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Understanding the type of market in which a company operates is vital information when analyzing the outlook of any business. Generally speaking, most companies operate within either a horizontal market, a vertical market, or both.
The distinction between these two types of markets is rooted in the applicability of the company’s products or services to either a wide or narrow set of customer needs and industries.
Companies that operate in horizontal markets provide products and/or services that meet the needs of an array of different customers and industries, while those that operate in vertical markets will only service a specific industry or customer base.
Of course, many businesses offer products and services within both horizontal and vertical markets, making it especially important to understand the distinction between these types of markets when analyzing a given company.
Here we’ll provide a quick overview of the key dynamics associated with vertical markets and how they can offer both benefits and drawbacks for investors.
Vertical vs. Horizontal Markets
Before continuing with a comprehensive overview of vertical markets, it will be useful to gain a complete understanding of how they are distinct from horizontal markets.
Products and services that are offered in horizontal markets will meet the needs of consumers and businesses across industries and sectors.
Take the market for office printers as an example. A company that produces office printers will offer their product to a wide range of customers, regardless of their industry. For this company, it does not matter whether their customer operates within tech, accounting, law, or any other sector—all that matters is that they need an office printer.
Vertical markets are different. Products or services within vertical markets will only meet the needs of a specific type of customer operating within a single sector or customer base. A good example here would be medical software for doctor’s offices. This product can only be marketed and sold to a specific customer base. There is no need for medical software in a law office or private equity house, so the market for this product is restricted and thus considered a vertical market.
Another example would be fish food. Someone who doesn’t own any pets or who is only a dog owner will have no interest in purchasing fish food. So, a company that is producing this product is operating within a vertical market. Of course, that company could choose to also produce another product such as dog food, which would signify an expansion into another vertical.
If you are trying to quickly identify whether a product or service should be applied to a horizontal or vertical market, there are a few key questions to consider:
- Is the customer base broad or niche?
- Can the product be sold to any business or only to a specific industry?
- What is the marketing outlook? Is there a potential to market the product to various industries or customer bases?
- Is competition restricted to a small or large set of companies?
Most horizontal markets will have a higher degree of competition across a large set of companies. This provides more flexibility for companies to customize products and target specific customers bases, but also increases marketing costs.
Conversely, vertical markets enable businesses to limit marketing costs and focus on a specific industry need. This provides companies that sell products and services with several benefits, but at the same time can limit the overall market potential.
Characteristics of Vertical Markets
When discussing a vertical business definition, the term industry vertical is also used to describe vertical markets. This is because the market has developed to satisfy specific needs within a given industry, as opposed to the wider (horizontal) demand of products across various sectors and consumer bases.
There are a few key characteristics to note when looking at vertical markets.
- Companies that operate within vertical market segments tend to be similar in terms of their products and services. Since there is only a specific set of demand possible within a given industry sector, the needs of customers are more constrained and reflected in the types of products offered.
- Customers and suppliers will usually operate within the same wider industry. Looking at the previous example of doctor’s office medical software, both the supplier and the customer operate in the wider healthcare sector.
- Products and services will be less differentiated than in horizontal markets. Due to the specificity of customer needs within vertical markets, it is less likely for companies to offer products that are distinctly different, although there are of course exceptions.
- Building on this point, customer needs are also defined more strictly. This increases the bargaining power of customers over suppliers. With such a small set of customers demanding a given product or service, suppliers must constantly adapt to customer needs to keep up.
- Competition is typically more confined than in horizontal markets, and it isn’t uncommon to see only a few companies providing a given product or service.
While the inherent restrictions associated with vertical markets might lead to the assumption that they are less profitable, that is not always the case, as there are various benefits presented to companies that take advantage of industry verticals.
Advantages of Vertical Markets
Companies that retain the technological capability and know-how to successfully provide products or services within vertical markets can take advantage of several key competitive advantages.
- Because vertical markets are constrained, capturing a significant market share within a vertical market will increase customer reliance on a business’s product or service, ensuring lasting success within the market.
- The low level of competition within vertical markets enables all companies to limit costs on marketing activities, increasing the potential for profitability.
- Depending on the industry, suppliers within vertical markets can integrate their products into their customer’s operations, ensuring long-term relationships and sustainability of profits.
- Vertical markets enable businesses to specialize and develop specific competencies or new technologies. Focusing on a given vertical can allow a company to apply these resources across the supply chain, opening new opportunities for business expansion.
Disadvantages of Vertical Markets
Of course, because of the inherently constrained nature of vertical markets, there are also some disadvantages to offering products and services that can only be applied to individual industries.
- When operating in a vertical market, a company only has so much growth potential. The overall size of the market represents the limit that a business can capture.
- Expansion is also limited to the value chain within that specific niche market. While horizontal markets allow you to differentiate your products to meet the needs of customers across sectors, products and services in vertical markets can only be differentiated up and down the supply chain.
- There is a potential for customer needs to shift and markets to fizzle out over time. Vertical markets are generally much more prone to collapse than horizontal markets.
For these reasons, many companies that offer products within vertical markets apply their capabilities to other industries and customer bases as well. While this requires enhanced levels of investment to meet the needs of more than one vertical market, it ensures the sustainability of the business moving forward.
Vertical Market Examples
While these markets can be found in any industry, there are some vertical market examples that can assist in easily determining what is a vertical market across various companies.
It is important to remember that there are an array of companies, products, or services that apply to specific markets but would not be considered industry verticals. Let’s take a look at both a B2C and B2B example to illustrate this point.
B2C Vertical Market Example
A company like Target operates in various markets, providing clothing, electronics, groceries, toiletries, and other products across industries. It retains various types of customers that dictate demand across its differentiated product offering. Target is therefore operating in a horizontal market.
Conversely, Sunglass Hut sells its products within a specific industry vertical. It purchases sunglasses from various suppliers within the sunglass market and sells products to potential customers with defined needs. In this case, Sunglass Hut is operating in a vertical market.
The company can move into other markets if they so choose but doing so would require working with a completely different set of suppliers and selling a distinct product to another customer base.
B2B Vertical Market Example
Salesforce develops and provides CRM software to companies across industries. While the company has a key product that it provides, it tailors its offering to fit within any sector that works with potential customers. This represents an inherently horizontal market—the product can be applied to any industry.
SourceScrub is a provider of deal sourcing software that helps financial services firms enhance their investment bank deal sourcing capabilities and tracking efforts. While SourceScrub works with various client groups, including investment banks, private equity firms, venture capitalists, wealth managers, and family offices, all its client base work within the financial services sector.
Because of this, SourceScrub is operating in a vertical market. It has the ability to adjust its current product offering to various needs within the financial services sector, but if it wanted to provide CRM software to a retailer, it would likely need to create a completely new type of software offering and expand into a new industry vertical.
- Big Commerce. What is a vertical market? Online selling and business niches. https://www.bigcommerce.com/ecommerce-answers/what-is-a-vertical-market-online-selling-and-business-niches/
- Investopedia. Horizontal Markets. https://www.investopedia.com/terms/h/horizontalmarket.asp
- Investopedia. Vertical Markets. https://www.investopedia.com/terms/v/verticalmarket.asp
- Market Business News. What is a vertical market? Definition and meaning. https://marketbusinessnews.com/financial-glossary/vertical-market/
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