What is the TAM?
The term TAM means the "Total Addressable Market" - but what is that and how do you calculate it?
However, that fails to answer the question.
But of course, this is different, and is the eternal total ever possible sales of something - which I guess ends when the Earth falls into the sun unless you assume that humankind continues to other planets and stars.
I like this one, but I think we want to put it in annualized terms.
Of course with no competitors, there would be no market, but so it goes...
Clearly this last one is the definitive one...
So to be clear...
There is no uniform definition, and there is likely no real agreement on the reality vs. the concept.
The real question we are getting at is how much is the total market that you are addressing.
I think it is best explained with examples, and you are warned, it is relative...
However, as I niche it down, the pool of money decreases.
What we are trying to get at is the total amount of money you could bring in if you sold all of whatever you sell to every customer that could reasonably buy it for the purpose offered.
And the CAGR?
I hear your plea. The combined annual growth rate (CAGR) is the overall change in the TAM year by year anticipated on some reasonable basis over the period of interest. If more people are buying electric cars year after year and this s expected to continue to grow at the rate of 10% more buying each year for the next so many years, the CAGR is 10%.
Interestingly, the TAM may go down because you were successful. Really! Suppose you sell electric cars at 1/2 the price of everyone else? Then the TAM is half of what it would be at the current price.
So how do I calculate the TAM and CAGR?
Like most calculations, it starts with facts and assumptions. Here's an example of the TAM for my new magic pill that will cure and prevent all diseases for a period of one year and works on any human being. I plan to sell it for $10/each at wholesale. There are about 7.8 billion people on earth. Every one can use my product, but only one user per year. So that's $78B TAM. The growth rate is about 1%/year and slowly decreasing, so I will assume 1% CAGR. That's the TAM and CAGR - simple - yes? All I have to do is show the basis for the numbers with references (https://statisticstimes.com/demographics/world-population.php) and we are good to go.
Not quite... We need to recognize the average lifetime of the product and thus resell it every so many years, and add the recurring revenue portion per year. The calculation I made was assuming one unit per person per year. But what if the pill lasts for 10 years and then becomes ineffective. OK - so we now have to divide the TAM by a factor of 10 to get the right answer (annualized), or $7.8B TAM and it's recurring.
But wait. Diseases are most often communicable, or at least many of them are. When there are no cases for 5 years or so, they die off and are no longer present in the ecosystem. And that means that for those diseases you catch from others (but not from animal hosts), you kill the golden goose when you cure them. While doctors may like this, medical companies do not. So let's just make it 85% effective to keep selling them forever. We could also slow the supply down so the sickness rolls from person to person and we never really copletely cure it. And of course diseases mutate, we we could cover a small number of mutations each year and keep changing it. Sound familiar?
But what about new markets?
I imagine the TAM for smart phones was zero in the late 1990s, because there weren't any yet. But there were phones, and cellular phones, and personal data assistants (PDAs). The smart phone disrupted all three of these markets all at once by combining the functions and replacing multiple devices with one. A simple calculation would be to add the number of each in existence and assume we were replacing them all at a lower combined price. OR, we could do the total population approach - we will charge $360/year for all of the combined functionalities, there were (at that time) 6.1B people in the world, at $360/year that's $360*6.1B, or just under $2T for the TAM. The CAGR was about 2%/y at that time using the same sources.
Of course this ignores that added value brought by the new marketplaces created with appstored, and paying for the subscriptions to audio and video content, all of which is created, and the sports and events fees, and the new purchasing power of instant purchases from anywhere, and the changes in consumer behavior, and and and....
But the answers are completely different!
Yes they are. And that's the point. TAM is poorly defined. When you describe it, you need to explain why it is what you claim it to be. But here's the key point. However many units it is comprised of per year and however you got it, you multiply the number of units by the amount you are selling it for on an annualized basis, and that's the TAM. Or you add up whatever you are displacing and claim that's the TAM. But really, the purpose of the TAM is to (1) figure out whether it's worth all the time and effort to go into the business, and (2) convince others it's worth their time and money to go into it.
A call to action
This other trick with the TAM and CAGR (2) is to understand how it will be interpreted by the investors. My new chewing gum is unlikely to revolutionalize the chewing gum market and sell one stick per person on Earth per hour forever. Keeping it reasonable is a job for experts... And we have them. At...
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