How to Size Your Market Like a Pro

Market size and forecasting are the cornerstones of market intelligence. They usually aim to answer the questions of how big a given market is and how fast it is growing. Their purpose is to delineate a path of growth for a company and to help support the decision on which markets to enter to find and sustain growth.

Basic Concepts in Market Sizing 

What is meant by the Market? In the most basic sense, the market is a group of customers who are buying a certain product or service from the same sellers. Conversely, the sellers who offer similar products and services to the market are called the Industry. Most industries and markets are parts of long chains of buyer and seller relationships, starting with chains of B2B relationships and ending up in the B2C market. 

Market Size is defined as the total volume or value of products and services that the entire industry can sell to a specific group of customers within a certain timeframe, usually a year. Within that overall market size, there is also the addressable market or a specific segment of the market that one company can capture with its offering.  

Market Sizing Is Never Accurate… But Maybe It Doesn’t Need to Be 

One thing to keep in mind is that market size can never be estimated accurately because the estimate methods are generally subjective, and they almost always rely on assumptions. The accuracy of your estimate will depend on how correct those assumptions are. In addition, market dynamics can change the size of the market relatively quickly. The simplest example would be any intensification of competition, which typically results in declining prices and corresponding changes in the market volumes and/or value.     

So, how do we deal with this lack of accuracy? By accepting that, most of the time, very precise estimates are not even needed and by creating different forecasting scenarios based on different assumptions. Remember: It is better to be broadly right than precisely wrong. 

The Four Steps of Market Sizing

Typically, any given market sizing exercise will follow a four-step pattern: 

• Clarify the question by defining the product/service measured and by segmenting the market 
• Build your market sizing model by breaking the problem down into smaller pieces
• Source the data to solve each of the smaller pieces and consolidate into a final result
• Validate the results

STEP 1: Clarify the question by defining the product/service measured and segmenting the market 

The first and essential step of any market sizing exercise is to clearly define the product or service being sized. In today’s world, companies continuously strive to differentiate their offerings, which makes market sizing very challenging. One often must make judgmental decisions about which products or services to consider as being competitors in the same market.  

The second step of this process is to clearly delineate the market segments of interest to determine the structure of the addressable market. This means that we conceptually break down the market by sub-products, applications or customer segments, geographies, years, etc. An example of such breakdown would be segmenting the lamps market into different technologies (LED, compact fluorescent, incandescent), applications/client segments (industrial, street, commercial, residential, etc.) and countries served. 

It is worth the time to understand how the market sizing will be used and which segments are essential to estimate. The cost of obtaining data is always closely linked to the desired accuracy, granularity and speed of the market sizing. If the cost and time commitment seem too high, it is advisable to leave out some variables and to combine or reduce the number of categories.  

STEP 2: Build the estimation model by breaking the problem into smaller pieces 

All methods for estimating market size are based on decomposing the problem into smaller problems and building those results into the market size. The two principal methods of sizing the market are the: Top-Down Approach and the Bottom-Up Approach. 

Top-Down Approach aka ‘Chain Ratio Method’

The Top-Down Approach estimates the addressable market from above, by starting with a broad market size figure (e.g. an existing market research report for a bigger segment) and narrows it down to the target market segments by using assumptions and statistics. Some assumptions can be verified via existing data or statistics, others cannot and have to rely on the best guess or judgement of the market modeler. The top-down approach is usually considered as a less robust methodology. It is the “fast and cheap” of market sizing and tends to give market estimates that are too high. 

Bottom-up Approach aka ‘Counting Noses’

Bottom-Up Approach estimates the addressable market from below, by summing up known data from market participants: usually the supply side or less frequently the demand side. This approach is often considered as more conservative and robust, since it takes into account the capacity limitations of the industry. Bottom-up approach usually requires primary research and is therefore more accurate but also more costly to carry out. 

General principles of building the estimation model   

The first step in building your model involves mapping out all the data that is already available or can be easily obtained. One must consider how this available data differs from the product definition and segmentation that has been defined in Step 1. The model is initially built by describing how you can get from the data you have to the data you need. It can be facilitated by using visuals, e.g. drawing a flowchart with boxes for inputs into calculation and outputs from the calculation. The next step is to identify and list all the data gaps, i.e. all the data that is needed in the calculation but not available. Based on this list, a research plan for sourcing the missing data is devised. 

STEP 3: Source the data to solve each of the smaller pieces and consolidate into a final result 

Secondary and Primary Research 

Sourcing the missing data is almost always a mix of secondary research, primary research and analysis. The most common secondary research sources used in market sizing include: published statistics (economic, governmental, trade and customs), existing industry data (from consultancies and associations, existing market research or investor reports), product data, news (free or fee-based aggregators) and company information (global and local company financials databases, public directories, security exchanges, company’s own financial reporting). The primary research is done via surveys, questionnaires and market expert interviews. The typical respondents could include own employees, competitors, distributors, actors in the supply chain, existing or potential customers, industry experts, journalists, associations and academia.   

Analytical Tools 

Typically, the secondary and primary inputs are put together and analyzed. Since data availability is often a major challenge in market sizing, different analysis tools can be used to fill in some of the data gaps. Some examples of analytical tools include heuristic assumptions, the Delphi method and regression analysis. Heuristic assumptions otherwise known as educated guesses, intuitive judgements or common sense. Even the expensive and highly regarded industry studies often rely on them. Delphi method is a judgmental estimation and forecasting method based on the principles of anonymity, iteration, controlled feedback and weighing. Regression analysis involves establishing a relationship between an already estimated market size and predictor variables, which enable quick top-down estimation of more data points. Typical predictor variables include GDP, demographic and geographic variables, production per industry, imports and exports, and market size of other products and services.

STEP 4: Validating the results 

After the missing data is gathered and put in the model, it is time to validate the results. The first step of validating your data is through a thorough checking of the created model and its inputs. You should start with the product definitions and segmentation and check the assumptions, the calculations, the sources, key primary and secondary inputs, as well as conduct sanity checks. This is also a good time to conduct a sensitivity analysis, i.e. identify the assumptions that you are the most uncertain of and test the model by using the highest and lowest possible values for these assumptions.  

The second step of validating your results is through triangulation, i.e. building a model with at least two or three different approaches to estimate the same variable (e.g. using both the bottom-up and top down estimates, estimating through product complements for which market sizes are known, estimating through primary research, or conducting a regression analysis). When you aim to triangulate your estimates through using different estimation methods, you should start from extremely disparate sources of data and ideally have your different estimates be independent of one another.  

The validation process should end with you having confidence in your market estimates and being able to derive a similar number or range via several methods or sources, while making sure that the product definition and segmentation remain unchanged. 

What Next? 

Deriving an accurate market size can help with setting the right growth targets and with the right positioning of your product; it can also save you from unprofitable market entries or expansions. Its most important condition is to conduct your research and analysis well. M-Brain provides support in market model creation, secondary research, interviews and analysis.

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