MARKET
SEGMENTATION THAT PRODUCES RESULTS
By Leland D. ("Lee") Shaeffer, Managing Director,
PLM Associates
Market segmentation
is a powerful tool that enables the focus of resources, builds
barriers to competition and produces a higher return on investment.
While nearly everyone practices some form of segmentation out
of necessity, additional care and thought can yield substantial
improvement.
Why Segmentation
is Important
If someone believes that his/her company can't be all things
to all people, he already is segmenting the market and understands
one of the key reasons for doing so - focus. Focus sales and marketing
resources on the appropriate prospects. Focus product development
resources on designing the optimum solution. Focus operational
resources on ensuring the best possible interaction with customers
A well-defined
market segment encompasses customers having similar needs, which
is invaluable for specifying the product/solution. The segment
will be sufficiently focused such that the solution will meet
most if not all of the customers' criteria with a minimum of extra
baggage - features and attributes that add cost but not value
to that customer. Since the segment is well defined, customers
and prospects can readily be identified and contacted for "Voice
of the Customer" research.
Conversely,
a segment defined too broadly will contain several sub-segments,
each with certain needs that are different across the sub-segments.
A solution that addresses those divergent needs will include extra
features and compromises. At best, this adds minimal cost and
complexity. At worst, it forces compromises in the design that
renders the solution suboptimal for any particular sub-segment
- and leaves the vendor vulnerable to competitors that are more
discriminating.
Receiving
"Disproportionate Returns" from Marketing Expenditures
Proper segmentation produces disproportionate returns on marketing
expenditures. Consider that the return on marketing spend is a
non-linear function. Starting near zero, there is a threshold
below which the company is in the noise level. Most prospects
receive too few impressions to become conscious of the message
and take action. As spending increases, the prospect receives
more impressions, and eventually the message reaches consciousness
and leads to action. Additional outlay in this region of the curve
produces "disproportionate" returns - doubling the amount
of spend will more that double the return. Of course, further
increases eventually produce diminishing returns. The resulting
"return versus marketing spend" curve is therefore S-shaped.
For example,
$10,000 spent on direct mail will produce a certain response.
$10,000 spent instead on advertising will produce a response.
Spending on both will generate the response from the direct mail
and from the advertising, plus it will get additional response
because people who saw the ad are more inclined to pay attention
to the direct mail, and people who saw the direct mail will be
more responsive to the advertising. Add an additional $10,000
for a trade show booth, and the resulting impressions from the
booth, ads and direct mail will all reinforce each other - assuming
all three reach the same prospects.
The spend
should push well into the zone of disproportionate returns. Expenditures
can be increased, of course, but a limited budget necessitates
focusing existing resources. This can be accomplished with tighter
market segmentation - narrowing the definition of the segment
such that each prospect within that segment will receive more
impressions per dollar spent.
The segmentation used for product definition purposes should be
the same as that used for marketing purposes. Therefore, during
the initial planning process, the expected marketing budget should
be an important consideration since that will dictate the size
of the target segment, which in turn will impact the solution
design. The conventional approach is to decouple the product design
and marketing budget decisions - easy to do since they are separated
in time - but the results are likely to be suboptimal.
Market
vs. Segment vs. Sub-segment vs. Niche
For purposes of this discussion, the distinctions between
market, segment and sub-segment are relative. A market segment
is a subset of a broader market, a sub-segment is a subset of
the segment that may or may not qualify as a segment in its own
right. It is useful to drive a stake in the ground and define
the segment as the targeted group of customers and prospects.
A sub-segment would be considered too small to be economically
viable as the sole target; hence several are grouped together
to achieve critical mass. A small segment may be considered a
niche.
The terms
are best considered relative since a market segment for one company
may be an entire market to another, and a niche to yet another.
Absolute definitions are therefore not practical.
An Approach
to Market Segmentation
A key to segmentation is identifying inherent boundaries between
prospective segments. These are defined by existing barriers that
are difficult and/or expensive to cross. Analogous physical boundaries
include oceans, rivers, canyons caused by erosion and mountain
ranges. If the market segment is a "territory" that
should be served as cost effectively as possible and defended
against competition, it makes sense to define that territory using
inherent boundaries that serve as barriers to competition. A territory
ideally should not be bisected by inherent boundaries, since this
increases the cost and difficulty of movement within the territory.
Inherent boundaries
that separate market segments are caused by language, culture,
geography, buying behavior, company size, regulations and self-referencing
communities. The latter is particularly powerful and worth elaboration.
Self-Referencing
Communities
A self-referencing community is comprised of people who know
or know of each other, talk among themselves and use each other
as "trusted sources". They may identify with certain
labels and are "self referencing" since they, not a
vendor, determine the community of which they feel a part. They
generally belong to the same trade association, read the same
set of periodicals, attend the same conferences and have their
own vocabulary that is reflected in the key words they use for
on-line searches. Because they talk among themselves and draw
upon community members for product/vendor references, the word-of-mouth
further compounds the return on marketing dollars.
The community
may be defined by affiliations due to vertical industries, functional
areas, geography and potentially by company size. Key indicators
include the presence of trade associations, specialized publications
and specialized conferences and trade shows. Geography refers
to the local and regional business communities, not necessarily
political boundaries. Company size is useful in defining products
and targeting customers, since large companies can have different
needs and behaviors, although there may not be clear self referencing
communities based on size.
A word of
caution: People may belong to several self-referencing communities,
and not all of your target segment may identify with the same
community. For example does a company that installs network cabling
identify with the electrical contractor community or the data
communications community? Could be both, either or neither.
Divide
and Conquer
A larger segment may be subdivided into smaller segments by
picking industry segments within an industry (for example, the
2002 NAICS - North American Industry Classification System - includes
approximately 20 industries broken down into nearly 100 segments
and over 2000 sub-segments). Another approach to subdividing is
to cross industries with functional areas or geographically based
business communities. It is useful to subdivide the market as
much as feasible and then deliberately group the sub-segments
into a target segment. This will help prevent overlooking inherent
boundaries that may exist or missing some underlying differentiation
that could impact product definition and marketing strategy.
How to
Tell if a Segment is "Good"
After defining a target segment, it is helpful to step back
and ask several questions:
- What are
the inherent boundaries? Can members of this segment be differentiated
from members of adjacent segments?
- Are there
meaningful sub-segments within the segment? Even though these
may be grouped to produce an economically viable segment, they
are likely to impact the product design and marketing strategy.
- Is the
segment too large? If it will be hard to defend, the solution
definition becomes diffused and the marketing expenditures are
unlikely to get above the noise level, consider focusing on
a sub-segment.
- Can the
segment be reached in a cost-effective way? The answer is usually
yes for a self-referencing community and can be no if the segment,
as defined, artificially groups together disparate sub-segments
and niches. A "no" may also signify that the market
segment is defined using product/usage variables, not true market
variables.
When all is
said and done, market segmentation often is an inexact science.
Don't be afraid to experiment.
#
# #
"Market
Segmentation that Produces Results" will be the focus of
an upcoming Impact! Sales and Marketing event on February 16,
2006. For more information or to register, visit http://www.scsc.org/events/impact/february1606.html.
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Lee Shaeffer
improves "return on product" by helping companies
sharpen their product/market strategies and underlying product
lifecycle management processes. He is an instructor at Caltech
on "Agile Product Development" and at USC's Marshall
School on "Developing and Marketing Better Products Faster".
Lee draws heavily from his practical experience gained while
at Apple Computer, Unisys and several emerging companies.
He may be reached at 310-393-9259, lee.shaeffer@plmassociates.com,
www.plmassociates.com |
