Total Available Market – The Foundation of Service Revenue GrowthDec 07, 2020
If your company's objective is to grow service revenue over the next 12 months then it's important to determine the Total Available Market, Serviceable Available Market, and Serviceable Obtainable Market for its services. Let’s define what these terms mean:
- Total Available Market (TAM) is the total market demand for a product or service calculated in annual revenue or unit sales if 100% of the available market is achieved.
- Serviceable Available Market (SAM) is the portion of TAM targeted and served by a company's products or services.
- Serviceable Obtainable Market (SOM), or share of the market, is the percentage of SAM which is realistically reached
You’ll want to determine the TAM, SAM, and SOM for your company’s services regardless of whether the growth strategy is one of selling more services to existing customers (market penetration), offering new services to existing customers (service-product development), selling existing services to new customers (market expansion), of selling new services to new customers (diversification).
The reason why it’s important to determine the TAM, SAM, and SOM is that it helps prioritize business opportunities, investments, and resource allocation. It also provides a perspective that all stakeholders within a company can agree on. Without this data, companies can flounder in achieving their growth objectives. Adhering to these data points helps service providers remain true to their missions. It easier for service leaders to rally the troops behind an initiative when they understand what’s at stake.
Unfortunately, service providers can make errors in judgment when it comes to constructing the TAM, SAM, and SOM. Common errors include:
- Taking a Scientific Wild Ass Guess (SWAG) – Unfortunately, a SWAG is a rough estimate and not always accurate or reliable.
- Relying on an Off-The-Shelf Report - Market data from off the shelf reports can be suspect if the supplier is unable to explain the methodology behind the numbers. Besides, off the shelf reports typically report only on the TAM. Also, the TAM definition may differ from the way your company defines the TAM or the calculations behind the TAM. Furthermore, these reports often do not provide the granular data necessary for determining the SAM and SOM.
- Confusing the terms– Sometimes companies confuse the definitions of the terms. They may state that their market opportunity is the same as the TAM when their opportunity is the SAM.
- Using different data sets or calculations – One of the biggest errors in judgment is when a company uses different sets of data or calculations. For example, they may use one set of data or calculations to develop the TAM and another set to determine the SAM or SOM. This could happen if they use an off the shelf report to determine the TAM and a survey to determine the SOM.
- Underestimating or overestimating - If a company fails to follow a structured and disciplined approach to market sizing and forecasting, then it runs the risk of either underestimating or overestimating the market.
The right way to determine the TAM, SAM, and SOM requires effort, most things do!
Determining the TAM for Aftermarket Services should begin with an estimate of the size & forecast of the total Install Base (IB). The IB is used because service revenue is a function of the IB. To determine the size and forecast of the IB, you need to have data on how many units are operating today and how many will be operating in the future. You may have to construct a model of the IB from historical warranty data or sales and shipment data, taking equipment lifecycle and replacement rates into account.
If you are only interested in the TAM for service on your equipment, then you can limit the data to just your company’s IB, otherwise, you must consider the broader market. Next, you need to determine what type of events within your IB trigger service revenue and the price associated with the events. You may need to consider how this price will change over time. Once this calculation is complete you will have a year by year forecast of the TAM.
Here’s an example:
- Install Base in year 1 equals 200, 000 units and its growing to 300,000 units in 5 years
- Service Contracts are sold yearly and priced at $1,000 per contract in year 1; prices are expected to increase by 10% by year 5.
- In year 1 the TAM for Service Contracts is $200,000,000 and it will grow to $330,000,000 by year 5.
Once you arrive at the TAM, you can determine the SAM. As mentioned previously, the SAM considers the portion of the market, or install base, served by your company. If your company is only targeting Enterprise Sized accounts in the continental U.S. with equipment that is less than 10 years old, then this will be reflected in the SAM. The SAM considers the geographic regions, type of customers, and types of products your company serves.
Let’s look at how we calculate the SAM:
- Enterprise Sized accounts within the continental U.S. represents 50% of the total IB or $100,000 units
- The SAM from these accounts is $100, 000,000 in year 1 growing to $165,000,000 in year 5
Once the SAM size and forecast are completed you can determine the SOM. This is the share of the SAM that can be realistically reached by your company. It considers competition, historical performance, external research, service product demand, and market reach. Don’t assume the SAM and the SOM are the same unless you are certain you have a 100% captive share of the market. The SOM forms the basis of your company’s sales projections. It is not your revenue per se but represents the amount of revenue your company could achieve within 3 to 5 years.
- Assumption: A single customer has an average of 10 units within their IB
- Historical data suggests the following:
- 25% of customers prefer to purchase services on a T & M basis
- 25% of customers prefer to purchase services from third-party competitors
- The survey results conducted by your company reveals the following
- 25% of customers on T & M will purchase the newly configured service contract offered by your customer
- 10% of customer purchase services from your competitors will switch to your new contract
- 50% of your current customers will purchase the new contract; the rest are not interested.
- The SOM equals $36 Million
Constructing the TAM, SAM, and SOM is an extraordinarily complex process often involving an extensive amount of data, econometric modeling, heuristics, and assumptions. You may be asking yourself “is it worth it”? The answer is yes because it provides a more detailed, granular, and precise estimate of the market than simply taking a SWAG or relying on an off the shelf report. It also allows you to conduct a what-if or sensitivity analysis. More importantly, it becomes your market data, it belongs to your company, as opposed to the opinion of an expert or a report from a 3rd party.
Companies who complete this strategic work are more likely to achieve their strategic goals. This is because the stakeholders understand the process in which the market size and forecast is constructed. If the stakeholders understand the methodology, it is easier for them to buy-into the market projections and support the strategy. AS a result, they become vested in achieving the outcome.
Since 1969. Blumberg Advisory Group has helped companies use services strategically to increase profits. We have been at the forefront of the Servitization trend. Our TAM, SAM, and SOM projections have formed the basis of growth strategies for a wide array of companies in the Aftermarket Service Industry, including OEMs, Distributors, and Software Vendors. Contact us to learn more about our capabilities or to discuss your requirements.
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