What is Total Addressable Market (TAM)?
TAM is the number of total potential customers for your product times its annual selling price. Said differently, TAM is your company's annual revenue if you sold your (current) products to everyone in your target market. TAM is constrained by the type and location of the target customers and the price of the product.
VCs, valuations, and TAM
VCs care about TAM because it determines the company's upside potential. It's impossible to build a billion-dollar business if the TAM is $100 million.
In an early stage business, most, but not all, VCs care about TAM. For those who dig in, the VCs focus on the total number of customers in the existing geographic market, the size and likelihood of broader geographic sales, and the product expansion roadmap. Further penetration of current products sold in existing markets gets the most weight in the TAM calculation, while sales of future products in unproven geographies receive the least weight.
TAM is more important to later-stage VCs and Private Equity firms writing big checks to high-value companies. In those scenarios, there might be legitimate situations where a businesses' growth is constrained because they start to run out of new customers. I recently witnessed this problem when chatting with the CEO of a well-known private SaaS business that dominates its niche. He said, "Guess how big we are?". I said, "Well, you have been around for a while and raised a lot of venture capital, so….maybe $100 million”. He said, “Closer to $50 million...we have run out of companies to sell to." This is a big problem for what looks to be a very successful SaaS business.
So while TAM might not be the most important factor when raising capital in the early stages, it is something you always need to be thinking about. VCs are trying to look six years down the road, not six months.
How to quickly expand your TAM
International expansion is the most straightforward way to increase TAM. One of the great things about SaaS is that it requires little to no physical presence to open up a new geography. In some cases, simply putting up payment pages in local languages and currencies is all it takes to prove your product has potential customers all over the world. It certainly takes more resources to scale and support those customers over time, but to validate a worldwide TAM, you only need a few customers in each market.
Other ways to expand TAM revolve around developing more products to sell to your existing target customers. Product roadmap expansion is critically important in the long run but takes more time and resources than (preliminary) international expansion.
Check out this guide for five key growth strategies successful SaaS companies use to expand their TAM.