The Importance of Understanding the Total Addressable Market

To guarantee the success of a product, an understanding of the target market is essential. The Total Addressable Market (TAM) is a basic but important metric for assessing market potential. TAM estimates the maximum revenue potential in a particular market, assuming your product captures 100% of the market.?

What is it and why should you care?

By understanding the TAM, product marketers can determine whether a specific market has the potential to support their solution and whether it is a viable investment. Evaluating the TAM enables an initial determination of product fit in yielding the desired returns. Ultimately, understanding TAM is essential for making informed go-to-market decisions and maximizing the potential success of a product.

Calculating TAM

To calculate TAM, first gather data on the number of potential customers and the average revenue per customer in the target markets. Market research, industry reports, and government statistics can estimate the potential customer base, while historical sales data or industry reports can help estimate the average revenue per customer. TAM is then calculated by multiplying the estimated number of potential customers by the average revenue per customer.

It is important to note, however, that the TAM is an estimate and the actual market size WILL vary.

To use TAM don't use TAM

Huh? Hear me out...let's say you're organization is developing advanced AI software for sporting goods store customer support in the US market - I know it's niche but it gets the point across. The first step is to identify the total number of potential customers - retail sporting goods establishments in the US - and for a giggle, break into Brick and Mortar and Online. Then an average revenue per customer factor needs to be identified based on licensing or subscription costs.

For example, if you estimate a potential customer base of 500, with an average revenue of $10,000 per year, your TAM would be $5 million per year. While your organization will not capture the entire market, understanding the TAM will allow you to set realistic growth targets and make informed decisions about pricing, marketing, and market expansion.

Here's the rub. Capturing all revenue that a given TAM calculation predicts is not possible. This is where Serviceable Addressable Market (SAM) and Serviceable Obtainable Market (SOM) come into play.

SAM is the portion of the TAM that is actually addressable by a company's product or service. SOM is the portion of the SAM that a company can realistically obtain.

SAM ensures concentration on those market segments that align best with a given product’s capabilities and value proposition. Then calculating SOM, enterprises gain a clearer understanding of their achievable market share and can tailor their marketing strategies to effectively differentiate their product from competitors.

For example, a SaaS CRM solution may map to a TAM of the global market for CRM software, which was estimated to be worth $46.1 billion in 2022. However, the SAM will only be a fraction of that, (say the market for CRM in US retail sporting goods entities), and the obtainable market will be less less than that.

Final thoughts...

I can’t stress enough the importance of considering TAM, SAM, and SOM jointly to gain a complete understanding of the market potential. While TAM is a useful tool for estimating maximum revenue opportunities - its not valuable unless you incorporate SAM and SOM which yields a more realistic assessment. Product marketers can better understand the needs of their target market and in turn, the organization can develop products that are more likely to succeed.