In calculating market size, one must realize three important facts to avoid an often frustrating experience. First, the exact market size number does not exist. Second, the size estimate is never correct, but directionally accurate is sufficient. Finally, estimating the size of a market is both an art and a science.
The only way to calculate an exact dollar figure for the market size is to roll up all of the goods sold by the companies participating in the specified market. However, companies don’t report sales with specific product and market breakouts. For example, suppose one is estimating the size of the fire extinguisher market. In that case, there is no requirement that all companies selling fire extinguishers have to report their total sales to a single entity that aggregates the data and publishes an overall market size. Such a database does not exist.
Regarding the accuracy of market size estimates, a plus or minus ten percent should be acceptable, as the market size is typically used to calculate market share or assess market attractiveness. So, if a market is between $5 billion and $5.5 billion, the $.5 billion size variation will have little impact on share estimates or overall market attractiveness. As we often ask clients, “if the market size is $5 billion instead of $5.5 billion, would it be any less attractive, or would it change your strategic direction?” The answer is typically no.
The various methods of calculating a market size require several traditional marketing skills, such as secondary data collection, primary data collection, segmentation, data-driven assumptions, and the application of sound logic.
There are various methods for sizing a market, and the choice of method depends on the availability of data, the complexity of the market, the obscurity of the market segment, and the purpose of the analysis. Here are some standard methods:
Top-down: This method estimates the market size by starting with a broader market size estimate and then narrowing it down to the specific target market segment. For example, suppose you are sizing the market for pre-made double-hung windows. In that case, you might start with the overall market size of pre-made windows, then narrow it down to the segment that uses double-hung windows (i.e., new construction and residential remodels).
Bottom-up analysis: This method estimates the market size by starting with the number of potential customers and multiplying it by the average revenue per customer. Again, for pre-made double-hung windows, one might begin with the number of potential customers (i.e., new construction and residential remodels). Then the average number of double-hung windows per house and the percentage of pre-hung windows.
Customer surveys: Some surveys are often needed to provide a solid basis for market assumptions and directional data. In our window example, surveys and interviews may be beneficial in estimating how many double-hung windows are in a typical house and what percentage are pre-hung windows. This method involves collecting data from potential customers to determine current market conditions, estimates of volume, etc.
Market research reports: This method uses published market research reports that provide data on market size, growth rate, trends, and customer segments. This can be a good starting point for estimating the market size but may require additional customization to reflect your market segment.
Competitive analysis: This method involves analyzing your competitors’ market share and sales data (if available) to estimate the market size. You can estimate the potential market size by understanding your competitors’ market position and product offerings.
These methods are not mutually exclusive. One should complete at least three methods and triangulate the results when sizing a market. If the results are not within 10% of each other, it is recommended that you re-assess the assumptions and data inputs. Your market size estimate is typically accurate when all three methods yield a consistent market size.