In the world of business, understanding the market size is crucial before diving into a new venture. Market sizing involves determining the number of potential customers for your product or service and estimating the projected revenue. By calculating market size, you can assess the probability of success and make informed decisions.
In this guide, we will walk you through the process of calculating market size in four easy steps.
Spoiler alert: estimating market size is a piece of cake with just four easy steps!
Step 1: Identify the Total Addressable Market (TAM).
This is the total revenue that a business could generate if it were able to capture every possible interested client.
To calculate TAM, multiply the number of customers in the market by the annual customer value. For example, if there are 5 million customers who spend $1,000 annually on the products or services provided by a company, the TAM would be $5 billion.
Step 2: Define the Serviceable Addressable Market (SAM).
This represents the revenue that a company can realistically generate considering its limitations, such as geographical location, ideal customer persona, and available resources.
To calculate SAM, multiply the target segment of TAM by the annual customer value. For instance, if only 2 million out of the total 5 million potential customers live on the East Coast, the SAM for the company would be $1 billion.
Step 3: Calculate the Serviceable Obtainable Market (SOM).
This takes into account the current scale of the company, including marketing actions, sales strategies, conversion rates, and product demand.
To calculate SOM, divide last year’s SAM by last year’s revenue and then multiply it by this year’s SAM. For example, if last year’s SAM was $1 billion and the company’s revenue was $300 million, the market share was 30%. If this year’s SOM is projected to be $1.5 billion, the expected revenue would be 30% of that, which is $450 million.
Step 4: Determine the Penetration Rate.
Penetration rate indicates how much of the target market the company has captured. This percentage reflects the company’s conversion rate and can be used to set realistic goals for market share.
By following these four steps, businesses can estimate their market size and use this information to refine their strategies and pitch to investors. It is important to regularly recheck these market size calculations to adapt to market changes and stay agile in the business landscape.
Do you want to receive a concise cheat sheet that will assist you in calculating market size? In our new guide, we clarify the process and explain how to determine market size, providing you with a formula to accomplish this. Additionally, we have included an example of market size calculation to further simplify the task for you.