Segmentation in Distribution is Unique
In my last post, we discussed how epaCUBE users are finding 450+ basis points of new profit just by getting their customer segments set up in the right ways. We also talked about some of the difficulties distributors face in segmentation. Today, I want to talk about how customer segmentation in distribution is different than it is in other industries like manufacturing and retail.
Segmentation Is More Than Geography, Demographics and Product Preferences
We’ve seen some distributors try to approach segmentation with geography. Geography is important to your branches and forecasts, but two buyers in the same geographic area behave differently and should be priced differently to win their business and make them as profitable as they can be. Just because two businesses operate in the same city, it doesn’t mean they have the same pricing behavior. So it’s not about geography. In fact, sticking strictly to geography could be really limiting the profit of many of your more diverse branch locations.
Segmentation in distribution is also not about demographics. Many marketing employees are necessarily focused on demographics, meaning how do your customers break down into small, medium, large, industry segments, and more. Demographics are the broad statistical breakdowns of your customer locations. This is helpful at a high level. Unfortunately, demographics cannot take you very far in your segmentation and pricing strategies. Just like with geography, you can have two medium-sized home builders who have totally different purchasing behaviors. One pays more but wants custom service. The other is just shopping jobs to the lowest bidder. They should be treated differently or you will lose one of them and perhaps lose money on the other anyway.
Distributors don’t really benefit from segmentation based on product preferences or attitudinal segments as retailers might. Attitudinal segmentation is important when you are a retailer and you want to understand what kinds of emotions you need to evoke when selling jeans to single millennials in Boston. But your customers don’t necessarily use the product they buy from you. Instead, they might install those products for their own customers. So their preferences are a step removed from your customer. Your customer does have preferences, but they have to do with their experience they have with your company – are you priced right, are you consistent, are you convenient, do you make them more successful. In other words, maybe the customer’s customer has a product preference, but your customer is more interested in the factors that lead the to buy from you instead of another distributor.
Customer Segmentation That Drives Profit For Distributors
Now that we covered the kinds of segmentation that do not work for distributors, what does work for distributors?
Here’s the bottom line: epaCUBE users who are driving new profits of 450+ basis points from customer segmentation are basing their segmentation on a data-driven analysis of purchasing behavior.
Customers exhibit three key behaviors that influence your profits. These are real profit-driving behavior, not all other kinds of customer behavior. Customers have a bunch of other behaviors that don’t relate to profit and pricing – they argue, they like new trucks, they wear printed T-shirts, they play golf, eat pizza on Fridays at your branches – none of these behaviors improve your own profitability. The three most important behaviors that affect your profitability, and thus they behaviors that you need to focus on in your segments are:
- Buying power
- Cost to serve
Buying power can really be defined as a combination of data such as sales revenue, unique items and unique orders. The more of those behaviors they exhibit, the higher their buying power. In general, customers with higher buying power are good customers but can also demand a tighter margin. You probably have conversations about buying power with your reps all the time, like, “I need to give this customer a discount because they are very important.” Now you know exactly how to define a customer with buying power. It’s not about how many rounds of golf your rep plays with the customer, it’s about their sales revenue, unique items and unique orders. That’s the power they have on your business. And it is a critical component of your segmentation strategy.
Another, somewhat obvious behavioral influence a customer has on your business is their profitability. How profitable is this customer? The higher the better. What drives profit? Margin dollars, gross profit percentage and average order size. Defining and analyzing what a profitable customer is in your business is really about having intelligent discussions and decisions about the behaviors that customers are actually taking that matter most to your business.
Cost to Serve
The third key customer behavior you want to factor into your segmentation is cost to serve. Your customers present cost to serve factors such as lines per order, average line dollars, returns percentages and DSO. You might think that buying power and profitability are all that matters. A big customer, placing large orders, driving purchasing efficiencies and doing so at profitable pricing is certainly a great customer. But you also have to figure out what the impact on your entire business of that customer is a way to get a handle on that is cost to serve. Sure, that customer is placing large and profitable orders, but they never pay their bills or they place small, single line orders that are driving your profits down in other ways.
Fortunately, epaCUBE has created an easy-to-use solution to create data-driven segments that matter to your business and drive better pricing and higher profits. In my third and final post in this series, I will introduce you to epaCUBE Segment Optimizer to show you how easily you can get started.