Expert Systems with Applications 36 (2009) 4558–4565

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Expert Systems with Applications

journal homepage: www.elsevier.com/locate/eswa

An intelligent market segmentation system using k-means and particle

swarm optimization
Chui-Yu Chiu *, Yi-Feng Chen, I-Ting Kuo, He Chun Ku
Department of Industrial Engineering and Management, National Taipei University of Technology, 1, Section 3, Chung-Hsiao East Road, Taipei 106, Taiwan, ROC

a r t i c l e i n f o a b s t r a c t
Keywords: With the development of information technology (IT), how to find useful information existed in vast data
Market segmentation has become an important issue. The most broadly discussed technique is data mining, which has been
Data mining
successfully applied to many fields as analytic tool. Data mining extracts implicit, previously unknown,
Clustering
and potentially useful information from data. Clustering is one of the most important and useful technol-
Particle swarm optimization
ogies in data mining methods. Clustering is to group objects together, which is based on the difference of
similarity on each object, and making highly homogeneity in the same cluster, or highly heterogeneity
between each group. In this paper, we propose a market segmentation system based on the structure
of decision support system which integrates conventional statistic analysis method and intelligent clus-
tering methods such as artificial neural network, and particle swarm optimization methods. The pro-
posed system is expected to provide precise market segmentation for marketing strategy decision
making and extended application.
 2008 Elsevier Ltd. All rights reserved.

1. Introduction In this paper, we proposes to use the technique of data mining

Recent developments in information technologies have resulted
in computerizing many applications in various business areas. Data
has become a critical resource in many organizations, and there-
fore, efficient access to data, sharing the data, extracting informa-
tion from the data, and making use of the information has
become an urgent need.
Data mining is the process of posting various queries and
extracting useful information, patterns, and trends often previ-
ously unknown from large quantities of data possibly stored in dat-
abases. Essentially, for many organizations, the goals of data
mining include improving marketing capabilities, detecting abnor-
mal patterns, and predicting the future based on past experiences
and current trends. There is clearly a need for this technology.
Information about your customer can help you make major
decisions about reorganizing your business, service offerings, mar-
keting, and other strategies. It can tell you exactly what one cus-
tomer wants and needs or provide an aggregate view of your
customers’ feelings about a specific area of your business. Different
clusters of customers exit different features. Thus, it will support
an enterprise for examining internal operation strategy from a
wide vision if different clusters of customers are classified
systematically.
* Corresponding author. Tel.: +886 2 2771 2171x2365; fax: +886 2 2731 7168.
E-mail address: cychiu@ntut.edu.tw (C.-Y. Chiu).
combining with traditional statistics and ways of intelligent data
cluster analysis which is like the integration structure of decision
support system as well as focuses on huge data from industries
that make effective procedures of mining and analysis for finding
out useful information hided. Through this study, we expect to
build an effective and accurate market segmentation system.
2. Literature review
2.1. Market segmentation
Market segmentation was first brought up by Wendell (1956),
an American marketing researcher, and the concept was further
promoted by many ensuing scholars and applied by many compa-
nies. Now a large number of research studies are available to shed
light on the definition of market segmentation.
Market segmentation has several benefits over mass marketing.
It frequently provides the opportunity to expand a market by bet-
ter satisfying the specific needs or wishes of particular consumers
(MacQueen et al., 1967). Besides, it increases the profitability or
effectiveness of the organization to the extent that the economic
benefits provided consumers exceed the costs of the segmentation
process. Kotler believed that the company can create a more fine-
tuned product or service offering and price it appropriately for the
target segment (Kotler, 2000). As a result, the company can more
easily select the best distribution and communications channels,
and also have a clearer picture of its competitor.

0957-4174/$ - see front matter  2008 Elsevier Ltd. All rights reserved.
doi:10.1016/j.eswa.2008.05.029
 C.-Y. Chiu et al. / Expert Systems with Applications 36 (2009) 4558–4565
2.2. Data mining
2.2.1. Introduction of data mining
The science of extracting useful information from large data sets
or databases is known as data mining. In the past, data mining has
been referred to as knowledge management or knowledge engineer-
ing. Until recently, it has been an obscure and exotic technology, dis-
cussed more theoreticians in the artificial intelligence fields. Fayyad,
et al defined data mining as a step in the KDD process consisting of
applying computational techniques that, under acceptable compu-
tational efficiency limitations, produce a particular enumeration of
patterns or models over the data (Chung & Gary, 1999).
2.2.2. Methods of data mining
A particular data mining algorithm is usually an instantiation of
the model-preference-search components. Some of the common
model functions in current data mining practice include (Han &
Kamber, 2001):
1. Classification: This model function classifies a data item into one
of several predefined categorical classes.
2. Regression: The purpose of this model function is to map a data
item to a real-valued prediction variable.
3. Clustering: This function maps a data item into one of several
clusters, where clusters are natural groupings of data items
based on similarity metrics or probability density models.
4. Rule generation: Here one mines or generates rules from the
data. Association rule mining refers to discovering association
relationships among different attributes. Dependency modeling
corresponds to extracting significant dependencies among
variables.
5. Summarization or condensation: This function provides a com-
pact description for a subset of data. Data compression may
play a significant role here, particularly for multimedia data,
because of the advantage it offers to compactly represent the
data with a reduced number of bits, thereby increasing the
database storage bandwidth.
6. Sequence analysis: It models sequential patterns, like time-series
analysis, gene sequences, etc. The goal is to model the states of
the process generating the sequence, or to extract and report
deviation and trends over time.
2.3. Clustering
2.3.1. Basic concepts of clustering
Clustering is a useful technique for the discovery of some
knowledge from a dataset. It is an exploratory method for helping
to solve classification problems. Its use is appropriate when little or
nothing is known about the category structure in a body of data.
The objective of clustering is to sort a sample of cases under con-
sideration into groups such that the degree of association is high
between members of the same group and low between members
of different groups.
Clustering is also called unsupervised classification, where no
predefined classes are assigned (Tou & Gonzalez, 1974).
2.3.2. Clustering methods
A good clustering method will produce high-quality clusters
with high intraclass similarity and low interclass similarity. The
quality of a clustering result depends on both the similarity mea-
sure used by the method and its implementation. It is measured
by the ability of the system to discover some or all of the hidden
patterns.
Clustering of data is broadly based on two approaches, namely,
hierarchical and partitional (Jain & Dubes, 1988; Jain, Murty, &
4559
Flynn, 1999). Over the last several decades, due to the development
of artificial intelligence and soft computing, clustering methods
based on other theories or techniques has taken place (Backer,
1995; Fayyad, Piatetsky-Shapiro, & Smith, 1996).
2.4. Particle swarm optimization
Particle swarm optimization (PSO) is an evolutionary computa-
tion technique developed by Kennedy and Eberhart (1995). The
method has been developed through a simulation of simplified so-
cial models. The following scene explains the concept of PSO: a
group of birds are searching one piece of food in an area randomly.
All the birds do not know where the food is. The most effective
search strategy to find the food is to figure out which bird is near-
est the food and follows it.
Like GA (Maulik & Bandyopadhyay, 2000), PSO must also have a
fitness evaluation function that takes the particle’s position and as-
signs to it a fitness value. The objective is to optimize the fitness
function. Each particle also has own coordinates and velocity to
changes the direction of flying in predefined search domain with
D-dimensional. All particles fly through the search domain by fol-
lowing the current optimum particles. PSO is applied in market
segmentation with good performance (Van der Merwe & Engelbr-
echt, 2003).
3. Development of the system
3.1. Framework of system
In this study, we propose a market segmentation system based
on the structure of decision support system which integrates con-
ventional statistic analysis method and intelligent clustering meth-
ods such as artificial neural network and particle swarm
optimization methods. Then we put it into real practices on a com-
pany. The proposed system is expected to provide precise market
segmentation for marketing strategy decision making. The first
important thing of marketing is the accuracy of data. Accurate data
analysis is essential to making profitable marketing decisions.
Therefore, we designed the market segmentation system architec-
ture as shown in Fig. 3.1.
3.2. SOM + k-means
The SOM (Self-Organizing Map) is an unsupervised neural net-
work learning algorithm and forms a mapping the high-dimen-
sional data to two-dimensional space, but it is difficult to find
clustering boundaries form result of SOM. According to this limita-
tion, we can apply the k-means clustering to find the clustering
boundaries from results of SOM. Kuo, Ho, and Hu (1999) proposed
a modified two-staged method, which first uses the SOM to deter-
mine the number of clusters and the starting points and then em-
ploys the k-means method to find the final solution. Therefore, we
use SOM to produce the prototypes, and then cluster these proto-
types (Vesanto & Alhoniemi, 2002).
3.3. PSO + k-means
Here we utilize PSO + k-means (Huang, 2006) to decide the vec-
tor of cluster center. PSO + k-means has much powerful distin-
guished capability in multidimensional space. A single particle
represents the k cluster centroid vectors. That is, each particle Xid
is constructed as follows:
X id ¼ ðzi1 ; . . . ; zij ; . . . ; zik Þ ð3:1Þ
where zij refers to the jth cluster centroid vector of the ith particle in
cluster Cij. Therefore, a swarm represents a number of candidate
4560 C.-Y. Chiu et al. / Expert Systems with Applications 36 (2009) 4558–4565

Fig. 3.1. Market segmentation system.

clusters for the current data vectors. The fitness of particles is easily (c) Update the global best and local best positions.
measured as quantization error (d) Update the cluster centroids using Eqs. (3.4) and (3.5).
" #
Pk P V new old
dðx; zij Þ=jnij j id ¼ W  V id þ c 1  rand1  ðP id  X id Þ þ c 2  rand2  ðP gd  X id Þ
j¼1
8x2nij ð3:4Þ
Je ¼ ð3:2Þ
k X new old new
id ¼ X id þ V id ð3:5Þ
dðx; zij Þ ¼ kx  zij k ð3:3Þ
where W is the inertia weight, c1 and c2 are the acceleration
where d is defined in Eq. (3.3), and jnijj is the number of data vectors constraints
belonging to cluster nij, i.e. the frequency of that cluster. The execu-
tion of PSO + k-means is shown in Fig. 4.4 and the procedure of rand1 ; rand2  Uð0; 1Þ:
PSO + k-means is as follows: 3. Calculate the Euclidean distance d(x, zij) to all cluster centroids
nij.
1. Initialize each particle to contain k randomly selected cluster 4. Assign x to cluster nij such that d(x, zij) = min"c = 1, . . . , k{d(x, zij)}.
centroids. P
5. Recalculate the positions of centroids as zij ¼ n1ij 8x2nij x.
2. For t=1 to tmax do 6. tmax is the maximum number of iterations, Stop until meet tmax.
(a) For each particle i do
(b) For each data vector x 3.4. Clustering performance evaluation
i. Calculate the Euclidean distance d(x, zij) to all cluster cen-
troids nij. The algorithms try to minimize the cost function – Mean Square
ii. Assign x to cluster nij such that d(x, zij) = Error (MSE).The main purpose of this section is to compare the
min"c = 1, . . . , k{d(x, zij)}. quality of the respective clusters, where quality is measured
iii. Calculate the fitness using Eq. (3.2). according to the following three criteria (Van den Bergh, 2002):
 C.-Y. Chiu et al. / Expert Systems with Applications 36 (2009) 4558–4565 4561

 The mean square error as defined in Eq. (3.6). method and intelligent clustering methods, such as k-means,
 The intra-cluster distances: the distance between data vectors SOM + k-means, and PSO + k-means. The practical implementation
within a luster, where the objective is to minimize the intra- of this system is intended for the market survey industry. With re-
cluster distances. It is defined in Eq. (3.7). gards to system architecture, the market segmentation system has
 The inter-cluster distances: the distance between the centroids been designed to provide convenient and efficient clustering
of the clusters, where the objective is to maximize the distance analysis.
between clusters. It is defined in Eq. (3.8).
4.1.1. System interface
X
n X
k
MSE ¼ jxi  mj j2 ð3:6Þ The market segmentation system is presented in a practical
i¼1 j¼1;xi 2C j manner for the marketers or analysts dealing with the marketing
events. In the way to develop the system, we first make three clus-
where xi (i = 1,2, . . . , n) is a data set X with n objects. tering algorithms: k-means, SOM + k-means, and PSO + k-means.
This part is the core of the proposed system. Second, it needs col-
k is the number of clusters. lection of necessary information to improve the system. Finally, we
mj is the centroid of cluster Cj (j = 1,2,. . .k). provide the clustering results and use three criteria to evaluate the
quality of the results.
X
n X
n
Main form of the proposed system is shown in Fig. 4.1. The k-
Intra-cluster Distances ¼ dðxi ; xj Þ ð3:7Þ
means module, SOM + k-means module, and PSO + k-means mod-
i¼1 j¼iþ1
ule can be launched through this form. The main form provides
where xi (i = 1,2, . . . , n) is a data set X with n objects. users to enter and execute the files. And before executing, users
xj (j = 1,2, . . . , n) is a data set X with n objects can choose to normalize the data or not.
The module subsystem is shown in Figs. 4.2, 4.3 and 4.4.
X
k X
k
Inter-cluster Distances ¼ dðmi ; mj Þ ð3:8Þ During executing the clustering process, all information is re-
i¼1 j¼iþ1 corded behind this module. Furthermore, system users can change
model parameters such as W, c1, c2 of PSO.
where mi is the centroid of cluster Ci (i = 1,2, . . . , k).
All algorithms are run for 100 iterations, and the PSO algo-
mj is the centroid of cluster Cj (j = 1,2, . . . , k).
rithm used 50 particles. W = 0.72 and c1 = c2 = 1.49. For SOM,
k is the number of clusters.
the neighborhood width is 0.1 and the training rate is 0.995.
These values are chosen to ensure good convergence (Van den
4. Applying the market segmentation system Bergh, 2002).

4.1. Introduction of the system

A unique market segmentation system has been designed as an
analyzing system for marketing with advanced techniques. This
market segmentation system based on the structure of decision
support system which integrates conventional statistic analysis
4.1.2. System validation
To make sure if the proposed system is perfect and stable, we
used three sets of test data provided from Donald Bren School of
Information and Computer Sciences (http://mlearn.ics.uci.edu/
MLSummary.html).

Fig. 4.1. System main form.

4562 C.-Y. Chiu et al. / Expert Systems with Applications 36 (2009) 4558–4565

Fig. 4.2. k-means module form.

Fig. 4.3. SOM + k-means module form.

The clustering problems used for the purpose of this study are  Iris plants database: This is a well-known database with 4
as follow: numeric attributes, 3 classes and 150 instances.
 C.-Y. Chiu et al. / Expert Systems with Applications 36 (2009) 4558–4565 4563

 Glass identification database: This database contains 6 types of
glass defined in terms of their oxide content (i.e. Na, Fe, K,
etc). All attributes are numeric-valued.
 Teaching assistant evaluation database: This database contains
151 instances, 6 attributes, 3 classes. The data consist of evalu-
ations of teaching performance over three regular semesters
and two summer semesters of 151 teaching assistant (TA)
assignments at the Statistics Department of the University of
Wisconsin – Madison.
distances, the latter ensures compact clusters with little deviation
from the cluster centroids, while the former ensures larger separa-
tion between the different clusters. Therefore, according to the no-
tion of Intra-cluster Distances
Inter-cluster Distances
, a small value represents the homogeneous
within clusters and heterogeneous between clusters.
For these three problems, the PSO + k-means algorithm had a
smallest average MSE and standard deviation. When considering
Intra-cluster Distances
Inter-cluster Distances
, the PSO + k-means algorithm also had a smallest
value comparing with k-means and SOM + k-means.

Table 4.1 summarizes the results obtained from the three clus-
tering algorithms for the problems above. The values reported are
averages 30 simulations, with standard deviations to indicate the
range of values to which the algorithms converge. For a good clus-
tering, each cluster should be as homogeneous as possible and the
various clusters should be as heterogeneous as possible. To achieve
this objective, we use MSE value and the value of Intra-cluster Distances
Inter-cluster Distances
. If
the algorithm could cluster data with a lower MSE value, the sim-
ilarity within a segment increases. Likewise, the standard deviation
of an algorithm is also taken as an index. Chung and Gary thought
that the quality of an algorithm should be assessed by its robust-
ness, and a good algorithm could always produce the same results
(Chung & Gary, 1999). When considering inter- and intra-cluster
4.2. Example and demonstration of the proposed system – a business
application
In this section, a further discussion about how it helps managers
in business practice will be explicated. To understand customers
more, it’s easier to enhance the relationship between business
and its customers.
4.2.1. Data description
The data were collected primarily by a company, which pro-
vides passive and active electronic components for consumer elec-
tronics, telecommunications, computers and etc. The period of the
business transaction detail data is from 2003/1/1 to 2006/6/15.

Fig. 4.4. PSO + k-means module form.

Table 4.1
Comparison of three methods of the proposed system
Intra-cluster Distances
Problem Algorithm MSE Intra-cluster Distance Inter-cluster Distance Inter-cluster Distances

Iris k-means 0.231 ± 0.024 0.302 ± 0.039 0.781 ± 0.037 0.386841

SOM + k-means 0.224 ± 0.018 0.290 ± 0.030 0.792 ± 0.030 0.366445
PSO + k-means 0.218 ± 0.009 0.281 ± 0.016 0.803 ± 0.019 0.350068
Glass k-means 0.307 ± 0.010 0.289 ± 0.022 0.764 ± 0.103 0.378184
SOM + k-means 0.305 ± 0.008 0.279 ± 0.019 0.759 ± 0.075 0.367701
PSO + k-means 0.300 ± 0.005 0.281 ± 0.010 0.812 ± 0.104 0.345920
TAE k-means 0.501 ± 0.030 0.623 ± 0.049 1.007 ± 0.128 0.618488
SOM + k-means 0.494 ± 0.018 0.607 ± 0.010 0.977 ± 0.117 0.621037
PSO + k-means 0.479 ± 0.011 0.603 ± 0.008 1.079 ± 0.075 0.558839
4564 C.-Y. Chiu et al. / Expert Systems with Applications 36 (2009) 4558–4565

Table 4.2
Clustering result from Group = 3 to Group = 8

Index Group = 3 Group = 4 Group = 5 Group = 6 Group = 7 Group = 8

Intra-cluster Distance 0.320818 0.289446 0.260693 0.237758 0.226975 0.217198
Inter-cluster Distance 0.550358 0.571238 0.575466 0.579669 0.570467 0.569977

4.2.2. Data extraction with RFM variables
With customers’ purchasing behavior data available, we need to
decide which variables are to be used for analyzing. Among many
behavior variables, RFM variables are well known to both research-
ers and practitioners. In order to completely understand custom-
ers, database marketers applied RFM variables to segment
customer markets (Newell, 1997). RFM variables that represent
customers’ latest purchase, number of purchase and total purchase
amount can be derived from transaction history records. After data
extraction operation, one file is created and listing customers who
belong to clusters as a result of customer clustering. The file con-
tains customers, recency, frequency, and monetary values.
4.2.3. Data normalization
Before feeding data into the clustering algorithms, RFM vari-
ables should be normalized to eliminate scale effects. Normaliza-
tion entails relatively minor additional computations during
application of a solution to new data, which must also be normal-
ized. For frequency and monetary whose preferences are monoton-
ically increasing, a simple positively linear normal function as in
Eq. (4.1) can be used to derive the massaged value. Recency, how-
ever, exhibits a monotonically decreasing preference. An inverse
function as in Eq. (4.2) is then applied
log xi  log xmin
Massaged Value ¼
log xmax  log xmin
log xi  log xmin
Massaged Value ¼ 1 
log xmax  log xmin
4.2.4. Determine the number of clusters
In this study, we employ a two-stage clustering suggested by
Punj and Stewart (Punj & Stewart, 1983). Ward’s hierarchical
method is used to determine the number of clusters and k-means
clustering method is then performed to yield clusters.
First, we run PSO + k-means for this normalized data from
Group = 3 to Group = 8. The result is shown in Table 4.2. It is found
that the Inter-cluster Distance is the highest at Group = 6 and the
Intra-cluster Distance is relatively decreasing flatly when the num-
ber of clusters is more than six. Therefore, it is a good indication
that the number of clusters should be six.
With the number of clusters determined, we can easily perform
the k-means, SOM + k-means and PSO + k-means algorithms to find
which customers are clustered together.
4.2.5. Experiment results
This section compares the results of the k-means, SOM + k-
means and PSO + k-means algorithms with the number of clusters
is six. The result is presented in Table 4.3.
After executing the system, we also conclude PSO + k-means is
better than k-menas and SOM + k-means running for this case.
Among the three methods, the MSE value of PSO + k-means is the
lowest; the intra-cluster distance is the lowest; the inter-cluster
distance is the highest, and Intra-cluster Distances
Inter-cluster Distances
value is the lowest.
Therefore, we adapt the result of PSO + k-means to make market-
ing strategies; Table 4.4 shows the clustering results for customers.
About RFM status, we could make use of the strategic position-
ing of RFM clusters similar to Ha and Park (1998) work to set up
priorities among clusters. Ha and Park proposed to position each
customer cluster based on comparing average RFM values of each
cluster with the total average RFM values of all clusters. If the aver-
age of a cluster is greater than the total average, then an upward
arrow " is assigned to that variable; otherwise, a downward arrow
ð4:1Þ ; is assigned. According to this result, cluster characteristics could
be analyzed and their strategic positions could be determined.
Cluster 5 who has R ; F " M " and Cluster 2 who has R " F " M "
ð4:2Þ
can be considered as loyal ones who frequently deal with and make
a large purchase. Cluster 6 who has R ; F ; M; is probably a new
customer who recently deals with. Cluster 1 who has R ; F " M ;
is promising one who might be promoted to the loyal customer.
Clusters 3 and 4 who have R " F ; M ; is likely to be vulnerable cus-
tomers who have not deal with for a long time.
Direct marketers have been using recency, frequency, and mon-
etary (RFM) analysis to predict customer behavior for more than 50
years (Hughes, 1994). It is one of the most powerful techniques
available to marketers. Among the six clusters, Cluster 1 is selected
as a target customer segment with the first priority, followed by

Table 4.3
Comparison of three methods with Group = 6
Intra-cluster Distances
Problem Algorithm MSE Intra-cluster Distance Inter-cluster Distance Inter-cluster Distances

RFM k-means 0.191 ± 0.006 0.248 ± 0.010 0.563 ± 0.018 0.440735

SOM + k-means 0.190 ± 0.006 0.246 ± 0.009 0.574 ± 0.017 0.429780
PSO + k-means 0.185 ± 0.004 0.238 ± 0.005 0.580 ± 0.012 0.410162

Table 4.4
Clustering results of PSO + k-means

Cluster Customer Counts Recency (Avg.) Frequency (Avg.) Monetary (Avg.) RFMStatus
1 21 20.190476 139.285714 1,959,011.190476 R;F"M;
2 10 174.100000 526.400000 27,645,786.600000 R " F "M "
3 33 233.666667 17.727273 245,315.030303 R"F;M;
4 29 331.103448 2.793103 15,980.827586 R"F;M;
5 14 2.357143 522.928571 10,205,913.857143 R;F"M"
6 13 12.461538 10.153846 179,290.692308 R;F;M;
Total average 163.941667 135.900000 3,928,079.283333
 C.-Y. Chiu et al. / Expert Systems with Applications 36 (2009) 4558–4565
Clusters 5 and 2. It is because that the effect to these target cus-
tomer clusters might become potentially greater than the effect
to others from the RFM point of view.
5. Conclusion
Data mining is a fast-expanding field with many new research
results reported and new systems or prototypes developed re-
cently (Ha & Park, 1998). In this study, we presented the data min-
ing process and clustering methods, and corresponding system. We
proposed the market segmentation system based on the structure
of decision support system. The proposed system provides three
clustering tools for users, including k-means, SOM + k-means and
PSO + k-means, and the users can select any tool of them according
to their needs.
In CRM, it is essential to realize the characteristics of different
customer groups not only to improve their profitability, but more
importantly to develop long-term relationship with them. For the
case of this study, we applied the proposed market segmentation
system to solving a real problem. Our idea is to segment customers
via RFM variables to indicate degrees of importance of customers.
After customers had been clustered, it can help marketers to devel-
op proper tactics for their customers. Especially in some industries
with highly competitive intensity, having a great understanding of
customers can help business to improve the quality of the service
and maintain a good relationship with its customers. As a result, a
competitive advantage could be generated from it.
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