Saturday, February 21, 2009

A Practical Guide to Market Segmentation

In his article A Practical Guide to Market Segmentation, Paul Hague reviews the value of segmentation, outlines a ten-step process for successfully achieving market segmentation, and analyzes three approaches for performing that segmentation. Segmentation is a key strategy to improve our customer database efficiency. He (p 2) says that “Segmentation enables us to group together customers with similar needs so that we can bring together limited resources to best serve them.” He applies the Pareto rule to the customer base and concludes that 20% of our customers may provide 80% of the sales revenue.

He asserts (pp 1-2) that it makes sense to personally customize offers to these devoted customers, but it would be financially irresponsible to do so for the other 80% of our customer base who are small buyers. For this 80%, Hague has several segmentation strategies. Although he is discussing business-to-business marketing, such segmentation also makes sense for business-to-customer as well.

Steps three through eight are a description of the three overall approaches he considers for classifying a customer base including the advantages and disadvantages of each approach. Once a segmentation approach has been selected, the customer base should be grouped together using cluster analysis (p 5). He recommends that such clustering be done every “six to twelve months with current customers to ensure any changing needs are recognized and addressed.”

Implementation of the segmentation is usually done from a spreadsheet (p 5), which can vary in sophistication depending on the extent of the customer base. A different offer must be prepared for each grouping of customers, and it must use the characteristics of each group to fashion a customer value proposition. Hague warns (p 6) that salespeople have an instinctual belief that all customers are “price fighters.”

Three Theoretical Perspectives on Segmentation
His first segmentation strategy is business firmographics that he compares to customer demographics. A major issue with segmentation based on firmographics or demographics is that it is an obvious approach to all our competitors as well and so may not provide competitive advantage.

Another possible segmentation strategy is needs based, although we must be careful about changes in needs over time. This strategy requires more resources to do the necessary market research but (p 2) “Gets to the heart of marketing; that is the identification and satisfaction of customer needs.” Hague asserts that the actual need drivers will end up being simple or at least simpler (p3) than generally believed because of the “action of cognitive misers.” To analyze a customer base for purposes of needs segmentation, he recommends no more than ten need factors be used to categorize customers.

The last segmentation strategy he discusses is the middle ground in terms of effort. Behavior based segmentation finds an external behavior measure that reflects a hidden need. He gives an example of a behavior that can be used to categorize customers (p 5). Customer behavior regarding procurement vehicles is the example he gives and he has a simple two-behavior classification: 1.) a Request for Proposal (RFP); or the alternative 2.) a Request for Information (RFI). His experience is that the RFP customers are price focused and the RFI customers are more open to suggestions and less price driven.

Hague’s Main Conclusions
Hague drives home the main conclusion throughout the paper, and that is customers are different, they should be grouped according to the relevant characteristics of our relationship with them, and our marketing activities should form around those segments. He concludes (p 2) that this approach optimizes our application of scarce resources, and that the true test (p 6) of a good segmentation is that it brings in “business that is profitable.” Orienting the sales staff (p 6) is critical so that they understand the nature of the segmentation guiding their efforts, and that they cannot return to the “cozy life in which they are given free rein and any offer will do.”

For a complete précis of the article see Redmond Review of A Practical Guide to Market Segmentation.

Hague, Paul (n.d.). A Practical Guide to Market Segmentation. B2B International.

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