Calculate Market Size for Your Product in 4 Easy Steps

Article by:
Anna Polovnikova
11 min
What is market sizing? And why should entrepreneurs know about the potential size of the market? Learn how to calculate market size and the vitals of the process.

If you're gearing up to kick off a new business venture and need a solid starting point, the first step is to identify your target audience and assess whether your idea is worth the investment. Before diving in, you have to gauge market interest and ensure you're not casting your line in uncharted waters. To do that, you have to get a handle on the market size.

If the term market sizing has left you scratching your head for a while, don't worry. In this guide, we'll clear things up and explain how to determine market size and whether the idea in your mind is genuinely worthwhile.

Spoiler alert: estimating market size is a piece of cake with just four easy steps!

What Is Market Sizing?

Let's unpack the market size definition a bit. It boils down to understanding the number of potential customers for your product or service. It's the big-picture view that provides a vision of how broad your audience is and what your projected revenue is.

What is market sizing?

Getting a grip on the different elements of market size can give you an idea of the probability of success and seriously boost your chances of hitting the bullseye. We'll walk you through each part of how to find the size of a market and help you crunch the numbers for your concept.

At this point, you hear a ton of buzz about what is market size, and every savvy entrepreneur has this business and startup term on their daily radar. But why does it carry so much weight? Let's break it down. 

Why Is Market Sizing Important?

You already might feel that we're talking about something really important. Before you go for something that involves time and money, you can quickly determine if there's space for your product or service by sizing up the market. Here are a few questions you can address with market sizing at various stages of startup development.

The benefits of estimating market size

Is It Worth It? 

Every for-profit business is established to receive a return on investments. And when the return is usually mostly counted in dollar equivalent, the investments can be really different — money, time, emotional efforts, communications, and many more. Defining market sizing will help you evaluate if the potential investments are worth the predicted outcome and better plan your business or startup budget.

How Will It Grow? 

Just like any caring parent looks out for their kid, every entrepreneur wants to make sure their business is thriving in the right conditions. Checking market size means ensuring that everything's on track and that your business has big dreams and achievable ambitions. This can help you nail down your finances more accurately or make your created pitch deck super appealing when talking to potential investors.

Who Are You Targeting? 

A key part of determining market size is figuring out your ideal customer profile. It's crucial to make sure you're honing in on and connecting with folks who are genuinely interested in what you've got to offer.

How Risky Is the Idea?

Venturing into entrepreneurship is always a bit of a gamble. You want to do everything in your power to minimize those risks as much as you can. It might never be completely risk-free, but the more loose ends you tie up with a clear understanding of market size, the better shot you have at success.

The true significance of market sizing is hidden in strategic planning. The details we're about to dive into give you the lowdown on who, how, when, and where you should showcase your product or service.

Market Size Terminology

Now, we'll remove the veil of secrecy and vagueness from a list of different values and terms usually used when talking about how to find market size, such as Total Addressable Market (TAM), Serviceable Addressable Market (SAM), Serviceable Obtainable Market (SOM), Penetration Rate, and Target Market. Let's browse these market sizing aspects in more detail.

Market size terminology

Total Addressable Market (TAM)

The total addressable market shows the revenue that your business could generate if you were able to catch every possible interested client. To calculate it, use the following formula:

All of the customers in the market x Annual Customer Value = TAM

So, for a market of 5M customers who spend $1,000 yearly on the products or services that your company provides, the total addressable market will be $5B. Such a market size looks like a big pie, and you want to understand how much of it you can bite. 

Serviceable Addressable Market (SAM)

As you're trying to figure out the market size, the serviceable addressable market will help you find out how much revenue your company can generate considering the limitations that the company has, such as geographical location, ideal customer persona, company resources, and similar.

To narrow down the list, you'll have to define what part of the TAM aligns with your company's capabilities:

Target Segment of TAM x Annual Customer Value = SAM

Out of 5M of the total number of potential customers, only 2M live on the East Coast, so the serviceable addressable market value for your company will be $1B. But if you're not Mark Zuckerberg and going into a market that has competition, let's try to find out what the most realistic figures in terms of market size that you'll be able to get are. 

Serviceable Obtainable Market (SOM)

The serviceable obtainable market value will consider a lot of points about the current scale of the company: marketing actions, sales strategies, conversion rates, product demand, and others.

To properly calculate it when doing the market size math, you'll need some real-life company info, such as last year's revenue. Then the formula will look like this:

Last year's SAM ÷ Last year's revenue x This year's SAM = SOM

If last year's SAM was $1B and your revenue was $300M, then your last year's market share was 30%. If this year's SOM will be $1.5B, you can reasonably expect a revenue of 30% of it which equals $450M.

However, if we're talking about the strategic planning of a startup, this method of market size calculation won't be feasible. We'll consider another method for the companies that don't generate the revenue yet later in the guide.

Penetration Rate

The penetration rate is the percentage that reveals how much of your target market you've snagged. We crunched the market size numbers earlier to figure out the SOM in the financial paradigm. Think of this value as your conversion, the one you're always aiming to boost.

Target Market 

The target market is the group of potential customers, or companies, who most likely will be interested in what you're going to propose to them. This market sizing aspect reflects your ideal customer and the exact cohort you want to target.

Invest some serious hours in brainstorming and go all out when sketching out your ideal customer persona (ICP). Get to the heart of the matter. It's key for both you and your team to have a clearly articulated picture of who you're gearing up to collaborate with. This understanding will be your compass in tweaking your tactics.

Talking won't get us far, it's time for action! Let's unearth the figures and get the calculation job done. This will help you unveil the real potential size of the market and the ambitions behind your idea.If you're gearing up to kick off a new business venture and need a solid starting point, the first step is to identify your target audience and assess whether your idea is worth the investment. Before diving in, you have to gauge market interest and ensure you're not casting your line in uncharted waters. To do that, you have to get a handle on the market size.

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How to Calculate Market Size in 4 Steps

Breaking down the market size calculation is a breeze — it's just four steps, and you're already in the loop about how crucial they are.

Calculating market size in 4 steps

Step 1: Identify your Total Addressable Market (TAM)

As you begin to calculate market size, pin down how many potential customers are out there and take a stab at how much each one could bring in annually for your product or service.

Step 2: Define your Serviceable Addressable Market (SAM)

Zoom in on the specifics — think about where you can actually reach, who your ideal customers are, and what your company can handle. Calculate the part of TAM that matches your company's strengths and figure out how much each customer in this narrowed-down market is worth. This step gives you a better understanding of the actual market size your business can realistically go after.

Step 3: Calculate your Serviceable Obtainable Market (SOM)

Proceed with market sizing by thinking about how big your company is right now — again, consider marketing, sales, conversion rates, and product demand. Use the company's historical data, like last year's revenue, to figure out your market share. Then, project that share onto next year's SAM to get an idea of how much cash you're looking at.

Step 4: Determine your Penetration Rate

Check out how much of the market you're gunning for. This market sizing step basically puts a number on your big dreams and helps you set goals that actually make sense for grabbing a slice.

By cruising through these four steps in order, you get the lowdown on your market size estimation. This method not only helps you tweak and polish your business strategies but also sets you up to throw a killer pitch when pitching to investors and roll with the punches in entrepreneurship.

Don't forget to keep rechecking these market size calculations regularly, though, so you can stay nimble and handle whatever the market throws your way.

Market Size Formula

Here's your summed-up cheat sheet to help you calculate market size. As you might have already got, market size isn't something you can calculate with a single set of numbers once and forever. It's the thing to look at from different angles regularly.

Market Size Component Definition/Calculation Example
Total Addressable Market (TAM) All customers in the market × Annual Customer Value For 5M customers spending $1,000, TAM = $5B
Serviceable Addressable Market (SAM) Target Segment of TAM × Annual Customer Value If 2M customers align, SAM = $1B
Serviceable Obtainable Market (SOM) Last year's SAM / Last year's revenue × This year's SAM If last year's SAM was $1B, revenue $300M, SOM = $1.5B, expect revenue ≈ $450M
Penetration Rate Percentage of target market captured based on SOM If SOM is $1.5B, and aiming for 20%, Penetration Rate = 20%
Table. Market Size Components and Formulas

Market Size Calculation Example

Having your market size formula, let's try to run the numbers for a sample market size scenario. Suppose you're launching a new software product for small businesses in the IT sector. Here's an explanation of how to calculate market size:

  1. Determine your Total Addressable Market (TAM):
  • Identify the total number of potential customers in the market. Let's say there are 10M small businesses in the IT sector.
  • Estimate the annual customer value. If each business spends $2,000 yearly on your software, multiply 10M by $2,000 to get a TAM of $20B.

  1. Define your Serviceable Addressable Market (SAM):
  • To approach market sizing more realistically, consider limitations such as geographical location and ideal customer persona. Let's say your software is most relevant to businesses on the East Coast, reducing your market to 4M potential customers.
  • Multiply the target segment of TAM by the annual customer value. If 4M businesses on the East Coast spend $2,000 yearly, your SAM is $8B.

  1. Calculate your Serviceable Obtainable Market (SOM):
  • Consider factors like marketing actions, conversion rates, and product demand when trying to crunch up the market size numbers. If last year's SAM was $8B and your revenue was $2B, your market share was 25%.
  • If this year's SAM is projected to be $10B, you can expect a revenue of 25% of it, which equals $2.5B.

  1. Determine your Penetration Rate:
  • Finally, assess the percentage of the market you aim to capture when counting up the market size. If you're targeting 20% of the East Coast market, your penetration rate is 20%.

As a result, the market size assessment for your software product in the IT sector reveals a significant opportunity. With a total addressable market (TAM) of $20B and a serviceable addressable market (SAM) of $8B, the potential is substantial.

Projecting a 25% market share suggests an expected revenue of $2.5B, emphasizing a strong position within the identified market segment. With a targeted penetration rate of 20% for the East Coast, your product is poised for strategic and realistic growth in the competitive IT sector.

Market Sizing Methods

Getting into market sizing isn't just a numbers game. Different methods show you different the sides of how to do market sizing, depending on your business and the quality of your data. Dig into these sizing methods to wrap your head around it all.

Market sizing methods

Top-Down Approach

This market size method begins with a macro-level view of the market, often relying on industry reports, government data, or existing market research. It's like looking at the forest before identifying individual trees.

As you gather general market data, you gradually narrow your focus. Consider segmentation based on demographics, geography, or industry verticals to refine your estimate.

Advantages: Quick initial insights into market size, especially useful when detailed data is scarce. It provides a broad overview before delving into specifics.

Best for: Companies with limited internal data, time constraints, or those in exploratory phases. It is effective when you look for how to estimate market size quickly, and segmentation of the market is challenging.

Bottom-Up Approach

Unlike the top-down approach, the bottom-up market sizing method starts with specific customer segments. It's akin to assembling puzzle pieces to create the bigger picture.

Identify target customer segments, assess their needs, and make the market size estimation for each. Summing up these segment sizes yields your overall market estimate.

Advantages: Granular market size insights into specific customer behaviors and needs. It is particularly effective when you have detailed data on individual segments.

Best for: Companies that have detailed internal data and want a precise understanding of specific market segments, or when accuracy is key.

Predictive Modeling

Predictive modeling involves using statistical techniques and historical data to forecast future market size trends. Here, you take advantage of algorithms and data analytics to simulate various scenarios. This method allows you to anticipate changes in customer behavior and industry dynamics.

Advantages: Forward-looking insights, essential for businesses planning for the long term. Helps in preparing for potential market size shifts.

Best for: Companies seeking to understand complex relationships within the market, or simulate various scenarios. Such market size modeling is most suitable for businesses with a wealth of historical data and a focus on data-driven decision-making.

Scenario Analysis

Scenario analysis involves exploring multiple "what-if" scenarios to learn how external factors may impact your market size. Identify potential challenges and disruptions, such as economic downturns or technological advancements, and assess their impact on market size.

Advantages: Proactive risk management, enabling you to adapt strategies based on different possible futures.

Best for: Companies that want to assess the impact of various potential future events or conditions on their market size. It is most suitable for businesses that prioritize risk management and strategic planning under uncertainty, and need to prepare for different plausible outcomes.

Choosing the right market sizing method is all about your situation. Sometimes, it's a mix of approaches that works best. Like, start big with a top-down view for the basics, then fine-tune with a bottom-up look at specific bits for a complete market picture.

Oh, and don't forget: Sizing up your market isn't a one-and-done deal. Keep tweaking based on what's happening out there. Your business needs to stay nimble and on top of things. And as you dig into what is market sizing and its methods, remember, your industry and what your audience likes can change like the weather. Flexibility with your market sizing strategy is key — just as important as that first calculation. Stay sharp!

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Concluding Thoughts on Market Size

In a nutshell, knowing how to calculate market size is a big deal for your product's success. It's not just playing with numbers but making smart decisions, playing it safe with risks, and setting goals you can actually hit. So, follow the steps we laid out, use different ways to size up your market, and you'll be all set to tackle the business jungle with confidence.

The good thing to do is to keep in mind that markets do change. Don't forget to check in on what's trending, listen to what your customers are saying, and pay attention to what's happening inside your own four walls.

Now that you've got a handle on how to calculate potential market size, go ahead and craft those business strategies, charm those investors with your pitch, and map out a route for growth that's as solid as a rock. And if you need assistance from a seasoned tech team, Upsilon's talent pool is rich in experienced specialists who provide MVP development services for startups. So, don't hesitate to reach out to discuss your needs!

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