CORRELATION

Introduction

People have always interest in talking about and studying the relationship between
various phenomena. Astrologers relate the welfare and various aspects of a human
being to the position of the stars. The first scientific study of relationship, based on
collected data, was carried out by Francis Galton in 1887 when he wanted to study the
relationship between heights of father and son. By establishing a relationship between
these two variables, the dependent variable could be estimated or forecasted, given the
planned/projected value of the other variable.
For example, in an organisation, the manpower depends on the volume of the
business/sales. After establishing a relationship between the manpower and the
volume pf business/sales and given the planned/ projected volume of business /sales,
one could estimate the manpower requirement in the organisation.
The relationship between two or more variables is called CORRELATION. And they
are said to be correlated. If the change in variable affects the change in other variable,
the variables are said to be correlated.

Importance
• To understand the relevance and applications of relationship between two
variables.
• Compare the influences of two variables on one variable like advertising and
R$D expenses on the sales.
• To forecast one variable with the help of the other variable.

Types
There are four types of correlation. They are:
1. Positive correlation
2. Negative correlation
3. Linear correlation
4. Non-linear correlation

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 COEFFICIENT OF CORRELATION

Definition
Correlation is defined as the degree of relationship between two or more variables. It
is also referred to as covariation (variation in one variable affecting the variation in
the other variable). The degree of correlation between two variables is called simple
correlation. The degree of correlation between one variable and several other
variables is called multiple correlations.

Methods of study
• Scatter diagram
• Correlation graph
• Karl- Pearson’s coefficient

Scatter diagram

If x and y are pairs of variables, the values of variable x are marked in x axis and
values of variable y are marked in y-axis.
A point is plotted against each value of x and corresponding value of y. The swarn
(collection) of dots obtained is called as scattered diagram.
The nature of scattered diagram gives the nature of correlation between the variables.
There are three types:

• Zero correlation
• Perfect positive
• Perfect negative
• Positive correlation
• Negative correlation

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Correlation graph
When the given variables are with reference to a period of time, the correlation graph
is the ideal method to understand the relationship between two variables.

200

150

100

50

In this case, the period of time is marked at x-axis and the value of variables on y-
axis.
If the curves move in the same direction, then they have positive correlation. If the
curve moves in the opposite direction, then they have negative correlation.

Karl – Pearson coefficient of correlation

The correlation of coefficient between two random variables x and y denoted by r(x,y)
is a numerical measure of linear relationship between them and is defined as,

R(x, y) = cov(x, y) / σx. σy

Cov(x,y) = 1 / n * Σxy - xy

σx = 1/n Σx2- x2
σy = 1/n Σy2- y2

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 KARL – PEARSON COEFFICIENT OF CORRELATION

Correlation of income statement for 3 years of Hatsun Agro Products

Ltd.

2006 (x) 2007 (y) 2008 (z)

Revenue 44282 51122 60420

Cost of revenue 7650 10693 11598
R$D expenses 6584 7121 8164
Sales expenses 9818 11455 13039
Office expenses 3758 3329 5127
Operating income 16472 18524 22492
Investment income 1790 1577 1322
Investment before tax 18262 20101 23814
Provision for income tax 5663 6036 6133
Net income 12599 14065 17681
Total 126878 144023 169790

x2 y2 Z2 xy yz xz

1960895524 2613458884 3650576400 2263784404 3088791240 2675518440

58522500 114340249 134513604 81801450 124017414 88724700

43349056 50708641 66650896 46884664 58135844 53751776

96393124 131217025 170015521 112465190 149361745 128016902

14122564 11082241 26286129 12510382 17067783 19267266

271326784 343138576 505890064 305127328 416641808 370488224

3204100 2486929 1747684 2822830 2084794 2366380

333500644 404050201 567106596 367084462 478685214 434891268

32069569 36433296 37613689 34181868 37018788 34731179

158734801 197824225 312617761 177204935 248683265 222762919

297211866 390474026 547301834 340386751 462048789 403051905
6 7 4 3 5 4

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 CALCULATIONS
I. Mean of X, Y, Z…

1. Mean of X = Σx/n
= 126878/10
= 12687.8
2. Mean of Y = Σy/n
= 144023/10
= 14402.3
3. Mean of Z = Σz/n
= 169790/10
= 16979
II. Standard deviations…
1. SD of X
σ x = sqrt (1/nΣx2 – x2)

= sqrt [1/10(2972118666)-(12687.8)2]
= sqrt [136231597.8]
= 11671.829
2. SD of Y
σ y = sqrt (1/nΣy2 – y2)

= sqrt [1/10(3904740267)-(14402.3)2]
= sqrt [183047781.4]
= 13529.515
3. SD of Z
σ z = sqrt (1/nΣz2 – z2)

= sqrt [1/10(5473018344)-(16979)2]
= sqrt [259015393.4]
= 16093.955

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III. Covariance…
1. cov (x,y) = 1/n Σxy – xy

= (1/10 * 3403867513) – (12687.8*14402.3)

= 157653249.4
2. cov (y,z) = 1/n Σyz –yz

= (1/10 * 4620487895) – (14402.3*16979)

= 217512137.8
3. cov (x,z) = 1/n Σxz –xz

= (1/10 *4030519054) – (16979*12687.8)

= 187625749.2
IV. Coefficient of correlation…
1. r(x,y) = cov (x,y) /σx σy

= 157653249.4/ 157914185.5
= 0.99835
2. r(y,z) = cov (y,z) /σy σz

= 217512137.8/217743405.6
= 0.99893
3. r(x,z) = cov (x,z) /σx σz

= 187625749.2/1973635728
= 0.09507

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 CONCLUSION

Year Coefficient of Correlation

2006 0.99835
2007 0.99893
2008 0.09507

Thus, from the table given above clearly shows that the income statement for the year
2006 and 2007of Hatsun Agro Products Ltd are more correlated.

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