When most companies predict their revenue goals, they first calculate their total target market, which is the total market demand for products or services in their industry. In short, this is the maximum revenue a company can generate if it occupies the entire market.
However, unless you are a monopoly, you may not be able to occupy the entire addressable market for your products or services. Even if you have only one competitor, it is still extremely difficult to convince the entire market to buy only your products or services.
This is why it is important to calculate the maximum amount of revenue that can be generated by selling your product or service to customers who will actually benefit from buying your solution.
This potential revenue is called your market size or addressable market that can be served, and you can use it to accurately measure your business growth potential.
Your market size or serviceable addressable market (SAM) is the maximum revenue you can generate by selling products or services to potential customers who will actually benefit from buying your solution. This indicator can help you accurately measure the growth potential of your business.
How to calculate the market size
- Start with the total addressable market (TAM), and then find your target market from that total, depending on geographic location and other logistics factors.
- Take your target market as an example to determine the penetration potential of the target market.
- Multiply the target market by the penetration rate to find your market size.
Example of market size
Let us use an example to explore how to determine the market size.
A start-up wine company
Suppose you want to start your wine company.Here is how you calculate the market size: First, you want to determine how many liquor stores there are in the United States-this will help you calculate the total market you are in Can In theory, sell your products.
After your research, you have determined that there are 50,000 liquor stores in the United States. In this general list, you only want to sell to New England—including Massachusetts, Maine, and Rhode Island.
You determine that your target market includes 1,000 liquor stores in the New England area. From here, you conduct research and talk to wine distributors to determine that the success rate of wine distribution is about 40%.
Using this as an example, we will use the following formula to calculate the market size:
1,000 liquor stores x 40% = 400 liquor stores
Then, if you assume that each liquor store will generate $20,000, you can use the following formula to calculate potential revenue:
400 liquor stores x $20,000 = $8,000,000
This means that if you penetrate 40% of the total market in the New England area, you can earn $8 million-however, this does not take into account the wines of your competitors, or all other liquors offered by any liquor store. For this reason, you need to be conservative when guessing how much market size you will win.
How to use estimated market size
Okay, you have your estimated market size-what about now?
Market size can help your business answer the following questions:
- How much potential revenue can we get from this particular market? In other words… is it even worth our time and energy?
- Is the market big enough to interest us?
- Is the market growing?Will there be still Is there a chance to get income from this market in 3, 5, 10 years?
Market size is the key figure you need to know when looking for funds. Investors will need to know how much money you are likely to make from a particular market. In addition, it is important to recognize whether the potential income you can earn exceeds the cost of your business.
Once the market size is determined, you also need to consider the market saturation of competitors’ products. In the end, you cannot capture the entire addressable market (TAM) — some of them will choose a competitor’s product instead of yours. Therefore, you need to determine whether you have the opportunity to attract enough consumers from TAM to make it a worthwhile risk.