Clustering For Marketing

Clustering for marketing
AGENDA
• When and why is cluster analysis needed
• Taxonomy of clustering methods
• Cluster analysis operationalization
Marketing Analytics
Why to Segment the Market?
Deep customer
understanding
Deliver
Segmentation
customer value
Branding and Product

communication development
Marketing Analytics
Segmentation Objectives
Segmentation could have many different operational objectives, for

example:
• To develop new product or service
• To raise brand or new product awareness
• To facilitate new product acceptance
• To improve current process
• To identify Customer Relationship Management programs
• …
Such objectives have to be properly defined:

• They must be consistent with the business needs at hand
• They guide the process to be followed
Marketing Analytics
Segmentation Process
To start with a deep understanding of customers…
Market
Qualitative Quantitative
Research
Surveys;
Focus group;
Experiments;
Interviews;
Primary Data warehouse;
Observation;
Big data;
…
…
Report; Statistics;
Media; Data warehouse;
Secondary
Journals; Big data;
… …
Understand different perspectives; Identify final solutions; generalize

collect relevant ideas; develop initial results to large population; support
understanding; support developing subsequent business decisions.
quantitative study.
Marketing Analytics
Segmentation Variables
Customers are different:

Demographics
Geography
Sources:
• Survey
• Experiments (large scale)
• Data warehosue
• Big data
Psychographics • …
Behavior
Which of these variables are relevant for my product or market?
Marketing Analytics
When and Why is Cluster Analysis Needed
Subdivide the records of a dataset into homogeneous groups of

observations, called clusters, so that observations belonging to
one group are similar to one another and dissimilar from
observations included in other groups
Diagnostic clusters Biological taxonomy
Marketing Analytics
Customer personas are embodiments of a company’s target segment.

A persona has his/her needs, wants, beliefs, preferences, goals,
motivations, or behavioral habits.
Marketing Analytics
Segmentation could have different operational objectives, including:

• To develop new product or service
• To raise brand or new product awareness
• To facilitate new product acceptance
• To identify Customer Relationship Management programs
Such objectives have to be properly defined:

• They must be consistent with the business needs at hand
• They guide the process to be followed
Marketing Analytics
Marketing Analytics
Segmentation
Select clustering solution
Which solution to choose?
• Statistically, the best solution can be suggested by indicator of

distinctiveness among the clusters
• For marketing application, it is more important to consider:

• Whether the clusters provide you relevant and actionable insights
• Whether these insights are consistent with your business
• Whether it satisfies the crieteria of ‘good segmentation’
Marketing Analytics
Segmentation
From experience, there could be some general consideration when it comes to

selecting the right clustering solution:
• Solution with too few clusters may not adequately capture the diversity (for
example, the 2-cluster solution of music preference only found substantial
difference regarding classical music, while the preferences for all other types
remain average)
• Solution with too many clusters will be increasingly difficult to interpret and to
manage implementation of eventual applications
Marketing Analytics
Segmentation
This type of statistical analysis does not have a unique, absolutely correct
solution
Marketing Analytics
Taxonomy of clustering methods
Clustering methods can be classified into a few main types based

on the logic used for deriving the clusters:
• Partition methods
• Hierarchical methods
• Density based methods
• Grid methods
Marketing Analytics

• Grid methods
Marketing Analytics
Taxonomy of clustering methods: K-Means
• Clustering objects into homogeneous groups based on

variables with continuous/scale variables (e.g. age, height).
• It classifies objects by computing the distance among the
objects. Variables with very different scale should be
standardized to avoid the clustering being dominated by the
measurement scale of large range.
• The number of clusters has to be imposed before
computation: several K-Means cluster analyses could be
performed to choose the best solution
• It is fast and easy to perform on a large dataset
• It cannot classify subjects with missing value
Marketing Analytics
Segmentation Methods
K-Means
K-Means Cluster Analysis
• Clustering objects into homogeneous groups based on variables with

interval measurements.
• For example: actual age/height/weight/income, Likert scale survey data,
ticket size, annual spending, minutes spent online, etc.
• It classifies objects by computing the Euclidean distance among the objects.
Variables with very different scale should be standardized to avoid the
clustering being dominated by the measurement scale of large range.
• The number of clusters has to be imposed before computation: several K-
Means cluster analyses could be performed to choose the best solution
• It is fast and easy to perform on a large dataset
• It cannot classify subjects with missing value
Marketing Analytics
Variables of different scale
70000
60000
ID Age Income
1 25 20K Without standardization, the numerical
50000
difference in age is neglectable compare to
2 30 28K the difference in income. A K-means analysis
3 35 52K with the original measurement scale would
4 38 43K
40000
practically be based on only income level.
5 41 35K
6 45 60K 30000
7 47 44K
8 51 39K 20000
9 55 62K
10 58 40K 10000
0
0 50 100
Marketing Analytics
Example: Height & Weight of 10.000 People
Marketing Analytics
Example: Height & Weight of 10.000 People
Results of cluster analysis Actual male vs. female
• 4515 males are correctly classified; 485

males mis-classified
• 4550 female are correctly classified;
450 females mis-classified
Marketing Analytics
Segmentation Based on Data
Variable 1 Variable 2 Variable 3 Variable 4 Variable 5 Variable 6 Variable 7 ……

Customer 1 Value1_1 Value2_1 Value3_1 Value4_1 Value5_1 Value6_1 Value7_1 …
…… … … … … … … … …
Survey data could include: attitude, opinion, perception, self-reported behavior,

demographics, ...
Customer database could include: transactional data (items, value, frequency,
channel, etc.), interaction data (contacts made, reasons, outcomes, channel, etc.),
demographics, …
Marketing Analytics
Data dimension reduction

…… … … … … … … … …
Often they could be a high number of variables, which makes it difficult to

understand the segmentation result.
When appropriate, it is advisable to first reduce the data dimension through
Factor Analysis, which groups correlated variables.
Marketing Analytics
Clustering

…… … … … … … … … …
Then, different clustering techniques can be applied to group similar customers,

in order to create segments.
Marketing Analytics
Taxonomy of clustering methods: K-Means
Marketing Analytics

• Grid methods
Marketing Analytics
Taxonomy of clustering methods: Hierarchical
• Could use different types of variables, including interval,

nominal, and ordinal. However, it is not advisable to mix
different types of variables in the same analysis
• It simultaneously computes results from 1 to N clusters for
sample size N. The number of clusters is decided later.
• It is more difficult to calculate for large dataset.
Marketing Analytics
Taxonomy of clustering methods: Hierarchical
2 clusters
3 clusters
Marketing Analytics
Hierarchical cluster analysis
2 clusters
3 clusters
4 clusters
…...
Each individual observations
Marketing Analytics
Hierarchical clustering: Clustering method identification
Ward’s method
Nearest Neighbour
Marketing Analytics
Hierarchical cluster analysis
Hierarchical Cluster Analysis
• Hierarchical cluster analysis could use diverse types of variables:

interval, nominal, and ordinal. However, it is not advisable to mix
different types of variables in the same analysis.
• For example: (besides interval variables), gender, education level,
model of product purchased, touch-points used, etc.
• It simultaneously computes results from 1 to N clusters for sample
size N. The number of clusters is decided later.
• It is more difficult to calculate for large dataset.
Marketing Analytics
R – Hierarchical segmentation
Marketing Analytics
R – Hierarchical segmentation
Package: cluster; Main function: agnes

See source code in ’Music HCL.R’
Marketing Analytics
Latent class segmentation
Latent Class Segmentation
• Latent class segmentation computes with probability, therefore the

most significant superiority is that it can deal with different types of
variables (internal, nominal, ordinal) simultaneously; it can also
deal with missing values.
• It has dependent variables, therefore ensures the meaningfulness of
the clustering.
• It can include (active or inactive) covariates. Active covariates would
influence the clustering; inactive covariates are mainly for profiling.
• Fitness indicators are available to suggest the number of clusters
which explains the data the best.
Marketing Analytics
Latent class segmentation
Indicators: the endogenous variables that

serve as the primary drivers for
determining the segmentation
Covariates: (active) covariates are the

secondary driver for determining the
segmentation, which could be, for example,
a critical outcome variable.
Marketing Analytics
Latent Class Analysis
Response Response Response Response

variable 1 variable 2 variable 3 …… variable n
Latent
Class
Covariate(s) Response variables and covariates are

from the dataset. They can be different
types of variables simultaneously.
Marketing Analytics
Latent Class Analysis
Marketing Analytics
Some heuristics about clustering and cluster analysis
Measurable
Durable Homogeneity
Segmentation
Important Parsimonious
Marketing Analytics

Clustering For Marketing

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Clustering for marketing

• When and why is cluster analysis needed

• Taxonomy of clustering methods

• Cluster analysis operationalization

Branding and Product

Segmentation could have many different operational objectives, for

Such objectives have to be properly defined:

Understand different perspectives; Identify final solutions; generalize

Customers are different:

Which of these variables are relevant for my product or market?

Subdivide the records of a dataset into homogeneous groups of

Diagnostic clusters Biological taxonomy

Customer personas are embodiments of a company’s target segment.

Segmentation could have different operational objectives, including:

Such objectives have to be properly defined:

Which solution to choose?

• Statistically, the best solution can be suggested by indicator of

• For marketing application, it is more important to consider:

From experience, there could be some general consideration when it comes to

Clustering methods can be classified into a few main types based

• Density based methods

Clustering methods can be classified into a few main types based

• Density based methods

• Clustering objects into homogeneous groups based on

K-Means Cluster Analysis

• Clustering objects into homogeneous groups based on variables with

Results of cluster analysis Actual male vs. female

• 4515 males are correctly classified; 485

Variable 1 Variable 2 Variable 3 Variable 4 Variable 5 Variable 6 Variable 7 ……

Survey data could include: attitude, opinion, perception, self-reported behavior,

Variable 1 Variable 2 Variable 3 Variable 4 Variable 5 Variable 6 Variable 7 ……

Often they could be a high number of variables, which makes it difficult to

Variable 1 Variable 2 Variable 3 Variable 4 Variable 5 Variable 6 Variable 7 ……

Then, different clustering techniques can be applied to group similar customers,

Clustering methods can be classified into a few main types based

• Density based methods

• Could use different types of variables, including interval,

Hierarchical Cluster Analysis

• Hierarchical cluster analysis could use diverse types of variables:

Package: cluster; Main function: agnes

Latent Class Segmentation

• Latent class segmentation computes with probability, therefore the

Indicators: the endogenous variables that

Covariates: (active) covariates are the

Response Response Response Response

Covariate(s) Response variables and covariates are

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