New Mauboussin Paper: Total Addressable Market (incl. Checklist)

Title: Total Addressable Market – Methods to Estimate a Company’s Potential Sales
Authors: Michael J. Mauboussin & Dan Callahan, CFA
Date: September 1, 2015

“TAM is an area where overconfidence and optimism are rife. We have provided some analytical approaches to check these biases and to come up with a reasonable assessment of whether the market’s expectations are reasonable.” —Mauboussin & Callahan, Total Addressable Market – Methods to Estimate a Company’s Potential Sales

The concept of total addressable market (TTM) is the subject of Mauboussin and Callahan’s most recent paper.

“The ability to calibrate the total addressable market (TAM) is a major part of anticipating value creation. Since 1960, about one-third of the value of the S&P 500 Index has been attributable to the anticipated payoff from future investment. Assessing value creation requires understanding how much a company can invest and the returns those investments will earn.

We define TAM as the revenue a company would realize if it had 100 percent share of a market it could serve while creating shareholder value. TAM is a concept that executives and investors use frequently, but that few define properly or thoughtfully. You should recognize up front that TAM is not about how large a firm can grow to be but rather how much it can expand while adding value”

Click on the image below to read the paper.

Included in this paper is an checklist addressing certain important questions to consider when performing an analysis of TAM.

Checklist for Estimating a Total Addressable Market

Categorizing New Products

• Is the product technology new or current?
• Are the customers new or current?

Market Size

• Are the users and payers of the good or service the same?
• How much money do the buyers have?
• Are the resources of buyers growing or shrinking?
• Are there physical limitations, such as how much one can eat or use a product, that can curb demand?
• What is the elasticity of demand?
• How cyclical is demand?
• How do consumers allocate their time and money now and how might that change?
• Are the suppliers and sellers of the good or service the same?
• What is the business’s production capacity?
• Is there a reliable infrastructure to get the goods or services to market?
• How broad is the geographical footprint?
• Where is the industry in its life cycle?
• What does that imply about the growth rate and pricing flexibility?
• Does manufacturing capacity match the rate of growth in demand?
• Is the company using pricing as a lever to drive scale or to increase profitability?
• Are there existing or potential economic or social regulations that could limit TAM?
• What are management’s incentives and are they aligned with shareholders?
• Are there economies of scale? Local? National? International?
• Are there two or more competitors, which could push each company into a separate niche?

TAM and the Bass Model

• Which stage of the life cycle is the company’s industry in?
• What analogous products can inform your estimates for the Bass Model parameters?
• Limitations of the Bass Model When a consumer buys something once, how frequently does he or she replace it (repurchase rate)?
• Has the company’s good or service overshot the market?
• Might that happen soon?
• Does the company have a competitive advantage that will allow for value creation over time?
• Do network effects exist?
• Consider Base Rates What happened to other companies when they were in a situation similar to the one you are examining?
• Are your TAM estimates plausible when considering these base rates?

TAM and Ecosystems

• Does the company operate primarily a physical, service, or knowledge business?
• What is the company’s source of advantage?
• What are the investment triggers?
• Does the company sell rival or nonrival goods?
• Are there opportunities to extend into new business categories?

Want More?

See here for a collection of links to other Mauboussin papers.

Disclosure: I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company or individual mentioned in this article. I have no positions in any stocks mentioned.