Expert Opinion

What is customer market segmentation and why use this strategy:

The use of market segmentation was first described in the 1950's, when product differentiation was the primary marketing strategy used. In the 1970's and 1980's, market segmentation began to increase as a strategy as it became known that it was a means of expanding sales and obtaining competitive advantages. In the 1990's, target or direct marketers used many sophisticated techniques, including market segmentation, to reach potential buyers with the most customised offering possible.

A white paper prepared by US marketing company DSS Research (Anonymous, 2005) provides the following definition of market segmentation: "Market segmentation describes the division of a market into homogeneous groups which will respond differently to promotions, communications, advertising, and other marketing mix variables."

Segmentation is a means of focusing attention onto the needs of groups of customers, rather than having a "one size that fits all approach". Gordon Wyner, (2002) vice president of Mercer Management Consulting, writes that effective segmentation enables companies to allocate investment resources towards targeted customers that are most likely to be attracted to offers. Success is measured in terms of how well the organisation acquires and retains profitable customers.

A target market itself is a specific group of potential purchasers having needs and wants towards which organisations desire to direct their marketing efforts. The identification and analysis of target markets provides a foundation for which the appropriate marketing mix (product, pricing, promotion and distribution) and a focused marketing strategy can be developed. The target market may be further segmented to match the particular needs of customers within that market.

A Focus Marketing Strategy (FMS) is designed to address a particular segment of the marketplace, product form, or cost management process. Focus marketing, or niche marketing, is based on the concept of serving a particular group of customers in such an exceptional manner that it becomes very difficult for another party to compete it that market. Focus or niche markets commonly involve smaller market segments, however with minimal competition profit margins can be very high.

Note, in addition to the terms used above, targeted marketing, focused marketing, and niche marketing are among additional terms that are used in association with customer market segmentation.

Customer market segmentation is a powerful and commonly used mechanism enabling organisations to:

• Divide markets into meaningful and measurable segments, which are aligned according to customers' needs, past behaviours, value to the organisation, or demographic profiles;

• Determine the profit potential of each segment by analysing the revenue and cost impacts associated with serving the segments;

• Target specific segments according to their profit potential, and to the organisation's ability to serve them in a beneficial and unique way;

• Better invest resources in tailored products, services, marketing, and distribution programs which match the needs of targeted segments;

• Measure the performance of each segment, and to adjust the segmentation approach progressively as market conditions change.

Customer market segmentation strategies can lead to greater profits realisation. This can result through:

• Better communications with, and understanding of, the target market;

• Improved design of products and services which better fit the needs of the desired segment;

• Efficiencies gained through segmentation;

• Gaining a reputation for expertise and quality in serving specific segments of the market;

• Enabling the most profitable customer groups to be given special attention thus improving loyalty and retention;

• Enabling less profitable groups to be retained without over-investment;

• Enabling unprofitable groups to be handled appropriately.

In summary segmentation of customer markets is used:

When to use customer market segmentation:

As with many other business strategies, there can be significant costs associated with setting up a new market segmentation scheme. As a result a reasonable indication that the proposed scheme will be truly beneficial is required. Factors that are indicative of an organisation's readiness for segmentation include the following points that have been identified by DSS Research (2005):

Gordon Wyner (2002) believes that answers to the following questions may also provide guidance when contemplating the formation of market segmentation schemes:

Wyner also notes that the key issues and barriers to the success of customer segmentation schemes relate more to organisational and economic concerns, rather than upon any analytical difficulties. Organisations usually have the ability to make the appropriate measurements however the clear justification of costs and the effective management of the necessary process changes often pose difficulties.

Market segmentation methodologies:

There are a variety of ways in which customer markets may be segmented into homogenous groups in order to obtain useful information for marketing and product/service development initiatives. It is wise to use more than one method as this will ensure that a more comprehensive picture is obtained of the organisation's customer base e.g. it's best/worst purchasers, most/least loyal customers, age/gender distributions etc..

The following are some suggested methods that have proved to be useful.

Aspirational Segmentation:

By focussing on aspirations, an organisation can communicate on a more emotional level with prospective customers. This is achieved through identifying and then directly appealing to the aspirations (or motives) that underlie customer behaviour. Pete Jacques Ph. D (2003), an Associate Scientist with Middle Markets, Markets Research, for LIMRA International writes that an aspirational approach allows marketers and producers to tailor sales to a customer's individual desires or goals. Aspirational research allows a more direct view of a customer's mindset than perhaps is available via other variables used for segmentation such as.:

Segmenting customers by their common aspirations may be used as a supplemental tool during the selling process through reinforcing relationship building and to identify an appropriate product/service which matches a client's desires. Through a better awareness of consumers' aspirations sales people can then relate to their clients on a more emotional and personal level.

In addition, aspirational questioning using internet-based platforms may be used to prompt customers to provide key information for use in an algorithm. This is then used to connect them to the most appropriate product/service description fitting their need or, alternatively, for connecting them to a sales person or agent for follow-up contact. An appreciation of customer aspirational segments may also be helpful in building a brand image for organisations wishing to serve specific groups of people.

Hyper-targeted segmentation:

Daniel Kelman (2003) a Director of 1:1 Marketing at The Integer Group (a promotions and marketing agency based in Denver USA), describes what he calls a "high connection" approach to marketing. High connection marketing is a strongly focused, or hyper-targeted, methodology. He believes that by reducing the targeted customer group to a limited number the marketing cost per unit for promotions can be substantially increased. Potential customer numbers are refined by thoroughly researching the purchasing behaviour, and emotional factors, of the targeted customer segment.

The goal of hyper-targeted segmentation is primarily to create an experience specifically designed to initiate a relationship between a prospect and a seller. Kelman reports response rates as high as 93 percent, and sales closure rates of 10 percent in association with hyper-targeted segmentation. This approach enables marketers to invest heavily in delivery and incentive costs, and to create highly unusual and memorable campaigns.

As an example Kelman describes a list of 10,000 prospects of an office supply company that was hyper-targeted down to around 550. A promotions piece was developed which included a gift comprising a nautical compass bearing the brand of the office supply company. Each hyper-targeted prospect that responded to the call to action was rewarded with a hand delivered GPS unit. The total campaign costs amounted to US $105,000 with the program generating eight new accounts and producing US$1.77 million in recurring revenue.

Customer Relationship Management (CRM) technologies have enabled the collation of comprehensive data concerning customers. This in turn has provided an opportunity to create repositories of powerful customer data and knowledge. Such information has made it possible for organisations to use data to treat "different customer segments differently" by working in an appropriate manner with each unique segment.

Jim Morgan (2003) a Financial Services Consultant explains that a number of CRM implementations have failed because the CRM technologies have not been used to meet the specific needs of a company's most profitable customer segments, neither have they been used to attract new customers fitting the most profitable profiles. By segmenting customers according to a) their relative profitability, and b) the value that the company can offer the segment, it is possible to improve customer loyalty and market share.

Morgan notes that for financial institutions in particular, the ability to a) identify customer needs, b) segment customers, and c) build accurate customer profiles, is dependant upon how effectively customer data is collected and managed. The framework for achieving this involves segmenting customers according to:

• Relative Value, which, in addition to the revenue earning potential of customers, also accounts for costs associated with support, sales/marketing and channel usage, all of which have an impact upon profitability.

• Behavioural associations eg:
  Product holdings (e.g. mortgage customers)
  Demographics or other specific attributes (e.g. life stage, estimated net worth, age)
  Channel usage / preferences (e.g. online bankers)
  Transaction activites and volumes (eg. level of collection or disbursement activity)

Determing the customer-centric Key Performance Indicators (KPI) that drive customer profitability and customer loyalty. This can be achieved by documenting customer profitability drivers (value gained from customers) and customer loyalty drivers (value provided to customers). Predictive Modelling may also be used to identify customer's historical purchasing and "churn" indicators. By understanding these activities customer market segments can be more proactively managed. Profiling each customer segment through an understanding of their a) distinct attributes, b) buying behaviours, and c) needs. Customer "scorecards" are a commonly used method for portraying customer profiles. Scorecards provide an overview of the status of customer relationships at a given point in time.

As an example Melanie Harwood (2003) from Community Banker Journal cites Steve Sherman, president of Transcend Systems, who states that many banks are using life-cycle analysis and other forms of customer segmentation (using CRM and Master Customer Information File MCIF systems). Terri Krohn, senior vice president and marketing director of Sterling Savings Bank in Spokane, Washington, is cited as using six different market segments based on profiling. These customer segments were; Fee-driven, credit-driven, middle market, low-income depositor, middle-income depositor, and upscale. The bank slots customers into these groups using its Master Customer Information File system.

Segmentation by Customer Values:

Gary Anthes,(2002) of Computerworld, cites Fred Reichheld, director emeritus at management consultancy Bain & Co. as saying that a mistake companies make is to segment customers on the basis of demographics such as age, income, sex, or education, simply because such information is relatively easy to acquire. Reichheld holds that the best companies segment their customers based on fundamental values. Anthes provides the following examples of segmentation based on fundamental values:

A niche market segment usually comprises a narrowly defined group of customers as follows:

Once the correct niches for the organisation have been determined, a marketing plan can be developed. A marketing plan is a roadmap that outlines the proposed marketing mix (products/services, pricing, promotional activities, place of delivery etc) that an organisation intends to use in achieving its marketing and sales objectives. A key element associated with successful marketing plans is an in-depth understanding of the organisation's external customers - their needs, buying capacities, and motivation. A niche marketing plan is therefore a specifically developed and written marketing plan that focuses expressly on the chosen niche segment of an organisation's market.

The steps towards preparing a successful niche marketing plan have been identified (Anonymous, 2004) to include:

Demographic Life-stage, Marketing Cohorts and Customer Activity:

Rhonda Drake and Perry Drake, proprietors of direct marketing consultancy Drake Direct in New York (cited Mummert, 2003) mention RFM (recency, frequency, monetary value), and Affinity Groups as being commonly used methods for customer market segmentation. In addition they also recommend the following measures for gathering additional information:

As can be seen, there are various methods that can be used to segment and target a customer market. An organisation may choose one method in preference to another. However, it is common for aspects of different methods to be used so that a more comprehensive picture can be gained of customer segments.