Becoming a more data-driven decision-maker can bring several benefits to your organization, enabling you to identify new opportunities to pursue and threats to abate. Rather than allowing subjective thinking to guide your business strategy, backing your decisions with data can empower your company to become more innovative and, ultimately, profitable.
If you’re new to data-driven decision-making, you might be wondering how data translates into business strategy. The answer lies in generating a hypothesis and verifying or rejecting it based on what various forms of data tell you.
Below is a look at hypothesis testing and the role it plays in helping businesses become more data-driven.
What Is Hypothesis Testing?
To understand what hypothesis testing is, it’s important first to understand what a hypothesis is.
A hypothesis or hypothesis statement seeks to explain why something has happened, or what might happen, under certain conditions. It can also be used to understand how different variables relate to each other. Hypotheses are often written as if-then statements; for example, “If this happens, then this will happen.”
Hypothesis testing, then, is a statistical means of testing an assumption stated in a hypothesis. While the specific methodology leveraged depends on the nature of the hypothesis and data available, hypothesis testing typically uses sample data to extrapolate insights about a larger population.
Hypothesis Testing in Business
When it comes to data-driven decision-making, there’s a certain amount of risk that can mislead a professional. This could be due to flawed thinking or observations, incomplete or inaccurate data, or the presence of unknown variables. The danger in this is that, if major strategic decisions are made based on flawed insights, it can lead to wasted resources, missed opportunities, and catastrophic outcomes.
The real value of hypothesis testing in business is that it allows professionals to test their theories and assumptions before putting them into action. This essentially allows an organization to verify its analysis is correct before committing resources to implement a broader strategy.
As one example, consider a company that wishes to launch a new marketing campaign to revitalize sales during a slow period. Doing so could be an incredibly expensive endeavor, depending on the campaign’s size and complexity. The company, therefore, may wish to test the campaign on a smaller scale to understand how it will perform.
In this example, the hypothesis that’s being tested would fall along the lines of: “If the company launches a new marketing campaign, then it will translate into an increase in sales.” It may even be possible to quantify how much of a lift in sales the company expects to see from the effort. Pending the results of the pilot campaign, the business would then know whether it makes sense to roll it out more broadly.
Key Considerations for Hypothesis Testing
1. Alternative Hypothesis and Null Hypothesis
In hypothesis testing, the hypothesis that’s being tested is known as the alternative hypothesis. Often, it’s expressed as a correlation or statistical relationship between variables. The null hypothesis, on the other hand, is a statement that’s meant to show there’s no statistical relationship between variables being tested. It’s typically the exact opposite of whatever is stated in the alternative hypothesis.
For example, consider a company’s leadership team who historically and reliably sees $12 million in monthly revenue. They want to understand if reducing the price of their services will attract more customers and, in turn, increase revenue.
In this case, the alternative hypothesis may take the form of a statement such as: “If we reduce the price of our flagship service by five percent, then we’ll see an increase in sales and realize revenues greater than $12 million in the next month.”
The null hypothesis, on the other hand, would indicate that revenues wouldn’t increase from the base of $12 million, or might even decrease.
2. Significance Level and P-Value
Statistically speaking, if you were to run the same scenario 100 times, you’d likely receive somewhat different results each time. If you were to plot these results in a distribution plot, you’d see the most likely outcome is at the tallest point in the graph, with less likely outcomes falling to the right and left of that point.
With this in mind, imagine you’ve completed your hypothesis test and have your results, which indicate there may be a correlation between the variables you were testing. To understand your results' significance, you’ll need to identify a p-value for the test, which helps note how confident you are in the test results.
In statistics, the p-value depicts the probability that, assuming the null hypothesis is correct, you might still observe results that are at least as extreme as the results of your hypothesis test. The smaller the p-value, the more likely the alternative hypothesis is correct, and the greater the significance of your results.
3. One-Sided vs. Two-Sided Testing
When it’s time to test your hypothesis, it’s important to leverage the correct testing method. The two most common hypothesis testing methods are one-sided and two-sided tests, or one-tailed and two-tailed tests, respectively.
Typically, you’d leverage a one-sided test when you have a strong conviction about the direction of change you expect to see due to your hypothesis test. You’d leverage a two-sided test when you’re less confident in the direction of change.
4. Sampling
To perform hypothesis testing in the first place, you need to collect a sample of data to be analyzed. Depending on the question you’re seeking to answer or investigate, you might collect samples through surveys, observational studies, or experiments.
A survey involves asking a series of questions to a random population sample and recording self-reported responses.
Observational studies involve a researcher observing a sample population and collecting data as it occurs naturally, without intervention.
Finally, an experiment involves dividing a sample into multiple groups, one of which acts as the control group. For each non-control group, the variable being studied is manipulated to determine how the data collected differs from that of the control group.
Learning How to Perform Hypothesis Testing
Hypothesis testing is a complex process involving different moving pieces that can allow an organization to effectively leverage its data and inform strategic decisions.
If you’re interested in better understanding hypothesis testing and the role it can play within your organization, one option is to complete a course that focuses on the process. Doing so can lay the statistical and analytical foundation you need to succeed.
Are you interested in improving your understanding of data? Learn more about Business Analytics and Data Science for Business, two online analytics courses designed to help you build your data proficiency.
