Question: Why is it important for companies to select the right customers? Along these lines, what’s the difference between what your article terms as partitioning and segmenting a market?
FC: Every company, large or small, does things that make it easier for some customers to do business with it and harder for others. Without clarity about core customer characteristics, entrepreneurs will rely on ad hoc approaches to evaluate business development opportunities. Driven by cash needs, they may call this “experimentation,” but in effect they tell salespeople to “go forth and multiply!” By selling to anyone, though, ventures fragment their resources. As customers use it, the venture modifies the product and the activities associated with making and selling it. Selling becomes a function of individual “heroic” efforts, not a scalable platform for profitable growth. Equally important, this inhibits adaptive learning—a crucial requirement for a venture—and can blind a leadership team to what is actually going on. Effective customer selection requires segmenting a market based on the benefits that customers receive and perceive in the product or service. It focuses on buyers: understanding their problems and opportunities, and how that differs across the potential customer base. But many ventures simply partition markets based on what is identifiable and accessible via purchased customer lists, SIC codes, LinkedIn, Facebook, or the sheer number of cold calls. Sales may be made, but it’s the result of a random-walk process analogous to throwing darts while blindfolded at a list of opportunities. With an amenable burn rate and enough throws, the venture will indeed stumble over value, but those “hits” can blind management to the limits of its sales process and prevent scaling. The results cascade throughout a business. Customer selection impacts operating costs and profit margins; initial sales also influence the venture’s trajectory of organizational skills because firms develop capabilities and routines in interactions with customers. There is also an opportunity cost: money, time, and people allocated to customer A are resources not available for customers B, C, or D. The fact is that, no matter how large or growing a market may seem to an entrepreneur, the venture can add and extract more or less value from different opportunities in the portfolio of possibilities. Ineffective opportunity management eventually leads to loss of money, time, and positioning with customers who are (or should be) core customers. Over time, this process also nurtures the development of “commodity competencies.” The venture gets better and better at activities that customers value less and less. Selecting the right customers, therefore, should be an ongoing topic for founders and investors. But relatively few start-ups (and surprisingly few VCs) clarify ongoing customer selection criteria.
Question: In the article’s step-by-step process, you emphasize the “ideal customer profile.” Can you talk a little about that?
FC: Entrepreneurs usually find that, until they are out there selling, they really don’t know the crucial differences between early adopters and others along the relevant spectrum of opportunities. Our ideal customer profile [ICP] is basically a low-cost, practical, and fast process for learning about these differences, incorporating that knowledge into decision-making, and clarifying the possible responses. It has four generic steps that I’ll outline here but direct the reader to the article for the methodology and a detailed example:
• Assemble and analyze available data. At this stage, the important thing is examining the variables that align with different customer types. Given the competing priorities in any venture, we’ve found that an ICP process must come from the top team to be credible and effective. Conversely, the process itself often helps to reestablish a shared vision across the venture about what the company is about.
• Develop preliminary hypotheses. The key here is hypotheses based on criteria and data that the venture can use to test things both internally and in the marketplace. This may sound obvious, but start-ups often try to substitute purpose and passion for cause-and-effect business hypotheses. And, again, there are other benefits. This stage of an ICP often leads to faster decision-making and pivots in a venture where founders and others have strong entrenched opinions about why things have or have not worked.
• Revise and modify the hypotheses. In most ventures, the people with the best understanding of the behavior that distinguishes customers are in sales, marketing, and service; however, the cost implications of customer behavior are often managed by people in operations, product groups, and finance. An ICP starts at the top but involves cross-functional input in discussing the hypotheses and potential responses.
• Communicate the “ideal client profile” and the implications. An ICP typically implies changes well beyond sales and marketing. The example in the article indicates how it led that venture to modify its product features, product line, go-to-market assumptions, business partners, incentive systems, and employee selection criteria. Given the scope of the changes, communication is critical.
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