TAM methodology: What is TAM and how to calculate your total addressable market?
Yifat Yudovsky
Business Development & Growth Executive | Advisory Board Member | Lecturer & Public Speaker (TEDx)
Smart management teams and investors use TAM analyses in an attempt to identify gating factors on the growth of a startup over time -
Founders use their TAM slides to show insights into how they think about the market they are serving, the extent of their product-market-fit and their product road-map. Management teams will use TAM to prioritize business opportunities by serving as a quick metric of the underlying potential of a given opportunity. Investors are looking to invest in companies that can one day become billion dollar businesses, therefore, A TAM slide’s role in a pitch deck is to convince them that the company is chasing an opportunity big enough to achieve venture-scale returns with the right execution.
TAM SAM SOM definition
TAM, SAM and SOM are acronyms that represent different subgroups of the market.
Total addressable market or TAM refers to the total market demand for a product or service = the maximum amount of revenue a business can possibly generate by selling their product or service in a specific market. Total addressable market is most useful for businesses to objectively estimate a specific market’s potential for growth.
Unless you are a monopoly, you most likely can’t capture the total addressable market for your product or service. Even if you only have one competitor, it would be extremely difficult to convince an entire market to only buy your product. Serviceable (/served) Addressable Market or SAM is the segment of the TAM targeted by your products and services which is within your geographical reach.
Share of market or SOM is the size of your actual customer base or the realistic percentage of your serviceable addressable market that you can capture. This figure can help you predict the amount of revenue you can generate within your market. SOM = % of SAM you can realistically obtain.
TAM SAM SOM has different goals: SOM indicates the short-term sales potential, SOM / SAM the target market share, and TAM the potential scale. All three plays an important role in assessing an investment opportunity. The SOM and SAM help de-risking the investment while the TAM enables to assess the upside potential.
Approaches to TAM
There are three ways to calculate TAM: 1. Top- down- The top down approach assumes that you start at the very top of a macro data set (using industry research and reports) and chip away at the data to find a market subset: assessing factors right at the very top of an economy, starting with a population and then apply demographic, geographic, and economic assumptions to eliminate irrelevant segments.The advantage of this method is that accurate and open statistics can be found for macroeconomic data. 2. Bottom– up - The basis of this approach is anchored around a proven data point (early selling efforts, a survey in a local market, news reports or company filings) looking at a subset of a localized situation), which can be magnified to uncover the wider market opportunity, the whole TAM population.
Top down and bottom up methods usually look at existing paradigms and assume that a new offering will fit into them.
3. Value- theory- For products or services that can evolve a market into a new state or provide added value to different groups of consumers, the value theory may be the best option. With value theory, one must assess how much a customer would be willing to pay for an improvement/ evolution of a product, using conjecture about buyer willingness to pay, focusing on the positive externalities derived from an offering versus incumbent options.
When calculating your TAM, note that the focus should be on getting the most accurate numbers and not the largest numbers possible.
The UberCab case study
Uber is an amazing example for an epic success story that had very little conception of their potential scale at their early stages and likely surprised their own founders – On the ninth anniversary of the founding of Uber, its co-founder Garrett Camp shared the company’s initial pitch deck (created in late 2008) via a personal Medium post. (Side note: It’s absolutely worth a full scroll through. A real gem). All screenshots below were taken from original deck:
In its first iteration, Uber saw itself as a competitor to traditional car service companies, and even deigned to call itself "the Netjets of Limos."
*Focusing on the United States (SAM)
*Central SF (SOM)
Financial modeling requires building a forecast for a company, which is dependent on the company’s total addressable market. When developing or analyzing a forecast in a valuation model, it’s important to perform a “sanity check” against the size of the market. Detailed operating models will typically include a build-up from market size to addressable market, to customers, and finally to revenue.
Good luck!
Senior Operation Lead @ Shopify
4 年Yifat this is so clear and so well put together, thanks for sharing!! Another aspect around TAM is the value -?which takes the form of “here’s how much value we can add, and why we’ll be able to capture it.”?In other words, to?estimate the value provided to a set of users by the product, as well as a guess at how much of that value creation can be captured through pricing. In the use case of Uber, as you suggested, Uber’s TAM using value, We’d consider the use case, transportation, in which users choose between alternatives including staying put, walking, public transportation, biking, taking a taxi or driving. Uber has the potential to draw from ALL of these buckets. We might look at transportation data and ask the theoretical question: “how much would a user pay to be driven instead of X?”. Just another aspect!
Director at S&B USA | Co-founder at ProWoman Organization
4 年A great and straightforward article. Looking forward to the next one in the series.
Founder | Creative Entrepreneurship, Cracking ideas
4 年Great article!
SVP Product Marketing | 3X Founder | Advisor & Consultant | Scaling SaaS Startups to $400M+ ARR | Keynote Speaker | 3X Top PMM Influencer | Featured Author in Bestseller "Product Marketing Wisdom"
4 年Great article! I used to research and use TAM as part of business dev plans, when we considered to penetrate for new markets. It helps to better understand the actual market size. Supported with trend analysis, it was an important indicator for this decision. I believe that the other 2 terms are less familiar and more challanging to quantify, therefore in some predictions they are being ignored.
Product Marketing Manager at imagen
4 年Very interesting. The Uber case study is fascinating.