Segmenting customers according to demographic profiles is often ineffective. People may buy the same product for different reasons or different products for the same reason. Over-simplistic analysis can lead to major marketing errors. Take the example in Table 5.1 of two mothers in apparently similar situations but with very different needs and attitudes.
Table 5.1 Needs and attitudes of similar life-stage and demographic customers
Basis of Customer 1 Customer 2
Segmentation
Demographics • Female • Female
• Early 40s • Early 40s
• Married • Married
• Household income £85,000 • Household income £85,000
Life-Stage • Two children • Two children
• Working mother • Working mother
Needs • Menu-planning advice (low- • Ready-to-eat products fat and value orientated) • Pre-cooked entreés
• Cooking club • Home delivery service
Attitudes • Value shopper • Convenience shopper
• Prefers low-fat foods • Prefers organic foods
• Enjoys cooking • Does not like cooking
Companies need to understand which segmentation characteristics are meaningful differentiators. Customers which may appear to be alike will exhibit very different shopping behaviour since their internal needs and attitudes might be very different. However, marketing practitioners are often frustrated by the sheer difficulty in gathering and using data about motivations in a practical way.
Customer databases allow companies to relate segments very directly to profitability, using value-based segmentation. As Fortune magazine observed, it is amazing how many executives do not have the least idea just how profitable or unprofitable individual customers or customer segments might be. Yet segmentation is the vehicle by which companies know and manage their portfolio of customers.
Figure 5.2 illustrates how a customer portfolio might be divided and what the implications are for managing different customer groups.
To make full use of this kind of value-based segmentation, companies need to track transactions as a matter of priority. By tracking customer purchases, variables like recency of purchase, frequency of purchase and product value can accurately be pinned down. This is second nature to direct marketers; in fact it is the bread and butter of their trade. What they and many marketers fail to realize is the sheer power of this approach when combined with a company’s route to market. This is the most easily gained benefit from value-based segmentation. To grow revenue, compete effectively in the market
• What can we do to keep these customers and keep them spending?
• How can we attract more like them?
• How do we get more of these customers to behave (spend) like our highly profitable customers?
• How can we phase out these customers and, in the meantime, serve them economically?
0
Percentage of customer base Typical customer portfolio
Typical customer profitability mix Unprofitable
Profitable Highly profitable
Customer segmentation informs and directs
Figure 5.2 Segmentation as the basis for managing the customer portfolio
Source: Fortune Magazine, ‘Will this customer sink your stock?’ 15 September 2002.
and provide better services, a key winning strategy is to move resources into differentiated processes. That is to say, move resources from processes which rarely lead to differentiation in practice (though in principle they could certainly do so), such as human resources, finance, procurement, IT, customer service (typically costing 32 per cent to 47 per cent of sales spend) to business processes such as sales, marketing, product development and account management. Increased spend in these areas can increase the company’s market competi-tiveness and allow it to differentiate its proposition and the way that proposition is delivered. In a typical company, these differentiated business processes represent 13 to 28 per cent of sales spend. These are the actions that will most quickly boost profit and share price. They should be a priority area of focus for CEOs and marketing directors.
One very effective method for putting this approach into practice is to use value-based segmentation to optimize channels. The key concept of optimizing channel spend through value-based segmen-tation needs to be looked at from two directions – within channels and across distribution channels. In some cases, customers are segmented according to value based on an analytic model. Customers of different values are then given a different channel coverage strategy. This sort of segmentation can results in major productivity improvement.
Multi-channel optimization is the biggest opportunity for most businesses. There is huge value to be unlocked. The reason for this is that customers prefer different media for the different types of customer journey that they make. These journeys might relate to buying different products, receiving service rather than sales or buying add-ons rather than the main product. At the same time, even when two customers are buying the same thing, they may each prefer to do so through different media. For instance, some people prefer to book their holiday through a travel agent while others will use the internet. Some customers will walk into their bank to discuss a mortgage but will prefer to make an inter-account transfer online.
Since the transaction cost associated with these channels is vastly different, this opens up opportunities for companies to migrate customers to the lower-cost delivery channels while increasing commitments and services. When managed well, this is a win–win situation for the customer, the company (and of course its share-holders).
The business case is compelling. Using real data from companies but masking the provider to protect our source, in one telecommuni-cations company for example in 2004, value-based migration was associated with a fall in attrition rates (customer loss) by 64 per cent,
while customer satisfaction increased 20 per cent. At the same time sales staff were reduced by 44 per cent yet market share increased by 35 per cent. In a second case, a banking example, 25 per cent of customers shifted channels, while at the same time customer satis-faction ratings went up by 84 per cent and unit transaction costs reduced by 42 per cent. Of course you cannot spend percentages, but translated into an applied example, the numbers are significant.
Imagine a company with 5 million customers, a transaction cost of $2, a single channel to market, a sales turnover of $1 billion and a market share of 12 per cent. Applying channel optimization based on value segmentation and using the strategies and technologies already available (in other words, without taking any innovation risks) impressive gains could be easily achieved. If the sort of benefits cited in these examples were to be duplicated, transaction costs would fall to $1.16 (down 42 per cent), sales turnover would increase to $1.35 billion, and market share would rise to 16.2 per cent. The lower trans-action costs would produce cost savings of $4.2 million alone. It does not need much thought to understand that this will result in a higher share price.
Multichannel optimization is not an option that can be ignored.
Market leaders are doing it. Companies that do not will remain less profitable and less attractive to investors. The factors driving this change are:
• Rising customer expectations. I am used to being able to manage my account over the internet from my bank. Why can’t I do it with my utility bill?
• Increased variety in channel use. I would like to make arrangements for my personal loan in a branch, where I can talk to someone, but I want to manage the repayments online.
• Allowing customers to manage relationships. It is more convenient to give customers choice. Perhaps this week they will want to do their grocery shopping in-store, perhaps next week they would like a delivery to their door, maybe they would like to buy indi-vidual ingredients and a recipe book, maybe they would like to choose a recipe from an online service and have the store put together the grocery order.
• Strategic competitive advantage. Managing channels also manages profits. The transaction costs for an airline which allows passengers to book directly online, issues no tickets and even permits seat allocation online is massively lower than when each of these transactions is handled face to face or by telephone. This
is so potent a saving that some companies (especially airlines) now charge a premium for customers who do not use online services. If your company can establish greater customer intimacy for these services by mining better insights from its customer data, this achieves the double benefit of adding value whilst reducing costs. The unique relationship with the customer that results provides a more or less unassailable competitive advantage. For example, imagine a restaurant shopping for a utility provider to supply electricity. Price might not be the primary consideration. Perhaps reliability of supply coupled with 24/7 maintenance support for key items of equipment is crucial.
A competitor who does not have the same insights and so chooses to compete on price is simply lowering margins without improving recruitment.
• Channel costs. The benefits of a reduction in channel costs of up to 40 per cent for each transaction are self-evident.
• Customer view. Allowing customers choice and flexibility in their choice of channels provides two benefits. First, if the company shares the reduction in costs with the customer through lower prices and better service, there is a direct gain. Second, by having the customer identify themselves at different touch points, it allows the company to ‘recognize’ the customer and to improve their insight and understanding of customer needs wherever they may transact their business.
• Synergy. For instance, one UK government department said that taking advantage of developments in new technology in one area allowed it to carry out government business more effectively in another.