The “market size” is made up of the total number of potential buyers of a product or service within a given market, and the total revenue that these sales may generate.
It’s important to calculate and understand market size for several reasons.
First, entrepreneurs and organizations can use market sizing to estimate how much profit they could potentially earn from a new business, product or service. This helps decision-makers to decide whether they should invest in it.
If you choose to move forward, this analysis will also help you to develop a marketing strategy that addresses the unique needs and potential of your core market. Market sizing can also help you to estimate the number of people that you may need to hire before you launch a new product or service, rather than “feeling your way” as you test your new market. If you know this from the start, you can optimize your approach to recruitment, so that you have the right people in place when you need them.
What is market sizing?
Market sizing is the process of identifying the potential number of clients or customers, as well as the total revenue or sales for a product or service within a given market.
While it’s an important exercise for all businesses to carry out regularly, it is particularly useful for startups and entrepreneurs in the early stages of their business.
Since they often lack primary data, market sizing can give them a rough snapshot of the market share they can potentially capture.
It’s a process of gathering market data from both primary and secondary sources, then piecing that data together to give an estimate of market size and value.
For reference, a primary source will be whatever has the original or first-hand information you’re looking for. A secondary source will have information that they collected from somebody or something else (either the primary source or another secondary source).
To carry out market sizing research, you may use a number of different sources, including government data, competitors’ public records, and your own primary research.
Market sizing can provide data on:
- Total potential market volume and value
- Target customer profiles
- The main competitors
- Investment decisions
- Current trends in a particular market
- The products or services available in that market
Market sizing requires you to make various assumptions regarding your sector, industry, and product or service.
This means that it is not an exact science, and assumptions must be continually refined and reviewed as you gather more data about your market.
Market Sizing Methods
There are two methods that are commonly used for market sizing:
1. Top Down Market Sizing – although the top-down method is simple, it’s often unreliable and overly optimistic. It looks at the “relevant” market size for your product or service, and then calculates how much your organization might earn from it.
For example, imagine that your organization markets learning resources to schools. Your research shows that there are 6,000 relevant schools in your country. You know that the average sale per school is around $50,000, which means that your market size is $300 million.
Of course, this is an incredibly optimistic and unrealistic figure. Not every school needs your products, and they’re unlikely to purchase $50,000 worth of goods each, so it could be a real challenge to capture even a small percentage of this market. A top-down approach gives you inflated data, and you often can’t rely on it to make good decisions.
2. Bottom-Up – This approach is often more time-consuming than top-down market sizing, because you do all of your own market research and you don’t rely solely on generalized forecasts and trends. However, you’ll get a more realistic and accurate assessment of your market’s potential.
How to Calculate Market Size
1. Define Your Target Market- To predict the size of your market, you need to know the type of person that your product or service is best suited to. Your offering has to fulfilll a need – or solve a problem – uniquely well for a group of people, and you need to define who these people are. Also, think about how you can access these customers – there’s no point considering them if you can’t reach them cost-effectively.You can use market segmentation to divide your market into specific groups. This will give you a greater understanding of each group that your product or service will appeal to, and will enable you to tailor your offering to the specific needs of each group.
Once you’ve identified the different possible segments in your market, choose the ones that you want to focus on to build your business.Now you need to determine how large the market is for each segment you’ve identified. To do this, contact business organizations, data providers, civic organizations, city and state development offices, or regulatory agencies that handle business and commerce; and do what you can to source a list of potential clients in your chosen segments.
Example- Your organization wants to develop point-of-sale software for mid-sized grocery stores. But, before you invest the time and money to develop the software, you need to make sure that the market is large enough, and that people are interested enough in your product to buy it.After researching online and contacting your region’s business and commerce department, you determine that there are roughly 10,000 mid-sized grocery stores in your country, and you source a list of these stores.
2. Use Market Research to Assess Interest in Your Product- Obviously, not everyone in your target market will want to buy your product. So your next step is to estimate realistic interest.One way to do this is to focus on competitors who target the same group of buyers. What is their market share? And what are their annual sales for similar products or services?If your competitors are exclusively focused on this market, this can give you a good estimate of potential market size. However, it can be almost impossible to source this information if they focus on other markets as well, or if they are part of larger business groups.
Another way to assess interest is through individual interviews, focus groups, and surveys. Question a sufficiently large sample of people or businesses that fall within your target market, and explain what you have to offer. The larger your sample, the better your analysis will be.
Ask them questions like:
- Does this product interest you?
- What would they feel comfortable paying for it?
- How likely would you be to purchase this product or a similar product within the next two years?
It’s important to draw conservative conclusions based on the feedback you get from these focus groups or surveys. Often, people will say one thing and do another. People often “think twice” before actually making a purchase, and this is especially true as budgets, interests, and market conditions change.
Example- Over the course of three months, you talk to 100 randomly selected mid-sized grocery stores, which represent one percent of your target market. You explain the idea behind the new software, and the benefits it will provide to the store owners.After the presentations are finished, 35 stores express a strong interest in the software, and a willingness to buy once it’s available. To be conservative, you reduce this number to 18. So, 18 percent of stores in your market will be interested in this product. Out of 10,000 possible grocery stores, this means that 1,800 could buy.
Step 3: Calculate Potential Sales- You now have a more realistic figure that represents how popular your product or service could be to your target market. Use this data to decide whether your product is worth the investment and risk.To do this, develop a financial model of your business using the data you have gathered (see our articles on Cash Flow Forecasting and use of NPVs and IRRs for more on this.)Then, identify key assumptions within your model, and test these using a technique such as Scenario Analysis.
Why does market sizing matter?
Market research is essential for any business. You must understand the people you’re serving in order to provide the products and services that address their needs.
Calculating market size tells you whether a market is big enough to be worth investing in and indicates whether your product or service will be viable.
Market size data is useful when seeking financing, as it gives investors an idea of the market potential for profit and scaling.
Market sizing research indicates which products or services you should offer more of and which you should offer less of. It also tells you whether the market is growing and moving in the right direction for your organization’s goals.
It’s especially important for startups and early-stage entrepreneurs, as it can help you make strategic decisions, such as:
- Organizational design
- Product development
- Marketing strategy
- Distribution channels
What are TAM, SAM, and SOM?
TAM, SAM, and SOM are terms that describe different sections of your potential target market. They help you identify the section of the market most likely to buy your product or service.
TAM- TAM stands for total addressable market. It’s the total market available for your company and all your competitors for your product or service.It’s unrealistic for most businesses to target TAM, as that would mean being the sole provider in the world of your product or service and having zero competition.And while that sounds like the dream, it’s rarely the reality.
However, TAM is useful to know when approaching investors. It provides them with the big picture, which helps them get an idea of a startup’s potential revenue and scalability.
SAM- SAM is the serviceable available market. This is the portion of the market that is most suited to your product or service in terms of price point, geographical location, and quality.Your SAM represents the potential customers you can gain with your product or service, sales and marketing, and distribution channels.
SOM- The SOM, or serviceable obtainable market, is the subsection of the SAM you can realistically capture.
The SOM can represent a shorter-term goal for startups since it’s usually unrealistic that they will capture the whole SAM.The SOM will be determined by your level of market awareness, your available resources, and the presence of competition.
FAQs
Why is market sizing important?
Lorem ipsum dolor sit amet, consectetur adipiscing elit. Ut elit tellus, luctus nec ullamcorper mattis, pulvinar dapibus leoMarket sizing helps businesses understand the potential of a market, make informed decisions, allocate resources efficiently, and identify growth opportunities. It is a fundamental step in market research.
What are the key factors to consider when sizing a market?
Factors include the total addressable market (TAM), serviceable addressable market (SAM), and target market. Other considerations include demographics, market trends, customer needs, and competitive landscape.
What are the common methods for market sizing?
Methods include top-down (using existing industry reports and data), bottom-up (estimating market size based on specific product/service parameters), and a combination of both approaches. Surveys, interviews, and data analysis are also common techniques.
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