Why Total Addressable Market is an Essential Metric in Your Business Plan

“Market” is an oceanic term in business. It encompasses a universe within itself and includes consumers of every kind. Total Addressable Market (TAM) also known as Total Available Market, on the other hand, is a usable, revenue-generating chunk out of the “Market” actually available to a business to sell to.

When you go to a supermarket to buy your weekly groceries, do you check out the products on each aisle? Not really! You usually have a pretty good idea about what you and your family like to eat for meals. Based on this knowledge, you will find that only a limited number of items are useful to you. Most people go shopping with a list to save time, energy, and money. In essence, this is what TAM is.

A new company, too, should be able to shop for consumers who are most relevant to them and target marketing efforts accordingly. An analysis of the Total Addressable Market or TAM comes into play here. TAM is beneficial for both the business and the consumer. Marketing efforts must seek and reach the right patronage.

Total Addressable Market (TAM) is the overall possible opportunity for your products and services. It is usually measured through revenue, but can also be thought of as the collective number of people who can become your customers.

How is TAM calculated?

There are four primary methods for calculating your Total Addressable Market.

calculating your Total Addressable Market

 1. The Top-Down Approach

This process can be best explained as a “selection through elimination.” You take a sizeable known population that broadly defines your target market as a starting point and then narrow down to a more specific market segment. It is essentially scaling down by eliminating a chunk of the population to calculate your TAM. You use markers that pertain to geographic, demographic, and economic hunches to eliminate irrelevant market segments.

Many a time, third-party data-set companies are employed by businesses to use this approach when needed to identify TAM accurately.

The advantage of this method is that the starting point i.e., macro data and stats used, can be reasonably accurate these days if appropriately documented.

 2. The Bottom-Up Approach

This is the inverse of the top-down approach. Here, we start with granular data, and the results are extrapolated or scaled-up to a larger organization of population. This method is considered to be more accurate and is preferred where possible.

A likely disadvantage of this method is that vast assumptions are being made from a relatively small dataset and then applied to a larger set of the population.

 3. The Value Theory Approach

Value Theory Approach is used by companies when they wish to roll out a new or non-existent product or service into the market. This approach attempts to calculate the value a product can add and whether it should add this value through product pricing.

 4. External Research

This is a fast and reliable way of finding your Total Addressable Market. The business can refer to data that has already been collected by professional agencies. The detailed data reports may be expensive to purchase. Still, the headline figures of these reports commonly released through press releases in the public domain can be used to assess TAM, free of charge.

The benefit of sifting through these press releases is that they are quick to obtain and generally compiled by credible and skilled professionals.

The only disadvantage is that you don’t know and can’t ask these credible agencies how they reached a particular number. This transparency issue may crop up if and when somebody asks the rationale behind your base figures.

Why TAM Matters?

Asking why TAM matters is like questioning why one does research. Researching to better identify your Total Available Market if leveraged correctly has several benefits.

Why TAM Matters

 1. Helps Set Achievable Goals

TAM analysis helps businesses figure out how much of the market they want to capture. It can predict the kind of revenue that can be made if the identified set of the population is addressed correctly. TAM also helps obtain realistic revenue goals.

 2. Gives Your Business a Competitive Edge

Calculating the percentage of TAM your competitors have can help you set your business apart. You can identify the marketing strategy your competitors follow and present a counter-strategy that may work better for the same addressable market.

 3. Builds Customer Loyalty

Targeted marketing is the mantra for good marketing. No point pitching a sedan to a segment that has been buying SUVs for a decade and is loyal to it.

Best Practices for Building a Robust TAM

  • Be as precise as possible while defining your market before choosing a segment in it
  • Do not assume that you’ll be successful by targeting a small portion of a vast market
  • You must study your competitors, especially if you are taking a bottom-up approach
  • Do not assume that the market is bigger and your assumptions are conservative as you took a “conservative” approach when calculating TAM

TAM or the Total Addressable Market is an essential metric for both start-ups and established organizations. It helps estimate the market scale in terms of revenues and sales. TAM crunches numeric data into manageable levels.

Financial modeling – a niche and irreplaceable tool that builds monetary forecasts for companies greatly depend on the data of a company’s Total Addressable Market or Total Available Market.

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