Predictive modeling is a term with many applications in statistics but in database marketing it is a technique used to identify customers or prospects who, given their demographic characteristics or past purchase behaviour, are highly likely to purchase a given product. In this context, ‘predictive’ does not simply mean predicting the future; it means identifying the quantitative factors that can be used to predict buyer behaviour. Predictive modelling is a powerful data analysis technique that can be used to target email and direct mail activity, and to some degree behavioural targeting in online media.
Here’s an example: Let say you sell 10 products. It may be the case that all purchasers of product 8 are: 1) in a certain geodemographic group, 2) married with more than one child and 3) own more than one car. All these factors can be analysed and combined to predict the likelihood of any consumer in your database buying product 8. Usually this combined measure is referred to as a ’score’ i.e. a figure which represents the presence or combination of certain variables in the consumer record. Once you have developed your scoring model you can rank all customers by their score. When you’ve stripped out those who have already bought product 8, you are left with a set of high potential prospects.
Predictive modelling can also be undertaken based on transactional information about past purchases. Going back to the 10 products, it may be the case that 80% of people who buy product 7 have previously bought products 2, 5 and 6 and in that order. So we can say that people who have bought products 2, 5 and 6 (in that order) but who have not yet purchased product 7, are much more likely to buy product 7 than everyone in your database. Again a score is attached to these behaviours and that score can be used to rank your prospects in terms of untapped sales potential.
Of course as well as predicting purchase behaviour, these techniques can be used to predict risk. In credit assessment for example, it may be the case that those customers who have certain demographic characteristics combined with a certain type of past purchase behaviour are highly likely to default on a credit agreement. This is sometimes referred to as credit scoring. If you are rejected for credit at a bank or in a shop it will be because your data has been analysed and your credit risk score is deemed too high or low to meet the criteria of the lender.
These predictions can help you target your communications very efficiently and also help you control commercial risk in customer behaviour. What’s interesting about these techniques is that they help both the marketing department and the finance department. Marketing delivers customers who are both highly likely to convert to sales or high lifetime value whilst at the same time, producing customers who are less likely to cause problems for the finance department. Overall, this means that the resources of the business are being better utilised.