By Gregg Jackowitz, Managing Director of Sales and Marketing, Bond Collective
Estimating market size is a crucial first step in the development of any startup or small business. And it really doesn’t matter what industry you’re in — or want to be in — getting an accurate picture of your market size reveals insights that can drive both the present and future success of your business.
Why is knowing your market size so important? And how can you get started putting together a realistic profile of your target market? We’ll answer those questions in this article.
Why Is Knowing Market Size Important?
Put simply, estimating your business’s market size will provide you with key data points. Those data points will then inform your decisions for the present and help you grow your business over time.
Here are four key variables that you can uncover by evaluating your market size.
Market size has a dramatic effect on the strategy your startup uses in the present and near future. Think of market size as a roadmap that you can reference to get to your destination.
If you know where you are and where you want to go, you can use the map — the data that market size reveals — to plot out a course and make decisions. With a map in hand, your choices are clearer because you’re not trying to target everyone, just a distinct group of people.
More specifically, market size influences components of your business such as:
Every startup needs a competitive advantage. Estimating market size before making any big moves helps that advantage coalesce.
While your product (or service) has a wide potential market, realistically, your business can only capture a small percentage of that market. Once you’ve identified that percentage — through estimating market size — you can determine what features and what value-adds will give your startup a competitive advantage over all the other startups vying for the same market share.
This will help you set your product apart, position it as unique, and achieve the success you’re looking for.
The business market as a whole is a big place. Even your specific piece of that market (let’s say pens) is a big place. But after estimating your market size, you’ll get a much clearer picture of your target demographic (the people who will be buying your pens).
This knowledge will allow you to do two things that your competitors can’t:
Identify trends in consumer behavior
See whether your industry is growing or declining
Armed with that knowledge, you can begin to formulate your business strategy and gain the competitive advantage we talked about earlier.
Profitability is the goal of every startup and small business. Identifying your market size makes profitability possible, or at least more probable.
Estimating your market size reveals whether or not there are enough potential customers who will actually buy your product. With that number, you can find out if the price you’ve set will move your business into the black. It will also show you whether the market you’re going after is too small to create the profit you need.
Now that you understand why estimating market size is crucial to your business’s success, we’ll show you how to get started doing it.
5 Essential Steps For Estimating Market Size
1) Clarify The Problem Your Product Solves And The Value It Generates
This is a step that many startups and small businesses skip because they’re excited about the product and are chomping at the bit to get going. Resist the urge to jump right in before clarifying the problem your product solves and the value it generates (understanding your own brand).
For example, if you produce a pen that uses 50 percent less ink than similar pens, you’ve solved the problem of people quickly running out of ink. As a result, your customer doesn’t have re-fill or replace their pen as often, which is also better for the environment. That’s the problem solved and the value it generates.
Of course, this is a very simple example and there are doubtless other problems solved and value-adds associated with our hypothetical pen. But this basic information will help you narrow down your target audience in the steps below.
2) Identify Your Market & Define Your Target Customer
The next step in estimating your market size is to identify your market and define your target customer. If we continue with the pen-as-product analogy started above, then our market is all pen users. That immediately eliminates young children who are more likely to use pencils or crayons.
Even without the young children, we still have an extremely large market (all people over the age of 12, let’s say). But are we trying to sell to all of them? No. The problem(s) our pen solves and the value it generates eliminate even more of the market.
With this information, we define our target customer as business people with an appreciation for quality writing instruments. Let’s say, for the sake of argument, that those people — our target customer — make up 20 percent of the total pen market (all pen users). Hypothetically, then, that leaves us with 2.3 million potential customers.
3) Estimate Your Part Of The Market & The Number Of Target Customers
As a startup or small business with realistic expectations, you know you won’t achieve 100-percent market share (even the largest, most established businesses never do). So what part of that 20 percent can we access right away?
Most startups and small businesses can expect to access somewhere between one and five percent of their target market at the beginning.
To make the math easier, let’s say that our pen startup expects to achieve five percent of the target market (or one percent of the total) from day one (0.05 x 0.20 = 0.01). Applying that estimate to our 2.3 million potential customers reduces the number to 23,000 (0.01 x 2,300,000).
So that’s our part of the market and the number of target customers: one-percent or 23,000 people.
4) Calculate Your Market Volume
The first step to calculating market volume is to estimate your market penetration. Products that are mission critical (like computers) or are mandated through regulation have a higher penetration rate (indicated as a percentage). Products with a specialized purpose (like oil-drilling bits) have a lower penetration rate.
We’ll estimate our penetration rate in the lower-middle percentages (40%) because, although they’re not mission critical, our pens are still very necessary for our target customers.
Now, we’ll use that number (40%) to calculate our market volume. Here’s the equation:
Number of target customers x Penetration rate = Market volume
23,000 target customers x 40% penetration rate = 9,200 market volume
With that number, we can then calculate our potential market value.
5) Calculate Your Potential Market Value
We can calculate our potential market value in one of two ways: based on the price we charge for our pen or on the profit we make after production. We suggest doing both to get a more accurate picture of your business’s profitability.
For simplicity’s sake, we’ll stick with the price we charge for our pen. Here’s the equation:
Market volume x price = market value
9,200 market volume x $2.00 = $18,400
That tells us that we can expect to make an estimated $18,400 from just 1 percent of our target market. It also tells us there’s plenty of room for growth.
Be Realistic About Your Market Size Estimates
If you want to get an accurate picture of your market size, you need to be realistic in your estimates and projections. What realistic means for you depends on your business, your experience, the data available, and a host of other factors.
But the foundation of it all is remaining objective and impartial throughout the entire process. When you can do that through all 10 steps, you’ll be able to get a very realistic — very accurate — estimate of your market size. With that information, you can set your startup or small business on the road to success.
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