To prove the viability of your business idea, you’ll need to find out how many customers your start-up can potentially sell to. This guide explains how
When starting your business, most likely on a shoestring budget, there’ll be many things you’ll have to forgo initially in order to keep costs down, but the one thing you won’t be able to survive long without is customers.
So, a pivotal point in starting your business will be sizing up your market and finding out how many customers you can potentially sell to, who these people actually are, what traits they share, and who they’re already buying from.
There are four steps you need to take when measuring the size of your market.
Step one: Market size calculation
The size of the market you intend to get into is a key figure that will be used by anyone reading your business plan, yourself included. That figure represents the total scope of the opportunity ahead and is the starting point in shaping your marketing strategy.
Thankfully, finding this magic figure isn’t too difficult – at least in theory.
Somesimple desk research(secondary data available in published form, accessible either online or via business sections of public libraries throughout the country) should provide lots of statistics with varying degrees of reliability.
You should use this process to try and finetune who exactly you’re selling to – as an over-optimistic market appraisal will lead to bloated sales forecasts, create a bigger marketing budget than necessary and instil a large degree of distrust among potential investors who’ll see your optimism as misplaced arrogance, poor business acumen, and a risk not worth not taking.
Generally, there are two different approaches when it comes to calculating the size of your market – a top-down, or bottom-up analysis.
While in theory, you could only undertake one approach when researching potential customers, it’s preferable that you do both.
A top-down analysis: A top-down analysis is completed by calculating the entire total market you’ll be entering and then estimating your share of that market.
For example, the a clothing market is worth 51.2bn. Even if your business is targeting a market share of just 0.5%, that’s still 256,000,000. Naturally, a top-down analysis is often widely optimistic.
A bottom-up analysis: A bottom-down analysis is completed by estimating potential sales in order to calculate an overall sales figure. It takes into account where products can be sold, the sales of comparable products, and the slice of current sales you can carve out. While it is a lot more work than a top-down analysis, the final figure will often be much more accurate.
|How to identify market size: Expert advice|
Colin Barrow, author ofBusiness Plans for Small Businesses, gives the following example of how entrepreneurs should start to think more precisely when working out who they’ll be selling to.“If bread is your business you will be able to discover rapidly that the consumption of bread in Europe is 10bn a year. But bread is a very broad industry. The industry-wide definition of bread includes sliced and unsliced bread, rolls, bakery snacks and speciality breads. It covers plant- baked products, those that are baked by in-store bakers, and products sold through craft bakers.“Assessing the relevant market, then, involves refining global statistics to provide the real scope of your market. If your business only operates in the UK the market is worth over 2.7bn, equivalent to 12 million loaves a day, one of the largest sectors in food. If you are only operating in the craft bakery segment, the relevant market shrinks down to 13.5m; this in turn contracts still further to 9.7m if you are, say, only operating within the M25.“This is the hurdle that nine out of every 10 business plans fail to cross. Entrepreneurs like to think big, but a business plan based on attacking the 10bn European bread market, rather than the much smaller near 10m market for craft bread products they are really going into, will lack all credibility.”
Step two: Target market analysis
Once you’ve determined how to calculate market size, you then need to assess its value.
These are four useful rules to help you decide if a market segment is worth building into your business plan.
- Measurability: Measurability is all about estimating how many customers you’re looking to sell to, and judging whether this number is large enough to make it worth your while selling to them. While your initial target market might shrink when you pinpoint exactly who you’ll sell to, you may actually generate higher sales once you’ve carved out this niche in the market. Not only will you calculate consumers in this period, you’ll also calculate what part of your business’s offering applies to them. For example, if you run a clothing store you can segment your market by online or in-store, and also, by men, women and children.
- Accessibility: Identifying a viable market is one thing, but if you can’t reach these customers and sell to them – then they may as well not exist. You need to ask yourself how you can reach them, preferably in a way that connects and resonates with them on an individual basis. For example, you could reach the over-50s by advertising in a specialist ‘older people’s’ magazine with reasonable confidence that younger people will not read it. So, if you were trying to promote Scrabble with tiles 50% larger, you might prefer that young people did not hear about it. If they did, it might give the product an old-fashioned image.
- Open to profitable development: The customers must have money to spend on the benefits that you propose to offer. One of the fastest growing market segments comprises occupants of retirement homes, but there is not much evidence that they have the cash to spend on new products and services, however worthwhile or desirable.
- Size: As touched on above, the size of your market can both be too big or too small. If it’s too niche, you won’t be able to generate enough sales to survive long-term. While if it’s too big, you won’t have the resources to compete against large corporates who’ll drown you out.
Step three: Divide your market into different types of target audiences
Market segmentation is a process that helps gather different consumers of similar tastes into the same groups – to make it easier to tailor your product/service and target a viable audience, rather than just flogging your business to the wind.
There are several ways by which markets can be segmented and the following table shows some target audience examples:
Here we explain some of the terms in more detail:
Psychographic: While demographics explain who your customer is, psychographics explains why they buy your product and service. While demographic information on consumers includes information like their age, income, and marital status, psychography divides individual consumers into social groups – all of whom share collective traits such as lifestyle, opinions, values, personality and even social class.
Traditional examples of psychographic groups include:
- Yuckies: Young, unwitting, costly kids – who are still at home at 30.
- Yuppies: Young, upwardly mobile professionals.
- Bumps: Borrowed to-the-hilt, upwardly mobile, professional show-offs.
- Jollies: Jetsetting oldies with lots of loot.
Understanding consumer buying behaviour is best served by thinking about both demographics and psychographics, however, a consumer’s attitude/opinion towards something is often a better indicator of their spending habits than their age, race or gender.
Two easy methods of obtaining psychographics of your current customers include:
- Conversing with them through surveys and questionnaires, or even just having a chat when they reach the checkout. Consumers should generally react well if you appear to be tailoring your offering to them specifically. As the demographic of the person should be pretty easy to pick up on, especially if you’re meeting them face-to-face, you’ll need to ask more psychographic-based questions – such as what motivates them to shop, and whether they value price or quality and vice-versa.
- A less personal and more technical approach, though one that will offer up a more ‘honest’ set of data, will be to investigate your website analytics – which should accurately tell you what has motivated someone to buy a product. While few people might openly admit to a stranger they’re a bargain hunter and after the cheapest deal possible, the fact they’ve used that discount code tells you all you need to know.
This process recognises that different people can get different satisfaction from the same product or service – and is very popular among clothing, cosmetic and other consumer businesses.
For consumers, benefit segmentation should answer the key question: “What is this product going to do for me?” and this in turn will help you plan relative and applicable marketing activities.
Extending beyond the physical reward of a product, benefits for the consumer may extend to the emotional or psychological.
The classic marketing story used to explain this is that of toothpaste companies which target those motivated largely by health emphasising clinical benefits, while whiteness as cosmetic appeal is pitched at another group.
Benefit segmentation may include:
This form of segmentation arises when consumers have different needs based on where they are located, and is a common marketing approach for small retail businesses that serve a wide demographic.
When deciding what products to stock, the process of geographical segmentation should have business owners thinking about everything from what sort of services local shoppers have access to, and what popular pastimes they enjoy, to what delicacies they eat, and what the climate is like.
For example, an inner-city location may be a heavy user of motorcycle dispatch services, but a light user of gardening products.
This groups together commercial customers according to a combination of their geographical location, principal business activity, relative size, frequency of product use, buying policies and a range of other factors.
How to Segment Industrial Markets by Benson P. Shapiro and Thomas V. Bonoma, published by Harvard Business Review suggests that most industrial/B2B businesses use segmentation to explain results rather than to plan.
Their assessment of industrial segmentation is summarised in this table.
|Demographics||Variables||Purchasing behaviour||Situational factors|
|Industry||Technology||Purchasing function||Urgency of order|
|Business size||Brand status||Power structures||Product application|
|Business location||Customer capabilities||Buyer-seller relationship||Size of order|
Naturally, market segments can be made using more than one variable – which can give a more precise picture of a market than just using one factor.
Step four: Identify potential competitors
Regardless of how innovative you believe your business to be, the likelihood is that you will have plenty of competitors and rival businesses in the marketplace – targeting the same customers as you.
As a result, obtaining a detailed understanding of the competition will be vital when measuring the size of your market and proving the viability of your own business idea.
If your research discovers that your potential competitors are very expensive, offer poor customer service, or use outdated tech, then you can position your business as the antidote to these problems.
A good example of this is the spate of tech start-ups operating in the insurance and property sectors focusing on excellent customer service, low commission rates, and greater transparency.
However, if you discover that your rival appears to be doing very well on all fronts, you’ll have a much tougher battle on your hands – and might have to carry out extensive research to find yourself a niche worth carving.
As the expression goes however, imitation is the best form of flattery, so don’t be afraid to mimic your competitors’ strongest skills for your own business.
In his book Developing Business Strategies, David A. Aaker suggests four areas entrepreneurs need to concentrate on when determining the successful skills within a particular industry. These are:
- The reasons behind successful as well as unsuccessful firms
- Prime customer motivators
- Major component costs
- Industry mobility barriers
According to theory, the performance of a business within a sector is a direct result of a certain set of desirable assets and skills.
Therefore, an analysis of the best performing businesses within a particular sector should explain the reasons behind their success.
Combining this with a similar study of failed businesses and the reasons behind their undoing should provide a good overview of what key assets and skills are needed to survive within that particular market or industry.
Once you have identified these key assets and skills, they should form a good part of your strategic plan – which is where you attempt to win a market share.
Competitive strategies usually fall into these five areas:
If you work your way through the four steps above, this should help you to calculate your start-up’s market potential and determine your total addressable market.