Do you want to start a freemium business? If YES, here is everything you need to know about the freemium business model plus example of successful companies.
Table of Content
What is a Freemium Business Model?
Freemium is a business model where businesses provide free and paid versions of their services. Note that the free version has stripped back functionality, enough to make users fulfill basic needs while incentivising them to upgrade to a paid version. It is a portmanteau of free and premium and the strategy is quite popular among top players in the .com sector.
Even market leaders like LinkedIn, Tinder, YouTube, and Candy Crush, etc. use a freemium model to increase their user-base and generate more revenue by implementing micropayment strategies. This business model can mean many things, and its meaning has changed over the years. But it is one business model that has the power to attract attention like almost nothing else.
Freemium business model came into existence through the software industry in the 1980’s as a time-limited or feature-limited strategy, commonly known as the shareware strategy where a free (limited) version of the product was made available to everyone on the basis that some users will upgrade to the better premium version. It was arranged and drafted in a way that it brings as many potential customers as possible to try the product for free and then become premium members after paying a certain subscription fee.
The recent advent of in-app purchases on IOS and Google Play has upgraded the shareware strategy and named it as freemium which is characterized by free software/game/application but with paid add-on features. This business model leverages the zero price point paradox which explains that to maximize participation; a zero price point can’t be a beat.
Meanwhile, humans tend not to value something they got for free, that is why to make people value the product; they should pay something for it. This gave rise to the characteristic feature of freemium services – micropayments. The business model stands on the following four pillars:
Features of Freemium Business Model
This unique business model has also given rise to a new concept known as the Newtonian Engagement. The name is in reference to Isaac Newton’s first law of motion and essentially states that “An engaged player of freemium service will remain engaged until acted upon by an outside force.” As funny as it may sound it is the absolute truth. Engagement is the major accelerator for freemium services, usually games.
This business model when designed and used well keeps clients engaged while using the service as well as while not using the service. Games like candy crush keep you engaged, even when you’re not playing them, by making you wait for the lives to regenerate. These applications also use micro-triggers for you to keep using the app.
It’s important to state that Freemium doesn’t involve charges for the basic services rendered, but it involves charges for the premium add-ons. Indeed the charges or price for these add-ons are nominal and the client, once engaged or addicted to the application/game/software, don’t mind paying for them.
These nominal service charges are called micropayments. Note that customer’s micro pay to buy various services within the application which range from buying an extra life in a game to getting a premium feature on a dating application.
3. Repeated Payments
Have it in mind that individuals who use freemium services never set aside a budget for the same and since the premium add-ons cost as low as few cents, they don’t even consider them as actual payments. But that’s one of the key attributes of a freemium services, they make clients micro pay again and again which amounts to more than the amount of money they would have paid for the service if it was premium. Indeed the addiction to a freemium service is severe. Payment once made, makes customers want more out of the investment which makes them want to pay even more.
4. Network Effect
Providing a product or a service for free is the best way to attract more clients, and even though most of these clients may not level up to the premium stage, they somehow act as a magnet to attract more prospective premium customers.
This business model depends explicitly on a business phenomenon known as the network effect. The network effect states that an excellent service becomes more valuable when more people make use of it. Specifically, the more people use the product or the service, the more its value heightens.
Benefits of the Freemium Business Model
The key to success of the Freemium business model is to give just enough access so the user can start reaping the benefits. Start the paid plans at a stage where the user is too involved to want to stop using your product. These business model users are always advised to consider the scalability of their product and where a user needs to be to want to pay for the product, or what additional features the product can offer to push them over the tipping point. Below are the few benefits of the Freemium Business model:
- Risk-free testing of product features
A well-planned Freemium program provides your product or services with hundreds or thousands of free users. It also means that you have the flexibility in terms of features you can test with your audience. You can create a very basic version of a new feature and see if your free users like it – all without bothering if they’ll cancel if it doesn’t work exactly as expected. You can also run cheap tests where you message or email your free users, pitch a feature and see what excites them.
- Test referral programs
Also being presented with a large group of free users can be beneficial in terms of testing referral programs and getting new users. For instance, no matter how good a referral program is, it still takes a while to get right. If you’re constantly running tests to get your paying users to share your product, there’s a risk that they’ll get angry and cancel their service.
While on the other hand, having free users gives you the opportunity to test many different variations of a referral program. If things go right and you have an effective referral program and five times as many free users as paid, referrals could be an effective marketing channel that comes at the marginal cost of supporting free users.
- Test upgrade levers
With the free users this business model first offers, it gives you the opportunity to test what makes the users want to upgrade. Does a certain feature drive lots of upgrades? How about hitting a certain number of users? Or a storage limit? Irrespective of what you find out, you can measure the key reason why most of your free users upgrade to pay.
Immediately you have that information, you can then design your products on-boarding process to move them in a direction where they get to a “quick win” moment sooner. Freemium can also be valuable if you have a whole suite of products you can cross-sell or upsell into your audience. In this case, Freemium becomes a cheap marketing channel that comes at the cost of supporting your free users.
- A larger audience
For instance, having a free product tier means you have more signups, adding a free product tier means that you will have a larger audience than if you went paid-only. It’s means that having access to this larger audience – and an easy way to reach them – makes other marketing activities easier.
Things like partnerships; co-marketing, joint webinars and referral programs are all easier to land if you can tell a prospective partner you have several thousand customers, rather than several hundred who are paying. Indeed Partnerships and other co-marketing activities take a long time and are tough to get right. What makes them attractive is access to a large pool of potential new customers.
- Easy customers and increased brand awareness
One of the easiest ways to get more customers is to provide the service for free. Everyone does it! They even found a way to make money out of it. For instance, YouTube provides free service but monetizes its videos with advertisements. Also, if your users love your (free) product, you eventually will see an increase in your brand awareness which, in turn, will lead to more profits.
- Better than premium
This business model usually have an upper hand over the premium business model as no user wants to pay upfront for a service he is yet to use or experience. Also, freemium model, if chosen for viral services, not only generates more revenue but also builds a better brand equity.
Disadvantages of the Freemium Business model
Although the freemium business model can be very effective, it is often criticized because it doesn’t always create the sense of urgency for free customers to pay for the product. Note that the cost of servicing free customers is another factor that should be carefully examined. But more often freemium fails because its use is flawed from the beginning.
Experts believe that companies often overlook the importance of the type of freemium to offer, and fail to properly nurture newly signed up prospects, on-board them efficiently and provide clear a path for a customer to grow towards a paid subscription. Below are the few disadvantages of the Freemium business model and the mistakes businesses using them make most times:
- Does not establish a sense of urgency
One of the key issues of the freemium model is that it doesn’t create a sense of urgency. A free trial expires, which creates urgency for users to invest the time to use and learn about the product value. However, companies can craft freemium plans that highlight the urgency factor.
No matter how good your product is, it will never be the case that everyone finds enough value to buy it. Thus, not everyone is the ideal customer. Plus, not everyone has the budget. These free customers can still love your product and share positive reviews.
They can be influencers and promote your product and related content across social media but conversion to a paid customer might never happen. That is why it’s important you focus on building urgency with the third category of free users who fit your ideal customer profile, have budget, but most likely do not yet use your product enough to pay for it.
- Does not nurture nor engage continuously with prospects, resulting in a lower free-to-paid conversion rate
In this modern era, a lot of companies overlook the benefits of nurturing free customers while highlighting the differences between their free and paid versions. Instead, they tend to depend on the idea that free customers will flow with the product value and will convert themselves over time or as their needs grow. This business model needs companies to continuously educate users on how they can get more benefits from the paid version of the product.
- Little or no incentive for free customers to convert
Have it in mind that giving away too many of the product is one way to fail with freemium. Assuming that the cost to service free customers is low, companies must establish a careful balance. The company will have to provide access to just enough of the product to continuously derive value but not quite enough to eliminate the incentive for users to buy the product. Remember, the goal of freemium is to entice customers to increase product usage and ultimately convert to a paid subscription.
- Does not track nor analyse insights on how and why customers convert
It’s advisable that companies using this model outline a clear path to take free users to paid customers. It’s a mistake to assume that free users don’t need to be analysed or tracked. Have it in mind that tracking free users can help you understand target customers better and create data-driven research content.
- Does not provide an appropriate on boarding experience
Even with the free version of your product, users will need to learn how to use your product. Don’t forget, “empty state” or “zero data” is what prospects see during their initial signup process when no data is available in the product. That is why providing free access to your product that looks empty isn’t going to help you convert free users to paid customers. This is all part of on-boarding, which is very important for successful product adoption and can also guide prospects through the steps to generate more data so they realize even more product value.
- Does not deliver enough value
As a company using this business model, if you provide features that are of low importance to the user, or limit you free version to the level where no value can be extracted from the product, you will most likely fail. Even if you provide your product free of charge, users still have to gain some value from it.
- Does not evaluate the cost of supporting free customers
The cost of a freemium offering can quickly add up when considering all your costs, everything from cloud storage to support. Communicate to your users what’s included and excluded in the free version of the product. Ensure that your costs are manageable in the long term.
50 Successful Companies Operating on the Freemium Business Model
- Adobe Creative Cloud
- Amazon Web
- Google G Suite
- Coupa Software
- New Relic
- Candy Crush
- Act-On Software
In recent years, the freemium business model has become widely used across a number of digital apps, Internet start-ups, and SaaS. These businesses tend to benefit from this business model that mixes free services or software with paid upgrades.
Unlike a free trial, the time duration the user can utilize the free services or software is unlimited. Several factors contribute to the appeal, but the great advantage of this model is that it can quickly drive leads, conversion, and revenue without intermediaries.
Plenty of developers and start-ups like the idea of the freemium model and assume it will work for them since it has worked so well for others. But, freemium is not a perfect business model for every business. Freemium can boost your product growth especially in the early stages of a startup. It can put your product in front of more people early in the buying process. But when not done right or all options considered, it can turn catastrophic.
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