How to Calculate TAM Analysis and Perform Total Addressable Market Size
- What is TAM?
- What are the different approaches to calculating TAM?
Before getting to the technical definition of TAM, let us try to gain an insight into it through an example. While going to a store, do you pick anything that comes first in your sight (even if it’s not needed at the moment)? Or get only those things that are necessary and present on your list?
Well, according to the report by Kitchen, 96-97% of the buyers belong to the second category. Then, why do companies long for more and more customers? Even if they are going to buy what they actually need. This is a point of discussion.
So, let me tell you that this is where TAM comes into play. In the above example, TAM means buying only the things mentioned on the list as at that moment, only those are required.
When it comes to sales, TAM analysis is crucial. And, this is what this blog post is all about. In the upcoming sections, you will come across what is TAM and how to calculate it effectively. So, without further ado, let’s start.
What is TAM Analysis?
Basically, the total addressable market or total market or TAM is the total value of a product or service in the target market. It is generally measured in the terms of revenue the product or service will generate.
But it is also measured in terms of the market share i.e. how many customers will prefer that brand over others. Ideally, both are interrelated to each other as more revenue also means more market share.
Hence, TAM analysis is one and to be precise, the most decent way to get your product to achieve the desired success. For this, jump to the next section where you’ll learn TAM analysis.
What are the different approaches to calculating TAM?
For TAM analysis, there are several ways. However, the most widely used are the following ones:
- Top-down approach
- Bottom-up approach
- The value theory approach
The top two are the most significant ones:
So first, let’s discuss the top-down approach of TAM analysis.
- Top-down approach
The approach begins by taking into account a larger community of the target market and using this to get down to a specific target market segment.
This top-down or inverted pyramid approach is based on the early market research done by firms like Gartner and Forrester. These are the two popular market research firms known.
However, for added benefits, it’s vital to combine their research with additional assessments by third-party advisers. These include phone calls, email surveys, etc.
Nevertheless, there are certain pitfalls to this method. One of the crucial ones is the absence of not so trustworthy figures that could attract potential investors. This is where the bottom-up approach holds the upper hand.
- Bottom-up approach
As said earlier, the top-down method fails to provide trustworthy numbers to attract potential investors. However, this isn’t the case with the bottom-up approach as it provides the most accurate figures.
This is because the method is based on the reports and research from the previous sales. In common terms, the method starts with the selection of a specific customer segment in the market & building on this as the base.
It lets the company clarify why it chose that certain segment over the others. Hence, in this, the addressable market is more appropriate as it’s based on the real-time figures. Use the following formula to calculate TAM using the bottom-up approach.
TAM = (total number of accounts) x (annual contract value or ACV)
- Value theory approach
They put the previous two approaches into use at the beginning. However, this value theory approach is used when the company is going to launch the product or service in the market. It is based on the value offered to the user by the product or service. In this, the company calculates how much value its product can add and why it should catch this value through the product’s pricing.
So, TAM analysis is the perfect way to analyze your own and your competitor’s business. TAM helps you to know how much revenue a product or service will bring from the market. Alongside this, it lets you modify your strategies accordingly to achieve the desired results.