Friday, August 16, 2019

How to Size a Market

Sizing the market opportunity is a key component of any business plan. It’s logical that the senior management, the board, the VCs and other stakeholders want to see how big the market opportunity is before investing any dollars in your plan. Ideally, they will want to see the opportunity size, growth, and also breakdowns by various factors such as industry, geography, and company size.

The expectation is that you “do your homework” and find the relevant Gartner report with hard data that you will be able to quote to management so they can make their tough business decisions. However, no matter how hard you are looking, you discover that neither Gartner nor any other analysts cover your particular product category. And forget about slicing it by geography or vertically!

Market Sizing Available from Industry Analysts

Gartner publishes regular reports and spreadsheets such as the forward-looking Forecast: Enterprise Software Markets and the backward-looking Market Share: All Software Markets. Both do a pretty good job estimating the market size, growth, and the 5-year compound annual growth rate (CAGR) for the main software categories. If you are a Gartner customer, you should definitely get ahold of these reports! If you are not, search around. You might find them or you might find some of the data points relevant to you. Just about every Magic Quadrant states the market size and market growth and those are available for free from many vendors.

Gartner also sizes the submarkets of their main software categories and chooses not to publish those numbers. For example, while they publish the data for the enterprise content management (ECM) market, they also track the subcategories such as document management, digital asset management, and web content management. If you have the right type of subscription, they will share the data with you. They have it for software subcategories, geographies, and to a limited degree, as market shares by company.

Since 2017, Gartner stopped attributing revenue to industry verticals. Knowing how impossible of a task that is, I don’t blame them. I plan to write a separate post about that issue. So unless you are lucky and happened to work with some boutique firm that publishes vertical numbers, you will be out of luck. Of course that won’t stop your bosses from asking for it and so keep reading, because I’ll explain how to move forward.

The Gartner methodology seams to be primarily based on tracking all players in a given category and collecting/estimating their revenue in said market. I find the Gartner methodology plausible and the data credible. The same is true for IDC and their Software Tracker. There are a few other firms that provide some market data including Forrester, ARC and others but only Gartner and IDC have teams of analysts who are primarily responsible for market sizing, as far as I know.

I am somewhat skeptical of the market sizing conducted by firms such as Markets and Markets, Market Research Future, Intense Research, Eminent Market, Orbis Research, etc. I actually suspect that there is a single organization behind all these names but I admit that haven’t bothered to investigate that. Those companies all seem to stem from the India/China region and they are trying to sell me their reports every day. However, none of them have ever spoken to me or to any of my colleagues. I don’t know their analysts, I am not familiar with their methodology, and I am doubtful of their data.

TAM versus Actual Market Size

Now, when talking about market sizing, there are two main data points that are often being confused:

1.     The actual current market size and
2.     Total addressable market (TAM)

The actual market is the sum total of all revenue generated by all market players over the last 12 months. This is what Gartner reports and they are specifically counting all [on premises] license revenue, cloud-based subscription revenue, maintenance, and support revenue. They do not count the professional services revenue in any market as that revenue is often difficult to attribute to a specific software category and the money made by the major players such as Accenture, Deloitte, and Capgemini would skew the numbers dramatically. This is part of the market sizing methodology by Gartner that makes sense to me.
Note: I realize that many companies obsess more about their bookings rather than revenue by product line but I don’t think that Gartner is concerned with that distinction and so let’s ignore it for now.

What Gartner doesn’t report is the TAM. The TAM is the potential market, independent of your company’s ability to capture it. It doesn’t consider your market presence, the amazing appeal of your solution, or your competitive win rate. Basically, if everyone out there purchased everything they possibly could from you, that’s your TAM. This data point is very useful for business planning, and executives, VCs, and other investors are very interested in it. Sometimes, there are other data points used such as the serviceable addressable market (SAM), or the serviceable obtainable market (SOM, aka target market) but if you have the TAM and the actual market size, you are in a good shape as far as your business planning goes.

Estimating Market Size

Now, what do you do when the data you are looking for is simply not available? Yes, you’ve checked with Gartner, with IDC, and with all the other analyst firms in your space and you are coming up empty. Well, it’s time to do your own research and come up with your own data. You think you can’t just make it up? You worry that your data won’t be as credible as Gartner’s? Well, perhaps not. But you are an expert in your field. You know more about it than 99% of the people out there. The No. 1 rule is that an educated estimate from an expert is much better than flying blind. How do you think Gartner comes up with their data?

So, let’s estimate the actual market size. First, list all the market players in your space. That’s usually not that hard. You might even have an additional insight such as which vendors play in the enterprise end of the market and who is focused on SMB. Add a bucket for “Others” because there is no way that you are not forgetting some players; for example, vendors only active in certain geographies. Depending on how mature your market is, the Others group will occupy somewhere between 20-50% of the overall market size. Estimate that percentage and calculate the value based on the overall market.

Now, start estimating the revenue for each of the vendors. Start with yourself, that’s the hard data point you have. You usually know who’s bigger and who’s smaller than you in your space. Estimate by how much – give each vendor a number. If you can’t even dare to estimate, do some more research. Google around – big companies share a lot of data points and hints in their quarterly earning’s calls while the small ones like to brag about themselves at conferences.  Ask co-workers who might have worked at some of your competitors. If you have a competitive intelligence function, check with them. Collect data points and tidbits. Over time, you’ll get a pretty good feel for what the market looks like. At the end of the day, estimate. Yes, guess. Estimate the new business vs upsell vs recurring revenue. Trust me, your guess will be better than you think and certainly better than no data at all.

Now, to be clear, while guessing is OK, do attribute your sources and document your methodology, including our own estimates. In the end, what makes any market-sizing model credible is the methodology. By sharing the methodology with your management, they are free to adjust any estimate as they like. You will be off by some margin…and so is Gartner! Ultimately, it makes relatively little difference for your business plan whether your market is $3.9 bln or $4.4 bln. That’s a small enough range and your estimate will be within or close to that range. Add it all together, don’t forget to account for the Others, and voilà, you have market size and market share!

Calculating Market Growth

The next data point that you will need is the market growth. This gets trickier as the more you drill down, the more inaccuracy you’ll be adding. To do that, go through the exercise but estimate the companies’ revenue 12 months ago. You will find some actual numbers through research and your expertise will help you to gauge who’s been growing faster and who slower. Getting actual data from 2-3 companies will significantly improve your ability to estimate. You know much you’ve grown and you should have accurate data about your win rate against each of the competitors. Who’s hot right now? Who’s been very visible at every event? Who’s milking a massive installed base? Who’s showing up with a different reference at every webinar and who keeps using the same customer for every occasion? All that considered will give you some understanding of the relative growth of each vendor.

And just like that, you have the market size, market share, and market growth overall and for each vendor. That’s pretty good! It might feel rough but it’s way better than an empty slide.

Understanding the Limitations

Remember, the more granularity you want the less accuracy you’ll have to accept. That’s why I wouldn’t use this methodology to estimate CAGR over 5 years. This is where Gartner and IDC will beat you – they have been doing it regularly for years and they have a much more accurate history and a much better feel for future growth.

I’d be also careful using this methodology to estimate the market size and revenue for a specific geography or vertical. You can try and leverage some of the country growth data from Gartner, combined with the specific market expertise within your company. But you will find it much less confident and rightfully so. You are making estimates based on estimates and your accuracy will suffer. Again, this is where Gartner and other analysts who’ve been doing it year after year will beat you.

Being Proactive to Be Credible

Ultimately, it is not the coming up with the numbers but the credibility of your data that will be your greatest challenge. It’s easy to dismiss your estimates. But chances are very high that the right chart doesn’t exist and you will have no choice but to come up with your very own take on what the market looks like. Don’t leave this for the night before the business plan is due. This exercise takes time. Start building it today. Iterate on it and fine-tune it over time. Setup a workshop and involve your boss and other key stakeholders. That’s the best way to proactively address the data credibility issue. Remember, an educated estimate is better than no data at all!

In the next post, I will discuss how to estimate the total addressable market, TAM. In the mean time, here’s some recommended reading: Forbes: How To Effectively Determine Your Market Size

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