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Home / White Papers

Market Segmentation: Objectives,

Segmentation Bases and Methods
Topics:
Positioning and Segmentation
Tags:
Consumer Diversity,
Foreseechange,
Market Segmentation,
Market-segmentation,
Marketing,
Marketing Research,
Sales,
Sales Strategy
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Foreseechange

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Overview: Consumer diversity is increasing rapidly and firms have long sought to differentiate
their products relative to competitors. This is where market segmentation comes in. Long gone
are the homogeneous markets that Henry Ford conquered with his mass production of one model
of car (mass customisation is the new objective). While there has been a strong move towards
one-to-one marketing in recent years, there are few examples of successful implementation,
particularly in consumer markets. Market segmentation provides a proven way of disaggregating
markets in a way that can improve profitability without the investment in systems and sales
 resources needed for one-to-one marketing. This document provides an overview of market
segmentation and links to more detailed information sources.

(Is this item miscategorized? Does it need more tags? Let us know.)

Format: HTML | Date: Aug 2001 | Pages: 1

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An concept in Economics and used in Marketing. A market segment is a sub-set of a market
made up of people or organizations sharing one or more characteristics that cause them to
demand similar product and/or services based on qualities of those products such as price or
function. A true market segment meets all of the following criteria: it is distinct from other
segments (different segments have different needs), it is homogeneous within the segment
(exhibits common needs); it responds similarly to a market stimulus, and it can be reached by a
market intervention. The term is also used when consumers with identical product and/or service
needs are divided up into groups so they can be charged different amounts. These can broadly be
viewed as 'positive' and 'negative' applications of the same idea, splitting up the market into
smaller groups.
While there may be theoretically 'ideal' market segments, in reality every organistion engaged in
a market will develop different ways of imagining market segments, and create Product
differentiation strategies to exploit these segments. The market segmentaton and corresponding
product differentiaion strategy can give a firm a temprorary commerical advantage.

Contents
[hide]
• 1 "Positive" market segmentation
• 2 Positioning
• 3 Top-Down and Bottom-Up
• 4 Using Segmentation in Customer
Retention
 ○ 4.1 Process for tagging customers
• 5 Price Discrimination
• 6 See also
• 7 References

[edit] "Positive" market segmentation

Market segmenting is dividing the market into groups of individual markets with similar wants
or needs that a company divides the market into distinct groups who have distinct needs, wants,
behavior or who might want different products & services. Broadly, markets can be divided
according to a number of general criteria, such as by industry or public versus private although
industrial market segmentation is quite different from consumer market segmentation, both have
similar objectives. All of these methods of segmentation are merely proxies for true segments,
which don't always fit into convenient demographic boundaries.
Consumer-based market segmentation can be performed on a product specific basis, to provide a
close match between specific products and individuals. However, a number of generic market
segment systems also exist, e.g. the Nielsen Claritas PRIZM system provides a broad
segmentation of the population of the United States based on the statistical analysis of household
and geodemographic data.
The process of segmentation is distinct from targeting (choosing which segments to address) and
positioning (designing an appropriate marketing mix for each segment). The overall intent is to
identify groups of similar customers and potential customers; to prioritize the groups to address;
to understand their behavior; and to respond with appropriate marketing strategies that satisfy the
different preferences of each chosen segment. Revenues are thus improved.
Improved segmentation can lead to significantly improved marketing effectiveness. Distinct
segments can have different industry structures and thus have higher or lower attractiveness
(Michael Porter). With the right segmentation, the right lists can be purchased, advertising results
can be improved and customer satisfaction can be increased leading to better reputation.

[edit] Positioning
Once a market segment has been identified (via segmentation), and targeted (in which the
viability of servicing the market intended), the segment is then subject to positioning. Positioning
involves ascertaining how a product or a company is perceived in the minds of consumers.
This part of the segmentation process consists of drawing up a perceptual map, which highlights
rival goods within one's industry according to perceived quality and price. After the perceptual
map has been devised, a firm would consider the marketing communications mix best suited to
the product in question.

[edit] Top-Down and Bottom-Up

George S. Day (1980) describes model of segmentation as the top-down approach: You start
with the total population and divide it into segments. He also identified an alternative model
which he called the bottom-up approach. In this approach, you start with a single customer and
build on that profile. This typically requires the use of customer relationship management
software or a database of some kind. Profiles of existing customers are created and analysed.
Various demographic, behavioral, and psychographic patterns are built up using techniques such
as cluster analysis. This process is sometimes called database marketing or micro-marketing. Its
use is most appropriate in highly fragmented markets. McKenna (1988) claims that this approach
treats every customer as a "micromajority". Pine (1993) used the bottom-up approach in what he
called "segment of one marketing". Through this process mass customization is possible.
Creating a market segment may allow a firm or other organistion to set itself apart from other
competitors.

[edit] Using Segmentation in Customer Retention

Segmentation is commonly used by organizations to improve their customer retention programs
and help ensure that they are:
• Focused on retaining their most profitable customers
• Employing those tactics most likely to retain these customers
The basic approach to retention-based segmentation is that a company tags each of its active
customers with 3 values:
Tag #1: Is this customer at high risk of canceling the company's service? (Or becoming a
non-user)
One of the most common indicators of high-risk customers is a drop off in usage of the
company's service. For example, in the credit card industry this could be signaled through a
customer's decline in spending on his card.
Tag #2: Is this customer worth retaining?
This determination boils down to whether the post-retention profit generated from the customer
is predicted to be greater than the cost incurred to retain the customer.[1]
Tag #3: What retention tactics should be used to retain this customer?
For customers who are deemed “save-worthy”, it’s essential for the company to know which
save tactics are most likely to be successful. Tactics commonly used range from providing
“special” customer discounts to sending customers communications that reinforce the value
proposition of the given service.
[edit] Process for tagging customers
The basic approach to tagging customers is to utilize historical retention data to make predictions
about active customers regarding:
• Whether they are at high risk of canceling their service
• Whether they are profitable to retain
• What retention tactics are likely to be most effective
The idea is to match up active customers with customers from historic retention data who share
similar attributes. Using the theory that “birds of a feather flock together”, the approach is based
on the assumption that active customers will have similar retention outcomes as those of their
comparable predecessors.[2]
From a technical perspective, the segmentation process is commonly performed using a
combination of predictive analytics and cluster analysis.
Illustration of retention-based segmentation process:
[edit] Price Discrimination
Where a monopoly exists, the price of a product is likely to be higher than in a competitive
market and the quantity sold less, generating monopoly profits for the seller. These profits can be
increased further if the market can be segmented with different prices charged to different
segments (referred to as price discrimination), charging higher prices to those segments willing
and able to pay more and charging less to those whose demand is price elastic. The price
discriminator might need to create rate fences that will prevent members of a higher price
segment from purchasing at the prices available to members of a lower price segment. This
behaviour is rational on the part of the monopolist, but is often seen by competition authorities as
an abuse of a monopoly position, whether or not the monopoly itself is sanctioned. Examples of
this exist in the transport industry (a plane or train journey to a particular destination at a
particular time is a practical monopoly) where Business Class customers who can afford to pay
may be charged prices many times higher than Economy Class customers for essentially the
same service. Microsoft and the Video industry generally also price very similar products at
widely varying prices depending on the market they are selling to.

Market Segmentation
Charlie Nelson
director foreseechange
August 2001
Consumer diversity is increasing rapidly and firms have long sought to differentiate
their products relative to competitors. This is where market segmentation comes
in. Long gone are the homogeneous markets that Henry Ford conquered with his
mass production of one model of car (mass customisation is the new objective).
While there has been a strong move towards one-to-one marketing in recent years,
there are few examples of successful implementation, particularly in consumer
markets. Market segmentation provides a proven way of disaggregating markets in
a way that can improve profitability without the investment in systems and sales
resources needed for one-to-one marketing.
This document provides an overview of market segmentation and links to more
detailed information sources.

Objectives of Market Segmentation

Market segmentation is the first of three important steps in developing marketing
strategy. Segmentation groups customers with similar needs and responses;
targeting determines which segments to serve; positioning is about how the product
(or product portfolio) should compete with others in the market.
The objectives of market segmentation are to more accurately meet the needs of
selected customers in a more profitable way.
Precisely how this can be achieved will vary by company capability. For example, a
single product company may be able to boost sales and cut advertising costs if they
can target consumers with a high likelihood of product purchase. On the other
hand, a company with several brands in a category will benefit by positioning each
brand within the portfolio against a distinct set of consumer needs – ideally each
brand should be sufficiently distinct so that there is little cannibalisation.

Segmentation Bases
There is a large array of possible segmentation bases. Some of these are briefly
described below.
Demographics
Consumers can be grouped on the basis of characteristics such as age or household
composition. This is easy to do and it is easy to reach such segments with media.
But age and other demographics are only loosely related to behaviour.

Socioeconomic Characteristics
Similarly, characteristics such as income, occupation and education can be used to
derive segments that are easy to reach. Such segments are indicators (although
not perfect) of behaviour such as lifestyle, price sensitivity, and brand preference.

Product Usage
Potential to use the firm’s product is a behaviourally based segmentation basis.
Potential could be determined by administering questions about disposition to use
(such as awareness, used in the past, would consider using) in a survey and
respondents grouped accordingly. The problem is then how to reach the most
attractive segments. This is done either by using a large-scale single source survey
(such as ACNielsen Panorama) that asks consumers about product disposition and
media usage or by relating product disposition to demographics. Both approaches
are usually imperfect as behaviour is rarely strongly correlated with demographics
or media usage.

Psychographics
Personality, attitudes, opinions, and life styles are often used a segmentation bases.
These characteristics have some relationship to behaviour and provide insight into
how to communicate with chosen segments. Reaching the chosen segments is then
the issue, as discussed under product usage, above.

Generation
Generation, or cohort, refers to people born in the same period of time. For
example, the Baby Boomer generation can be defined as those people born
between 1946 and 1955. Such cohorts share much in common. Not only are they
of a similar age, but they experienced similar economic, cultural, and political
influences in formative years. Thus generation is probably a better segmentation
basis than age and just as easy to reach.

Benefits Sought
Some people are price sensitive, others seek quality or service. Some people are
brand loyal, while others frequently switch brands. It is possible to group
consumers on the basis of these factors. Note that price/quality sensitivity can vary
by category. Some people are very concerned about the quality of the food they
eat but will buy cheap laundry detergent. Others will feed themselves any rubbish
but are fastidious about cleanliness. This is a very powerful basis for segmentation
but it is not easy to buy media on this basis. These segments can be reached by
the message (self-selection) but this is not necessarily cost effective.

Geography
There are two reasons why people who live in the same area may share similar
characteristics. First, some areas have more expensive properties than others and
so people with similar socioeconomic characteristics may cluster together. Second,
they have similar transport and shopping options. It is easy to reach particular
areas by using local newspapers, cinema, outdoor, and selective direct mail but
mass media is less effective.

Geodemographic
There are several commercial geodemographic segmentation schemes available,
that combine demographics and geography as a segmentation basis. This approach
aims to identify groups of small geographic areas that have similar demographic
profiles. These tend to suffer from the fallacy of averages. Some areas may be
genuinely relatively homogenous but many are not and this can be very misleading.
More on geodemographic segmentation (pdf format, 1,351k).

Discussion
The segmentation basis used depends on the decision to be made. For pricing
decisions, for example, the segmentation basis should be price sensitivity and deal
proneness. For advertising decisions, the bases could include benefits sought;
media use; or psychographics (or some hybrid of these).
Clearly, one segmentation basis will not be ideal for all marketing decisions. Nor
will one segmentation basis be ideal for all industries – food, detergents, clothing,
and motor vehicles all satisfy different needs and have different levels of purchase
involvement.
Nonetheless, many companies do use “generic” segmentation schemes. They need
to satisfy themselves that in doing so:
• The generic scheme satisfies the criteria set out below; and
• That they do not risk being at a disadvantage to competitors who use a
customized segmentation scheme.

Criteria for Selecting Segmentation Basis

The market segments identified should satisfy three criteria.

Internal Homogeneity/External Heterogeneity

This means that potential customers within a segment should have similar
responses to the marketing mix variable of interest but a different response to
members of other segments.
Parsimony
This is the degree to which the segmentation makes every potential customer a
unique target. That is, the segmentation should identify a small set of groupings of
substantial size.

Accessibility
This is the degree to which marketers can reach segments separately using
observable characteristics of the segments.

Methods of Market Segmentation

There is a large array of analytical techniques applicable to market segmentation.
The most frequently used are briefly described below.

Cluster Analysis
Cluster analysis is a set of techniques for discovering structure, or groups of
individuals, within a set of data comprising measures on each individual. The
measures could be, for example, an attitudinal battery. There is no dependent
variable – all variables are treated equally.

Conjoint Analysis
This technique aims to decompose preference into component parts, such as brand,
quality, and price. This technique views products as bundles of attributes and uses
an experimental design to vary attribute levels to create product descriptions.
Survey respondents then rank the products and the analysis works out how much
each attribute contributes to preference. It is a good technique for benefit
segmentation.

CHAID/Regression Trees
This was called Automatic Interaction Detection for a long time and now also goes
under various names used by software vendors, including Regression Tree, Answer
Tree, Classification Tree and CART. It is a technique frequently employed in Data
Mining and it is a useful exploratory analysis technique prior to regression analysis.
It can quickly analyse a large set of candidate explanatory variables to determine
the most influential variables on a dependent variable.
The basic idea is to hierarchically segment the population on the database based on
a dependent (categorical) variable such as bought/did not buy a product. The
explanatory variables are categorical too, such as:
• Demographic variables (age group, gender, occupation);
• Attitudes (agree/disagree with various statements);
• Previous behaviour (bought/did not buy another product).
Discriminant Analysis
This technique is used to quantify the relationship between segment membership
(eg bought, did not buy) and explanatory variables such as income and attitudes. It
is often used after CHAID identifies candidate explanatory variables, to formally
quantify and test the significance of relationships.

Further Information
Market Segmentation as part of Marketing Strategy
“Marketing Engineering” by Gary L. Lilien and Arvind Rangaswamy, Addison-Wesley,
is an excellent book on the application of marketing models to marketing strategy.
It includes Excel-based software to demonstrate the application of these
techniques.

Multivariate Analysis
A good text on the technical details of the whole range of techniques for
segmentation and more is “Multivariate Data Analysis” by Joseph F. Hair et al,
Macmillan.

Cluster Analysis
For details of algorithms, see “Finding Groups in Data, An Introduction to Cluster
Analysis” by Leonard Kaufman and Peter J. Rousseeuw, Wiley.

Market Segmentation and Forecasting

www.futuretoolkit.com/segfor.htm