Free Lunch: The Power of Segmentation

Free Lunch: The Power of Segmentation

I remember a business school professor proclaiming, “diversification is the only free lunch.” He meant that diversification is the only technique in finance that simultaneously lowers risk and increases returns (click here if you don’t believe me).

I say there is another free lunch in the business world: segmentation. Segmentation allows companies to simultaneously lower marketing costs and increase sales.

When I’ve led formal segmentation projects, I saw results across firms such as:

  • 50 percent increase in email conversion rates
  • 10 point increase in profit margins
  • 15 percent increase in sales in a competitive, commodity market
  • $300,000 reduction in marketing spend without affecting sales

What is Segmentation? defines segmentation as: “The process of defining and subdividing a large homogenous market into clearly identifiable segments having similar needswants, or demand characteristics.”

It’s impossible for one company to meet the needs of all their customers with one product or offering. Segmentation allows you to create marketing materials and offers that are tailored to each of the subsets of your customer base. By breaking your entire customer pool into smaller segments, you can target each group in the way they want to be targeted.

Won’t Segmentation Limit My Sales?

No! This is a common concern. Many are afraid to zoom in on a subset of the market for fear that it will damage their chances of success with the broader population.

Think about this in your personal life: for example, looking for a job. A common, but flawed, approach to job seeking is to blast the marketplace. Why not send dozens or even hundreds of cover letters and resumes? The data show this strategy yields a less than three percent success rate. According to Pam Lassiter, author of The New Job Securityfocus is the best way to find a new job. Target the segment of employers that you can help given your skill set. If you communicate an understanding of their needs and wants, you will be much more successful in landing your next job. You’ll also save yourself time.

The same principle applies to marketing. Don’t believe me? What about mass market companies like McDonald’s. They target everyone all at once, right? Actually, no. McDonald’s relies on segmentation. Three sample segments are travelers, teenagers, and busy moms. This make sense once you look at their marketing activities:

  • Travelers: placing locations in key travel spots like the side of highways and airports
  • Teenagers: high quantity, low quality Dollar Menu offerings
  • Busy moms: Playland and Happy Meal toys to keep the kids distracted and give mom a break

So if you are afraid that focusing on a segment will stunt growth, think of it this way: you can always hone in on more than one segment to grow your business. But trying to be everything to everyone is costly, and it doesn’t work.

Why Does it Work?

In short, segmentation helps companies in two ways. First, is increases empathy with customers. Second, segmentation helps leaders make better tradeoffs in a world of limited resources.

By focusing on a niche, firms can precisely dial in on the needs and wants of their target audience. Marketers can more accurately allocate research dollars and time.

Once you develop an understanding of the target market, you can do a better job at making tradeoffs. For example, let’s say you are building a new website aimed at Millennials. You only have resources to implement five out of the ten conceptualized features. If you have a good grasp on your target segment, then you can evaluate the options based on Millennials’ prioritization.

How Do I Segment?

There are four primary ways to segment your customer base: behavioral, demographic, psychographic, and geographic.

behavioral segmentation clusters together consumers who behave similarly. These behaviors might be things like when they buy, what they buy, how they buy, how they browse, or what else they buy. Modern predictive analytics focus on this type of segmentation. Think about the Amazon recommendation engine. Many research projects have shown this is the most effective type of segmentation. In my professional career, I have also seen the best results with behavioral segmentation.

Demographic segmentation divides your audience based on observable traits about the customers’ age, gender, ethnicity, etc. Demographic segmentation is popular because it’s easy to measure these attributes. Most beauty care product companies segment based on gender, for example.

psychographic segmentation groups people into categories based on their attitudes and beliefs. Underlying this type of segmentation is the belief that consumers are interested in the technical attributes of a product or service as well as the ensuing emotional benefits. Psychographic segmentation goes deeper than simple demographics, but, understandably, is more challenging to measure. Typically, firms need to conduct expensive market research and surveys to develop this type of segmentation. Car companies are known for using this type of segmentation. For example, Volkswagen targets different subsets of the population with different lines of cars based on their lifestyles. Volkswagen markets the Passat to families who need more space and enhanced safety features, while they market the Beetle to Boomers who remember the original iteration but want the comforts of driving a modern car.

geographic segmentation helps companies regionalize their offerings to local tastes, preferences, and needs. For example, clothing companies may differentiate offerings by region given variations in climate.

Where Do I Start?

If you don’t have a budget, start by taking an educated guess! When I led business development and product management at the sports media and technology company TrackMan, we divided the golf market into behavioral segments. That is, we looked at how each type of consumer would use the product: PGA professionals for self-practice, club pros/coaches for training hobbyists, universities for training competitive athletes, and retailers for fitting clubs. This segmentation allowed us to deliver the right message and right product to the right audience. We prioritized our development roadmap accordingly and refined our segmentation once we got a better understanding of the markets.

You might guess wrong about a segment, but at least it instills a discipline around focus. You can always course correct as you get smarter about the marketplace

If you can afford it, it’s best to perform a cluster analysis on your customer database or market research survey results. This is an advanced analytical technique that Wikipedia defines as the task of grouping a set of objects in such a way that objects in the same group (called a cluster) are more similar (in some sense or another) to each other than to those in other groups (clusters).”

You need data and a data scientist to crunch the numbers. Experts in the field widely understand this technique, so it’s relatively straightforward to implement. Costs depend heavily on the state of your data and how much new market research is needed. I would say a proper segmentation project is at least a five-figure investment, but you could end up in the six-figure range if you don’t have the right data on hand.

We’re all busy and have too many balls in the air. By using customer segmentation, you can narrow your focus. Yow can do a better job at developing products and marketing campaigns that appeal more strongly to your target market.

So, are you ready to make reservations for your free lunch?

Order A Member Is Worth a Thousand Visitors by Rob Ristagno

About the Sterling Woods Group, LLC

The Sterling Woods Group’s mission is to help clients make sense of their data to build deeper relationships with their best customers, launch new products and membership programs, and execute smarter marketing strategies.

We use a hypothesis-driven, data supported methodology to discover your “spin”—a simple insight that no one else is paying attention to. Then, we help you assemble the right technologies, marketing plans, and resources to seize this opportunity.

About the Author

Rob Ristagno, Founder and CEO of the Sterling Woods Group, previously served as a senior executive at several digital media and e-commerce businesses, including as COO of America’s Test Kitchen. Throughout his career, his focus has been on embracing technology and analytics to spur strategic development and growth.

At the Sterling Woods Group, he and the team are passionate about helping clients understand their best customers through data, and developing products and membership programs that exceed expectations – and generate impressive revenues.

Committed to spreading this message, Rob is the author of A Member is Worth a Thousand Visitors and is a regular keynote speaker at conferences around the world. He has been featured on ABC, NBC, CBS, Fox, and Digiday.

He holds degrees from the Harvard Business School and Dartmouth College and has taught at both Harvard and Boston College.

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