How do you calculate your TAM?

What the heck is a TAM and why should you care?

When clients are rolling out new products or services, it can be hard for them to estimate their full market potential. Often they ask us, “Where do I start?” It can be intimidating to build something from scratch, but assessing the total addressable market – TAM – isn’t a bad place to start.

Total addressable market (or total available market) refers to the revenue opportunity available for a good or service – essentially, how much money is possible for you to make selling what you’re selling. TAM is not only the perfect way to assess how much potential your business or offerings have but it’s also critical to determining how much of the market is yours for the taking. All you have to do is calculate it, which sometimes is harder than others.

So, how exactly do you calculate your offering’s total addressable market? Let’s take a look at the three different methods:

Take it from the top

With top-down analysis, we begin with the largest possible size estimate for your product and, using our knowledge of the market, shrink it down to figure out where your product will thrive. We start with everything – the entire market – and narrow it down using information and a touch of common sense to find the target audience for your specific product.

Let’s say you’re starting a new pet grooming business. You’re trying to find the perfect place to open up shop, but a business like that might not survive everywhere. You start by looking at the entire country and slowly begin to narrow it down. Based on your knowledge about the pets and pet owners, you decide to locate to a growing suburb outside of a major city. Why? You assume that will be the best place because suburbs have a lot of families, which often own pets, which also have busy schedules of soccer practices and PTA meetings and will need to get their pets cleaned quickly and at a time that fits into their schedule. You might also want to look at similar businesses to yours as bellwethers. Are there a lot of veterinary clinics in the area? What’s their density? If the market can support lots of vets it can probably support your business. But what about competition? Too much of it, and it will be hard for you, but conversely, if there is no competition whatsoever, it can also be a sign that it isn’t a good market. You are looking for a little bit of friendly competition to show that your model works in the area, but not so much there isn’t enough market share to go around. Part of what makes a market “addressable” is your ability to serve it, and you can only steal so much of it way from your competition. Where do you get the market estimates from? Market research firms look closely at many markets, and there are specialists for markets that can provide the overall revenue numbers. For niche markets like the dog grooming market in Katy Texas, things get a little more tricky, and you might have to get a little creative on the back of an envelope. How many dogs get groomed in the area you want to serve at $X dollars per year, divided by your projected market share, will give you an estimated TAM.

Start from the bottom

The bottom-up total addressable market strategy will give you more accurate numbers, in part by allowing you to include the growth of the TAM due to your entrance into the market — from the very start. This method works by evaluating where you’d be able to sell your products and how much profit you’d be able to turn based on the current sales.

For example, say you’re developing a new brand of dog treats. You know that dog treats (yes my examples are very pet friendly. Hey, I like dogs, what can I say) are sold in grocery stores, major pet stores like Petco and smaller pet stores. Based on that information, you decide that the smaller pet stores are the most likely to carry your product, so you focus on asking them to carry your treats. From there, you deduct how many stores would actually carry the treats – you ask 50 stores, but you undershoot and assume 10 stores will say yes (a 20% win rate). After that, you determine how much of your product, in particular, would get sold; there are many brands of dog treats, so out of that, you calculate how many of your treats would be sold in comparison to all dog treats sold as a whole. If you think you can take 10% market share of a $100,000 sales volume for each of the 10 of the stores, then you can project a TAM of $100,000.

Know your value

The value method is the most loosie-goosey because it relies on knowing what the consumers want and pricing your products accordingly to match consumer demand. This method of estimating is best for getting a sense of the TAM for new features or upgrades to existing products, or when you are bringing a novel product to market that will effectively create its own category. Knowing how much other brands charge for their products can help you gauge how much to charge for your product.

Using the dog treats example from before but applying the value theory method, you evaluate what separates your product from other brands of dog treats. Let’s say your treats are made with organic sweet potatoes that are better for dogs’ health – it strengthens their teeth and makes their coats shinier. You know that because of the quality of your treats, consumers are willing to pay just a little bit more for your brand over other brands of treats. How much more? For the sake of easy math, you can say that you can charge 10% more. Let’s say you have $100,000 of market now, based on your assumption that you can charge 10% more, you can estimate a  $110,000 TAM.