Start Up Market Analysis Tutorial from Sunstone Communication

Market Research Tutorial
From Sunstone Communication
Limited
January 2015

©Sunstone Communication Ltd 2015
Introduction
Market analysis is the art of identifying
how many potential customers you have
and how much they might be willing to
pay.
No-one expects that you will be able to
predict the size of your market exactly.
The purpose of market analysis is to
convince your audience that you have
though logically and credibly about the
potential market.
The story is more important than the
numbers.
This tutorial will walk you through the 3
most common techniques.
Market Analysis Tutorial
“Users may innovate if and as they want
something that is not available on the
market and are able and willing to pay
for its development. It is likely that many
users do not find what they want on the
market.”
Eric Von Hippel – Democratizing Innovation

Back to basics 1
Before embarking on a market analysis
your business needs to address two
basic questions.
• What is the problem my business is
trying to solve?
• Who has this problem?
The answer to the second question
defines your potential customers.
Your market analysis will be based on
the definition of your potential customers.
This is known as segmentation.
AirBnB used simple and stark figures in
its initial pitch deck.

Back to basics 2
Segmentation is defining potential
customers by common needs and
priorities.
By identifying known characteristics,
segmentation can be used to measure
the size of a potential market.
Typical segmentation factors include:
• B2B or B2C
• Geography
• Income bracket
• Age or gender
• Work or lifestyle interests
• ….endless.
Logical market segmentation underpins
all market analysis techniques.
Mint.com shows three different
dimensions of market segmentation in
this slide from its pre launch pitch deck.

Back to basics 3
Knowing your potential customers
defines the Total Addressable Market
(TAM) for your business.
Your market analysis takes account of
the limitations of your planned business.
These can include factors such as
geography, availability of key resources,
channels to market and ability to scale.
Analysing the TAM against your business
model choices will lead you to your
Serviceable Addressable Market (SAM).
Finally, you may choose initially to go
after a subset of your SAM, this subset is
called your Target Market.
The TAM can be very large if your
product is aimed at a very common
problem such as this example from
PinMyPet.

Three Models
All methods of market analysis provide a
structured and logical way of calculating
market potential based on the
segmentation factors leading to your
TAM and the business model choices
inherent in your SAM & Target Market.
This tutorial looks at 3 common
techniques for doing this:
• Chain Ratio
• Component Based
• Bottom Up Research
Click the NEXT button to learn more
about these approaches.
Whichever method you use, make sure
you cover the basic elements of market
opportunity. This example is from a
Startup investor template created by
Sky Fernandes. The full deck is also
included in our Business Plan Toolkit.

Chain Ratio
The Chain Ratio (CR) method, often
referred to as top down analysis, consists
of applying a series of percentages to an
initial estimate to narrow down to the
likely market.
CR begins with a large broad estimate
that includes all potential customers, for
example the population of the USA.
Narrow the estimate using easily
measured factors such as gender or age.
Next apply specific or subjective factors
such as job title or interests.
There is no set rule but a total of 3-5
factors is normally used.
Square.com uses a good broad
estimate ($ value of US mobile
payments) and simply identifies the
narrowing factors without applying
figures – growing market interest, NFC
adoption and customer loyalty trends.

Chain Ratio 2
What makes good CR analysis?
• Find a reliable and credible source for
your assumptions. Official sources
such as Government statistics are
best. You can find a list of good
sources in the reference card at the
end of this tutorial.
• Logical, structured thinking which
connects with your value proposition,
problem statement and ideal
customer.
• Don’t rely solely on broad, commercial
estimates such as those produced by
market research firms.
• Use reliability factors, for example
reducing those estimates based on
less credible sources.
How not to do it….this slide from sverve
relies solely on one general survey
statistic. Albeit from a credible source
(McKinsey).

Chain Ratio - Example
Let’s work through an example of a
business to provide a financial planning
tool in a mobile app. We will aim at the
USA as our main market.
STEP 1 – BROAD ASSUMPTION
Start by finding the number of adults in
the US. Only adults could realistically be
expected to need financial planning and
management.
Number of
Adults in
USA
240 Mn
SOURCE:
US Government Census
Total population of US = 316,128,839
Percentage of people under 18 = 23.3%

STEP 2 – NUMBER WITH CREDIT
CARDS
Next we try to narrow the market to those
with need of financial planning. Let’s take
the number of adults with a credit card as
a proxy for the number with potential
complex financial affairs.
Notice that this source is a survey rather
than a census. Even thought the survey
was carried out by the Federal Reserve it
carries less weight.
No of Adults
in USA with
Credit Cards
200 Mn
SOURCE:
Federal Reserve Survey via Statistic
Brain
No of individuals with a credit card =
199,800,000

STEP 3 – NUMBER OF PEOPLE WHO
BUDGET
A large slice of the population has
complex financial affairs but how many of
them budget and track spending? This
would give us a much better idea of our
TAM.
We manage to find this figure in a Harris
Poll on Consumer Financial Literacy. Still
pretty credible but note that these are
people who “say” they budget.
A useful step in our plan but still a long
way for a definitive market estimate.
US
population
who say they
budget
78 Mn
SOURCE:
Harris Poll for NFCC
Percentage of US population who say
they budget and track spending = 39%

STEP 4 – NUMBER WHO USE AN
ONLINE TOOL TO BUDGET
We are planning a mobile app so it would
be very helpful to know how many of
those people who say they plan currently
use something online or mobile for their
budgets.
Luckily there are lots of surveys and
statistics on this type of information
including this Gallup Poll.
We have now used a series of surveys to
arrive at a TAM whish is just over 10% of
our original broad assumption.
Total
Addressable
Market
25 Mn
SOURCE:
Gallup Poll
Percentage of US population who use an
online budget tool = 32%

STEP 5 – MARKET IN NEW JERSEY
No doubt our TAM still includes many
customers who don’t fit our precise
definition. For example, the number who
budget online may include people who
simply use a spreadsheet.
The important thing is that our analysis is
a credible and logical way of approaching
the question.
We now apply a final factor based on our
business limitations. We only have a
licence to operate in New Jersey so we
limit our target market to the percentage
of the TAM likely to live in the State.
Target
Market
525,000
SOURCE:
US Government Census
Percentage of US population who live in
New Jersey = 2.1%

The Internet provides an inexhaustible
source of statistics and analysis. Here
are a few of the sources I use to find
good data for Chain Ratio based market
analysis:
GOVERNMENT & OFFICIAL
• US Government
• European Union
• UK Government
• World Bank
TRADE ASSOCIATIONS
• US trade associations
• UK trade association forum
OTHER GUIDES
• US Guide to Online Market Research
• British Statistical Data: A Guide to
Sources
Market Analysis – Chain Ratio Sources
MARKET RESEARCH FIRMS
• Gartner
• Forrester
• IDC
• Datamonitor
• JD Power
• Ovum
• 451 Research
NOTE: Research from these firms can be
very expensive. Generally press releases
and articles pick out useful highlights. Be
very sure before investing in actual
reports.

Component Based
Component Based (CB) analysis is
performed by estimating the value of
each element of your revenue model
separately. This is sometimes called
Bottom Up analysis, for example by
Steve Blank in The Start Up Owners
Manual.
The first step in the CB method is to
establish your revenue model. This may
be used in other parts of your business
plan.
Your revenue model is a major factor of
your overall business model. For
example the revenue model for SaaS is
very different from the model for
eCommerce.
Component based analysis doesn’t
need to be complicated. Subscrea
used this example plus a general
market analysis in its pitch deck.

Component Based 2
Your revenue model can be expressed
as a formula. An example for a SaaS
business is shown opposite.
CB requires you to make a separate
estimate for each element of that
formula.
These estimates may be made in a
variety of ways including both Chain
Ratio and Bottom Up Research
approaches.
Once you have an estimate for each
element of the formula simply plug them
into the formula and calculate your
market forecast.
SaaS
Revenue
Model
Formula

Component Based 3
What makes a good CB Analysis?
• Use a business and revenue model
which is appropriate to your product
and customer base.
• Have a recognisable formula which
links to your revenue model.
• Make your assumptions credible with
good logic and reasoning.
• Source estimates where possible but
recognise sources may not always be
available.
• Tie your assumptions clearly to a well
defined and identifiable base of
potential customers.
Buffer is one of the most open and
transparent companies anywhere. I
love the stuff they share. Here they
use component analysis to
demonstrate market traction for one of
their fundraising pitches.

Component Based -
Example
For this section we will use the example
of a personal time and to do organiser
built into a mobile app.
STEP 1 – REVENUE MODEL
FORMULA
There are a number of well established
models for calculating the revenue from
different types of software business. For
this example we will assume our product
is a software as a service (SaaS)
product.
Users will be able to access a basic
service for free but will pay for premium
features. This combination is called
Freemium.
Views/
Downloads CR
Free Users CR
Paying Users
Average
Subscription
REVENUE
Freemium
Revenue
Model
Formula

Component Based -
Example
STEP 2 – NUMBER OF FREE USERS
We can calculate this figure from the cost
per 1,000 impressions for advertising. As
this is a consumer product we will use
the cost for Facebook ads which is $3
per 1,000.
We can now immediately apply a limit
based on our business financial
respources. Lets say we can afford
$10,000 per month for advertising.
From the same market statistics, we can
calculate the click through rate (CTR).
This tells us how many of our
impressions turn into visitors.
Cost per 1000
impressions
Annual Ad
Budget
600,000
Total
impressions
PA
CTR

Component Based -
Example
STEP 3 – CONVERSION RATES
We can also find plenty of data on the
average rate of conversions from visitors
or downloads to free users and then to
paying users.
Note that this calculation uses wide
averages. In the real world your business
may achieve more or less than the
average.
When presenting your market analysis
you should use a conversion rate that is
appropriate and have a logical
explanation of why this differs from the
average.
No of visitors/
downloads
No of free
users
1,440
Conversion
to Free
users
Conversion
to Paying
users

Component Based -
Example
STEP 4 – REVENUE CALCULATION
Typically for consumer apps the number
of users at the end of one year is quite
small.
We now need a figure for how much
each of these users will pay. The best
source of this type of data is to compare
with the prices charged by competitor
products. If your product is completely
innovative, then compare with lesser
products if need be.
In this case, we have used the cost of
Trello a well known personal organising
product - $5 per month.
No of paying
users
Price per
month
$86,400
revenue in
Year 1

Bottom Up Research
Bottom Up Research (BUR) involves
researching the needs of a small sample
of potential customers and extrapolating
to estimate total market demand.
BUR requires three main elements:
• Identify and get access to a small
population that fits your definition of a
target customer.
• Carry out well designed tests on the
tendency of those customers to buy
your product – see below for types of
BUR.
• Extrapolate the results of those tests
to produce a credible and logical
estimate of your potential market.
Buffer is one of the most open and
transparent companies anywhere. I
love the stuff they share. Here they
use component analysis to
demonstrate market traction for one of
their fundraising pitches.

Bottom Up Research 2
BUR estimates are generally considered
to be more specific and therefore more
valuable than other types of market
analysis. Why should this be?
• The selection of the sample and the
design of the research is unique to the
product and market being tested.
• Done well, both the customers
researched and the tests in the
research are much more precise than
other methods.
• BUR usually also draws out qualitative
research which gives guidance on
market potential over and above the
hard data.
Feast started with SEO based
research…
…and moved onto great specifics.

Bottom Up Research 3
There are lots of ways to do BUR. Some
are quite expensive, others leverage the
digital world to get data very cheaply.
The value is always in the precision with
which the audience are selected and the
product is tested. This does not always
follow the money.
Some common methods of BUR:
• Electronic surveys eg using Survey
Money
• Landing pages to test responses
• Search Engine and Social Media tests
• Specific focus groups
• Agency driven market research
surveys
• Personal networks of founder or team
The Mom Test by Rob Fitzpatrick is a
great guide to getting real answers
from bottom up research.

Bottom Up Research -
Example
In this example, lets imagine we are
starting a business which offers a
selection of unusual but healthy tea
blends by subscription. How could we
use BUR to size the market?
STEP 1 – FIND AN AUDIENCE
As a start up we are working on a
shoestring so we need to try guerrilla
tactics to find some potential customers.
A few examples are given opposite.
TACTICS:
• Cold calling – 2/100 hit rate!
• 7 degrees of separation ie use your
network
• Mailing lists – buy them but can be
expensive
• Industry events
• Personal network
TARGETS:
• Tea drinkers - salons, coffee shops etc
• Tea websites
• Tea related key words

Example
STEP 2 – GATHER YOUR DATA
Once we have found an audience, we
need to talk to them. One approach is
landing pages. In this type of example we
have very little information – only
willingness to sign up based on limited
product information – but may have
reasonable numbers.
Alternatively, we can find some people
and carry out individual or group
interviews. These can be a very rich
source of data but the sample size is
likely to be small and may be biased.
LANDING PAGE:
• We design a really neat landing page.
• We spend a small amount targeting
Tea related keywords.
• This brings us 2,500 visitors.
• We are able to sign up a total of 15
people to out list as a result of this
test.
INTERVIEWS:
• We approach customers of our local
friendly coffee shop owner.
• We manage to talk to 18 people.
• 7 prefer tea to coffee.
• Of these, 2 would pay for a tea
subscription once a quarter.

Example
STEP 3 – EXTRAPOLATE
Finally we need to take our BUR data
and extrapolate to find our Tam and/or
Target Market size.
Once again, the key is to find a logical
and structured way of extrapolating so
that your forecast ahs credibility.
Opposite we have used both data sets to
extrapolate and arrive at two different
TAM estimates. When pitching we would
use some combination of the two.
Landing Page
sign up rate
TAM = 5,769
Percentage of
people aged
18-35 who
drink tea
20-34 Year
olds in UK
Coffee Shop
users who
would pay
UK coffee
shop regulars
aged 20-34
TAM = 18,480

Summary
Market analysis is an important element
of both planning and executing any
business idea.
Market analysis is more of an art than a
science.
The keys to good market analysis are
clear identification of potential customers
and a logical structure to arrive at
estimates.
We have outlined three of the most
commonly used methods of market
analysis in this tutorial. We hope this
helps.
Good Luck!
Sunstone Communication
provides ideas, tools and
advice to help you build a
great business…
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Start Up Market Analysis Tutorial from Sunstone Communication

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