Vertical Market
Industries in these markets generally work together as players in a distribution path.
What is a Vertical Market?
Vertical Markets are companies and customers performing business interactions around a specific niche market. Industries in these markets have particular products with a special relationship to their consumers.
Industries in these markets generally work together as players in a distribution path. The companies can be retailers, wholesalers, or think tank firms that perform the research and development of the product. In addition, vertical industries rely on collaboration.
This “special relationship” with the consumers comes from how niche the market is because the specificity of the product a firm would sell keeps competition on the lower levels.
It is hard for several companies to develop their business to meet such unique and specific standards as expected by the consumers of vertical industries.
This difficulty arises from the resources and business development strategies required for such a unique target market being unavailable for many firms. These resources or methods include:
- Equipment specifically designed to develop a product that is already molded and manufactured to meet the consumers’ unique needs
- Understanding of intricate details of the niche market
- A reliable reputation with the consumers
- Ideas and abilities to enhance the niche issues unique from the other firms
This collection of requirements for successful development in a vertical business environment complicates the business development process for several firms. Hence, industry entry is relatively low, keeping competition low.
Competition is low because of the collaborating factor of the vertical marketing system. Due to strict entry barriers, most firms can only join an existing distribution path as a player instead of a company producing an alternative to the product.
Examples of vertical markets
To better illustrate how they operate differently from industries, here are some examples of vertical sectors and why they are standing.
From these examples, it is evident that the value in vertical industries lies in the heightened reliability of the product.
Since the consumers have such high bargaining power, the firms in the industry have a specific niche set of provision styles. Therefore, ensuring products that meet the consumers’ expectations is crucial.
This pressing need to meet the complex needs of the consumers requires a distribution path atmosphere because that allows the industry to focus better on the details of the product. Each firm in a distribution path is responsible for a specific part of the product.
These industries are vertical because many of the needs that these industries address have a high degree of understanding of the requirements and the specific details of the production processes, which would ensure the quality of the products and services.
- Pet Technology: Create digital products, unique services, and pet-related appliances to simplify pet ownership and quality of life. This industry is considered to be vertical because they only focus on the needs that pet owners would have.
- Business-to-Business Payments: These industries comprise firms that develop software applications that ease payments between businesses while ensuring and developing their security and reliability.
- Big Data: It includes products and services which perform data management for large data sets. This is necessary to be reliable because data sets are complex to ensure the excellent quality and maintenance of the data. In addition, data is used for research purposes, which is very important for developing companies’ and firms’ projects.
- Ephemeral Content: Online platforms allow users to share content such as photos, videos, and messages, among other forms of sharing information. Examples are YouTube and Twitter.
vertical market Types
Some subcategories are divided based on who controls a distribution channel. A distribution channel is the product's pathway from the raw materials to the customer.
1. The corporate vertical marketing system
It is a system where all actors in a distribution channel are under the control of one organization.
This is very convenient for vertical companies because they can understand the market’s specific demand and ensure that all vertical business' actors comply with the particular goals.
This is especially important for markets with particular products or services. An example is Zara, a corporate vertical business, because they majorly produce formal and business casual clothing and create and distribute their goods through their stores.
In this example, the products fit a niche standard, and the niche demands have likely become more specific. A corporate marketing system allows the company to produce and distribute its products how its consumers demand and gain more accessibility.
Thus the organization controlling every aspect of the distribution channel allows them to meet these intricate production alternations with tight monitoring.
2. Administered Vertical Markets
One party who participates in the distribution channel of the respective product or service influences the other parties because of its size and influence.
This allows for a coordinated approach to the distribution mechanisms of the product or service. There is no common ownership or contractual relationship, but all the practices are coordinated according to the rules of the controlling party.
This usually occurs because the influence and the power the single party holds come from their comparatively more significant size. This larger size allows their contribution to the distribution channel to be much more influential to the target audience.
An example would be Walmart acting as a retailer. It is a retailer of several goods, but various vertical industries, such as the cat food industry, utilize Walmart as a retailer. Thus, Walmart’s size influences the practices of other distribution channel actors in the cat food industry.
This example may need to be clarified to the concept of a vertical market because Walmart is considered a horizontal company as it sells various sorts of goods. However, remember that Walmart is regarded as a player in this marketing system instead of a company in the vertical industry.
Again, the vertical system is how a vertical company processes its marketing and sales activities. Thus, Walmart is a retailer, a part of the marketing system of a vertical company such as Whiskas, a company specifically for cat food.
3. Contractual Vertical Market System
It describes a relationship between different distribution channel actors acting as individual bodies mandated through contracts.
These contracts specify responsibilities and benefits. The business operations of these firms in these distribution paths remain fixed. The contractual marketing system carries three more subcategories:
- Franchise System: In this system, one firm called the franchiser contractually allows other firms to use its business models and brand names.
- Retailer-Sponsored Cooperative: This system is a contractual agreement between retailers to form cooperatives giving them greater market power.
- Wholesaler-Sponsored Cooperative: This is a cooperative of retailers that a wholesaler forms. This system allows for a more cooperative distribution behavior in the market among retailers.
Vertical market vs. horizontal market
Markets comprise procedures, systems, and institutions where products are exchanged. How that is done is often categorized into five market types:
- Monopoly
- Oligopoly
- Perfect Competition
- Monopolistic Competition
- Monopsony
These market systems are based on the number of suppliers and buyers there. However, whether these markets are vertical or horizontal depends on the goods and services they provide.
In a vertical industry, the market’s atmosphere is based on the distribution process and product type. The 5 market types mentioned above have atmospheres based on the competition.
Competition in the vertical industries is only sometimes prioritized because, as mentioned, the market atmospheres consist of distribution paths, prioritizing the perfection of the product sold.
This is because a vertical industry focuses on a specific product type. Since the target market is a small group of people, the firms’ sustainability depends on their audience’s continuance with their product.
Thus, developing and enhancing their product is a priority of the vertical industry environment. Because a vertical industry is so specific and niche, there is not much room for competition among firms because there needs to be more available variety in production.
To be classified under one of the competition types mentioned above, a company can broadly classify what they distribute:
- Grocery stores
- Makeup stores
- Electronic companies
- Automobile companies, etc.
They can be classified under one of the mentioned market types because it is possible to create variation in their industries. These market types do not consider the specificity of a company’s product to derive its placement on their classifications, unlike vertical and horizontal.
Technically speaking, due to the low number of vertical firms in one industry, it will likely lie in a monopoly or a monopolistic competition.
This shows the difference between a vertical and horizontal market. These markets have a priority toward one niche set of consumer needs. Flat markets focus on providing consumers with broader and varied needs.
The market atmospheres differ because one focuses its industry and distribution paths on one specific need. In contrast, the other, i.e., the horizontal, focuses on maximizing its inventories.
The market atmospheres differ in how they interact with each firm as well. Each firm in a vertical distribution path has a specific role regarding a particular aspect of the niche good.
Horizontal market firms focus on their growth through expansion across industries. Thus, there is more competition between firms in flat markets.
Some examples highlighting the difference are:
Advantages of Vertical Industries
Some markets are only sometimes suitable for a vertical industry. The pros and cons of joining a vertical industry must be thoroughly considered beforehand. Once a business specifies its production to a niche area, expanding to a variety is only sometimes manageable.
The most vital advantage is the intricate relationship between the companies and their target markets. This is because the demands allow only certain companies to be able to properly and timely meet them.
The time by which a company can respond to a specific demand is a crucial factor in its influence in a vertical market because meeting the target market’s niche demands creates a reputation of reliability for the firm.
Due to the target market's specific needs, the resources and business planning needed are also particular. This allows for the competition in the market to be lower, given the consumer's relationship with the existing companies.
Due to a lower amount of competition between companies in the market and the consumer's trust in the company’s reliability to meet consumers’ targets, the relationship between the existing companies and the consumers is vital.
This is an advantage for consumers because they have a thorough understanding of how consumers feel about the current state of the product or service. Thus, they are more likely to understand how to improve it.
As per CNBC reports, in April 2015, 4 brands announced changes to their business distribution paths in response to consumers’ protests and pressure. These brands were Mattel, Kraft, Pepsi, and Abercrombie & Fitch, which had changed their production process, inventory, and marketing.
This shows that companies and consumers do have a relationship where the companies respond to the needs of the consumers sometimes. This “sometimes” becomes “frequently if not always” when discussing vertical industries.
Vertical industries better understand their target group because the target consumer group is so small, and their needs are very specific. The relationship discussed in the CNBC article would be much more intricate for a vertical industry for these reasons.
Another advantage is that all of the company’s resources are being contributed towards developing one specific type of product or service instead of distributing or dividing the resources to developing several products.
This aligns with the ability to improve the product or service because of the company’s intricate relationship with the consumers, as their resources will be fully dedicated to their product. The worry of balancing finances among products does not generally concern vertical businesses.
For these reasons and less competition in the market, the biggest companies in that vertical industry carry the most growth potential. This is because of the companies' heightened consumer understanding and their stronger industry influence.
Disadvantages of Vertical Industries
Companies with a strong relationship with their consumers better understand how to modify their distribution paths to meet the demands with vital detail while also maintaining their market influence.
Their developments in the products become more reliable and desirable to consumers because of their relationship with the company, so they continue to have a stronger hold on the market.
However, this smaller market to target can also be a disadvantage because it limits the extent of expansion of the firm. Thus, they must limit how they market their products and how their firms grow.
There can also be difficulty in achieving revenue inflow stability because of consumers' high bargaining power, so these markets are more vulnerable to external market changes.
There is also a lack of innovation within the firms’ products due to how niche and specific the target product is. This minimal innovation may heighten the risk of difficulty in marketing strategizing.
This is because, in the existence of vertical competition, a lack of innovation threatens the strength of a player in a distribution path. After all, their input in the production and distribution system might not have fewer alternatives.
Unless the firms are responsible for improving specific areas of the goods, the consumers demand high bargaining power. They don’t have much marketing value in the distribution path. Thus, they are weaker players in the distribution path.
Running a Vertical Firm
What does running a vertical firm entail? Is the production process different? Do you have to stay restrained to one product? How big can the company be? These questions are important because entering a vertical industry is more difficult than entering a horizontal one.
Understanding those questions is important because running a vertical firm requires proper maintenance of the distribution processes if the firm wants to remain in its position in the specific type of vertical industry they are in or want to change.
To review, the 3 different kinds of vertical firms are
- Corporate
- Administered
- Contractual
Running a firm in a vertical industry requires considering the product being sold, whether that fits the vertical atmosphere, and, if so, why. This is important because a vertical atmosphere is not the same as a horizontal one.
Each marketing atmosphere requires different interactions between a firm, its subsidiaries, associates, and consumers. A grocery store, for instance, will not have the same interactions as a diamond store.
The former has a much larger group of target audiences and producers. Since the diamond industry has a more specific audience, its interactions are different from the grocery store concerning the processes it needs for a successful business.
This example highlighted that certain businesses perform better in horizontal markets than vertical ones or, sometimes, better in vertical instead of horizontal ones. Furthermore, some firms do better as a specific type of vertical business than others.
Since vertical industries give firms a much more difficult time attempting to join, ensuring all the resources dedicated to joining the vertical industry are well-planned and prepared.
Resources include resources any typical business would require:
- Wages
- Materials
- Advertising and Marketing (Important for later)
- Rent
Throughout the article, it was emphasized that vertical industries have a specific type of product they provide. Therefore, resources dedicated to joining a vertical industry mean isolating the firm’s catalog and target audience.
This is a big decision because the expansion of a firm is expensive, so if resources are spent on a specific type of product and the attempt to join the firm fails because the revenues cannot meet costs, more money will have to be spent on expansion, creating a potentially major loss.
Thus, although running a vertical firm does not drastically differ from running any other type of firm, there is a certain set of concerns specific to the vertical industry. These concerns include the following:
- Does the firm’s business idea or product suit the atmosphere of a vertical industry?
- What atmosphere is effective for the firm’s success and growth?
- Is the industry the firm is aiming to focus its vertical on a sustainable one?
- If not, can their firm assist in developing the industry into a more sustainable one?
- Is the firm prepared for any potential losses that may occur to them due to the transition?
The business planning process is the first step in looking at the general issue of running a vertical firm.
Business Process in a Vertical Industry
The planning or drafting a business process is a crucial aspect of running a vertical firm. This sets out a firm’s plans for their catalogs or products, when they are planning to release them, to which audience, and their budget.
Business budget drafts tend to plan for running their firm, so they are very specific about the costs because a firm may be vertical. Drafting a budget illustrates to firms what they plan for their business to look like in 3 months, 9 months, 1 year, and even 5 years.
Firms planning on joining a vertical industry have to consider, while drafting their budgets, that entrance into a vertical industry is difficult. A new firm has to adapt to the advancements of the niche products that consumers expect.
Firms must consider that planning for costs as a new firm in a vertical industry may be more volatile than joining a horizontal market. This is because the lower amount of consumers in the vertical industry equates to a constrained demand for the industry’s products.
Furthermore, as discussed earlier, barriers to entry in a vertical industry are stricter because the pre-existing firms already have produced products that outweigh the low demands of the consumers.
Thus, firms drafting their budget plans need to prepare for changes in costs that may arise from a change in consumers’ needs, develop their products to respond to the consumers’ needs at a competitive rate, and transition from the market to a horizontal one.
Another thing that firms should incorporate in their budget plans which is crucial for vertical firms is advertising and marketing. Advertising and marketing are a strong suit for the vertical industries’ plans because their consumer markets are very niche.
Niche markets are more accessible to the market because specific characteristics and properties are highlighted in the advertisements for the market, which are, most likely, the niche needs of the consumers.
Since the markets are smaller compared to horizontal markets, advertising is important for vertical firms to encourage other fit consumers to turn into customers.
Marketing for a firm requires their business plan to outline their product idea and the distribution process. Another important aspect of a firm entering a vertical industry is planning what is best for the product.
Given the disadvantages of a vertical industry, some products better fit a vertical industry's atmosphere.
This can apply to firms looking to enter a distribution channel rather than a separate firm in a vertical industry. They can enter with their products, improving the distribution process of the final products. This firm better suits a vertical market rather than a horizontal one.
Competition
Once a firm enters a vertical industry, competition in the industry is a major concern. The competitor in a vertical industry is higher because of their influence and relationship with the clients.
There is a type of competition called vertical competition, which refers to the different actors of a market’s value chain or distribution channel competing over how much revenue they are entitled to from the product’s final sale.
This aligns with the value of strategizing marketing practices because a vertical industry’s structure depends on how the product is developed. Therefore, the marketing practices of an industry highlight the parts of the product most demanded by the niche audience.
Strategizing the industry's marketing practices to highlight parts of the product for which specific players of the vertical distribution chain are responsible will help them be stronger in the vertical atmosphere.
According to ChiefMartec, a firm with little to no alternative in the vertical chain is considered strong. If their contribution is highly specialized, only they or a few others in the vertical chain can produce it; they are a strong vertical competitor.
Thus, the opposite is true for the weaker vertical competitors: if their contributions to the vertical chain have more alternatives.
Therefore, this vertical industry behavior presents a different set of requirements for marketers to meet to market for the vertical industry suitably.
Luciano Venturini claims in his research paper titled: “Vertical Competition Between Manufacturers and Retailers and Upstream Incentives to Innovate and Differentiate” that vertical competition has changed the competitive environment in many industries.
It explores more in-depth the nature of the competition between players in a distribution path.
Vertical Marketing vs. Vertical Integration
These two concepts have similar names and definitions, so it is understandable to confuse them. As this article has discussed, vertical marketing is a marketing system consisting of firms interacting to distribute a niche product.
However, Vertical integration is the process of firms achieving control over the different levels of their supply chain or different levels of supply chain.
The major difference between the two is that a vertical industry is an atmosphere where a hierarchical supply chain occurs, and vertical integration is the strategy firms adopt.
This strategy allows companies and firms to gain more control over the production process and the details of their products. In addition, this gives the firms more control over their relationship with their consumers because they have more exposure to how the product handles their needs.
In terms of vertical competition, this makes the firms that vertically integrate stronger vertical competitors because they receive more revenue from the market.
Some examples to highlight this difference are:
1. Amazon
It can be classified as a horizontal market because it meets various consumer needs, varying from clothing to electronics, but it has influential control over the supply chain.
- It markets its products on its website.
- It has a distribution channel for many of its products.
- It distributes several of its products alongside other businesses’ products.
2. Ikea
It can be classified as a vertical industry because it focuses on selling furniture to consumers, and vertically integrated because
- It is responsible for the manufacturing process.
- It is in control of the raw production of its wood which is used for its furniture.
- It is responsible for the final distribution of its products through its stores.
3. Netflix
It is classified as a vertical firm because its business products are isolated to streaming services and vertically integrated because
- It produces several of its shows and movies.
- It distributes them through its website.
To summarize, vertical industries or businesses have a hierarchical organization of firms that cooperate to produce very niche products to ensure the products meet the niche needs of the consumers.
Vertical integration is when firms gain control over other aspects of the distribution process, so they are responsible for other parts. However, the examples provided a picture that a market does not have to be vertical to be vertically integrated.
Transition from Vertical Businesses to Business Ecosystems
In today’s economy, there is a rapid rise in technology, expanded on by Qureshi on Brookings, and also a growth in consumer demands which is causing the current massive rise in the construction of global business ecosystems that some vertical industries are participating in.
Global business ecosystems are a network or group of businesses whose relationships are organized to enable them to collaboratively create and share value for a shared set of consumers.
Although similar to vertical markets because of the shared set of consumers, it is imperative to distinguish that vertical industries focus only on a niche product. In contrast, a business ecosystem is not restricted to one need.
A shared set of customers does not mean that the consumers are looking for the same, or even a similar, product. Instead, it means the customers are looking for Firm A’s and Firm B’s goods.
A business ecosystem is when businesses interact with each other for their value creation. This interaction happens across industries through the horizontal organization of a business ecosystem. This practice has become easier because of economic digitization.
This concerns vertical industries because recent studies show that business ecosystems will replace them by 2025. Technologies have simplified business expansion and consumer expectations from firms as well.
As discussed, vertical industries are organized in a hierarchical or role-assigned method where firms each have a specific responsibility in properly constructing the industry’s goods. Therefore, their transition into a business ecosystem would have to be focused on their position.
This means that firms must decide what position they want in a business ecosystem since they will no longer be connected to their vertical industry. This would also require a lot of expansion of the target audience.
Along with expanding their target audience, they must also ensure their firm’s sustainability. As a vertical firm would be accustomed to the vertical business environment, a critical transition into the business ecosystem environment concerns their position.
This concern needs to be addressed for the sake of the firms’ sustainability, as a transition from a vertical environment to a heavily interconnected one is a drastic change in business models.
Addressing Large Scale Business System Transition Concerns
This concern can be addressed by testing and assessing the firm's risks in different positions, whether the leader, orchestrator, disruptor, or niche player in an ecosystem. This is called “minimum viable transformation.”
It is a process that allows businesses to learn how they can use their business model elements and the elements’ interactions to construct a business strategy. This allows for a more informed approach to the transition.
One tool that is used for this strategy is a “Minimum Viable Product,” which this video explains:
In this transition, it is also imperative that firms review what kind of ecosystem they want to participate in:
- Value-chain
- Platform-led
- Distributed
This video explains each of these ecosystems:
Because of the volatility and rapidness in today’s economy’s growth, businesses, especially those transitioning from a vertical business to a business ecosystem, should focus on incorporating it as a part of their everyday business processes.
This is because this practice exposes them to the various possible risks, better preparing them for the rapidly growing environment of a business ecosystem. But on the other hand, this would naturally increase the possibility of risks due to the speed and nature of growth.
For products that are delivered digitally – transitioning to digital product delivery for vertical businesses is common in today’s economy because of the rapid technological growth – firms need to ensure they are intricately in touch with the consumers is vital.
This is because, as discussed, vertical industries act in a position-based network. Their transition, also discussed, into a business ecosystem impels firms to change the nature of their participation in a market from a position-based one to a more expanded one.
Due to the rapid growth in today’s economy, along with the growth in consumer demands and expectations, there is a rapid growth in the competition between firms. Therefore, vertical competition is similar to the competition in a business ecosystem.
Consumers are more exposed to products when a product is delivered digitally, so the vertical firms’ contribution to a product is more easily viewed and accessed. Thus, vertical firms transitioning to a business ecosystem must be more aware of their consumers and products.
This transition into a digital market environment would also change the business models because of the incorporation of risk and the participation of other sectors and firms on a digital platform.
This is interesting for vertical firms because they transition from their business model focusing on one specific sector, product, and distribution path to one digitally accessed and expanded.
Although there are too many transitions for vertical businesses, the benefit of this transition is that more resources are needed because the ecosystem-oriented job market demands a diversified and flexible skill set in resources.
This flexibility in skill sets and capital, also related to technological and economic growth, creates more suitable and compatible resources for firms.
Although vertical firms are transitioning their business models and processes to an ecosystem-based one, their goals are not guaranteed to change: the goal of responding to their consumers’ niche demands.
Thus, the increased availability of the firms’ resources would heighten firms’ capacities to explore developments in their products, which are more specifically designed for vertical firms’ products.
In this rapid change in business model practice, vertical industries will find that ecosystem companies expand their market power by cooperating with other firms and industries. This differs from their practice of protecting their business models using product differentiation.
Conclusion
When we think of markets, we generally think of horizontal market environments where businesses distribute various goods to their consumers. However, Vertical industries focus on a specific niche product and on developing that product.
This type of industry structure drives the business models to be organized in a hierarchical manner where firms are different players in a distribution path so that each player can acquire the best performance in their contributions.
This business modeling system requires different strategies to ensure stability in their valuation production results. Throughout this article, it was shown that vertical marketing systems are heavily engaged with transitioning mechanisms.
This requires proper valuation management to ensure that the transition process is not disruptive to the business processes. WallStreet Oasis offers a Valuation Modelling Course that can clarify the valuation organization responsibilities of the firms.
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