How to Calculate Total Addressable Market and Perform TAM Analysis

Highlights

The energy that comes with launching a new product or kicking off a fresh campaign can make sales and marketing teams eager to dive into the details. 

But there’s a key step that must be tackled before you start building a prospect list of target accounts or spinning up content and offers: identifying and analyzing the total addressable market.

Defining your market today — and understanding where your business can grow in the future — helps go-to-market teams focus on the right customers and competitors at the right time. And the quality and breadth of your market data makes all the difference.

What is a Total Addressable Market?

A total addressable market (TAM) is a calculation that represents the overall revenue opportunity for a given set of products or services. Also known as total available market, your TAM estimates the size of a particular market and provides guardrails for putting together go-to-market (GTM) strategies. Without these guardrails, a company might chase after every potential lead or opportunity and waste time and money pursuing dead ends. 

Questions to Ask When Defining Your TAM:

• What are the characteristics of current and potential customers?
• What industries have we historically sold into?
• Where are those companies located?
• How big are those companies?
• How is the market growing? Are there new entrants? Bigger budgets?
• Where can we expect growth?

In order to identify companies in your TAM, use your B2B database to filter by industry, company size, and location. You should have enough filters to narrow in on a target market, but not so many that your market opportunities become too small.

To prioritize which accounts to target first, break down your TAM into micro-TAMs based on industry and headcount. Now you can see where you win big and often, compared to markets with smaller deal sizes and higher loss rates. For example, you may win more with small-to-midsize healthcare companies than with enterprise financial companies. 

This data-driven approach ensures you focus your finite go-to-market resources on the biggest and best opportunities first. Then you can layer in data (such as intent and technographics) to prioritize further.

Two Approaches for Calculating Total Addressable Market

Armed with the specific characteristics that make up your company’s current market, you can approach your total market calculation. The two common approaches are top-down and bottom-up.

1. Top-Down Market Size

The top-down approach uses industry research to estimate the size of your TAM. Secondary market research, from companies such as Forrester and Gartner, can be used to determine how many users meet your market criteria, and how big that industry is.

This method is shown as an inverted pyramid, where the smallest part of the pyramid represents the company’s end-user. It’s presented as, “according to secondary market research, this industry is an $X billion market,” and leads into how your company manages a percentage of that market.

However, external research may not meet the exact specifications for your addressable market, and estimations may carve out or tack on additional segments.

2. Bottom-Up Market Size

The bottom-up approach is more accurate. This technique uses first-party data to provide a more accurate estimation of revenue and market growth. 

To calculate your market size using a bottom-up approach, multiply the total number of accounts in your industry by the annual contract value (ACV) of your company’s product or service.

TAM = $(Total # of Accounts) x ACV

For example, suppose you have a beverage company that could sell lemonade to 1,000 vendors on the West Coast. Each case of lemonade costs $30, and on average your vendors buy 50 cases per year, totaling $1,500. 

You can calculate your TAM for the West Coast by multiplying 1,000 vendors by $1,500, which equals a total market of $1.5 million.

You can dig deeper and derive more value from this TAM equation by grouping accounts by size. Justin Withers, senior vice president of strategy at ZoomInfo, suggests multiplying ACV by the number of accounts in small and medium-sized businesses (SMB), mid-markets (MM), and large enterprises (EE):

TAM = $(ACV x # of SMB) + (ACV x # of MM) + (ACV x # of EE)

By accounting for the variability in account sizes, the bottom-up equation provides a more accurate estimate of your total addressable market, as well as insights into valuable sub-segments to pursue. When relying on a foundation of highly accurate data, this approach provides a more detailed, accurate picture of your TAM, which translates to higher revenue.

Continuing the beverage company example, you could examine the different business accounts within your vendor list. Out of the 1,000 vendors that you could sell to, let’s say you identify that 659 are SMBs, 166 are mid-market, and 175 are large enterprises (EE). Your ACV for SMB, mid-market and enterprise might be $500, $2,000, and $5,000 respectively.

Therefore, you would calculate the sum of ($500 x 659 SMBs) + ($2,000 x 166 MM) + ($5,000 x 175 EE) to equal a total addressable market of $1.53 million.

Two Ways a TAM Analysis Drives Results

Calculating your TAM properly is an exercise that can vastly improve both the broad strokes and the fine points of a marketing strategy.

The big picture

At the highest level, a well-calculated TAM helps your company explain its potential to investors, employees, and other key stakeholders.

Investors and external partners want to know your company’s ambitions and understand the C-suite’s goals — but they also need to know that the math backs it up. Inside the company, a well-formulated TAM guides your team toward a shared goal, and gives everyone a common gauge of how close they are to capturing a meaningful slice of the market.

The detailed view

At a more granular level, a well-considered TAM calculation can help guide your budgeting and investment decisions on a quarterly basis. Once your TAM is defined, your marketing teammates will know which segments of the market to focus on next — and will have a clearer understanding of how their efforts are translating into financial results that help everyone succeed.

A deep, detailed understanding of your TAM also makes your marketing more effective. Getting beyond the numbers is the key: once you truly understand the characteristics of your market, you will begin to ask what motivates your prospects. And putting yourself in the buyer’s shoes gets you one giant step closer to winning their business.