Studying The Flaw of Averages: Why Companies Are Wrong About Averages

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Elena

13/07/2023
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When developing any type of budget or financial document for your company, it’s easy to decide to use averages instead of other methods to bring you closer to a realistic number.

The thing is, using averages has flaws that many people aren’t aware of, although there are some things you can do about it.

Once you learn more about the concept of using averages and how it can directly affect your budget and therefore your company’s future, you’ll start to understand why it’s important to at least consider other financial methods.

The Flaw of Averages: The Book Tells It All

The Flaw of Averages is also a book written by Sam L. Savage that describes better alternatives to using numbers that only represent an average.

Let’s say you have a spreadsheet that you’re using to represent a future quantity that is not known, and you use a single number in the spreadsheet that is an average. There are numerous reasons why this doesn’t usually work, which is what we’ll discuss here.

The people in your company who are trying to make budgets for the future often ask others in the company for numbers they can use when making these budgets.

For instance, if you sell an average of 10,000 products per month and the budget people use that number for their spreadsheet, things can go wrong, and it isn’t hard to figure out what those things are.

The word “average” means just that: an average. If you sell an average of 10,000 products per month but look at exactly how much you’ve sold each month in the past six months, the first thing you’ll notice is the variations in the numbers.

You might’ve sold 20,000 products in one month and only 5,000 in another. In fact, you may not have sold 10,000 exactly in any of those months.

Why Do Companies Do This?

Companies use averages for a number of reasons, including:

  • They think that they don’t have specialized software that will result in more accurate numbers. In reality, they have all the tools they need if they have Excel, and if they don’t have it, they can get it without spending a ton of money.
  • They think that their situation is unique and too complex to come up with an accurate number. In reality, they’re going to have to use some type of model anyway to come up with the right numbers, so no company’s situation is “too complex.”
  • They think that the quantitative model they’re using might be incorrect. In reality, the authors of the book mentioned earlier believe that all models are wrong, but a few models can still be useful. Once you find the right model, the information you get in the in should be accurate.
  • They think that they don’t have enough data and therefore they try to guess the number instead of trying to calculate it. In reality, using probability management, which is what he recommends in his book, can be used even if they think that they only have a little bit of data.
  • They think that they cannot build a specific model until they collect their data first. In reality, the author believes that they can easily determine what data to collect once they actually start building the model that they plan to use.

The author of this book recommends using probability management instead, and he goes into detail about it in his book.

With probability management, you can perform calculations with numbers you consider uncertainties, using stochastic information packets (SIPs) instead of Arabic numerals. The concept is too complex to go into in this article, but his book explains it all in easy terms.

Using Probability Management Instead of Averages

When companies use probability management, there are numerous advantages, and some of these include:

  • It cures the flaws that come with using single “average” numbers instead of uncertain forecasts.
  • It helps make chance-informed decisions, which help you figure out certain trade-offs between a certain range of goals and your chances of actually achieving those goals.
  • It uses tested methods to help them come up with a more accurate number, including various tools, applications, standards, and training.

If some of this isn’t making sense, don’t worry because even though there is a lot of information out there about why average numbers aren’t good to use and why probability management is the way to go, it is information that is easy to understand.

The book itself can be found on Amazon and other online stores, and it can change your entire outlook on using the right numbers for all types of documents.

To be sure, using average numbers does have its flaws, so it’s good to know that you can overcome these flaws and use other models and methods to get more accurate numbers for your next budget. An accurate budget is crucial to the success of your business, and accurate numbers are a must.

Conclusion

Many companies use numbers that represent averages when they’re creating their budget for the upcoming year or years. Because these numbers are usually flawed, that budget could possibly wreak havoc on your future plans.

Instead, Sam L. Savage explains why using probability management is a better method, and his book tells you all about it.

You naturally want the most accurate number you can get when you’re creating something as important as a company budget plan, and it’s good to know that you have an option that is better than simply using averages in all of your calculations.

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