When you’re in the early stages of building a startup, there are a lot of metrics thrown around. They can be helpful for everything from validating your idea to raising funds to setting realistic revenue goals.
One of the first ones you should know is TAM: Total Addressable Market.
If you’re a startup founder, we’ll walk you through exactly what TAM is, how to calculate yours, and how to know what your Total Addressable Market means.
What is Total Addressable Market (TAM)?
Total addressable market (aka total available market) is the maximum size of the audience or market for any given product or solution. Your TAM is the largest possible audience your product would have if every single person who could use your solution started using it.
The basic formula for calculating TAM is the average revenue per user (ARPU) multiplied by the total number of possible customers in the total market.
For example, let’s say a company is creating a GPS-powered navigational system for cars. We’ll explain more about how to estimate your total potential customers below. For the sake of this example, let’s say that this company does some research and finds that there are about 1.4 billion licensed drivers in the world. Of those, 70% own a car that’s compatible with the GPS device they’re creating.
Their total potential customer base is 1.4 billion x 70% = 980 million.
Now let’s say their GPS system costs $100.
Their Total Addressable Market is:
($100) x (980 million) = $98 billion
Of course, no company, even our imaginary one, is ever going to convert 100% of their TAM into paying customers. Some will use a competitor’s GPS. Others will use an app-based navigational system, and some may even use paper maps. Others with a really good sense of direction may not use any maps at all.
However, your TAM provides you — and potential investors — with an idea of how much opportunity exists for your idea.
TAM vs. SAM vs. SOM
Along with Total Addressable Market, many founders and business owners also think about SAM and SOM. All three are ways to measure potential market size and share.
SAM (Serviceable Addressable Market, or serviceable available market) is the portion of your Total Addressable Market you can realistically expect to address as your target market. It’s super useful for setting realistic revenue and audience growth goals.
For example, our GPS company above may currently have software that’s only available in five languages. In that case, they need to figure out what percentage of their TAM speaks one of those five languages to understand how much of the market is reasonable to target.
SOM (Serviceable Obtainable Market) is the portion of your SAM that you can reasonably expect to capture. This is based on the portion of your SAM that has a true demand for your product or solution, market growth, product-market fit and differentiation, and the competitive landscape.
Why calculate TAM?
Finding your Total Addressable Market is essential for creating a business plan and understanding the scope of opportunity available with your idea. If you don’t have any idea what the potential market is, it’ll be difficult to estimate revenue, growth, adoption, audience size, and so on.
Calculating your total market demand can also help you:
- Communicate potential more effectively. If you’re looking for potential co-founders, team members, or investors, know your TAM. It can help you communicate the potential of your ideas to others more easily — and help get others on board.
- Decide if you should move forward with your idea. A small TAM isn’t always a deal-breaker (more on that later). But understanding your TAM can help you set realistic goals and see if your startup idea is the right one to pursue right now.
- Find overlooked opportunities. Sometimes calculating your TAM can help you find other overlooked markets or opportunities that could be worth pursuing as well.
- Understand the scale available for different strategies. Your TAM can give you a better understanding of market size. You can better understand which market segments to target, how to price your product, or ways to better capture the market based on what you’ve learned.
How to calculate Total Addressable Market (TAM)
The basic formula to calculate Total Addressable Market is simple: Look at the maximum revenue opportunity if you captured 100% of the entire market.
That looks like this:
However, that doesn’t help much with calculating your total potential customers. For more accurate TAM calculations, there are three main methods: top-down, bottom-up, or the value theory approach.
Top-down approach
The top-down method starts by looking at the total number of people, businesses, or audiences for your product in the world. Then it narrows down that broad subset based on demographic or other factors to reach your subset of potential customers.
This is the example we used above for our GPS company. In this example, we start with the total number of licensed drivers in the world (1.4 billion) and then narrow that down based on how many of those drivers own a car that’s compatible with the GPS system.
As a result, we get the total market of 980 million people, multiplied by the selling price of $100 per user, to find the TAM of $98 billion.
Pros:
- High-level consumer, economic, and demographic data is often widely available and easy to find.
- Relatively quick and easy to calculate.
Cons:
- Since the data may not always be accurate and is very high-level, the resulting TAM is also less accurate.
- General, external data may not reflect the niches of your market or product.
- Doesn’t account for disruptive or truly innovative products that shape or redefine market landscapes.
Bottom-up approach
Bottom-up analysis is the inverse of top-down strategy. Instead of starting with general market statistics and data, you start with a small subset of your own data and extrapolate from there to the total market.
How you do this will vary depending on the stage of your business and what data you have.
For example, if your company is established enough to already have customer and sales data, you can start with existing customers and sales prices to determine TAM. In this case, a basic calculation is:
You can find your annual contract value by multiplying the average sales price by the number of average sales per customer.
For example, if our GPS company sells most of their units directly to dealerships, they might see that they sell an average of 1,200 units per year at $100 each to 750 dealerships. They also know there are 120,000 dealerships in their market.
The calculation then looks like this:
($100) x (1,200) = $12,000 ACV
(120,000) x ($12,000) = 1.44 billion TAM
But maybe our GPS company is just getting started, so they don’t have any sales data yet. Instead, they decide to send a campaign of email newsletters or a survey gauging interest. From that campaign, they get 140,000 signups. Now they can calculate their potential market (140,000) x estimated selling price ($100) to get a TAM of $14,000,000.
In this case, a basic calculation is:
A pilot test or a percentage of initial conversions can also yield helpful data to calculate your bottom-up TAM for new startups.
Pros:
- Internal data (especially sales data) will be more targeted to your product and niche, and therefore more accurate.
- Can help identify new customer segments based on survey data or pilot testing.
- Can be more valuable for investors and raising funding since it’s based on internal data (not just assumptions).
Cons:
- Bottom-up calculations require some level of internal data, so it’s not as easy for very early-stage estimates.
- Extrapolating from small data sets can be misleading.
- Resulting TAM can vary greatly depending on the type of data you use and how much extrapolation is necessary.
Value-theory approach
Value-theory calculates TAM by asking how much value a buyer would get from your product, and how much they’d be willing to pay based on that value.
It’s the most subjective of the three approaches, so it’s best for startups that are working on truly innovative or disruptive products where existing market data isn’t as applicable or straightforward.
To calculate it, you’ll need to decide:
- How many people would value your idea or product enough to purchase it?
- How much would those people pay for the product based on the value received?
Then, use the following calculation:
(number of people who’d find value) x (price paid for value) = TAM
For a final example, perhaps the GPS company has made a new type of navigational system that helps drivers avoid all traffic. They can estimate there are 75,000 regular commuters who drive an average of 480 hours a year. For the value provided, this audience is willing to pay $4,000 for this GPS system.
Then they can calculate:
(75,000) x ($4,000) = $300,000,000 TAM
Pros:
- Great for companies who are working in new markets, or have a disruptive product with the power to reshape current markets.
- Doesn’t require internal data, so it’s good for very early startups.
- Can illustrate the value of new products or new features on existing products.
Cons:
- Much more subjective than other methods, so results aren’t as reliable.
- It’s easy to overestimate how much value users may get from your product.
How to interpret TAM
Once you know your TAM, you can use it to make better business decisions, like figuring out where to invest in your business to drive positive ROI or what markets to target first.
But what is a good TAM to target? That depends.
What size TAM you’re looking for simply needs to align with your business model, industry, level of investment, and potential for growth.
For example, a TAM of $1 billion or more may seem exciting, but it can also indicate that the market is already saturated with major players, making it hard to capture much of that audience.
Investors generally want to see a TAM of between $10 to $300 million. Any smaller than that, and the market may be too niche for VC funding.
What should I do if my TAM is too small?
Small TAMs might not be as attractive to venture capitalists, but that doesn’t mean your idea is off the table.
A small TAM is great for niche products and emerging markets. If you can bootstrap or find other funding options, they can be great opportunities to explore a new product or market segments without needing to scale so quickly.
Also keep in mind that you may be able to grow your TAM over time by expanding your product, expanding the market landscape for products like yours, or disrupting current markets and solutions.
“Founders shouldn’t be afraid of pursuing a small TAM for several good reasons,” Bubble Product Marketer Carly Rosenkranz says. She broke it down for us like this:
- Small TAMs let you take a deep dive into your market. By really focusing on customer needs, you can often develop a “much stronger product-market fit and deliver higher customer satisfaction since you’re catering to such a specific audience.”
- Smaller markets usually have less competition, which gives you a better chance to establish yourself as a new startup without battling big players. This can allow you to grow sustainably.
- Small TAMs can be a great starting point for exploring new opportunities and expanding your company’s Total Addressable Market over time. You can either build more products for your core audience or start with a narrow focus and then expand into new services or adjacent audiences.
Carly also pointed out that even small TAMs aren’t the end of the road for raising funding, either.
“Smaller TAMs with strong unit economics and a clear path to profitability can be very appealing for early-stage investors. Proving success in a niche market builds a solid track record, making future fundraising and expansion easier. So a small TAM isn’t necessarily a limitation — it can be a strategic starting point for sustainable growth and innovation.”
The takeaway?
Your TAM can be a helpful tool for understanding market potential, communicating opportunities to others, and getting estimates for revenue opportunities and growth. But it doesn’t need to be the deciding factor on whether to move forward with your startup.
Building for any audience on Bubble
Whether you’re building for a massive market or a niche one, Bubble offers no-code, full-stack development tools so founders can build their own products.
Building your own app with no-code speeds up the development process (saving time and money), drastically reduces your resource needs, and makes it easier to bootstrap.
If you’re building for a niche market with a small TAM, all of these benefits make it easier to fund your business and develop amazing products that may never make it to “unicorn” status. At Bubble, we firmly believe that there are plenty of amazing tools and apps that deserve to be built. They can solve real problems, even if they never receive big funding or appeal to a mass market.
We hope by focusing on building the best no-code tools available, we can help others to make those products a reality.
We love seeing what others have built with Bubble — everything from internal HR tools for the team at Athena and Axial and niche SEO tools that productized an individual’s services to the quickly-scaling Messly team’s physician recruitment platform.
Long story short: You don’t have to have a huge TAM and hit unicorn status if you can build your product yourself and keep costs low. Bubble makes that possible.
