In the last couple of days i have found myself thinking about what the actual calculation may be to calculate the potential value of business in a certain area. I mean for the most part it would generally be mostly a guess however, there must be someway that you can gain a little better idea of what sort of value a particular geographic area has for your market.
There was one idea that i had, which does seem quite simplistic, however does really sum up the essense of the question.
No of Business X Average Sale X Average Sales per year = Market Potential
Now of course this actually depends on a number of factors, one that every business in the area you are looking at uses the product or service you offer, which is probably fairly slim. Second that you can actually calculate a true average sale that is not skewed by many small or a couple of large sales. and thirdly if some customers use the service much more then others again skewing the results.
So the original equation needs to be modified slightly to allow for these variables. While for the most part you can either use information you know or can gain some fairly accurate information to fill in the numbers on the first equation when you move to taking these variables into account you are stepping beyond known information into a more guess and check area to calculate. So the new equation may look more like,
(No. of business X % who use the product) X Adjusted Average sale X Adjusted no. of sales per year = Market Potential.
Even with this equation you are likely to be off in the actual value, potentially lower or higher. Because one of the biggest unknown factors cannot be taken into account. This is the scale of the sample. You are going to generally be looking for a sample from somewhere to base your figures on. While business count can easily be obtained with relative accuracy, from government or other sources. The other two factors, The average sale and the Average no. of sales per year, is based on either your estimate or data gained that may not exactly match the sample.
Firstly if you are taking estimates with no backup information you may be greatly under or over estimating either one. You can get a little more accurate by looking at you previous records, eg your average sale and average number of sales to a customer per year, although again this may be skewed by the spread of your current clients, they may be all under the average, all above or mixed. This means that while you have a answer based on what you know it may not actually reflect the true picture.
I will finish with an example, If i was operating by business in an area with 500 businesses around, my information tells me that the average business spends $100 on widgets, every two weeks. If you apply the first equation we get the following result.
500 (businesses) X $100 (Average Sale) X 26 (Sales per Year) = $1,300,000 (Potential Market)
However what if my initial information is wrong, and on some better information i found out, only 75% of businesses use widgets, but they spend on average $130 every week. This changes the equation considerably
(500 (businesses) X 75% (percent of businesses buying)) X $130 (Average Sale) X 52 (Sales per year) = $2,535,000
So even though we now think less business buy widgets, this actually converts to a better market with better average sale and more frequent average purchase. Again though even these figure while maybe in this case seen to be more accurate may not be the exact sample. So calculating this sort of equation is mayb a little deceptive, but it can give a good starting point for what to expect.
I would still be interested to hear if anyone thinks that there is maybe a better way to calcualte such a equation, and what potentially may be giving a wrong impression in my equation. Or maybe if there is actually any potential better way to work this out?