Assuming you have enough customer validation, next, investors will want to know how many more customers you could potentially get? In other words, what is your market size?
This includes an analysis of your products’ / services’ Total Available Market (TAM) and Served Available Market (SAM).
For instance, the TAM for an online bookstore could be all of the people who buy books and the SAM might only include people who buy books in English.
Once a SAM is found, it is common to reduce the size even more by limiting the projected market penetration (also called Share of Market or SOM) to say, 5% to 10%.
Higher % estimates tend to get more scrutiny and skepticism, it’s best to make a modest penetration rate on a large, well-defined market instead.
Investors usually want to see a SAM of $1 billion or more and penetration projections that show the company will make $100 million in revenue within 5 years (for high-risk technology companies).
Investors will be happy with lower returns that aren’t as risky or investments that give them a steady stream of income (dividends).
Investors will also usually look at the internal rate of return (IRR) of an investment opportunity.
Steps to determine the market size that attracts investors:
Step 1: Cash Flow Projection
Make a simple spreadsheet with the expected income, expenses, and net profit over the next 5 years.
Step 2: Capital Need to Break Even
Find out how much capital you need from outside sources to run your business until you reach “break even.”
Step 3: Company Value in 5th Year
Assume that your company’s value in the 5th year will be 4 times its gross sales.
Step 4: 10x ROI in 5 Years
If necessary, change the income so that investors can get back 10 times what they put in after 5 years.
Step 5: Estimated Market Size Required
Multiply the income from the 5th year by 10 to get a rough idea of how big the market needs to be (assuming 10% market penetration) for investors to get the returns they want.
This is a very rough sketch of what you might need to do to figure out who your target market is and whether or not your business will attract investors.
Information about similar companies that have successfully gotten investments is also a good way to do something related to this.
If your market already has competitors and other investments that are similar to yours, it’s likely that market studies have already been done, which could help you make your case to investors.
Talk to analysts and business writers in your field to get better ideas. Investors will want to know that your projections have been checked by a third party, so it’s important to start building relationships with trustworthy business analysts outside of your firm as soon as possible.