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Business Strategy

What is your market size - part 2

Understand the power and risks of market potential, as well as what affects your realistic market size.

September 7, 2020

What is your market size - part 2

Checkout part 1 of "what is your market size?"

In March 2014, Facebook, Inc. acquired Oculus, a VR startup, for US$2.3 billion in cash and stock. According to some reports, Oculus had roughly $20M in sales of its developers kit. Many people were surprised by Facebook's move, especially since the VR market wasn't huge in 2014. It did have hidden potential. That was evident in the analysts' reports that were published in those years.

What made the Oculus market so attractive was not its size but its potential. It will be enormous. It will be great. It will be HUGE! When? 3-5 years. Always 3-5 years.

Telling the story about the market potential is very valuable since high growth allows players to take market share without computing which allows for higher margins and a stronger market position down the road.

So, in short - even if the market is not there, but you believe it will be significant and can convey it in good storytelling, you can convince others to support you in the journey. It's important to note that while the market potential is always hidden since the sales numbers in the market are low, the potential is "highlighted" by the ecosystem in the form of journalists and analysts. You need to be in close contact with both stakeholders if you operate in an industry on the brink of booming.

Case study: VR market promise 2014-2020 and beyond (with reality check at 2020


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2020 (when this blog was first posted) - actual numbers


I’m a huge believer in the VR market, and I believe it still holds many potentials, but as an anecdote compares the actual numbers of 2019 vs. the forecast five years before. The forecast had envisioned over 18 million units sold in 2018. The reality was much slower - less than a third of forecasted units were sold one year later.

The huge market potential is meaningless if you can’t survive to see it materialize

I learned this lesson the hard way. I was fundraising for a tech company in the field of enterprise IT. Luckily for us, or so I thought, we were operating in a very well-defined market with many prestigious analysts reports quoting multi-billions of dollars for the market size. But a VC I met challenged me to provide a very rough breakdown of all the players in the market, and how much each sells per year. No matter how hard I tried, I could not come up with a complete number that would explain even 20% of the market size quoted in those reports. The meeting spiraled down from that point since I was caught with my pants down on a fundamental topic - “what is your market size?”

Another typical example is from the Automotive industry. Let’s assume you had a working solution for an autonomous car. There is no question it is a valuable solution, with a commercial potential of trillions of dollars. However, under the current regulatory requirements, you might not be able to monetize any of it.

You need to map the gap between potential and current market sizes very consciously. If you don’t generate enough cash today to pay the bills, a huge potential market is useless for a small startup.

The market size might not be YOUR market size - use Porter’s five forces analysis (or an equivalent)

Michael Porter 

Michael E. Porter is a Harvard Business School professor considered a business guru and authority on competitive strategy. Four decades ago, Porter published his 5 forces model for market analysis. 

While the model requires some updates, as suggested by many, it’s worthwhile to analyze your target market according to it at least once as it can potentially highlight parts of your business model you might not have considered and require a change. When analyzing your market using the 5 forces model, try to be as conservative and realistic. Seeing things through pink glasses will only bite you down the line. 

For example, let’s take a startup that creates a new model for actuary calculations that can improve the results by 0.1%. This improvement might sound negligible, but if you consider the worldwide insurance payouts come at ~$750B/yr, it gives a potential (and skewed!!! Don’t use this system) market of  $760M a year. Not bat.

However, when you analyze the market based on the 5 forces model, you get interesting insights. For example, in this case:

  • The threat of substitutes - the entrepreneur tends to think that since his actuary brings value - it will be bought. The reality is that creating “savings potential” has inherent unknown risks. What if the model fails? What if the outcome is worse? The insurance companies (and potential customers) can simply NOT save and keep on using existing models. This behavior may shrink the potential market substantially to a real market that is very small.
    I would score it as a NEUTRAL-HIGH threat.
  • Bargaining power of customers - as you can mainly sell to insurance companies, and as there is no strong driving force obliging them to implement the solution - I think this is the worst threat. Creating a savings of $750M, one may assume a fair 50/50 “split” between the startup and the corporate. But in reality, the savings may be split at 90/10 or worse - making the actual market size very small.
    I would score it as an EXTREMELY-HIGH threat.

It’s best to run this kind of analysis before you even start your company, but it is a great tool to identify go-no-go points when pivoting to a new market/model.

The relevant market structure and competition for your startup

While understanding the market size is essential. It is equally important to understand what sort of competition structure you will face, how to tune your offering around it and structure your story to reflect it. 

Competition structure can take many forms, but in short, we care to understand which vendors are solving the same problem in the market and what is the probability a customer will compare them for a specific deal. To understand the competition structure, “dissect” the market into niches (that might be overlapping) and identify the niche you operate in. In an ideal scenario, you aim to serve an underserved niche that is growing and does not allow easy transfer from another niche. 

There are endless ways you can cut a market into niches. Let’s give a few examples to simplify this concept.

Geographical niches

Let’s say your business is a pizza delivery service. Whether you look at your market as the food market, restaurant, and fast food market, specifically the fast-food market or even the pizza market, one thing is obvious. The pizza delivery service market is very local. As that is the case, if you show the location you are penetrating is underserved and enjoys high demand, it will show tremendous potential. A competitor that operates in another city can’t merely “move in” into your niche without effort and risk.

In the digital world, a similar breakdown is achieved by language. If customers are not served in their native language and do not consume an “international” service due to language barriers, you can own the language niche.

Technological niches

You have started a remote computer analysis tool. It is a massive market with many players offering different solutions and aggressively competing on every desktop computer.

But what about modern TVs? In 2020 these were practically computers with CPU, memory, network, and internet access. You can tailor your solution to service only TVs and break away from the pack. So while there will be a high level of competition in the “computer analysis tool,” you can show very little competition in the “remove TV analysis tool.”

Positioning niches

Both H&M, as well as Louis Vuitton sell clothes. Of course, this sentence is blasphemous. The guys at LV are “a fashion house and luxury brand” while H&M is fast fashion. This difference in positioning helps them both avoid the competitive situation. Every market provides an opportunity to create a new “high” niche and “low” niches, depending on whether there is enough customer demand. That will allow you to claim you will not get into competitive situations simply because the competition doesn’t sell at your price points or provides the same quality as your products.

What are VC’s looking for when they look at your market

First and foremost - regardless of which VCs you meet, you’ll need to convince them that the business opportunity, which is directly derived from the market, is substantial. How substantial? You’ll need to show them you can get to at least $100M in revenue within 5. For this, the market will need to be assessed at least $1B. More prominent VCs will require $10B.

As that the case, founders focus on showing a slide with a giant $XXB at the center. That is a mistake since while the VC wants you to aim at a big market, they also want you to do it smartly and navigate your way in the complex, competitive market. It is better to show how you can take on a $100M market and own it under the “own the niche before you expand.”

Except for the size, you’ll encounter varied opinions from VCs as you would encounter various business models. Some would prefer customer clusters, while others will prefer small distributed customers. Some will prefer disruption of a proven market (uber to taxis), while others will prefer blue oceans (social media). Some will be very meticulous about how much a customer is willing to spend vs. your customer acquisition costs (CAC), while others will look at the target, assuming you and your team will figure out how to crack the CAC issues.

All the VCs will hate regulated markets unless the regulation plays in your favor. That is why healthcare companies are usually invested by VCs who specialize in this type of company.

Like most VCs would have some focus ranges along each spectrum (stage, check size, industry, etc), they would also have clusters of markets with similar traits based on their personal opinions of where is the best probability of building a successful company. Don’t be discouraged if one VC doesn’t like the market you aim at. Get their feedback on why they don’t like it and see if it is a matter of fact (regulated market) or a matter of taste (the market is made of too many small customers). If it is the latter, like anything based on preference - you’ll find a VC that LOVES your market.

So - what is your market size?

Understanding your actual market size will give you an edge in fundraising and in running your company. You should go through a complete market analysis at least every year and keep communicating with analysts and journalists to ensure that your vision is aligned. At the very least, you should have a reasonable explanation of why everybody forecasts a specific market size while you see a different number. Be its hidden potential, unserved niche, or technological disruption opportunity.

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