How founders should approach TAM when venture capital is scarce
Autumn on planet Earth didn’t start until the equinox a few weeks ago, but the axis shifted months ago in Startupworld, where VC winter has desperate founders smashing up the furniture for firewood.
Metaphorically speaking, of course.
We’re definitely in a down market, but for entrepreneurs who are eager to build and scale, venture capital is always scarce.
At TechCrunch Disrupt, I spoke with three investors to hear how they’re advising founders (especially first-timers) on how to calculate total addressable market (TAM), how it differs by sector, and how the TAM slide often reveals whether a founder is even ready to start raising capital:
This was a jargon-heavy conversation, so before we get into the recap, let’s define terms:
- TAM: Total addressable market
- SAM: Serviceable addressable market
- SOM: Serviceable obtainable market
If we use the example of a startup that makes and sells plant-based dog treats:
- TAM: Everyone who visits a store that sells dog food
- SAM: People who specifically want healthy dog snacks
- SOM: How much you think you can sell (go-to-market strategy)
Investors use TAM to get an idea of your company’s upside potential, while SAM and SOM help them offset their risk, regardless of macroeconomic conditions.
Does calculating TAM change during a downturn?
Nope.
“As an investor, the TAM calculation doesn’t really change whether we are in a more flush environment or a less flush environment,” said Monique Woodard. “You’re still going to be looking for companies that are addressing large markets and trying to figure out the biggest TAM they can get to.”
“The truth is, there is no right or wrong, like, ‘Here’s the exact number!’ It’s more about whether we have overlap and agreement in the assumptions around your driver.” Jomayra Herrera, partner, Reach Capital
Jomayra Herrera agreed: “What hasn’t changed even with a down market is the size of our funds and the exits that we need to realize in order to return those funds,” she said. As a result, “the calculation essentially stays the same.”
Founders should strive to offer more than just eye-popping TAM numbers, said Helen Min. “I think most investors would also say they want to see a small initial market, a market that is just your customer base that’s just obsessed with your product.”
To avoid spinning out in a hype cycle, she encouraged teams to concentrate on building “something that stays evergreen, regardless of what the market looks like.”
Before setting up a meeting, Min said founders should ensure that the TAM they’re pitching aligns with the size of an investors’ fund: “Having a 10x or 100x return on their investment in you, if that doesn’t return their fund, it probably doesn’t make sense for them to invest.”
