As an entrepreneur, once you identify a business opportunity, it becomes necessary that you determine the market potential for that business opportunity. Market potential entails several elements that include market size, market growth, competition, profitability, consumer and product type. You may understand it as the aggregate demand for a product in a particular business environment.
Determining market potential is crucial in making your investment decisions and in setting your business growth targets. It is an important exercise that supports your business strategy. Generally, understanding market potential helps marketing managers in making effective decisions when they are planning to do product development, partnering and distribution, organizational design and critical employee skills. The need to determine market potential may be driven by fear of failing to get enough market for the product. You need to do a market potential analysis before launching a new product.
The analysis focuses on examining such key factors:
- Ability to compete
Consider the opportunity that gives you the potential to compete more effectively in the market. The basis is usually the price or cost advantage of the opportunity. If you find that you cannot compete effectively in the market, then you have no option but to abandon the opportunity. Otherwise, you can build on your strengths so as to enhance your chances of future success.
- Duration of the opportunity
An opportunity that lasts long enables you to reap rewards. Duration is important in determining the attractiveness of an opportunity. It is also important for you to consider the length of time that you may have before competitors flood the market.
- Growth potential
An opportunity that promises long-term growth is more attractive than one that promises immediate rewards. You may decide to offer a new product that is promising growth rather than pursues current sales of products that have negligible growth potential.
- Risks and rewards
Every business opportunity bears some level of risk. The risk is higher in new opportunities compared to well-known opportunities. Your market analysis should be guided by such questions as How much time, money, and physical resources will the opportunity require? What is the potential return on investment in the opportunity? Are the risks identified acceptable? Do the current rewards cover the existing risks?
Key elements in the determination of market potential
The following five elements are vital in the determination of market potential for a product or business opportunity.
1. Market Size
This is the first step in the process of determining market potential. Market size is the total sales potential of all business enterprises in the industry. For you to get the market size, you have to undertake market research. This entails the following five steps:
i. Defining your target customer
Your target customer is that person or organization with a specific problem, which can be solved by your product. For you to do a clear definition of your target customer, you have to determine who the customer is and then create a profile expected of them.
ii. Estimating the number of target customers
When estimating the total number of target customers in the market, you have to consider all the individuals and organizations that have a profile similar to the one you expected.
iii. Determining your penetration rate
Penetration rate refers to the percentage of a target market that consumes a product. It usually depends on the nature of your product. You will assume a high penetration rate if the type of your product is vital to the functioning of the organization. Otherwise, you assume a low penetration rate if the type of your product is for a specialized purpose. An understanding of the penetration rate helps you to refine your market size.
iv. Calculating the potential market size in terms of volume and value
The potential market volume is calculated by multiplying the number of target customers by the penetration rate.
Market volume = Number of target customers X Penetration rate.
Market value is calculated by multiplying the market volume by average value (price expectation).
Market value = Market volume X Average value.
– Applying the market size data
There is no guarantee that when you follow the above steps, you get a definite outcome as far as your market size is concerned. There is a need to find ways of maximizing the effectiveness of the process.
After making your first estimate, examine each assumption that you make and the possible factors that would make it change. You have to consider the risks of the change and calculate the best-case and the worst-case scenarios in addition to your expected scenario.
You have to monitor the accuracy of your initial assumptions and whether there is a need to modify them.
2. Market Growth
You can determine your market growth rate by extracting the facts and figures of the past five years of the industry of your interest. The sources of such data include newspapers and major websites.
If you consider saying the E-commerce industry, you will find that the industry is growing very fast. However, in the next ten years, a new technology might be invented, which will make the current products in the E-commerce industry obsolete.
Getting back to the E-commerce industry example, you will find that many small enterprises have mixed reactions about the industry’s potential. Some may see a lot of potential due to a large market, while others may claim to have suffered losses because of the high costs of packaging and transport. However, both of the perspectives may be correct.
The determination and forecasting of your profitability help you understand your market potential. If the business is geared towards low profitability, then strive for higher volumes or if the business is tending towards low volumes, then you need to push for a higher profit.
The profitability that determines market potential can be calculated using the following four ratios:
- ROI – Return on investment
- ROS – Return on sales
- RONA – Return on net assets
- ROCE – Return on capital employed
The above ratios can be used to determine the probability of profitability and to understand the extent of future profitability of a product or an industry.
An understanding of the competition in an industry is essential in determining the market potential for a product that you may be preparing to launch. If competition is high, market entry barriers will be high. This means it will be more expensive for you to establish yourself in the market. You may be forced to reduce the price of your product regardless of your high-value offer. This situation requires that you have enough resources to sustain you in the market until competitors exit the market.
This situation gives the top brands a greater competitive advantage over the smaller players. Although the smaller business enterprises suffer, they do not have to stop establishing themselves, but rather use different strategies such as good customer service to get more customers into their businesses.
When you operate in a market that is less competitive, market awareness will below. So, you and your competitors will have equal chances of influencing a potential buyer. Few industry players will invest in differentiation strategy, but those who do will end up dominating the market.
Your determination of market potential calls for your understanding of the market position of your different competitors. You will also need to have the necessary plans to tackle these competitors at any given time.
5. Consumer and Product Type
The point here is whether your product is a repeat buying product or one time sale. The estimated number of purchases over a given period of time enables you to understand the market potential of that product.
You will also need to evaluate the relationship between the age of your product in the market and the level of customer acceptance and adoption. Your understanding of this relationship will also help you in determining the market potential.
An analysis of the above five elements will give you a very good understanding of the market potential of your brand regardless of whether it currently exists in the market or it is to be launched soon. However, this does not apply to innovative products since its market size and growth rate are not known.
An example of how to determine the market potential
A market analysis example for launching an African cuisine restaurant in my locality is as follows:
- Market size
I have two hundred people residing in my locality. Although they are different demographically, my market research tells me that most of them are youth.
- Market growth
The construction of new houses is going on in this locality. This implies the number of potential customers will increase.
I am aware of the prices charged by my competitors, and at those prices, I am assured of a good profit margin.
There is another African cuisine restaurant in our locality, but I believe I have a more competent and more experienced team of staff compared to them.
- Customer type
I am in for repeat business because customers who like my food are likely to come back regularly.
With the above analysis, therefore, I can confidently prepare to launch the restaurant because the market potential exists.