When launching a business, it’s essential you consider market size. Calculating market size helps you understand whether there are enough potential customers to buy from you and how big your business could grow.
It also helps you think through important issues, such as the type of customer you need to attract and the best ways to reach them.
If you don’t ask market size questions early on, you risk launching a business without a clear understanding of whether there are enough customers to make it a success. Working out market size also helps you understand how many customers your business needs to make a profit, and what share of the total market this represents. These become important marketing goals and vital for a marketing plan, helping you track the success of your business and future marketing activity.
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Market size definition
Understanding market size is crucial for a business plan. Investors will want a clear idea of the potential size of the market to get an idea of how much your business could be worth in the future.
Market size is simply the number of potential customers that could buy from your business. To define market size, you look at the type and number of customers who have a need for your product or service and who are able to buy from you. For example, a coffee shop might have a market size made up of adults who enjoy coffee and who live or work within one mile of the coffee shop.
You’ll need to research how many people that equates to, and add in factors such as how often a potential customer buys a coffee. For example, office workers might buy a takeaway coffee every morning while local residents might pop-in for a coffee at the weekend.
Estimating the number of coffee-loving adults in the local area and dividing them into types – such as office worker or local resident – means you can work out how many potential customers and how many cups of coffee you’re likely to sell.
Understanding market size
There are three elements to market size: the total addressable market, the target market and market share.
Total addressable market – This is the maximum number of people who could realistically buy from your business. For our coffee shop example, this would be all coffee-drinking adults within a local area, regardless of whether they walk past the coffee shop or regularly stop to buy coffee. For example, the total addressable market may be 10,000 adults.
Target market – It’s unrealistic to expect every person in the total addressable market to become your customer. Instead, your marketing is likely to acquire only a proportion of the total addressable market.
In our coffee shop example, this could be people who walk past the shop or a percentage of people who might respond to a direct mail campaign. In this case, assume you could reach around 1,000 potential customers, or 10% of the addressable market.
Market share – If there is another coffee shop next door, then you’ll be competing for a share of the target market. The percentage of potential customers your business gets compared to competitors from the total pool of customers is known as market share.
Calculating market size
You can perform an initial calculation to determine market size, then use market research to refine your calculations for a more accurate picture of market size.
Define your customers – Describe all the possible types of people who would buy from you, and discard any that your business doesn’t cater for. For example, an online optical store selling glasses and contact lenses may define its customers as people who are short-sighted.
Refine market size numbers – You can guess the number of potential customers, but some research can help. Use online sources such as the Office of National Statistics, annual reports from competitors or conduct your own surveys. The aim is to arrive at the number of total customers that could buy from you.
Calculate market sizes – The total addressable market is the entire pool of potential customers, whereas the target market is the number of people your business can realistically reach. Calculating the target market size it crucial.
In our online optician example, 1 in 3 adults is short-sighted according to the NHS. This is the total addressable market as people with perfect vision are unlikely to be interested in buying glasses or contact lenses. According to research by IBISWorld the amount forecast to be spent online on contact lenses and glasses is expected to be £260m in 2018-19. If we assume that the average customer spends £300 online each year on optical products, that gives a target market size of approximately 866,000 customers, each spending £300 for a total of £260m.
Work out what share of market your business needs – Obviously a new online optical store isn’t going to acquire all 866,000 customers at launch. Instead, if the business wanted to turn over £2.5m, it would need to acquire a 1% share of the target market – around 8,660 customers – each spending around £300. Use these market size calculations to set marketing targets so you know how many customers you need and how much you need them to spend.
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