Calculating addressable market may seem trivial, but investors want to see that entrepreneurs have done their calculations and are confidently building a company in sizeable and ideally growing market. Having decent figures to back up market sizing is essential; investors like to see entrepreneurs who have done their homework and have a 360 degree view of the industry in which they operate.
But firstly it is worth highlighting the oft-confused distinction between market size and a company’s addressable market. Market size is the total revenue generated within a certain segment of the economy. These are high-level numbers, providing a cursory glance of a particular industry.
Addressable market, however, is more granular. It shows the portion of the total market that a startup can realistically reach (based on a combination of factors eg. geography, resource constraints etc.). More specifically, the addressable market is the level of annual revenue that your business would earn if it achieved 100% share in the market it is immediately targeting.
There are two main ways to calculate this:
After taking the total market size of a particular industry, you break it down to the targeted subsector the product falls into. For example, a cybersecurity company targeting UK banks would calculate the total market size for cybersecurity software in the UK and narrow it down to the annual spend from banking customers.
Top-down analyses are reliant on secondary market research (eg. from official government/industry association reports or from numerous technology research providers such as Gartner or Forrester). Finding the right numbers can be tortuous and they are often hidden behind a hefty paywall for access to a specific report.
This method is often easier to do and often more realistic. The approach begins with finding the potential number of consumers willing to buy a product from the relevant industry and location. After finding the size of the customer base, you can multiply it by their average spend on the particular product sector to find the addressable market.
Scant availability of data, conflicting information, and endless webpage-hopping may feel like detective work (albeit not the most exciting kind). The key is to keep focused on what numbers you need – and if they are not available, relevant proxies for them.
VCs ultimately want to see that you have used logical method to generate a realistic yet enticing estimate. Too small, and you may not be a VC-backable ultra-high growth business. Too large, and you may have unintentionally (or intentially) misidentified your true addressable market.