There is a logical, seven-step approach to market segmentation. And marketing research could help fine-tune some of the decisions made with this approach. But even without additional research, this approach works – and has led to successful strategies. It is especially useful for finding the determining dimensions for product types. However, when you want to find dimensions for specific brands – especially when there are several competing brands – you may need more sophisticated techniques.
The importance of each of the seven steps is explained separately below:
1. Name the broad product-market. First, decide what broad product-market the firm wants to be in. This may be stated in the firm’s objectives. Or if the firm is already successful in some product-market, its current position might be a good starting point. Try to build on the firm’s strengths and avoid its weaknesses – and competitors’ strengths. Available resources, both human and financial, will limit the possibilities – especially if the firm is just getting started.
2. List potential customers’ needs. Write down as many relevant needs as you can – considering all of the potential customers in the broad product-market. This is a brainstorming step. The list doesn’t have to be complete yet but should provide enough input to help stimulate your thinking in the next steps. To see possible needs, think about why some people buy the present offerings in this broad product-market.
3. Form "homogeneous" submarkets – i.e., "narrow" product-markets. Assuming that some people have different needs than others, form different submarkets based on each submarket’s needs. Start by forming one submarket around some typical type of customer (perhaps even yourself) and then aggregate similar people into this segment as long as they can be satisfied by the same marketing mix. Write down the important need dimensions and customer-related characteristics (including demographic characteristics) of each submarket to help you decide whether each new customer type should be included in the first segment. This will also help later – when you name the submarkets.
4. Identify the determining dimensions. Review the list of need dimensions for each possible segment and identify the determining dimensions (perhaps by putting an asterisk beside them). Although the qualifying dimensions are important – perhaps reflecting "core needs" that should be satisfied – they are not the determining dimensions we are seeking now. To help identify the determining dimensions, think carefully about the needs and attitudes of the people in each possible segment. They may not seem very different from market to market, but if they are determining to those people then they are determining!
5. Name (nickname) the possible product-markets. Review the determining dimensions – market by market – and name (nickname) each one based on the relative importance of the determining dimensions (and aided by your description of the customer types). A market grid is a good way to help visualize this broad product-market and its narrow product-markets. Draw the market grid as a rectangle with boxes inside representing smaller, more homogeneous segments. Think of the whole rectangle as representing the broad product-market with its name on top. Now think of each of the boxes as narrow product-markets. Since the markets within a broad product-market usually require very different dimensions, don’t try to use the same two dimensions to name the markets – or to label the sides of the market grid boxes. Rather, just think of the grid as showing the relative sizes of product-market segments. Then label each segment with its nickname.
6. Evaluate why product-market segments behave as they do. After naming the markets (as in step 5), think about what else you know about each segment to see how and why these markets behave the way they do. Different segments may have similar – but slightly different – needs. This may explain why some competitive offerings are more successful than others. It can also mean you have to split and rename some segments.
7. Make a rough estimate of the size of each product-market segment. Remember, we are looking for profitable opportunities. So now we must try to tie our product-markets to demographic data – or other customer-related characteristics – to make it easier to estimate the size of these markets. We aren’t trying to estimate our likely sales yet. Sales depend on the competition as well as the particulars of the marketing mix. Now we only want to provide a basis for later forecasting and marketing mix planning. The more we know about possible target markets, the easier those jobs are.
Fortunately, we can obtain a lot of data on the size of markets – especially demographic data. And bringing in demographics adds a note of economic reality. Some possible product-markets may have almost no market potential. Without hard facts, we risk aiming at such markets.
To refine the market grid, redraw the inside boxes so that they give a better idea of the size of the various segments. This will help highlight the larger – and perhaps more attractive – opportunities. Remember, the relative sizes of the markets might vary depending on what geographic areas you consider. The market sizes might vary from city to city – or from one country to another.