How to Effectively Determine the Market Size for your Startup

Understand with practical examples!

Author

Jay Desai
22 Mar • Estimated Reading Time: 6 minutes

Launching a startup is an exhilarating journey filled with challenges and opportunities. One crucial step in this journey is understanding your market size. It helps in strategic planning, securing funding, and guiding product development. But how do you determine or calculate the market size?

Let's break it down into simple terms, peppered with examples, visuals, and data to make this complex concept easily digestible.

What is Market Size?

Market size is the total potential sales volume of your product or service, represented in terms of revenue or the number of customers. It gives you an idea of the potential growth opportunities for your business.

Types of Market Size

Let's delve into the three primary types of market size – Total Available Market (TAM), Serviceable Available Market (SAM), and Serviceable Obtainable Market (SOM) – with examples tailored to the Indian market.

1. Total Available Market (TAM)

Definition: TAM is the total market demand for a product or service. It represents the broadest perspective of the market to which a business can aim to provide its products or services.

Example: For a D2C fashion brand in India, the TAM would be the entire Indian online apparel market. According to a report, the online fashion and lifestyle industry in India is now worth $11 billion and is expected to grow at a 25% compound annual growth rate (CAGR) to $35 billion by 2028. This figure represents the total potential market for all online fashion retailers in India, including traditional and D2C brands.

2. Serviceable Available Market (SAM)

Definition: SAM is the segment of TAM targeted by your products or services which is within your logistical and geographical reach. It reflects the market that a business can actually serve based on its business model, product range, and distribution channels.

Example: If our D2C fashion brand specializes in sustainable and eco-friendly apparel, its SAM would be the portion of the Indian online fashion market that is interested in sustainability. Considering the growing awareness and preference for sustainable products among Indian consumers, this segment is expanding. If sustainable products represent about 20% of the online fashion market, the SAM for our D2C brand would be 20% of the $35 billion TAM, equating to $7 billion.

3. Serviceable Obtainable Market (SOM)

Definition: SOM is the portion of SAM that you can realistically capture in the foreseeable future, considering competition, market reach, and other limiting factors. It represents a more focused target market within the SAM that a business plans to capture.

Example: Assuming the D2C brand evaluates its competitive edge, marketing strategies, and customer engagement plans and concludes it can secure 5% of the sustainable fashion segment within the next few years, its SOM would be 5% of the $7 billion SAM, which amounts to $350 million. This calculation considers the competitive landscape, which includes other D2C sustainable fashion brands, and traditional retailers expanding into the sustainable segment.

You can find this kind of data in many places. Government sources like the census and labor department have lots of data, and many industries have formal associations that collate and keep track of this data. You can also do your own research or buy reports that someone else has put together.

How to calculate Market Size

  1. Top-Down Approach

This approach begins with the Total Available Market (TAM) and refines it down to the Serviceable Available Market (SAM) and Serviceable Obtainable Market (SOM), utilizing industry reports, market research, and statistical analysis.

Example: Suppose the worldwide market for organic food products is valued at $100 billion (TAM), and your startup is targeting the Indian market, which accounts for 10% of this market ($10 billion - SAM). If you estimate that you can secure 3% of this segment, your SOM would be $300 million.

  1. Bottom-Up Approach

This strategy calculates market size by looking at specific customer groups and sales channels. It’s more precise but needs in-depth data.

Example: If you're selling a software subscription for $100/month and identify 10,000 potential customers in your target market, your annual SOM is $12 million.

  1. Value Theory Approach

This method estimates market size based on the value your product or service provides compared to the current solutions.

Example: If your product saves your average customer $1,000/year over existing solutions and you have 10,000 potential customers, your SOM is $10 million/year.

Here are some valuable tips that can guide startups in their journey:

1. Aim for Billion-Dollar Markets

  • Why?: While not a strict rule, targeting markets with a potential size in the billions often indicates substantial growth opportunities. This is particularly appealing to venture capitalists and investors looking for scalable ventures.

2. Segment Your Market

  • Approach: Break down your market into segments to identify underserved areas or niches with higher growth potential. This can lead to more targeted and effective market strategies.

3. Use Visuals to Convey Complex Information

  • Tip: Charts, graphs, and infographics can make complex data more digestible for your audience. This is especially useful in presentations to investors or in your marketing materials.

4. Be Prepared to Explain Your Assumptions

  • Expectation: Investors may question the assumptions behind your market size calculations. Be ready to defend your methodology and assumptions with data and logical reasoning.

Conclusion

Understanding your market size is key when starting a business. Every entrepreneur or founder should know how to figure it out because it shows how much money they could make.

Be honest. Be realistic. Investors love seeing big potential, but they don’t like it when numbers are exaggerated or inflated. Show that your business can grow big and give good returns, but also make sure your data and how you got your numbers are solid and believable.