NISM Professor

Top-down approach

Also written Top-down market sizing

Sizing a market by starting from macro-economic or population-level data and narrowing down to the industry — the opposite of aggregating individual companies.

In plain language

Before an analyst can say whether an industry has room to grow, someone has to say how big it is. That is harder than it sounds in India, where much of many industries is unorganised or privately held and simply does not report anything.

The top-down answer is to ignore the companies altogether and start from the population. How many people or units are there, what share of them consume the product, and what does each one spend? Multiply the chain through and you have a market size that includes the players nobody can see.

How it works

The workbook's definition: in a top-down approach the size of the market or industry is measured starting from macro-economic factors and arriving up to the industry level.

Its own worked example is a medical therapy, in three steps: (i) identify how many patients underwent the therapy, (ii) ascertain the average expenditure per patient, and (iii) take the product of the two to arrive at the revenue.

The purpose is set out in Chapter 6.4. Industries that are underpenetrated have high growth potential, because there is more headroom; as an industry matures its growth rates come down. So the analyst needs both the current size and the potential size, and the gap between them is the headroom. The workbook is candid that quantifying the potential size involves many assumptions, any of which can be wrong, which is why past trend analysis is used alongside it.

The formula

Market size = Population
            × Penetration or incidence rate
            × Usage per user per year
            × Price per unit

Each step is a multiplication, so each assumption's error multiplies too.

A worked example

Size the Indian dialysis market from the top down.

Population                                        145 crore
× Incidence of end-stage renal disease, 1 in 5,000
= Patients needing dialysis                       2.90 lakh
× Share actually receiving regular dialysis, 40%
= Patients on treatment                           1.16 lakh
× Sessions per year (2 a week × 52)               104
× Price per session                               Rs 1,600
= Annual spend per patient                        Rs 1,66,400

Market size = 1.16 lakh × Rs 1,66,400 = Rs 1,930 crore

Now change one assumption. If half the patients, not 40%, are being treated:

1.45 lakh × Rs 1,66,400 = Rs 2,413 crore

A 25% swing from a single number that nobody can verify.

And the headroom, which is the point of the exercise. If all 2.90 lakh patients were treated, the market would be Rs 4,826 crore — 2.5 times its current size. An underpenetrated industry with a long runway is exactly what Chapter 6.4 tells the analyst to look for, and the top-down chain is how the runway gets measured.

Why NISM asks about it

Chapter 6 (Industry Analysis, section 6.4) sets out top-down and bottom-up market sizing side by side and works the therapy example. Expect a question asking which approach a given description belongs to, and the surrounding point that underpenetrated industries have higher growth potential.

Common exam traps

  • Top-down starts macro and narrows; bottom-up starts with companies and aggregates. The exam asks which is which, and the descriptions are deliberately similar.
  • Errors multiply, they do not average out. Three inputs each 10% wrong give roughly a 33% error in the product.
  • Its real advantage is coverage. Top-down captures the unorganised and unlisted part of a market that company-by-company aggregation cannot see — the workbook's stated difficulty with market sizing in section 6.4.
  • Market size is not addressable market. A company can only serve the geography, price point and segment it actually reaches.
  • Cross-check against the bottom-up figure. A wide gap means an assumption is wrong somewhere, not that one method beats the other.
  • In this workbook, top-down is a market sizing technique taught in the industry chapter. The syllabus also uses "top down" loosely for the economy-industry-company sequence of fundamental research in Chapter 4; read which sense the question is using.

Check yourself

  1. 1.An analyst estimates the size of a therapy market by taking the revenue of every hospital that offers the therapy, working out what proportion of each hospital's revenue came from it, and adding those up. This is:

    1. a)A top-down approach, because it starts from the industry
    2. b)A bottom-up approach, because it starts from individual companies and aggregates their data
    3. c)Neither, since market sizing is not part of fundamental research
    4. d)A top-down approach, because the total is an industry-level number
    Show the answer

    Answer: (b) A bottom-up approach, because it starts from individual companies and aggregates their data

    The workbook defines the pair by where the analysis starts. In a top-down approach, we measure the size of the market starting from macro-economic factors and arrive up to the industry level. In a bottom-up approach, we quantify the market by looking at individual companies and aggregating their data to arrive at the industry size.

    The workbook uses this exact therapy illustration. Top-down would be: count patients who underwent the therapy, find average expenditure per patient, multiply. Bottom-up is what the stem describes — hospital revenues, proportion attributable, aggregate.

    Option D contains the trap. Both approaches end at an industry-level number; the ending point never tells you which approach was used. Only the starting point does. Option C is wrong — the top-down and bottom-up approach to fundamental research is named in the examination objectives.

Where this is taught

Free preparation for NISM Series XV

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