Market Segmentation – The Means to More Profitable Growth

March 3, 2010 by

Today I am attending OpenView’s Market Segmentation Forum with our portfolio company management teams… Every quarter we pick a forum topic that has the highest impact on our portfolio’s growth and capital efficiency. The forum was put together by Luke Hohmann, a Senior Advisor in OpenView Labs.

Let us start with the basics by defining what we mean by market segmentation. Segmentation is the process of dividing a total market into groups consisting of entities who have similar attributes. The attributes could be common problems, common desires or common opportunities that prospects have. Another set of attributes could be demographics, social class, or purchase behavior.

So why is segmentation such a hot topic for our companies? It’s because we are expansion stage investors. We invest in companies that have emerged from the start-up phase and are looking to not only accelerate their growth, but accelerate it with capital efficiency. This is where Segmentation plays in.

A segmentation strategy is not successful if it does not deliver on the following:

  1. Increase volume of highly qualified opportunities to the sales team
  2. Increase the conversion rate of those opportunities into revenue
  3. Reduce the time to close an opportunity
  4. Increase the average sale price and/or the renewal/up-sell rate
  5. Which collectively would result in higher sales at a lower distribution cost

What is the magic behind segmentation that can deliver on all this? Well, what segmentation does is provide the software vendor a sharper focal point on the specific needs of specific customers… which sharpens the vendor’s delivery of a solution to those needs… which reduces the buyer’s barrier to understanding and buying the solution.

For example, CentralDesktop sells an on-line business collaboration solution that is targeted at small to medium sized businesses. The company sells across verticals, and has not had a proactive segmentation in its outbound marketing as of yet. So if you own a small law firm, and you visit www.CentralDesktop.com, you would not think of CD as a specific solution to your type of business. That doesn’t mean that you wouldn’t buy it (CD has lots of law firm customers.) But what if you visited the website, and all you could see are mentions of how CD is a solution designed for Law firms… and read case studies of law firms that use the services; and review features that are very specific to the legal process… How much faster would you pick CD over its competitors? and how much more would you pay for a solution that serves your specific needs better? and how likely are you to tell other law firms about it?

So how do you pick a segment? First, you need to make the distinction between a market category and a market segment.

  • Market Category: a segment so big and broad that you can’t “attack it” with extreme focus. For example: Mobile Apps, or women over 30.
  • Market Segment: something defined and small enough to attack: Mobile utility apps on iPhones targeted at business users, or American women in major cities that are stay-at-home.

Here’s a set of market acceptance tests to apply to your segments:

  • Identifiable: distinct enough so that you can identify its members
  • Measurable: possible to determine size
  • Significant: large enough to be profitable
  • Homogeneous: members within segment are similar
  • Heterogeneous: members between segments should be different
  • Reachable: via promotion and distribution efforts
  • Responsive: to marketing messages
  • Compatible: with your mission, strengths, ability

Once you have identified some segments to evaluate, your next move is to create a set of hypotheses around them that you will be validating through extensive market research.

Through that research, you will be validating the segment and the acceptance criteria that make it the most attractive and profitable to pursue.

You will also be conducting the operational assessment to understand what it will take to truly target the segment by rallying resources and spend across the various functions within the company.

You will be validating the strategy and approach against your company mission and goals.

Which would feed into your product positioning, road map and backlog.

That then feeds into the distribution strategy for that segment… and more specifically the content management marketing plan and the lead generation system… and the targeted sales support and marketing.