4. Analyzing Your Trade Area

Defining a downtown's geographic market, or trade area, is an important first step in any market analysis.  It is crucial as it defines the boundaries that will serve as the basis for further study. It also helps individual businesses identify opportunities to expand their own trade area. 

The Importance of Trade Area Definition

A trade area is simply the geographic area that generates the majority of the customers for a community, business district or downtown.  Knowing the boundaries of the trade area defines the number of potential customers that may patronage your downtown.  Furthermore, knowing the trade area allows for demographic and lifestyle information to be gathered from a variety of public and private sources.  This information provides insight into the people in the trade area and eventually will allow consumer demand for products and services to be calculated.  Therefore, defining the trade area is an important step in market analysis.

A trade area often extends beyond the municipal boundaries of a community.  Defining this extent is important, but it is also necessary to recognize how a trade area can vary.  In other words, a downtown may have a number of different trade areas depending on a variety of factors.  Often, the variability can be attributed to either different types of products and businesses, or different market segments of customers.  

How Trade Areas Differ

 Different business types will have different trade areas. That is, people will travel from greater distances to purchase certain goods and services than others.  While each individual store may have its own unique trade area, these areas can often be generalized into two different types: convenience shopping trade areas and comparison shopping trade areas. 

Local convenience trade areas are based on the ease of access to these types of products. That is, people will obtain these products (gasoline, groceries, etc.) based on travel distances or travel time. 

Conversely, comparison shopping trade areas are based on price, selection, quality and style.  People are more likely to compare these types of goods (appliances, furniture, etc.) as well as travel longer distances for their purchase.  Subsequently, the trade area will shrink or grow depending on the products sold. 

In addition to different types of shopping goods, there are also different types, or market segments, of customers frequenting a downtown.  Three common market segments are local residents, day-time employees and tourists.  Local residents live within the trade area.  As they reside year-round, they provide the majority of spending potential for most downtowns.  Daytime employees may live in the trade area, but may also commute from other outside areas.  However, while these employees are in the downtown, they provide the potential to stay and make purchases.  Furthermore, depending on the community, tourists can provide a large amount of spending potential.  While they are not permanent customers, tourists make purchases while they visit the area.

Simple Methods for Trade Area Definition

Even though trade areas vary by store type and market segment, one or possibly two general trade areas are needed to proceed with the market analysis.  To define these trade areas, there are several techniques available.  These techniques have different uses as well as their own advantages and disadvantages.  Each of these methods is described in detail below.

Reilly's Law of Retail Gravitation

Reilly's Law of Retail Gravitation is a theoretical means of trade area definition.  It is based on the premise that that people are attracted to larger places to do their shopping, but the time and distance they must travel influence their willingness to shop in a given city.  In other words, people are more likely to travel shorter distances when possible.  Additionally, customers are more likely to shop in larger communities, as they provide a greater opportunity for goods and services.

Reilly's Law provides a mathematical formula that can be used to calculate hard numbers relating the distance people will travel.  However, a simple map and common sense can be combined to use the concepts behind Reilly's Law and generate general trade area boundaries.

Exhibit 5.1 - Sample Map and Trade Area Definition

Consider the map of the Waupaca, Wisconsin area in Figure 1.  The map shows the location of Waupaca (in the center), along with the surrounding communities.  The populations of each of these towns and cities are provided beside the community name.   By knowing each of the populations and the distribution of communities, a simple trade area (shown by the red line) can be drawn using the concepts of Reilly's Law. 

For instance, residents of Amherst or Nelsonville live closer to Stevens Point than Waupaca.  Furthermore, the Stevens Point area is larger in population.  Therefore people living in these communities will more likely travel to Stevens Point than Waupaca.  In contrast, residents of Ogdensburg are closer to Waupaca and will most likely shop accordingly.  Making observations such as these allow the entire trade area to be estimated.

While theoretical, Reilly's Law provides a general sense of the community's trade area as a whole. The method requires little effort and resources.  However, this method does not capture possible variations in the trade area.  Additionally, Reilly's Law is less appropriate if you are defining both convenience and destination shopping trade areas. In overcoming a number of these deficiencies, the next section explains a trade area definition method based on actual customer data.

Zip Code Tabulation

Another simple method for trade area definition is to tabulate the number of customers by their zip codes.  As later explained, zip code data can be collected using a variety of methods and sources.  However, regardless of how the data is obtained, there are a number of advantages to the zip code tabulation method:

• Collecting information from customers allows the trade area to be based on real business data, instead of created from a theoretical basis.
• Comparing the trade area maps of different businesses can identify opportunities to increase market size and penetration.  For instance, the trade areas for businesses that primarily sell convenience items can be compared with each other to identify differences.  These differences could indicate potential market expansion opportunities for some of the businesses.  The same can be done for comparison shopping businesses.
• Trade areas for different market segments can be compared.  Businesses serving residents can be compared to the origins of employees at a major employer.  Furthermore, zip codes are ideal for tracking the origins of non-local tourists.

While tabulating customer zip codes has the ability to capture trade area variability, an appropriate sample of participating businesses must be incorporated.  For instance, stores that serve both convenience and comparison shopping segments are necessary to understand the local market.   Businesses that serve tourists are needed to examine the tourist market segment.  Employee lists from major employers are necessary to explore the daytime population market segment.  Some sample business types for each of these categories are listed in Exhibit 5.2.

Exhibit 5.2 - Sample Business Types for Each Market Segment

As suggested, customer zip codes can be collected a number of ways.  Some businesses, such as video stores, motels and grocery stores, already collect this information for their daily operation.  Often, zip code collection can be built into point-of-sale machines.  A customer's zip code can be input to a cash register and then downloaded into a ready-to-use spreadsheet format.  If these methods are unavailable, a trade area definition sheet, such as the one in Exhibit 5.3, can be used to simplify recording zip codes by hand.  As customers visit a store, their zip code can be tallied on the sheet.  While it is more labor intensive, the trade area definition sheet has an advantage, as additional information can be recorded along with the zip code (such as day, time of day, gender, age and amount of sale).

Exhibit 5.3 - Sample Trade Area Definition Sheet for Customer Data Collection

Once zip codes have been collected, they can be entered into a spreadsheet program such as Microsoft Excel^TM.  The spreadsheet allows customers to be summarized by the number and percentage of people originating in each zip code.  The results can then be reported in a table such as the one shown in Exhibit 5.4.  If you are creating both convenience and comparison shopping trade areas, you will need to create two separate tables.

Once the zip code percentages are known, they can be categorized into a trade area. Most often, the trade area is defined as those zip codes that comprise about 75% of the customers.

Regardless of the method used, it is necessary to associate the trade area with geographical boundaries.  The association can be accomplished by using either zip codes or census units, such as block groups.  Zip codes can be located by either relating zip codes to known cities in the trade area, or by examining their locations on a map.  Census geographies can be depicted on a map in relation to trade area city locations.  Accordingly, there are a variety of Internet sources useful in examining the zip code geography of a trade area.  A number of these web sites are listed below.

http://zip.langenberg.com/ - Zip Code Information, Maps, City/Zip Code Association

http://www.usps.com - United States Postal Service City and Zip Code Associations

http://tiger.census.gov - Census Bureau Mapping Service - Census Units and Zip Codes

GIS and Trade Area Definition

Trade area definition is inherently geographic.  That is, a trade area defines where customers live and how far they are likely to travel to a downtown or business.  Accordingly, using GIS for trade area analysis has a number of distinct advantages over traditional techniques.  While most downtown professionals may not be able to reproduce these methods, some consultants, planners and marketing data providers can offer technical or analytical assistance.  The following section explains a number of the advantages and shows several different GIS techniques.  A simple GIS trade area mapping tool is also discussed (see Appendix B).

Defining Trade Areas Based on Travel Distance

Trade areas based on travel distance assume that customers will not travel longer than a pre-determined distance to visit a store.  Using travel distance to define trade areas is more useful for some product and store categories than others.  More specifically, convenience-based stores are particularly affected by travel distance, as consumers are not as willing to travel longer distances for these types of goods. 

The traditional method for examining travel distance is using GIS to construct simple rings around a business district based on distances (e.g. 3, 5, 10-mile radii).  While the use of rings is an easy method to use, rings fail to recognize travel barriers such as natural features (mountains, rivers, etc.) and cultural elements (road networks, etc.). Subsequently, rings do not create an accurate depiction of a trade area.

In overcoming the deficiencies of rings, GIS is used to examine travel or drive times around a business district.  A road network with associated travel time allows the GIS to create polygons based on total travel time from a store.  Exhibit 5.5 shows five, ten and fifteen-minute drive times constructed around downtown Missoula, Montana.  Notice how the terrain and the subsequent road network influence drive times.  If five, ten and fifteen mile rings were used, the trade area would be greatly exaggerated in some directions.

Exhibit 5.5 - Trade Area Based on Drive Times

Defining Trade Areas Based on Customer Street Addresses

While trade areas based on drive times are useful for certain convenience-based stores, customer origin methods are needed for other types of businesses.  As previously mentioned in this section, trade areas based on actual customer data have a number of distinct advantages.  In addition to these other advantages, combining actual customer addresses with a GIS allows the user to uncover relationships and perform calculations unavailable with tabular data.  A GIS can visually display where customers are coming from, show how customer concentrations are related over an area and perform advanced distanced-based calculations. 

Ideally, customer origins will be defined by a street address.   While zip codes can be used, knowing the street address will allow for a more accurate trade area definition.  Using the street address and a process known as geocoding, a GIS can map the origin of each customer.  After mapping each address, another GIS technique can be used to define rings based on the percentage of overall customers.  These rings, or customer penetration polygons, can be drawn according to different customer percentages.   Furthermore, these customer penetration polygons help account for the store trade area in the context of demographics, travel barriers and other market characteristics.

As an example, a GIS could draw a customer penetration polygon base on a pre-determined customer percentage (e.g. 75%).  This polygon could then be used as the trade area boundary for a business.  Using actual data, Exhibit 5.6 shows a trade area definition example based on customer addresses.  The map shows customer origins for a store in downtown Rapid City, South Dakota with sample customer penetration polygons of 70% and 90%.

Exhibit 5.6 - Trade Area Based on Customer Street Addresses

Defining Trade Areas Based on Customer Zip Codes

While it is advantageous to use customer street addresses, zip codes are a viable alternative.  Due to their large area, they are not as accurate as street address.  However, zip codes are easier to collect and work well in rural areas where geocoding accuracy often diminishes.  Customer zip codes can be collected and summarized by the percentage of customers originating from each unique zip code.  These percentages can then be mapped to show the relative origins of customers. 

Doing so allows the viewer to examine relationships among customers (areas of high and low percentage, directional nature of customers, contiguous vs. fractured origin patterns, etc.) Example 5.7 shows an example of a trade area definition performed in Tomah, Wisconsin.  Notice how the customer origins are biased toward the East due to the proximity to a major highway and the presence of the similar-sized community, Sparta, to the West.  These are the types of relationships that would not be readily apparent in a table summarizing customer zip codes.

See Appendix B for information on a simple to use desktop GIS trade area mapping tool that may be available for your state and community.

Exhibit 5.7 - Trade Area Based on Customer Zip Codes

Other more advanced distance-based GIS trade area analyses include the Huff model, Thiessen polygons, saturation thresholds and distance-weighted regression.  For more information on these analyses, or other GIS related trade area issues, see the additional resources at the end of this guidebook.

Appendix A - Sample Press Release

For Immediate Release
(Enter Date)

Contact: (Enter name and phone number of primary contact)
(Enter name and phone number of secondary contact)

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MARKET STUDY EXAMINES DOWNTOWN TRADE AREA

(Enter city) --(Enter main street organization)   A trade area definition study of more than a dozen (Enter City) retailers and service businesses will be conducted this summer by the staff of University Extension and (Enter main street organization) .  Funded jointly by the city, the Chamber of Commerce and participating businesses, the information will be used to assist downtown businesses in their own marketing efforts.  The data is being collected as part of a broader market analysis that will assist business expansion and recruitment.  The three-month study will begin in June.

The study will let participating businesses know where their customers come from.  Businesses will also be able to compare their business with other businesses to identify opportunities for market expansion and increased penetration.

The study will involve two groups of businesses, those who compete based on convenience and those who compete based on comparison shopping.   Businesses will include those located downtown and those on the edge of town on Highway ______.   Businesses will be asked to share their existing customer database with the market analysis study team.  Data will be kept strictly confidential.

After the customer data is gathered, Extension will analyze the information and plot it on maps using geographic information systems technology.  Computer generated maps will be created for each business, for the combined convenience businesses and for the combined comparison shopping businesses.  Maps will also be created for the combined downtown businesses and for the combined edge-of-town businesses.

The trade area studies will provide the (Enter main street organization)'s economic restructuring committee with additional information to help identify business expansion and recruitment opportunities.  After defining the trade area, the next step will be to gather data about the consumers and competitors within that area.  It will be followed by other parts of the market analysis including a consumer survey and an analytical study of consumer spending potential.  According to Chamber president _____, the study will not only help existing businesses with their marketing and promotion but will provide those interested in opening a business in (Enter City) with valuable information not previously available.

Interested parties may volunteer for the downtown market analysis team by calling (Enter name of committee chair) (Enter phone number) .  For more information on the downtown market analysis or on (Enter Main Street Organization) , contact (Enter Main Street Manager Name) , at (Enter phone number) .

Appendix B - Trade Area Mapping Software for Downtowns

To bring trade area mapping to communities, an easy-to-use desktop GIS application has been developed by the University of Wisconsin-Extension.  The GIS Trade Area Mapper (Exhibit 5.8) can be installed on any Windows-based computer.  Although other desktop GIS software packages exist, the learning curve for these systems can be steep.  Furthermore, these packages can be expensive and contain many functions the average user will never need. In overcoming these problems, the GIS Trade Area Mapper has been developed for users with little or no knowledge of GIS.  Similar to the map in Exhibit 5.7 above, the software can map trade areas based on your own zip code customer data.  As a result, you can bring the power of GIS analysis into your downtown's trade area analysis.  For more information on this software, please e-mail Matt Kures.

Exhibit 5.8 - GIS Trade Area Mapper desktop mapping software