Segmenting the Business Market

CUNA’s E-Scan newsletter
May 7, 2010 | COMMENTS

The economic downturn and the corresponding decline in credit quality has forced many large banks to reduce their lending to small businesses, creating an opportunity for community banks and credit unions – many of which are just beginning to address this segment – to capture new relationships.

But the business banking market is not a single, uniform group, observes Bancology . Rather, there are distinct segments within the market, and these segments can provide a helpful framework for approaching business lending and services.

Referring to the Occupational Safety and Health Administration's Standard Industrial Classification (SIC) system, Bancology notes there are 77 two-digit SIC codes, each denoting a separate industry such as railroads, oil and gas, or legal services, or codes for government and the non-profit sector.

The private-sector codes are aligned into nine broader industry groups that can serve as the basis for a segmentation scheme. Each of the industry groups shows different product needs, and financial institutions should align product lines and relationship managers accordingly. For example:

• Manufacturing firms are the most credit-dependent segment, while business services firms carry much higher deposit balances. Sales approaches to these firms should be aligned differently.
• Agricultural firms show a similar loan-to-deposit ratio as manufacturing firms, but require a specialized form of lending and should be treated as a distinct segment.
• The retail and service sectors have the highest cash-handling requirements and lower deposit balances, which causes some institutions to shun these firms. An appropriate fee structure and a rigid avoidance of fee waivers can turn this segment profitable, too.

If industry sector forms one dimension of a business market segmentation scheme, sales volume should represent another dimension. The sales and product proposition that meet the needs of a firm with $500,000 in annual sales differs from that which would serve a firm with $5 million in annual sales.

Most institutions segment businesses into three or four sales-volume tiers. The smallest segment, with sales up to $1 million, is typically branch dependent and can be served by branch-based retail personnel. A middle tier starts at the $1 or $2 million sales level and generally ranges to $10 or $20 million, depending on the institution. Middle market and corporate banking tiers include larger firms.

Once an institution specifies the groupings of industries and sales tiers that define its business banking segments, it can then identify which segments offer the greatest opportunity. Business-list vendors such as InfoUSA or Dun & Bradstreet provide counts of businesses in each sales-by-industry segment for each market area. This can help determine which segments offer the greatest opportunity in each market.

Once the largest opportunities are identified, the institution can define specific product and service offerings to appeal to the needs of each target segment.

As new relationships are added, Bancology advises collecting the industry code and sales level during the account opening process. This will allow measurement of penetration rates in each segment, so that the institution can track and compare performance across market segments and revise its offerings as needed.