Market Definition

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The boundaries of a market.

The market definition problem

The problem of defining a market, or, equivalently, asking 'what business are we in' is a central to marketing strategy. The classic salutary tail tells of how the gold-plated stocks of the nineteenth century, the railroad companies, lost their way in the twentieth century because they thought they were in the railroad industry. They failed to recognize that they were really in the market for transport with competitors like cars and air travel.[1]

Operational definitions

The problem of market definition is usually viewed as a question of identifying the appropriate competition. Does the Wall Street Journal compete with other financial newspapers, other quality newspapers, financial information services such as Bloomberg and Dow Jones, Wikipedia or some or all of these?

The classical approach to market definition is to focus on substitution. If people replace one product with another, either because they prefer it, cannot buy the one they usually get or are induced by price or some other marketing activity, then the products are substitutes. The market for a product is then defined by degrees of substitution. If people substitute colas for energy drinks, then they are in the same market.

A related approach to market definition is to define markets in terms of common needs. For example, the snacking market, which includes products like confectionaries and chips, is defined based on the need for consuming a small item of food (i.e., a “snack”) and the fast food market is defined based on the need for quickly prepared food. This approach follows the same basic principle as substitution, with the difference being one of type of data. That is, substitution focuses on the substitution behavior and needs focuses on the cause of the behavior.

Although the textbooks generally advocate the use of needs and substitution for market definition, neither is common outside of brainstorming sessions and court cases. Both approaches have substantial measurement problems. Obtaining data on substitution can be extremely difficult. Consider the competition between say, tap water and Evian bottled water. Sure there is lots of sales data on bottled water, but consumption of water from taps and drinking fountains is not capture at any point of sale, and thus good data is hard to obtain.

The needs-based approach is problematic for different reasons. Sure it is easy to ask consumers questions about their motivations for buying different products, but the resulting data is often too superficial to be helpful. Learning that somebody drinks water because they are thirsty is not sufficient for market definition purposes. It is also unhelpful to learn that people prefer to drink from drinking fountains as it is cheaper than purchasing bottled water. Numerous qualitative techniques have been developed for probing beyond such superficiality, and although these techniques can provide insight for lots of problems, they are too unreliable to be used in market definition. One researcher might package the obvious as profundity: “sometimes water is just water”, another may note the link between water bottles and the comfort of being bottle and breast fed as an infant or that bottled water is about asserting a deep-seated need for control or a demonstration of social superiority.

The standard approach to defining markets is to describe the market in terms of the features of the products in the market. This is usually referred to as taking a product view of the market. Evian completes in the market for Bottled Water. That is, there are two features off the product that define its market: it is water and it is bottled. This definition could be further narrowed, to only Premium Bottled Water, where products would be classified as being competitors or not based on their price. It could be further narrowed to include how the water is obtained: Premium Natural Bottled Water and further narrowed again to reflect carbonation: Premium Natural Carbonated Bottled Water.

Product-based market definitions can also include non-product features, such as how they are to be used and how they are sold.[note 1] Sometimes it is useful to include in the market definition aspects of the extent to which the product needs to be assembled, such as in meal kits versus frozen meals, pre-assembled versus DIY furniture kits. Market definitions can be based on the assumed expertise and usage levels of users, such as basic versus “professional” software and domestic versus commercial cleaning products. And, the market definition may include the distribution channel; most commonly, packaged goods manufacturers distinguish between grocery, which means supermarkets, and route, which usually means all the smaller shops, such as convenience stores and service stations.

While defining markets based on products is standard, it is standard only because it is easy. However, this ease is very important when segmenting a market. Consider wireless internet devices that can be plugged UBS ports in computers. If we are segmenting using data from a customer database, we can readily identify which of our customers have this product. If we want to segment using a survey, we can ask people whether or not they have this product or are intending to purchase the product in the near future.[note 2] Defining the market based on needs in this situation would be nearly impossible,[note 3] although it may be practical to use an element of needs in a market definition. We may wish to narrow the market definition to, for example, wireless internet devices that can be plugged into USB ports on computers and which are to be used by people that are highly mobile.

The distinction between substitution, needs and products as ways of defining the markets is not as great as it may seem. The reason that products definitions are straightforward is that they are precise and easy to communicate and implement. However, a decision still needs to be made about which aspects of the product to focus on and this decision is made by reflecting on needs and substitution behaviour. Again thinking about wireless internet devices, it only by thinking about needs and substitution that we know which features of the product are key for defining the market (i.e., that we focus on the product being wireless, rather than, say, its size, colour or country of manufacturer).

Regardless of whether we define a market based on needs, substitution or product features, we need to make a decision about how broad the definition needs to be. Should we be focusing on Communication, the Internet, Wireless Internet, Wireless Internet that uses the Phone Network or Wireless Internet that uses the Phone Network and is plugged into a USB port? The strategic objectives of the segmentation generally answer this question. If your goal is to increase sales of Pepsi Max you may define the market as consisting of cola and energy drink consumers. If your goal is to identify opportunities for increasing the Coca Cola Company’s share of throat, you will likely focus on all beverage consumption occasions. If you are trying to identify the next flavor rotation for Coke, such as Coke Chili, you will perhaps want to focus on lapsed cola drinkers.

When using judgment to define markets there are a few standard traps to avoid. The first trap is one of being too broad. As discussed in the previous chapter, the best way to increase your chance of having a useful segmentation is to resist the urge to attempt something with a broad or overly ambitious scope. This also applies to market definition. There are fewer faster ways to condemn a segmentation study by design than by adopting a broad market definition. Identifying opportunities for Evian in the “market for beverages” is almost certain to fail.

Although defining a market too broadly seems an obvious mistake to make, large service firms frequently make this mistake when trying to segment markets. Any market which contains clear sub-markets is likely to be too broadly defined. With surprising regularity, banks conduct segmentations of the market for Retail Financial Services, where “Retail” indicates it excludes business customers. These studies invariably fail. This is because the market for retail financial services contains a natural distinction between deposits and loans and is thus not a sensible market definition for segmentation purposes (as either the resulting segmentation will rediscover the needs for deposits and loans, which will be unhelpful, or will miss this distinction, which would raise questions of credibility). As discussed in the previous chapter, the solution where there is a desire to define the market too broadly is to break the problem up into parts, developing multiple overlapping segmentations.

In a study looking at the setup for an internet bank, the decision was made to only conduct research amongst people under 40 with incomes of $40,000 or more. Not surprisingly, subsequent analysis revealed that this sample contained less than two-thirds of the potential market, ignoring people with low incomes due to their life stage, such as students, housewives and the large number of computer literate people aged 40 and over.

There are some simple rules of thumb that can be used to see if a market has been too narrowly defined. First, if the biggest selling products in the market are getting more than 20% of their sales from people outside the defined market, the definition is likely too narrow.[note 4] Second, if the definition involves any demographic variables (e.g., age, gender, income), it is probably a target market, and not a sensible market definition for segmentation purposes.

Notes

  1. The term “product” is a bit misleading. A more accurate term is to describe this approach to defining markets as being based on technology. However, many people tend to misunderstand the meaning of the technology, believing it relates to computers and the like, so I have not used this term in an attempt to avoid such confusion.
  2. It must be acknowledged that correctly wording such questions is very challenging, because similar products are often referred to in different ways by different companies, while different products are often given the same name by different companies (e.g., wireless versus mobile).
  3. If defined in the broadest sense – “do you need information in lots of different places” – whether or not people answer in the affirmative is likely to be determined by how the understand the word “information” rather than their true need for such technology.
  4. Implicit in that the percentage is computed in a given channel or channels in a given geographic region.

References

  1. Levitt, T. (1960). "Marketing Myopia." Harvard Business Review 38(July-August): 24-47.