Your Market is Smaller Than You Think

The subject of measuring market size comes up every few weeks in my interactions with startup founders, and one point I always raise is the difference between a top-down and bottom-up approach.

Top-Down
The top-down approach is the one you would traditionally link to business school case studies and startups going after large markets.

The approach involves going to a source of (often public) data and finding out how many X’s there are in the world, where X is your target consumer…be it a barber shop, web design firm or male under the age of 34.

The challenge with this approach is that unless you have a stack of cash from here to the moon, you have zero chance of reaching all of those X’s.

As a self-funded venture your best case will be to communicate with a single digit percentage of your market through online marketing and perhaps some cold calls and direct mail.

If you have funding coming out of your ears, maybe you’ll drop seven figures on a Super Bowl ad and reach into a double digit percentage of your market. Of course, the effectiveness of your funnel drops exponentially when you move to mass advertising. But it worked for a lot of the dot com’s in the early 2000s. Oh wait, no…that’s right, it didn’t.

Jokes aside, the top-down approach has its place in business plans and pitch decks commonly used to ask people for money.

Where they don’t belong is with a bootstrapped founder trying to figure out how many customers she can expect to reach next month on her shoestring marketing budget. In that case, bottom-up is a better choice.

Bottom-Up
There are many bottom-up approaches to sizing a market; I discuss the approach I use in my developer’s guide to launching a startup.

It involves using the Google AdWords Keyword Tool to estimate how many X’s are actually looking for your solution to their problem on a monthly basis.

And while this doesn’t give you an idea of the total market size, it does show you how many people you can reach right away if you nail your online marketing.

Sure, there is still a sea of prospects that can’t be reached online, but for self-funded startups it’s obvious that these days online marketing is a much better use of your resources than cold calling, direct mail, trade shows, etc…

I’m not going to go into detail on the approach here except to say that it uses the AdWords Keyword Tool to estimate how many prospects are searching Google for your kind of product each month. It then crunches those numbers together with an expected conversion rate and expected price to give you an idea of expected monthly revenue.

The thing is, the Google AdWords Keyword Tool is wrought with land mines. And I’ve realized over the past few weeks that many entrepreneurs are making the same mistakes, inadvertently bringing back results that make their market appear larger than it actually is.

This is a big deal, and one I hope to counter-act by looking at the four most common mistakes I see again and again when using the AdWords Keyword Tool.

Mistake #1: Not Logging In
So you’ve decided to use the bottom-up approach to sizing your market. Sweet. Let’s hit the Google AdWords Keyword Tool and find out how many people are searching for our key marketing term.

Typically you would search for a term like “inventory software,” but for our new whizz-bang social media application it all depends on people searching for the longest word in the English language, antidisestablishmentarianism.

Don’t ask me why, you need funding to understand.

So first, make sure you’re logged in to your AdWords account. For some reason Google gives you limited (aka crap) results if you’re not logged in, with only a tiny warning about this.

Mistake #1: Log in!

Mistake #2: Using the Default Match Type
Next, enter your term and hit “search.”

“Oh man, 27,100 people per month search for antidisestablishmentarianism. This is precisely our target market. I’m counting the mad stacks of cash already! “

But hold on a sec. Did you take a peek at what kind of search you performed? Yep, way down in the lower left of the page there are three checkboxes, hidden away as if to intentionally lead you to believe your market is larger than it appears.

That’s mistake #2.

You don’t want broad match…you want exact match. If you are searching for the term “dog bites,” a broad match will match on any of the following:

  • dog bites man
  • man bites dog
  • someone with a hot dog bites into it

In other words, this returns way more results than you’re looking for. So uncheck broad and check exact.

Mistake #3: Global Searches
Ok, not too bad. We still show 14,800 people looking for this term.

But wait…those are global searches. This doesn’t mean what you think it means.

“Global searches are just people searching Google from around the world, right? Well, our application is for social media so anyone in the world can use it. 14,800, here we come!”

Except not.

The real story is that the global monthly search total includes those through every Google property, such as Google.com, Google.co.uk, Google.co.in, etc…

The challenge is that Google includes some pretty localized factors when it ranks websites in these “local” search engines. Rankings include factors like having the same top level domain (so .co.in for Google.co.in) and being hosted inside that country (to name a few).

Needless to say, local websites have the advantage here, which makes sense. This provides the most accurate results for people using that search engine.

Bad news for you. Good luck ranking in every Google search engine. It’s not going to happen. Cash in your chips and move on to #4.

Mistake #4: Local Searches
“Ok” you say reluctantly, “I can live with 6,600 monthly searches. Maybe we can’t rely on our freemium, advertising-based, viral revenue model, though. We might have to charge someone at some point…but we can make it work.”

Except for one last thing.

The Google AdWord Keyword Tool doesn’t show you how many visitors you would receive if you ranked #1 for this term. It seems like it should, but it doesn’t.

I have a number of sites that rank #1 for a number of terms, and almost none of them match this local monthly search value. It’s generally accepted that this value is higher than the number of uniques you will receive from ranking #1 for this term.

D’oh.

The rule of thumb (and it’s only a rule of thumb – your mileage may vary) is to take 40-60% of the keyword tool’s number as the actual number of unique visitors per month that you would receive if you ranked #1 in Google for this term. I tend to ballpark it at 50%.

3,300, here you come.

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17 comments ↓

#1 rishi on 09.30.10 at 12:06 pm

nice post! I have made all 4 of the mistakes you listed out.

#2 AX on 09.30.10 at 12:24 pm

Good article. I’d disagree with the idea that chasing a large market is a bad idea for companies with no cash. Just because you enter a large market doesn’t mean you need gobs of cash, or that you need to win huge percentages of the market for success. McDonald’s does pretty well with a sliver of its market (food), and there are excellent small restaurants that do well in the same market without having raised capital. (Think food is an outlier? Look at the market for mobile games, where there are lots of thriving bootstrapped companies. Or the market for Web photo sharing, where several bootstraps are doing well. Or email marketing, where Microsoft and other public companies are players but haven’t stopped MailChimp from coming strong with no funding.)

Capital needs are a function of the cost of delivering the product. In software and the Internet, that’s near zero so your capital costs more or less reduce to your cost of building the product.

The major difference is that a large market gives you room to grow once you are successful.

Small markets can also be dangerous. Picking a small market is no guarantee that you will be able to reach or sell to a much larger percentage of the market. So if I pick a small market and still only reach 5% of potential customers, I might be screwed where 0.005% of a larger market might make me a millionaire.

Finally, a market may be small because this is an area where people have determined they don’t want to spend money. It could be small because the customers are too hard to reach, or because customer acquisition costs are higher than unit profit. These are potentially intractable problems for a bootstrapped company; playing in a proven large market is almost guaranteed not to involve solving these sorts of unsolvables.

For another take, see Marc Andreessen’s thoughts on markets:

http://pmarca-archive.posterous.com/the-pmarca-guide-to-startups-part-4-the-only

#3 Rob on 09.30.10 at 12:27 pm

@Ax – Good point.

The problem with large markets is that a market that’s 10x as large is about 100x as competitive because everyone’s playing in that sandbox. So it’s not a “never enter large markets” it’s “you have to know what you’re doing to enter a large market” and most people starting their first startup have no idea what they’re doing.

Better to make your first startup a modest success than to swing for the fences and fail. Once you have that modest success you are in a much better position to swing for the fences and succeed.

#4 dixon on 09.30.10 at 12:27 pm

Excellent article. I’ve already found a wonderful database at the SEC which tells me exactly who my potential customers are but, it doesn’t tell me if any of them are looking to fix the problem that I’m working on. This approach should help me size the market for companies that are actively looking for software like mine. Thanks!

#5 Dave Rodenbaugh on 09.30.10 at 12:28 pm

Great post Rob. The first three are easy to remember after a few times, but that last one always gets me…

#6 Your Market is Smaller Than You Think « Yeah Totally on 09.30.10 at 1:35 pm

[…] And while this doesn’t give you an idea of the total market size, it does show you how many people you can reach right away if you nail your online marketing. via softwarebyrob.com […]

#7 Ron S. on 09.30.10 at 6:57 pm

awesome post – made every single one of these mistakes. BTW, I was floored by your first example. Where did you come up with “inventory software” before you switched to antidisestablishmentarianism? I ask because… um… we’re doing inventory software. It would be gave been great if you continued with that example – saved a bit of time :)!

#8 JP Zeni on 09.30.10 at 8:35 pm

#2 is a really great point. But make sure you don’t discount other broad match combinations that carry commercial intent for your product. For example exact match would not include all those people who search “buy antidisestablishmentarianism”

#9 Link dump for September 30th | The Queue Blog on 10.01.10 at 12:04 am

[…] Your Market is Smaller Than You Think | Software by Rob – some tips to help you avoid over estimating the size of your market […]

#10 Mark McLaren on 10.01.10 at 6:13 pm

Hi Rob,

Not sure your the Keyword Tools shows “search partners, content partners, and the entire AdSense content network” anymore. Seems a new upgrade just looks at the Google site:
http://www.davidnaylor.co.uk/google-adwords-keyword-tool-the-difference-explained.html

– Mark

#11 Rob on 10.02.10 at 2:51 am

@Mark – Thanks for the heads up. That article is from 15 days ago. Google is constantly updating their tools, and I am going to update my post.

The interesting thing is, I have sites that rank #1 for many terms and even with the updated values the 40-60% range holds up.

So at this point I’m going to continue to use that rule of thumb, but my description of what’s included appears to no longer be correct (as of two weeks ago) so I will update it accordingly.

#12 Anand on 10.04.10 at 1:03 pm

Liked Top-Down and Bottom -Up approach I usually like the old interface of Keywords tool but sadly it has been removed permanently 🙁 so i forget to login to leverage the benefit of new keywords suggestions tool 🙂

#13 Peter Alberti on 10.07.10 at 12:32 am

Interesting article. Having just gone through a market opportunity analysis, I think the top-down approach is acceptable. We found that there are well over 1M companies in the US who could use our new tool with a market opp of over $1B.

Great!

But instead of making the common mistake of “then we only need 0.00x% of that market to make our fortune”, we instead said, “Fine. There are a lot of companies. So how many do we need to pay our costs, and is it feasible for us to reach those? We know there’s a zillion POSSIBLE customers. But we still gotta talk to a few of ’em and compel ’em to open the wallet.”

(For the record, we DO have a plan for that. It’s called a Go-To-Market strategy.)

#14 Sanjay Singhal on 10.11.10 at 8:29 pm

Rob – saw you at Business of Software last week in Boston, great talk! Got home and tested this bottom-up market sizing approach with a couple of businesses we already have (15,000 and 90,000 paying users), and found that you have to use broad match to adequately size the market, not exact match.

The caveat is that your search terms have to be e-commerce friendly. One of our sites is for audiobook sales and rentals… well, if someone types audiobook into google, regardless of the context, they’re probably an audiobook customer.

#15 Rob on 10.11.10 at 10:49 pm

>>@Peter said “[We] found that you have to use broad match to adequately size the market, not exact match.”

You’re right, but it’s more complex than this. If you broad match on “inventory software” (without quotes), you will pull back searches like:

– inventory software sucks
– how to build inventory software
– free inventory software

Which are obviously not what you’re looking for. However, keywords with a lot of long-tail terms not like the above can mean your broad match is the more accurate measurement.

As a note to people who’ve read my book: in the book I talk about the full approach to measuring a book using the bottom-up approach by multiplying your exact match result by 50% and then by 2 to cover the long tail (then again by 2 for multiple traffic sources). If you use the broad match you would remove the first multiplication by 2, because your broad match term includes the long tail.

>>@Sanjay said “The caveat is that your search terms have to be e-commerce friendly”

I guess it depends on your definition. A term like “inventory software” isn’t an e-commerce term, but if thousands of people are searching for it, you have a reasonable idea that there’s a market there.

#16 mahesh on 10.15.10 at 11:34 am

40-60% of the keyword tool’s number is still big. I am having my some of the content number one in google and if i compare with keyword tool its only 25%-30%.

Overall I like the article.

Thank you for your time and effort.

#17 Boots on 10.28.10 at 10:06 am

Thanks for writing this up, I am afraid I have made the same mistakes you mentioned before when doing keyword research, more to find keywords to target for specific marketing niches then for market size estimation, but still..

I hear a lot of new founders who look at global market size with wide eyed naivete. I usually recommend people take a pessimistic view of their market prospects to get a more realistic assessment. The hard part is to take a realistic view, but not lose motivation!