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Marketing

Deep Dive into Customer Segmentation (Part 1 of 2)

Customer segmentation is the practice of segmenting customers based on common characteristics. It is a critical step towards identifying growth opportunities in business and should be carried out before undertaking any of the following actions:

  • Developing customized marketing programs (e.g. campaign optimization)
  • Designing an optimal channel distribution strategy (e.g. brick-and-mortar vs online)
  • Determining appropriate product pricing (e.g. premium, discount, promotion, and BAU)
  • Drawing new retail concepts (e.g. department stores reimagining their floor layout)
  • Prioritizing new product development efforts
  • Choosing specific product features
  • Establishing appropriate service options

Common types of customer segmentation include demographic, geographic, psychographic, and behavioral segmentation.

1. Demographic segmentation

Demographic segmentation divides a market through variables such as age, gender, education level, family size, occupation, income, and more. This form of segmentation is widely used since specific products often cater to individual needs relating to at least one demographic element.

2. Geographic segmentation

Geographic segmentation targets customers based on a predefined location. Differences in interests, values, and preferences vary dramatically across cities, states, and countries, so it is important for consultants to recognize these differences and customize marketing strategies accordingly. Think about apparel products: in many countries, stores are still the primary place to buy clothes whereas in China, physical stores are in decline in favour of e-commerce. Due to the boom of the internet, nearly one third of apparel and footwear was sold online in 2018 (vs 1% in 2010).

3. Psychographic segmentation

Unlike geographic and demographic segmentation, psychographic segmentation focuses on the intrinsic traits the target customer possesses, such as values/principles/beliefs, personality, lifestyle, activities/interests, attitudes, conscious and subconscious motivators, and social class. To understand the target customers on this level, methods such as focus groups, surveys, interviews, and case studies can be successful. Psychographic segmentation is similar to developing a target persona, in that it is a collection of customer values and behaviors that would be most receptive to the company’s offering.

The world’s greatest brands are masters of psychographic segmentation:

  • Patagonia understands environmentally conscious outdoor enthusiasts and trekkers
  • Harley Davidson taps into the psyche of riders including their image, attitude and bucket-list trips
  • Snapchat understands youth and their interest in “vanishing” content
  • Microsoft intimately knows what business people in specific industries need to succeed
  • Comic Con connects with fans by making them part of their favorite show, not just watching it

4. Behavioral segmentation

Behavioral segmentation has similar measurements to psychographic segmentation but focuses on specific reactions and the way customers go through their decision making and buying processes. Attitudes toward the brand, the way they use it, and their knowledge base are all examples of behavioral segmentation. Collecting this type of data is similar to the way you would collect psychographic data. Review websites and internet forums can also be helpful tools when searching for this information.

Brand loyalty is an excellent example of behavioral segmentation. I’m sure there is one brand that you consistently buy and trust enough to purchase its new line without even reading the reviews. An example could be Patek Phillipe, the undebatable number one luxury watch brand, which has built a very loyal breed of customers despite its extravagant price. The price on the secondary market is on average x2-3 higher than the Manufacturer’s Suggested Retail Price (MSRP) due to the high demand versus shortage of supply. This type of brand loyalty produces a consistent buying pattern, which is categorized as a behavioral trait. Another example could be where one segment may be very sensitive to price and always buy merchandise on sale, whereas the other may value time over savings and typically pay full price.

Thus, companies work hard to get customers to love and stay loyal to their brand for a consistent purchase cycle. Done well, it’s a model that gives anyone at the company an immediate understanding of the customers.

The importance of customer segmentation

Companies that know the customers and have the ability to seamlessly share this understanding across the various teams can identify underserved segments and outperform the competition by developing uniquely appealing products and services.

Below is a list of benefits customer segmentation can provide internally and externally:

  • Making it possible to clearly describe types of customers across go-to-market, product, and engineering. For example, this would enable the sales team to give segmented customer feedback to product leaders to influence the product development roadmap.
  • Highlighting the most and least engaged customers at a granular level. For example, the analytics team might find that one customer segment tends to use the product weekly, while another just monthly.
  • Identifying untapped business opportunities. For example, the marketing team might discover a new segment that’s already converting well without having been explicitly targeted.
  • Enabling tactical decision making. For example, the product team could decide to build a new feature after learning the fastest growing segment has a high preference for it.
  • Informing your approach to the market. For example, the leadership team might decide to focus on targeting segments with the best revenue retention.
  • Assessing the progress of your marketing strategy. For example, the finance team is able to confirm whether new customer growth has increased in the target segments.

Last words

Segmentation should be based on a combination of qualitative and quantitative data. The qualitative research phase uncovers the attitudes behind consumer behavior in a specific category. It allows a company to experience its category from the consumer’s perspective and learn how consumers think about, shop for, and use its products. But segmentation should never be determined by qualitative research alone. To assess the size of the prize, companies must support their segmentations with a rich set of quantitative data on the behavioral and attitudinal factors identified.

In the next article we will consider three advanced customer segmentation methods that use predictive analytics.

Jason Oh is a Senior Consultant, Strategy & Customer at EY with project experiences in commercial due diligence and corporate strategy planning. Previously, he was a Management Consultant at Novantas with a focus on the financial services sector, where he advised on pricing, marketing, channel distribution, digital transformation and due diligence.

Image: Pexels

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