What To Do if Your TAM is Too Small for VCs
What Is The TAM?
TAM is an acronym for Total Addressable Market.
The TAM represents the total number of potential customers that could buy your product or service. For example, if you have a mobile app for selling software, the TAM is the total number of people who need to buy software (not just mobile apps).
As you can see, it’s critical to understand your TAM in order to properly define your business opportunity and financial model. Otherwise, you may end up with a company that is too small to get VC funding. In other words, your TAM needs to be large enough for VCs to find attractive.
Total Addressable Market Example: Online Marketplace
Let’s look at an example of a Total Addressable Market: the online marketplace. In this case, the TAM is the total number of potential customers who could buy goods and services from your company.
So if you have an online marketplace for hospitality, then your TAM is all people who need to look for short-term accommodation (not just people who need to buy it online). This means that your TAM includes local customers, customers in other countries, etc.
So how do you calculate the size of your TAM?
The answer depends on your business model and market opportunity. In this case, you can use a few different methods:
If you are in an industry with a lot of competitors (e.g., hotels), then you can use industry data to estimate the size of your TAM. For example, if there are about 20 million hotels in the world, then this would be the size of your TAM. However, if there are only 1 million hotels in China and 2 million hotels in Europe, then these regions would also be part of your market opportunity since they have relatively low penetration rates compared to other regions (and could have higher growth rates).
You can also include other countries where hotels aren’t as common as they are in North America or Europe (e.g., Japan or Korea). So you could potentially include 20% or more than 100 million people into your TAM depending on how much growth opportunity there is in these markets.
Market Penetration Rate
Another way to calculate the size of your TAM is by using market penetration rate data for similar companies or industries. So if 30% of hotels use AirBnB and 10% use HomeAway, then AirBnB has a market penetration rate of 30%. This means that out of 100 hotel rooms available for rent each night on average worldwide (assuming 80% occupancy), 30 rooms will be available through AirBnB at any given time.
So if AirBnB has 2 million listings globally at any given time (the actual number varies over time), then their total addressable market would be 6 million rooms globally at any given time assuming all properties were available every night for rent (which they aren’t).
Number Of Potential Customers
Finally, another way to estimate the size of your TAM is by using a list that shows how many potential customers there are based on demographics or some other criteria such as household income level or employment status level.
For example, you could use a list of all countries in the world and then estimate how many potential customers there are in each country. Then you could estimate how many potential customers there are in each country who would be willing to pay for your product or service.
Then you can multiply these two numbers together to get the total number of potential customers that could buy your product or service. For example, if there are 200 million people in a country and 20% of them are willing to pay for your product or service, then the total number of potential customers is 40 million people.
In conclusion, if you are in an industry with a lot of competitors, then it’s likely that your TAM is larger than the number of people who buy your product or service. For example, AirBnB has a market penetration rate of 30% and they have 2 million listings. So this means that their total addressable market is 6 million rooms worldwide at any given time assuming all properties were available every night for rent (which they aren’t).
But the question is, how many rooms are actually available for rent at any given time?
And what percentage of those rooms are listed on AirBnB?
If you can answer these questions, then you can get a better idea of how big your TAM really is.
If your TAM is small
you may have a hard time getting VCs to invest in your company.
I would suggest the following steps:
First, it’s critical to define a compelling market size. You can do this by doing competitive analysis. Determine if there are significant competitors and how much market share they are getting. If there are few or no competitors, that is an even better sign of a potentially large market. But make sure that you aren’t missing any important competitors in your analysis.
It’s also important to determine if there is a growth opportunity for your company in the market. Are there significant new applications or technology breakthroughs that will lead to rapid growth? Again, make sure you aren’t missing any growth opportunities in your analysis.
Second, once you have determined the TAM size and growth opportunity, come up with a detailed financial model showing how the business will grow and be profitable over time (including at least three years).
Third, show how your TAM fits into the overall strategy of the company (revenue synergies) and how it will contribute to overall profitability of the company (e.g., gross margin contribution).
The model should show how this business will scale with revenues from other parts of the business and should show positive operating cash flow after just 12 months (if possible). Showing these things can help get around some concerns VCs may have about a small TAM size or potential competition from larger companies who could enter into this space later on.
Finally, show how you will be able to market and sell your product to the TAM. It’s critical that you have a clear marketing plan for selling into the TAM and that you have some initial sales or marketing efforts already underway.
If you can do all of these things, then you may be able to get VCs to invest in your company.
However, if you are not able to do all of these things, then you may need to try to raise a smaller amount of money or even bootstrap the company.
About the Author
I am the Founder of Cudy Technologies (www.cudy.co), a full-stack EdTech startup helping teachers and students teach and learn better. I am also a mentor and angel investor in other Startups of my other interests (Proptech, Fintech, HRtech, Ride-hailing, C2C marketplaces and SaaS). You can also find me on Cudy for early-stage Startup Founder mentorship and advice.
You can connect with me on Linkedin (https://www.linkedin.com/in/alexanderlhk) and let me know that you are a reader of my Medium posts in your invitation message.