controlled your risks well. You also know you have retrieved and analyzed data related to operations sufficiently. Variance analysis provides clues about what is happening in the economic and competitive environments in which the company operates.

The advantage of variance is that it treats all deviations from the mean as the same regardless of their direction. The squared deviations cannot sum to zero and give the appearance of no variability at all in the data. It’s an estimate of expected results based on certain criteria. Even experienced business managers can have difficulty preparing a budget. Once a variance analysis has been completed, the task at hand is to focus on investigating “material” variances. Every organization is going to use different parameters to decide what they believe is material. As a good rule of thumb, any 20% or greater line item variance should be subject to further investigation and explanation.


In some cases, budget vs actual variances might point out the need to reevaluate the company’s product line or target customer base. If those assumptions are causing the budget to blow up, it might be because related projections are simply wrong for a variety of reasons. It might be as simple as a change in the economy or as complicated as delays in getting products out to customers. At the end of the day, necessary changes within the business might be indicated. The unavailability of certain products may also result in opting for another alternative. Both in terms of price and quality, it can add a different dimension to the overall variance report in a significant manner and alter the final deductions.

Variance analysis is the process of calculating and analyzing any differences in budgeted and actual performances. It is a tool that companies use to monitor and control their costs. However, it only takes a reactive approach to controlling, which means that it cannot prevent problems.

Why Does Variance Matter?

It is calculated by taking the average of squared deviations from the mean. For any combination of sample sizes and a number of predictor variables, a statistical test will produce a predicted distribution for the test statistic. This shows the most likely range of values that will occur if your data follows the null hypothesis of the statistical test. The labor efficiency variance calculates and measures the ability to utilize labor according to expectations. A favorable budget variance refers to positive variances or gains; an unfavorable budget variance describes negative variance, meaning losses and shortfalls. Budget variances occur because forecasters are unable to predict the future costs and revenue with complete accuracy.

  • This is a queueing network where ‘jobs’ get in the queue upon arrival and wait for the ‘server’ .
  • It is easy enough for managers to see that things in the business world vary.
  • The unequal variance t test reports a confidence interval for the difference between two means that is usable even if the standard deviations differ.
  • Research exampleAs an education researcher, you want to test the hypothesis that different frequencies of quizzes lead to different final scores of college students.
  • It is about a year since you have asked this question, @variant, and I assume you hopefully passed whatever exam you where studying for or passed your stats course.

If your variable does not vary, it is by definition no longer a variable . Variation analysis is a process that companies use to identify any differences between budgeted and actual performances. Given above are some of the reasons why variance analysis is critical for companies and businesses.

For example, you might have experienced a reduction in anxiety by 3 points, I might have experienced a reduction in anxiety by 1 point, and on average, everyone in the study decreased by 2 points. That means that you were one point above the average and I was one point below. So, in essence, the MSE is trying to capture how much variability, on average, is seen between all individuals ledger account in our study. A significant unfavorable efficiency variance would assist in identifying the need of change in working environment and an increase in salaries and wages so that productivity could be increased. This content is for information purposes only and should not be considered legal, accounting or tax advice, or a substitute for obtaining such advice specific to your business.

Author: Roman Kepczyk

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