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A Three Dimensional Vertical Differentiation Model: Implications for Segmentation, Targeting and Positioning

Many products have different attributes which appeal to the different segments of the market. We investigate how firms should position their products in a multi-attribute product market where consumers are heterogeneous in (1) the product attributes that they care about, and (2) their willingness to pay for product quality. We develop a duopoly model where each firm offers a product which has three attributes. There are two customer segments in the market; each segment values only two attributes of the product but not the third one. We assume that customers are heterogeneous in their willingness to pay for the quality of product attributes. In a two-stage model, where firms first simultaneously set the level of product attributes and then price the product, we find four types of positioning equilibrium, all of which are of Min-Max kind. If the range of common attribute (the attribute that both customer segments appreciate) is high enough, firm only differentiate in this attribute and agglomerate on unique attributes (the attributes that only one segment appreciate). If the range of common attribute is low enough, firms differentiate only on unique attributes. The differentiation is never enough on only one of the unique attributes, and is never necessary on all three attributes. Our results have managerial implication for segmentation, targeting and positioning in a competitive market.