Segmentation Is Never Easy, It’s Iterative

When we conduct our Grassroots Strategy workshops, we are sometimes asked why we dive deep into customer value before we do segmentation. Isn’t value segment specific? Shouldn’t we define segments independent of what we offer today? We have come to believe that these questions reflect a common misunderstanding that segmentation should be exclusively market back. In other words, we should throw away any references to our existing business or preconceived notions about the how the market works and seek to identify “pure” segments unencumbered by biases associated with our previous participation in the market. But this argument is wrong on several levels:

  • It assumes that segments “exist” before we identify them.
  • It ignores one of the key objectives of segmentation which is actionability
  • It overlooks the potential to drive game-changing strategy – by segmenting based on our differentiation rather than looking outside-in at the market.

So, what is a segment anyway? Everyone generally agrees that segments are groups of customers with common needs. But customers have a multitude of needs which means we can segment the market in an infinite number of ways depending on which needs we choose to group customers around. Because there are so many different ways to segment customers (so many different needs we might segment on), there is no way to define the “right” way to segment the market. That having been said, the point of segmenting the market is to determine a course of action that will allow us to grow in parts of the market attractive to us, focus our resources on the right value propositions for those segments and out position our competition who may be treating the market on average. While there is no way to determine if a segmentation framework is right, we can say that a segmentation is a “good” segmentation only if it is strategically actionable.

Clearly segmentation should be based on the needs of customers and not based on our own products or channels. But segmentation can’t be based on just any needs, it has to be based on customer needs relevant to our current or potential offering. We would argue that without an understanding of customer needs relative to our differential value it is almost impossible to get to a segmentation that is strategically actionable. Remember, in B2B markets good segmentations are based on asymmetries in the underlying economics of potential customers – e.g., why would some pay a lot more than others for the same offering/value proposition?

Further, while we encourage teams to begin building a value calculation model early in strategic marketing process, too often people try to skip this step. Often teams are uncomfortable with the ‘funny math’ with what can seem like almost made-up numbers. But, understanding of the relative magnitude of different value elements early on helps parse through what areas of our offering are most important to the customer. In turn this helps us better understand impactful ways to segment our customers.

On a recent project we were helping a pollution control company think through the opportunity for control of certain pollutant gases in the context increasing regulation. They had a chemical-based system while traditional competitors used relatively standard thermal oxidation. There were several benefits of their chemical-based system:

  • Chemical-based systems can be safer because they operate at lower temperatures
  • The chemical-based system cost effectively treat the pollutant gases at lower concentrations
  • The chemical-based system reach close to 100% pollutant destruction while thermal oxidation often only reached 98%
  • Chemical-based systems typically take up less space

It turns out that there was a lot of data on the pollutant sources. Based on this data, several segmentation frameworks were proposed:

  • Size of the source
  • Industrial process at source
  • Space available at the source
  • Location of the source
  • Number of gas streams at the source
  • Ownership of the source

The client launched a comprehensive VOC process to better understand the pollutant sources and better understand how to segment the market. They focused mainly on the largest emitters of the pollutant and therefore sources that emitted the highest concentrations of the pollutant in their gas streams. They found out that most industrial sources cared about safety, were worried about evolving legislation and were looking for cost effective ways to control emissions They also found out that the pollutant emissions were, to a certain extent, a function of the specific industrial process and that most industrial sources had a lot of space available. Everyone they spoke with expressed interest in any potential new technology. But there was no apparent impactful way to segment the market.

Midway through the project they finally built a value model of how lifecycle costs of chemical-based technologies compared to thermal oxidation across different parameters. They discovered that the overwhelming driver of the competitiveness of their solution was the concentration of the pollutant in the gas being treated. At very low concentrations no technology is cost effective, at mid-range concentration levels their solution is clearly the best financial option, while at high concentrations thermal oxidation is more  cost effective. With this insight it started to become much clearer how to segment the market and where to focus.

Had they had this insight before the started the VOC, they could well have decided to include in their VOC more customers in the middle range of concentration and they may have investigated and probed a different set of issues in these VOC conversations. In fact, mid-way through the process, the company did refocus their VOC efforts around these new insights.

Eventually their final segmentation framework was more nuanced and included, not only the concentration of the of the gas being treated, but also the regulatory framework based on the source location. This segmentation framework allowed them to focus both their technology development as well as their commercial activities on the middle concentration segment. Their new segmentation was clear and actionable and came from an understanding of the market based on needs relative to their differentiation and where their offering would create the most value. The key insight came from understanding value from the customer perspective and, in particular, actually developing the value equation in parallel to exploring a potential segmentation.

It is for this reason and for others that, in our Grassroots Strategy Framework, we put customer value before segmentation. To avoid getting lost in the messiness of the process and to get to a segmentation framework that is strategically actionable for your business we recommend the following:

  • Start by making sure you are clear on the market you are addressing (who is the customer and what problem do we solve)
  • Within this market definition develop an understanding of economic needs (we call these alternatively “value elements”) relative to your offering and/or your potential offering
  • Begin early to develop a value equation based on these economic needs to help determine which of these needs might be most important to your customers and which economic needs your offering can disproportionally address
  • Decide at what level you are segmenting the market. This choice may include direct customers versus end customers or may include companies versus facilities etc. We generally recommend that the right level is related to where there are the biggest differences in value relative to your offering
  • Think through which needs are the best differentiating needs on which to base your segmentation
  • Group your customers with respect to these needs
  • Assess whether these are strategically actionable segments by confirming that
    • Each segment wants a distinct value proposition and all customers with a given segment want essentially the same value proposition
    • Confirm that the segments defined are identifiable with real customer examples and not simply a hypothetical grouping of needs
    • Confirm that the segmentation leads to actionable outcomes, including: focus, improved and targeted value propositions and out positioning your competition
  • Conduct VOC to confirm the customer needs, refine and develop the value equation and eventually refine the segmentation as required.

Most importantly, while we have depicted this process as sequential it is almost always iterative. The segmentation process in B2B markets requires going back and forth between customer economic needs and value we create relative to those needs to arrive at a strategically actionable outcome.

Leave a Reply