Industrial mkt segmentation


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Industrial mkt segmentation

  1. 1. 104How to segment With a nested approach, managers can determine industrial the best markets segmentation method Benson P. Shapiro and Thomas VBonomaIndustrial marketers can Mr Shapiro and Mr. As difficult as segmenting consumerhardly be blamed for feel- Bonoma teach marketing markets is, it is much simpler and easier than seg-ing that segmentation is at the Harvard Business menting industrial markets. Often the same industrialvery difficult for them. Not School. Each has written or products have multiple applications; likewise, severalonly has little been written coauthored several pre- different products can be used in the same application.on the subject as it affects vious articles for HBR.industrial markets, but This article is based on Customers differ greatly and it is hard to discern whichsuch analysis is also more their book, published in differences are important and which are trivial forcomplex than for con- 1983, Segmenting the developing a marketing strategy.sumer markets. The prob- Industrial Market (Lexing- Little research has heen done on indus-lem is to identify the best ton Books). The research trial market segmentation. None of the ten articles invariables for segmenting for this project was sup- the fournal of Marketing Researchs special Augustindustrial markets. The ported by the Marketing 1978 section, "Market Segmentation Research," forauthors present here a Science Institute and the instance, deals with industrial market segmentation in"nested" approach to Associates of the Harvard more than a passing manner. Our research indicatesindustrial market segmen- Business School.tation. Separated accord- that most industrial marketers use segmentation as aing to the amount of way to explain results rather than as a way to plan.investigation required to In fact, industrial segmentation canidentify and evaluate dif- assist companies in several areas:ferent criteria, the layersare arranged to begin with Analysis of the market. Better under-demographics as the area standing of the total marketplace, including how andeasiest to assess. Then why customers buy.come increasingly com-plex criteria, including Selection of key markets. Rationalcompany variables, situa- choice of market segments that best fit the companystional factors, and per- capabilities.sonal characteristics. The Management of marketing. The devel-authors warn, however, opment of strategies, plans, and programs to profitablythat a nested approach meet the needs of different market segments and tocannot be applied in cook- give the company a distinct competitive fashion but rathermust be adapted to indi- In this article we integrate and build onvidual situations andcircumstances. previous schemes for segmenting industrial markets and offer a new approach that enables not only the simple grouping of customers and prospects, but also more complex grouping of purchase situations, events, and personalities. It thus serves as an important new analytical tool. Consider the dilemma of one skilled and able industrial marketer who observed recently:
  2. 2. Industrial market segmentation 105"I cant see any basis on which to segment my market.We have 15% of the market for our type of plastics Exhibit I Nested approachfabrication equipment. There are 11 competitors whoserve a large and diverse set of customers, but there isno unifying theme to our customer set or to anyoneelses." His frustration is understandable, but heshould not give up, for at least he knows that 15% ofthe market purchases one product and that knowledge,in itself, is a basis for segmentation. Segments exist,even when the only apparent hasis for differentiation isbrand choice. At other times, a marketer may be baf-fled by a profusion of segmentation criteria. Customergroups and even individual customers within thesegroups may differ in demographics (including industryand company size), operating differences (productiontechnology is an example), purchasing organization,"culture," and personal characteristics. Usually, amarketer can group customers, prospects, and purchasesituations in different ways depending on the variablesused to segment the market. The problem is to identifyrelevant segmentation bases. We have identified five general segmen- ria, demographics. These variables give a broad descrip-tation criteria, which we have arranged as a nested tion of the company and relate to general customerhierarchy-like a set of boxes that fit one into the other needs and usage patterns. They can be determinedor a set of wooden Russian dolls. Moving from the without visiting the customer and include industryouter nest toward the inner, these criteria are: demo- and company size, and customer, operating variables, customer purchasingapproaches, situational factors, and personal character- The industry. Knowledge of the industryistics of the buyers. affords a broad understanding of customer needs and Exhibit I shows how the criteria relate perceptions of purchase situations. Some companies,to one another as nests. The segmentation criteria of such as those selling paper, office equipment, business-the largest, outermost nest are demographics - general, oriented computers, and financial services, market to aeasily observable characteristics about industries and wide range of industries. For these, industry is ancompanies; those of the smallest, inmost nest are per- important basis for market segmentation. Hospitals,sonal characteristics-specific, subtle, hard-to-assess for example, share some computer needs and yet differtraits. The marketer moves from the more general, eas- markedly as a customer group from retail stores.ily observable segmentation characteristics to the Marketers may wish to subdivide indi-more specific, subtle ones. This approach will become vidual industries. For example, although financial ser-clearer as we explain each criterion. vices are in a sense a single industry, commercial We should note at this point that it may banks, insurance companies, stockbrokerage houses,not be necessary or even desirable for every industrial and savings and loan associations all differ dramati-marketer to use every stage of the nested approach for cally. Their differences in terms of product and serviceevery product. Although it is possible to skip irrelevant needs, such as specialized peripherals and terminals,criteria, it is important that the marketer completely data handling, and software requirements make a moreunderstand the approach before deciding on omissions detailed segmentation scheme necessary to sell com-and shortcuts. puters to the financial services market. Company size. The fact that large companies justify and require specialized programs affects market segmentation. It may be, for example, Demographics that a small supplier of industrial chemicals, after seg- menting its prospective customers on the basis of com- pany size, will choose not to approach large companies We begin with the outermost nest, whose volume requirements exceed its own produc-which contains the most general segmentation crite- tion capacity.
  3. 3. 106 Harvard Business Review May-June 1984 Customer location. The third demo- technology used affects companies requirements forgraphic factor, location, is an important variable in test gear, tooling, and components and thus, a market-decisions related to deployment and organization of ers most appropriate marketing approach.sales staff. A manufacturer of heavy-duty pumps forthe petrochemical industry, for example, would want Product and brand-use status. One ofto provide good coverage in the Gulf Coast, where cus- the easiest ways, and in some situations the only obvi-tomers are concentrated, while putting little effort into ous way, to segment a market is by product and brandNew England. Customer location is especially impor- use. Users of a particular product or brand generallytant when proximity is a requirement for doing husi- have some characteristics in common; at the veryness, as in marketing products of low value-per-unit- least, they have a common experience with a productweight or volume (corrugated boxes or prestressed or brand.concrete), or in situations where personal service is Manufacturers who replace metal gearsessential, as in job shop printing. with nylon gears in capital equipment probably share As noted, a marketer can determine all perceptions of risk, manufacturing process or costof these demographic variables easily. Industry-oriented structure, or marketing strategy. They probably haveand general directories are useful in developing lists of experienced similar sales presentations. Having usedcustomers in terms of industry, size, and location. Gov- nylon gears, they share common experiences includ-emment statistics, reports by market research compa- ing, perhaps, similar changes in manufacturingnies, and industry and trade association publications approaches.provide a great deal of demographic data. One supplier of nylon gears might argue Many companies base their industrial that companies that have already committed them-marketing segmentation approach on demographic selves to replace metal gears with nylon gears are bet-data alone. But while demographics are useful and eas- ter customer prospects than those that have not yetily obtained, they do not exhaust the possibilities of done so, since it is usually easier to generate demandsegmentation. They are often only a beginning. for a new brand than for a new product. But another supplier might reason that manufacturers that have not yet shifted to nylon are better prospects because they have not experienced its benefits and have not developed a working relationship with a supplier. A Operating variables third marketer might choose to approach both users and nonusers with different strategies. Current customers are a different seg- The second segmentation nest contains ment from prospective customers using a similara variety of segmentation criteria called "operating product purchased elsewhere. Current customers arevariables." Most of these enable more precise identifi- familiar with a companys product and service andcation of existing and potential customers within company managers know something about customerdemographic categories. Operating variables are gener- needs and purchasing approaches. Some companiesally stable and include technology, user-nonuser status marketing approaches focus on increasing sales vol-(by product and brand), and customer capabilities ume from existing customers, via either customer(operating, technical, and financial). growth or gaining a larger share of the customers busi- ness, rather than on additional sales volume from new Company technology. A companys customers. In these cases, industrial sales managerstechnology, involving either its manufacturing process often follow a two-step process: first, they seek to gainor its product, goes a long way toward determining its an initial order on trial and then, to increase the sharebuying needs. Soda ash, for example, can be produced of the customers purchases. Banks are often moreby two methods that require different capital equip- committed to raising the share of major customersment and supplies. The production of Japanese color business than to generating new accounts.televisions is highly automated and uses a few, large Sometimes it is useful to segment cus-integrated circuits. In the United States, on the other tomers not only on the basis of whether they huy fromhand, color TV production once involved many dis- the company or from its competitors, but also, in thecrete components, manual assembly, and fine tuning. latter case, on the identity of competitors. This infor-In Europe, production techniques made use of a hybrid mation can be useful in several ways. Sellers may findof integrated circuits and discrete components. The it easier to lure customers from-competitors that are weak in certain respects. When Bethlehem Steel 1 See E. Raymond Corey, opened its state-of-the-art Bums Harbor plant in the "Should Companies Centralize Procurement?" Chicago area, for example, it went after the customers HBR November-December 1978, p. 102. of one local competitor known to offer poor quality.
  4. 4. Industrial market segmentation 107 Customer capabilities. Marketers might vidual purchasing units into a single group, and vendorsfind companies with known operating, technical, or with decentralized manufacturing operations may findfinancial strengths and weaknesses to be an attractive it difficult to meet centralized buying patterns. Tomarket. For example, a company operating with tight meet these differing needs, some suppliers handle salesmaterials inventories would greatly appreciate a sup- to centralized purchasers through so-called nationalplier with a reliable delivery record. And customers account programs, and those to companies with a de-unable to perform quality-control tests on incoming centralized approach through field-oriented salesmaterials might be willing to pay for supplier quality forces.checks. Some raw materials suppliers might choose todevelop a thriving business among less sophisticated Power structures. These also varycompanies, for which lower-than-usual average dis- widely among customers. The impact of influentialcounts well compensate added services. organizational units varies and often affects purchas- Technically weak customers in the ing approaches. The powerful financial analysis unitschemical industry have traditionally depended on sup- at General Motors and Ford may, for example, havepliers for formulation assistance and technical sup- made those companies unusually price-oriented inport. Some suppliers have been astute in identifying their purchasing decisions. A company may have acustomers needing such support and in providing it in powerful engineering department, for instance, thata highly effective manner. strongly influences purchases; a supplier with strong Technical strength can also differentiate technical skills would suit such a customer. A vendorcustomers. Digital Equipment Corporation for many might find it useful to adapt its marketing program toyears specialized in selling its minicomputers to cus- customer strengths, using one approach for customerstomers able to develop their own software, and Prime with strong engineering operations and another forComputer sells computer systems to business users customers lacking these.who do not need the intensive support and "hand hold-ing" offered by IBM and other manufacturers. Both Buyer-seller relationships. A suppliercompanies use segmentation for market selection. probably has stronger ties with some customers than Many operating variables are easily others. The link may be clearly stated. A lawyer, com-researched. In a quick drive around a soda ash plant, for mercial banker, or investment banker, for example,example, a vendor might be able to identify the type of might define as an unattractive market segment alltechnology being used. Data on financial strength is at companies having as a board member the representa-least partially available from credit-rating services. tive of a competitor. Customer personnel may provide other data, such as the name of current suppliers; "reverse engineering" General purchasing policies. A finan- (tearing down or disassembly) of a product may yield cially strong company that offers a lease program information on the type and even the producers of might want to identify prospective customers who pre- components, as may merely noting the names on de- fer to lease capital equipment or who have meticulous livery trucks entering the prospects premises. asset management. When AT&T could lease but not sell equipment, this was an important segmentation criterion for it. Customers may prefer to do business with long-established companies or with small inde- pendent companies, or may have particularly potent Purchasing approaches affirmative action purchasing programs (minority- owned businesses were attracted hy Polaroids widely publicized social conscience program, for example). Or One of the most neglected hut valuahle they may prefer to buy systems rather than individualmethods of segmenting an industrial market involves components.consumers purchasing approaches and company A prospective customers approach tophilosophy. The factors in this middle segmentation the purchasing process is important. Some purchasersnest include the formal organization of the purchasing require an agreement based on supplier cost, particu-function, the power structure, the nature of huyer- larly the auto companies, the U.S. govemment, andseller relationships, the general purchasing policies, the three large general merchandise chains. Searsand the purchasing criteria. Roehuck, Montgomery Ward, and J.C. Penney Other purchasers negotiate from a market-based price and Purchasing function organization. The some use bids, Bidding is an important method fororganization of the purchasing function to some extent obtaining govemment and quasi-government business;determines the size and operation of a companys pur- but because it emphasizes price, bidding tends to favorchasing unit. A centralized approach may merge indi- suppliers that, perhaps because of a cost advantage.
  5. 5. 108 Harvard Business Review May-June 1984prefer to compete on price. Some vendors might view safety of the refinery. Product application can have apurchasers that choose supphers via hidding as desir- major impact on the purchase process, purchase crite-able, while others might avoid them. ria, and thus on the choice of vendor. Purchasing criteria. The power struc- Size of order. Market selection can beture, the nature of huyer-seller relationships, and gen- based at the level of individual line entries on the ordereral purchasing policies all affect purchasing criteria. form. A company with highly automated equipmentBenefit segmentation in the consumer goods market is might segment the market so that it can concentratethe process of segmenting a market in terms of the rea- only on items with large unit volumes. A nonautomat-sons why customers buy. It is, in fact, the most insight- ed company, on the other hand, might want only smallful form of consumer goods segmentation because it quantity, short-run items. Ideally these vendors woulddeals directly with customer needs. In the industrial like the order split up into long-run and short-runmarket, consideration of the criteria used to make pur- items. In many industries, such as paper and pipe fit-chases and the application for these purchases, which tings, distributors break up orders in this way.we consider later, approximate the benefit segmenta- Marketers can differentiate individualtion approach. orders in terms of product uses as well as users. The distinction is important as users may seek different suppliers for the same product under different circum- stances. The pipe-fittings manufacturer that focused on urgent orders is a good example of a marketing Situational factors approach based on these differences. Situational factors can greatly affect purchasing approaches. General Motors, for example, Up to this point we have focused on the makes a distinction between product purchases-thatgrouping of customer companies. Now we consider is, raw materials or components for a product beingthe role of the purchase situation, even single-line produced-and nonproduct purchases. Urgency ofentries on the order fonn. order fulfillment is so powerful that it can change both Situational factors resemble operating the purchase process and the criteria used. An urgentvariables but are temporary and require a more detailed replacement is generally purchased on the basis ofknowledge of the customer. They include the urgency availability, not price.of order fulfillment, product application, and the size of The interaction between situationalorder. factors and purchasing approaches is an example of the permeability of segmentation nests. Factors in one Urgency of order fulfillment. It is worth- nest affect those in other nests. Industry criteria, forwhile to differentiate between products to be used in instance, an outer-nest demographic description, influ-routine replacement or for building a new plant and ence but do not determine application, a middle-nestemergency replacement of existing parts. Some compa- situational criterion. The nests are a useful mentalnies have found a degree of urgency useful for market construct but not a clean framework of independentselection and for developing a focused marketing- units because in the complex reality of industrial mar-manufacturing approach leading to a "hot-order shop" kets, criteria are interrelated.- a factory that can supply small, urgent orders quickly. The nesting approach cannot be applied A supplier of large-size, heavy-duty in a cookbook fashion but requires, instead, careful,stainless steel pipe fittings, for example, defined its pri- intelligent judgment.mary market as fast-order replacements. A chemicalplant or paper mill needing to replace a fitting quicklyis often willing to pay a premium price for a vendorsapplication engineering, for flexible manufacturingcapacity, and for installation skills that would be Buyers personalunnecessary in the procurement of routine replace-ment parts. characteristics Product application. The requirements People, not companies, make purchasefor a 5-horsepower motor used in intermittent ser- decisions, although the organizational framework invice in a refinery will differ from those of a 5-horse- which they work and company policies and needs maypower motor in continuous use. Requirements for an constrain their choices. Marketers for industrial goods,intermittent-service motor would vary depending on like those for consumer products, can segment marketswhether its reliability was critical to the operation or according to the individuals involved in a purchase in
  6. 6. Industrial market segmentation 109 Demographics Operating _ . - variables Purchastng approach terms of buyer-seller similarity, buyer motivation, indi- Such data-gathering efforts are most justified in the vidual perceptions, and risk-management strategies. case of customers with large sales potential. Some buyers are risk averse, others risk receptive. The level of risk a buyer is willing to assume is related to other personality variables such as personal style, intolerance for ambiguity, and self- confidence. The amount of attention a purchasing Reassembling the nest agent will pay to cost factors depends not only on the degree of uncertainty about the consequences of the decision but also on whether credit or blame for these Marketers are interested in purchase will accrue to him or her. Buyers who are risk averse decisions that depend on company variables, situa- are not good prospects for new products and concepts. tional factors, and the personal characteristics of the Risk-averse buyers also tend to avoid untested buyers. The three outer nests, as Exhibit II shows, vendors. cover company variables, the fourth inner-middle nest, Some buyers are meticulous in their situational factors, and the inmost nest, personal approach to buying-they shop around, look at a num- characteristics. ber of vendors, and then split their order to assure As we move from the outer to the inner delivery Others rely on old friends and past relation- nests, the segmentation criteria change in terms of ships, and seldom make vendor comparisons.^ Compa- visibility, permanence, and intimacy. The data in the nies can segment a market in terms of these outer nests are generally highly visible, even to outsid- preferences. ers, are more or less permanent, and require little Data on personal characteristics are intimate knowledge of customers. But situationai fac- expensive and difficult to gather. It is often worthwhile tors and personal characteristics are less visible, are to develop good, formal, sales information systems to more transient, and require extensive vendor research. ensure that salespeople transmit the data they gather An industrial marketing executive can to the marketing department for use in developing seg- choose from a wide range of segmentation approaches mented marketing strategies. One chemical company other than the nested approach and, in fact, the myriad attributes part of its sales success to its sales informa- of possibilities often has one of the four following tion systems routine collection of data on buyers. outcomes: n No segmentation. "The problem is too2 For further discussion Benson P. Shapiro and large to approach." of ihese, see Ronald Posncr, Thomas V Bonoma, "Making the Major Sale," n After-the-fact segmentation. "Our mar- "Maror Sales: HBR March-April 1976, p. 68. Who Really Does the Buying?" ket research shows that we have captured a high share HBRMay-Iunfl982,p.lll,and of the distribution segment and low shares of the
  7. 7. 110 Harvard Business Review May-June 1984Others; thus we must be doing something right forcustomers in high-share segments." D Superficial segmentation. "While we Executiveknow all banks are different, its easier to organize mar-keting plans around banks because we can identify decision makingthem and tell the salespeople whom to call on." This "Unless we admit that rules of thumb, the limiteddangerous outcome gives a false sense of security. experience of the executives in each individual Q Obtuse, convoluted, and disorganized business, and the general sentiment of the street,segmentation. "We have a 300-page report on market are the sole possible guides for executive deci- sions of major importance, It is pertinent to inquiresegmentation and customer buying patterns, but there how the representative practices of businessmenis just too much data in there. So we have decided to generally may be made available as a broaderfocus on insurance companies and hospitals to avoid foundation for such decisions, and how a proper theory of business is to be obtained. The theory ofanother two-day market planning meeting." business, to meet the need, must develop to such a point that the executive, who will make the Our approach using a hierarchical struc- necessary effort, may learn effectively from the experiences of others in the past what to avoid andture is easy to use. Marketers can, in most cases, work how to act under the conditions of the present.systematically from the outer nests to the inner nests. Otherwise, business will continue unsystematic,They can run through the whole set of criteria and haphazard, and, for many men, a pathetic gamble, with the failures of each serious business depres-identify important factors that otherwise might be sion made up largely of the best moral risks.neglected. And they can balance between reliance onthe easily acquired data of the outer nests and the No amount of theory can be a substitute for energy, enthusiasm, initiative, creative ability, anddetailed analyses of the inner nests. personality, nor will it take the place of technical We suggest that a marketer hegin at the knowledge. Now, however, all of these personaloutside nest and work inward because data are more qualities may be coupled with an adequate tech- nical equipment, and yet the executive of wideavailable and definitions clearer in the outer nests. On experience may fail through our inability to graspthe other hand, the situational and personal variables the broad underlying forces controlling business,of the inner nests are often the most useful. In our ex- a knowledge of which would give a sound basis for judgment. It is a serious criticism of our busi-perience, managers most frequently neglect situation- ness structure that it so long lacked an adequateal criteria. In situations where knowledge and analy- method by which these broad forces may besis exist, a marketer might decide to begin at a mid- appraised, their probable course charted, and their applications to individual executive prob-dle nest and work inward or, less probably, outward. lems made reasonably clear." After several attempts at workingcompletely through the process, companies wili dis-cover which segmentation criteria are likely to yield From: "Essential Groundwork (or a Broad Executive Theory"greater benefits than others and which cannot be con- by Wallace B Oonham.Oean, Harvard Business School, HBR Oclotor 1922, p. 1.sidered carefully without better data. A warning is nec-essary, however. A company should not decide that anapproach is not useful because data are lacking. Thesegmentation process requires that assessments of ana-lytic promise and data availability be made indepen-dently The two steps should not be confused. Whenthe necessary data are gathered, managers can weighsegmentation approaches. A fine line exists between minimizingthe cost and difficulty of segmentation by staying inthe outer nests on the one hand and gaining the usefuldata of the inner nests at appreciable direct and indi-rect cost on the other. The outer-nest criteria are gener-ally inadequate when used by themselves in all but themost simple or homogeneous markets because theyignore buying differences among customers. Overem-phasis on the irmer-nest factors, however, can be tooexpensive and time-consuming for small markets. Wesuggest achieving a sense of balance between the sim-plicity and low cost of the outer nests and the richnessand expense of the inner ones by making the choicesexplicit and the process clear and disciplined. ^