These days everybody is an “entrepreneur” which is usually code for “I don’t know how to run a business.” For over 20 years I owned a small business and experienced all its different phases from the start-up process to the exit sale, and everything in between (and I do mean everything).
In this series I will share some of my insights so that if you are currently running a small business or thinking about starting one, you can benefit from my experiences and hopefully avoid my mistakes (and there were a lot of them). And remember, every small businessman is an entrepreneur, but not every entrepreneur is a small businessman.
If you’re thinking of starting a small business or currently running one, the title of this post may strike you as strange. “Why would I want to avoid any market segment?” you might ask. “I want the whole market to be my potential customer.”
Well, I’m here to suggest to you that this idea may not only be outdated, but dangerous to your company’s health.
Generally, the potential market for any small business is divided into three segments: the top end, the bottom end, and the middle.
The top end are your clients that need a higher quality of service or product, but are willing to pay for it. The bottom end are your clients that want the best price points, but don’t need the highest quality of service or product. Often, but not always, the top end customer’s product or service is high-margin, low-volume, and the bottom end customer’s are low-margin, high-volume.
By targeting these two segments of the market, you can make your company very profitable, as well as secure in any market environment. For example…
Let’s say you want to start a wedding and event planning business. In order to target the top end of the market, you create a custom event package for your clients, meaning they won’t flip through pre-set options for their special occasion, but instead you will tailor each experience based exactly on what they desire.
You can do this because you have the design talent and the personal touch that sets you and your business apart from all others. You bring something special and unique to the table and your clients know it and are willing to pay top dollar for your services.
These high-end events are so intricate and involved that you can only put on one per weekend, but because you can charge a premium for each one, they are particularly profitable for you. Low volume, high margin, top-shelf service.
Now since you already have chairs, and tables, and linens and such in your warehouse that you use for your premium events, you decide to segment your business and provide party rentals for the lower end market. These customers just need basic items on a temporary basis and in a cost efficient way, for the odd birthday party or bar mitzvah.
For this segment you can’t charge as much, but the jobs are much simpler. You provide drop off and pick up service only, no set up or design included. You give your customers a two-hour drop off and pick up window and charge them a reasonable fee that makes you a small profit.
However, because of the nature of the service, you can load your truck up with seven or eight different orders, batch schedule them, and have you crew knock them all out in a couple of hours. High volume, low margin, minimal service level.
The are the two areas of the market you WANT to focus on. The area of the market you want to AVOID at all cost is the middle of the market.
This is the area where the customers want the same quality of service or product as your top-end clients, but they want the price points of your bottom-end clients. This also happens to be the largest segment of the market, because let’s face it; most customers want to get more for less. And since it’s the largest segment, it’s also where you’ll find most of your competition.
So ask yourself this question, “Why would I want to go up against the largest amount of competitors, with the jobs that cost me the most, yet get me the least?”
In addition, this is the area of the market that will get crushed first during a recession or during hard economic times.
Think about it. Your customers at the high-end want the best quality but are willing to pay for it. A recession or a downturn in the economy is going to affect them less. Your customers at the low-end want the best price points, and probably run their lives or businesses very lean. Once again, they will be less affected by slow times.
It’s that middle section that will get decimated when bad times come. And because the amount of competitor’s will stay static, but the pool of potential customers will diminish, it can get very ugly. Need a mental picture? Have you ever seen a group of sharks vie for a single piece of food?
Profitability in that market sector will go out the window, and if you avoid, you can watch your competitors will tear each other up, which only strengthens you company’s position.
I experienced firsthand how targeting the middle of the market can be fatal when I went to sell my small business.
I had carved out a very successfully niche servicing the interior design trade, targeting only the high-end customers and the low-end customers. The people who were going to buy my business had come from an entirely different industry, the lock smiting industry.
That type of business competed right in the middle of the market. They sold the same products and the same services as every other locksmith, thus they had no uniqueness in product, service, or customer base, and hence no pricing power.
The only way they competed was to put a bigger ad in the Yellow Pages than the locksmith down the street did. Their customers were the definition of the “middle” of the market and had hundreds of locksmiths to choose from, whom they could play against each other.
I tried to explain to the buyers that my company did not compete just on price, but price related to service. We had the jobs at the high-end where we gave more service at higher prices, and the jobs at the low-end where we had lesser service and lower prices.
Unfortunately, after they purchased my company they moved everybody right into the center. They announced to our high-end clients that they were cutting prices, even though no one had asked them to do so. They announced to lower-end clients that they were raising the service level, even though no one had asked them to.
They took the two extremes of the market that I had spent 20 years carving out for my company, and smashed them right into the middle. It’s no wonder that eight months after they bought my company they went out of business.
Don’t let that fate happen to your business. Know what the market is, but know where your profitability is in that market. Segment your market and you will have a more profitable company and a more secure place in the market going forward.
Do you have a tip or a story about running a small business that you think would be of value? If so, drop me a line at email@example.com and let me know about it.
Check back in next Wednesday for another blog post in the Small Business 101 series.