Part 8: Common mistake: top-down market sizing

In our previous posts, we discussed common mistakes that start-ups make in their pitch decks. In this issue, we’re focusing on another common mistake: top-down market sizing.

Many pitch decks rely on top-down market sizing, which is data on your market from a report generated by analysts that makes significant, often unvalidated assumptions about markets. These reports are then published on platforms like Statista.

Here's the thing: you cannot rely on these reports because you have no way of knowing what assumptions were made and how they were validated. The report may also have been prepared by a junior analyst who doesn't know what they're doing. Sorry, junior analysts, your time will come! Statista is probably the number 1 reason why there are a ton of start-ups in niches that really can’t sustain more competitors (or aren’t real markets, to begin with).

The only way to size your market properly is through bottom-up market analysis. There are different ways of doing this, but one effective method is a demand-side bottom-up market analysis. This involves gauging how much demand there is for a product like yours and then taking market-validated prices and multiplying demand by price. It's essential to validate assumptions and use external data, rather than relying on your own projections and pricing strategy.

For example, if you're calculating the demand for a fitness app, you would size the market bottom-up by thinking about factors like how many people there are, how many of those are into fitness, and how many of those have access to smartphones.

Another example is determining how many cars are purchased annually. You would consider how many households there are, how many cars per household, and what the replacement rate for cars is.

Finally, don’t forget to go from TAM (Total Addressable Market) to SAM (Serviceable Addressable Market) and ultimately SOM (Serviceable Obtainable Market). SAM can be a function of your go-to-market strategy, like launching only in a certain subset of markets. The SOM is usually a function of the likely market share you can achieve, such as 3-5% (which is realistic, while 50% is not).

If you rely on top-down market sizing, you and your investors will think that the opportunity is bigger than it actually is, leading to the deployment of more capital into your business than you can realistically return. You’ll waste capital on marketing efforts that are doomed to fail, and a whole host of other painful investments. That's because top-down market sizing typically leads to significantly bigger market sizes than bottom-up market sizing.

One prominent example of the consequences of bad market sizing is CNN+. McKinsey's market sizing was so off that CNN lost hundreds of millions of dollars on marketing initiatives to launch CNN+. We can’t know what exact approach McKinsey took but the consequences clearly were painful. Other examples include the many biotech bankruptcy cases that I personally looked at where start-ups overestimated the size of a market and went up in flames because physicians and patients just weren’t interested in the product once it got approved by the FDA and launched after years of development. 

Talk soon

Rafael

PS: How do we help you? My team and I build pitch decks, review existing decks, and offer pitch simulations. Get in touch if you or someone you know may be interested.

PPS: This mini course is based on our popular “Fundraising & Pitch Deck” newsletter.