StrategyStreet and the Board of Directors
Who are the customers who will allow us to earn our cost of capital?
These are the company's Core customers, those around whom we build our business. These are customers whose margins, by way of costs-to-serve and prices paid, allow the company to earn its cost of capital through the business cycle. Management would describe these Core customers by the characteristics the company would use to screen these customers from the rest of the market's customers. These characteristics might include minimum measures for the customer's annual purchases from the company, its growth in those purchases and the price or margin potential on sales to the customer.
These characteristics should limit the number of customers in the target segment so the company can focus its efforts on them alone. The final list of target customers should be both reachable by the sales force and realistic as target customers.
One simple check on the quality of the Core customer definition is to ask management who would not qualify as a Core customer. If the company does not have a compelling answer to that question, its cost levels are likely to rise as it responds to the needs, or worse, the demands, of any customer who shows an interest in purchasing the company's products. Here is an example of a poor segmentation. One modest-sized regional manufacturing company had a list of 400 target customers. The company could not call on 400 customers with its small sales force. Nor did it have the capacity to serve even 10% of that number of customers. In addition, the company's target customers included some of the largest customers in the industry. These national firms were unlikely customers for a small company with a regional focus.
In very competitive times, the company might choose to sell to customers who are outside its Core customer definition to generate cash on its excess capacity. In these conditions, the company can sell to these Non-core customers, but only on the company's terms.
The ideal answer to this question sets a business objective for every customer in the market, even those you do not want. There are always customers you do not want, customers who cause losses. For example, a few years ago, AT&T decided to stop chasing customers whom they termed "churners". These customers would accept any telephone company's $50 check to shift their purchases to a new company. But they would shift again a short time later in search of yet lower prices. AT&T decided that it could not make money on these customers and stopped pursuing them.
For further discussion of this question, see:
Basic Strategy Guide Step 11: Classify and assign company objectives to each current and potential customer.