Market Segmentation: A Practitioner's Guide

30 Pages·5.468 MB·English

by  Chuck Chakrapani, Anthony C. Lea, Tony Hernández, Ryerson University. Centre for the Study of Commercial Activity

CENTRE FOR THE STUDY OF COMMERCIAL ACTIVITY
RESEARCH REPORT 2006-08
@SCA
RYERSON UNIVERSrlY
CENTRE FOR 11E STUDY OF CO•ERCW. AC1MTY
RYERSON UNIVERSITY
Market Segmentation:
a practitioner's guide
By C. Chakrapani, T. Lea and T. Hernandez
Research Report 2006-08
@SCA
©2006 Centre for the Study of Commercial Activity, Ryerson University, Canada
AlJ righrs reserved. No part of chis work covered by the copyrights hereon may be reproduced or used in any form or by any means -gr::iphic, electronic or mechanical,
including phowcopying, recording. raping or information storage and rcuicva.1 systems -without prior wrincn permission from CSCA.

Table of Contents
Preface ...........................•...............•..................•.......•...•.•.......................... 6
INTRODUCTION ............................................................................................ 7
The rationale .......................................................................................... 7
Increasing the return on your investment ..........................................•............ 7
Decreasing unproductive consumer subsidy ..................................................... 7
Finding large profit in small numbers ......................................................... 8
MARKET SEGMENTATION PROCESS ...................................................................... 8
Step I: Identifying and obtaining the basis variables .................................................... 8
(a) Geographic segmentation ............................................................................ 8
Geographic segmentation factors ........................................................•..... 9
How to choose geographic segmentation basis va1-iables ........................................... 9
Research into geographic segmentation ....................................................... 10
When to use geographic segmentation ...................•.................................... 10
(b) Demographic segmentation ........................................................................ 10
Demographic segmentation factors ................................•.......................... 11
How to choose demographic segmentation basis variables ...........••................•.......... 11
Research into demographic segmentation ........................•..................•....•.... 11
When to use demographic segmentation ...................................................... 12
(c) Geodemographic segmentation ..................................................................... 12
Geodemographic segmentation factors ..............................................•......... 12
How to choose geodemographic segmentation basis variables ...................................... 13
Research into geodemographic segmentation .................................................. 13
When to use geodemographic segmentation .................................................... 13
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Tangible versus intangible variables ................................................... , ......... , ....... 14
(d) Usage segmentation ............................................................... , ....... 15
Usage segmentation factors .................................................................. 15
How to choose usage segmentation basis variables ............................................... 15
Research into usage segmentation ........................................................... 15
When to use usage segmentation ............................................................. 16
(e) Benefit segmentation ...................................................................... 16
Benefit segmentation factors ................................................................ 16
How to choose benefit segmentation basis variables ............................................. 16
Research into benefit segmentation .......................................................... 16
When to use benefit segmentation ........................................................... 17
(f) Psychographic segmentation ............................................................... 17
Psychographic segmentation factors .......................................................... 17
How to choose psychographic segmentation basis variables ....................................... 17
Research into psychographic segmentation .................................................... 17
When to use psychographic segmentation ...••..•..••.•••..••.••..••.•........................ 18
(g) Hybrid (or mixed) basis segmentation ...................................................... 18
An Example: PRJZMcE Geodemographic Cluster System and Social Vtzlues (Canada) ....••........ 19
Some observations on basis variables .................................................................... 20
Step 2: Choosing a suitable analytic technique ........................................................ 21
Identifying market segments ........................................................................... 21
Cluster analysis ....................................................................................... 21
Hierarchical .............................................................................. 22
Non-hierarchical .......................................................................... 22
Which cluster method to choose? ............................................................ 22
Classification tree methods ............................................................................ 23
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Step 3: Addressing the problems of segmentation ..................................................... 23
Mulcicollinearity ...................................................................................... 24
Outliers ............................................................................................. 24
Pigeonholing ......................................................................................... 24
Lack of segment definition ............................................................................. 24
Step 4: Generalizing the results ....................................................................... 24
Scoring method ....................................................................................... 25
Alternative approach .................................................................................. 25
Step 5: Using the segments for targeting and positioning .............................................. 25
Selecting the segments .........•....................................................................... 25
Positioning the product ................................................................................ 26
SUMMARY .................................................................................................. 26
References ..................................................................................................... 27
5
Preface
The consumer landscape has become increasingly complex over the last fifty years. Today's consumers can be characterized by
a mix of diverse needs, wants and expectations - simply, the marketplace for most goods and services can be divided in a
multitude of ways into numerous segments (homogeneous groupings of consumers). The challenge for retail and service
businesses lies in dividing ( or segmenting) the consumer base into groups that are meaningful in terms of behaviours that
relate to their products and services, can be readily identified and cost effectively reached. This report focuses on this
challenge by providing an overview of market segmentation approaches from a practitioner perspective. The report acts as a
primer, with a basic five step market segmentation process identified and detailed. The steps take the reader from initial
variable selection, through the use of analytical techniques, the potential pitfalls of segmentation to the real-world application
of market segments. This publication is part of the CSCA's ongoing technical report series, see for example, 'What's in a Trade
Area', CSCA Research Report 2004-03; 'Modeling Commercial Property Values in the GTA; CSCA Research Letter 2006-02.
Further details on the CSCA's research and reports are available online at ,vww.csca.ryerson.ca.
Dr. Tony Hernandez
Director, CSCA
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INTRODUCTION many levels: expensive cars cannot be sold in large numbers
to low income consumers; neither is a discount store likely
to attract many millionaires to its annual sale. To reach the
A central problem in marketing is marching what the
total potential audience is obviously expensive. The bulk of
consumer wants with what a retailer or a manufacturer
sales for any expensive items usually come from a small
provides. Even when there is a proven need for a product,
group of consumers. A very expensive perfume may appeal
the consumer still has to _be informed of its existence and be
to wealthier women who may number no more than
persuaded to go to a specific retail outlet or buy a specific
50,000 in a country of several million consumers. If we
product. The complexities of the modern market place and
have an advertising budget of $10 million we have two
availability of a wide range of alternatives can obscure even
choices: either we can reach as many consumers as possible
the best produces. How does one overcome the inherent
just once during the year, or reach the people who are most
noise in the market place?
likely to buy the produce 10 times during the same period.
Limiting advertising to a select set of consumers with a
One way to overcome the noise is to use market segmenta
given profile will miss some potential consumers. However,
tion to identify consumers with similar characteristics and
a well-executed market segmentation can be expected to
develop specific strategies to attract them. This concept,
substantially offset the losses due co such omissions by the
first formally proposed by Wendell Smith ( 1956) has
increased sales within the defined target groups. The
become one of the basic tenets of marketing. Whenever we
rationale is that the budget is limited but the audience is
look at our market by different sub-groups -such as usage
not and the best way to optimize our profits is to concen
of a product among men, among women, among older
trate our efforts in areas where the return on investment is
people, among younger people, the demographic profile of
the greatest.
customers in a trade area and so on -we are 'segmenting the
market'. The term market segmentation, however, applies to
Decreasing unproductive consumer subsidy
formal ways of dividing the market into identifiable sub
groups, usually made up of a combination of characteristics.
It is a process of partitioning the market by gathering Let us compare the market for two products - Brand A and
consumers with similar characteristics. A formal definition Brand B. The consumer profile for these brands can be
of market segmentation is 'identifying groups ofp eople or broadly divided in terms of consumers' brand and price
organizations that are similar in terms ofh ow they respond to consciousness. Brand A's existing customer base is
a particular marketing mix or in other ways that are relevant characterized by 85 percent who are brand conscious and
to marketing' (see McDonald & Dunbar, 2004; Wedel & 1 5 percent who are price conscious. By contrast, Brand B's
Kamakura, 2000; Myers, 1996; Weinstein, 1994) customers are 10 percent brand conscious and 90 percent
price conscious. If Brand B decides to drop its price, it may
The rationale have an immediate effect on Brand A in chat some of the
15% of Brand A's consumers (price conscious group) may
switch to Brand B. Thus Brand A will see some erosion in
The matching of consumers and products through market
its market share. However, if Brand A is not aware of the
segmentation has several implications chat are not immedi
segmented nature of its consumers, it may decide to drop
ately obvious. There are many specific reasons why carrying
its price to compete with Brand B. This strategy may be
our market segmentation is a worthwhile exercise, includ
both expensive and counter-productive. Expensive because
ing the opportunity to increase the return on investment,
Brand A's price strategy gives a price rebate to 85% of its
decrease unproductive consumer subsidy and the ability co
consumers who did not specifically care for it, and counter
isolate profit from a small number of consumers.
productive because Brand A does not stand to gain much
by its strategy. Matters can get worse when Brand B
Increasing the return on your investment
retaliates by lowering its price further, thus intensifying the
price war. While the consumer is subsidized by both firms,
No matter how universal the usage of a product appears to both firms stand to lose overall in the game. This type of
be -whether it be toothpaste, steak or books -it will not decreasing price point competition, for example, has taken
appeal to everyone. Denture-wearers are not likely co use place within the grocery and general merchandise retail
toothpaste, vegetarians are not likely to eat steak and the business.
functionally illiterate will not read books. While these
examples may sound trivial, the principle holds true at
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Finding large profits in small numbers manifest, visible or measurable. For example, the demo
graphic characteristics of a consumer - such as a person's
Sometimes large profits can be realized by marketing to a gender, age, income -are tangible in that these characteris
small group of consumers. When the market is not tics can be potentially verified as objective criteria.
segmented a product that appeals to only one per cent of Geographic, demographic and geodemographic variables
the population may not look viable. But if the market is seg are examples of tangible variables. Intangible variables, on
mented and analyzed, the marketer may find a niche for a the other hand, are 'soft' variables, the existence of which
product that may have low potential volume but exception can only be inferred. When a consumer says that he or she
ally high profits. Without segmenting the market, it is very is "likely" to buy a produce, there is no way of knowing what
difficult to determine whether the idea is an unpopular one exactly the word "likely" means, whether this answer will
in general, or a highly popular one among a small but hold even for a day or whether it will be the same no
identifiable and potentially lucrative group. matter who asked che question. Consumer attitudes, self
reported behaviour, opinions, expected purchases, and
voting intentions are all examples of intangible variables.
MARKET SEGMENTATION PROCESS
Six sets of basis variables are commonly used in marketing:
The market segmentation process can be seen as a five step geographic, demographic, geodemographic, usage, benefit
process: and psychographic. The first three secs are tangibles; the
second three are intangibles. Selecting basis variables
1. Identifying and obtaining the right set of variables implies choosing a basis set and then choosing specific
to create segments. variables within that set. These issues are dealt with in the
sections that follow. It should be noted that various basis
2. Choosing a suitable technique(s) to create segments. variables may be chosen across secs, that is, they can be and
are often used in combination to define segments. These
3. Addressing the problems related to segmentation. 'hybrid' or 'mixed' segmentation approaches are outlined
after the primary six sets of basis variables are detailed.
4. Generalizing the results of segmentation to those
not included in the analysis. Before discussing the basis variables it is important to
outline the purpose of the segmentation with specific
S. Using the segments for targeting and positioning. reference to developing understanding of existing
customers versus identifying potential customers. These are
le is not necessary co carry out all five seeps in every market not mutually exclusive, that is, armed wich existing
segmentation project, but a fully fledged market segmenta customer data ic is possible to segment existing customers
tion project will touch upon all these aspects. This report to identify areas with concentrations of similar consumers
will detail each of the five seeps with emphasis placed on (who are not, as yet, customers). This can be contrasted
the choice of variables used to create segments ( chis first with a segmentation related to a new product development
seep aces as a critical prerequisite for che successful in which the segmentation is not based on actual known
application of segmentation). behaviours but instead focuses on identifying the
characteristics and locating where potential customers are
Step 1: Identifying and obtaining the likely to be drawn from. The availability of data relating to
existing purchase behaviours (i.e., customer data)
basis variables
conditions the way in which segmentation is undertaken
and the basis variables chosen.
The first seep is deciding the basis on which we are going co
create market segments, these unsurprisingly are called che (a) Geographic segmentation
'basis' variables. Depending on one's needs and imagination
any type of basis variables may be used. We will discuss here
The most obvious way of segmenting a market is by
the most common secs of basis variables.
identifying where the buyers or potential buyers are. For
many products, buyers tend to be concentrated in specific
The first distinction among basis variables is whether the
regions of the country. There is likely to be greater per
variables are tangible or intangible. Tangible variables are
capita fish consumption in coastal regions than in other
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areas. The need for financial services is greater in econom network). The consumption patterns also tend to be
ically developed parts of the country than in economically different in centres with high population density.
depressed regions. One key issue is that geographic seg
mentation may come along with, or as an antecedent to, • Nature of the area: urban or rural distinctions
ocher segmentation, for example, segments in big cites, (urbanity measures) can significantly affect consump
a different set in middle sized cities, a different set for tion patterns. There may be a greater need for
towns and villages and rural areas, etc. insecticides in rural areas than urban areas. Urban
residents are likely to dine out more often, and people
Geographic segmentation factors who live on the outskirts of a city are likely to use auto
mobiles more extensively.
In segmenting people geographically, one can use different
factors depending on the product or service being • Climate: weather has implications for market segmen
marketed. Such factors would include geographic territory tation. The climate will provide market opportunities
(e.g., East, West), the nature of the area (e.g., urban or in one area chat are not available in other areas, for
rural), the size of the area (e.g., cities with a population of example, level of rainfall for agriculture related
] 00,000 or more), population density ( e.g., largeness of the industries, snowfall for ski resorts, and sunny weather
market for a given geographic size), climate (e.g., the for golf courses.
average temperature, snowfall), market scope (e.g., global,
national, or local), and a range of standardized market In addition to all these, several other factors such as legal
measures (e.g., primary or designated marketing areas). restrictions, taxation structure, and availability of suitable
Geographic segmentation is the most basic and obvious labour force contribute to geographic segmentation.
form of market segmentation: For example, ski equipment
retailers are likely to cluster near ski resorts, high fashion How to choose geographic segmentation
boutique retailers are likely to be in prosperous downtown basis variables
areas, and some investments will be marketed only in
certain regions because oflegal considerations ( e.g., alcohol The basis variables for geographic segmentation are
sales across Canada are conditioned by varying provincial decided upon the factors discussed in the previous section.
legislation). The geographic basis variables will depend on business
objectives and cost effectiveness. Geographic segmentation
The rationale for geographic segmentation is that people arises directly out of the firm's objectives. The actual
who are grouped according to one or more of the definition of geographic areas can be divided into
geographical criteria tend to have different consumption 'standard' and 'custom' geographies. Standard geographies
patterns, as the following examples show: refer co the various sets of geographic units that are made
available by both public (primarily government) and
• Geographic territory: people who live in different private sector organizations. For example, the Canadian
regions tend to have different patterns of consump Census of Population undertaken by Statistics Canada on a
tion. For example, people who live in coastal regions quinquennial basis is released to the public at a range of
tend to eat more seafood and people who live in large geographical scales from dissemination areas (DAs) to the
cities tend to consume more fashion goods. In many national level, a number of geographic scales in between are
cases, it may not be economical to transport certain available, for example, census tracts, (CTs), census
items for consumption to ocher regions of the country. subdivisions (CSDs) and census metropolitan areas
(CMAs). A variety of data sets are reported by postal geog
• Size oft he area: certain items are consumed by a small raphies, for example, Canada Post uses Forward Sortation
proportion of the population. A high-fashion Area Local Delivery Units (FSALDUs - six digit post
boutique, for instance, may appeal to less than 1 % of code) and Forward Sortation Areas (FSAs - three digit
the population and hence not be cost-efficient in postcode). Many of the standard geographies come in
centres that have small populations with low income. a variety of'building blocks: with smaller area geographies
aggregrated to larger areas. For example, census DAs
• Population density: measures of population density can be aggregated to form census tracts, and postal
tells us how many consumers we may be able to reach FSALDUs aggregrated to FSAs.
from a given set of supply points (e.g., a retail store
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