Freemium. A Good Revenue Stream or a Quick Way to Lose Loyal Customers?

Freemium is a business model by which a product or service (typically a digital offering such as software, media, games or web services) is provided free of charge, but a premium is charged for advanced features, functionality, or virtual goods. A good example of this is LinkedIn. Anyone can sign up for their free service however often it will not allow you to view certain individual’s profiles / email certain individuals unless you have the paid premium service. The model is generally suited to businesses such as software companies where the cost is negligible, meaning there is little cost to the business in giving it away for free.

An article by Fred Wilson (2011) states that “the best freemium models allow anyone to use the service for free and then convert the most serious/frequent/power users to paying customers”. Many newspapers are currently now swapping over to such a model as the print industry continues to die. Other good examples of the freemium model are Flickr, Vimeo and more recently Hootsuite (a social media management online tool). When signing up for Hootsuite all customers get a free 30-day trial option for the service’s Pro Plans, which offers a variety of premium features. Individuals are then encouraged to upgrade after their trial has ended. HootSuite however have stated that they will continue to offer their free service as based on surveys they have conducted, the company predicts around 95% of their user base will continue to use the free option.

Whilst companies like Dropbox and Evernote have been the poster kids for the Freemium model with billion dollar valuations, an article by Dmitri Leonov (Mashable, 2012) states that there are really only three main cases where a freemium model works:

  1. Paywall: The way the product is designed will encourage many users to jump over to the paid version. The longer you use the product the more value you get out of it. Example, Evernote.
  2. Network and viral lift: Dropbox has inherent virality and its value increases with more users (in order for you to share a folder the other person needs to be using it to)
  3. Ads: From a business point of view making money on ads is a lot less leveraged as it requires a huge scale to generate any significant revenue. You are better off charging $5 per month. Five bucks a month is a small price to pay to avoid hearing the same commercial every three minutes. Example, Spotify.

The gaming industry has also adopted the Freemium model which has proved to be very successful for games such as Angry Birds and Farmville. An article by Mashable (2011) states that the obvious benefit of this business model is the ability to attract more users with zero cost-of-entry, while generating potentially limitless revenue via consumable items. However, freemium games are controversial because they entice players to spend money. Many games, for example, create absurdly long wait times unless the user forks over some credits. This model however is proving successful with a sustainable and popular approach, especially in the gaming market, where in-app purchases account for 72% of App Store revenue.

Whilst Freemium appears to be a good way for online businesses like these to generate revenue, there are also some significant disadvantages to this model. Web users have been conditioned to think that most of the online services and content we love so much should be accessible for free. Furthermore it’s common for people to spend $5 on a vanilla latte but to agonize over paying $5 a month for a web service. That’s because a psychological barrier to paying for online services remains, and it’s hurting both consumers and businesses. Another area which has raised concerns is by having a free option in your offering consumers begin to anchor this value with the service. It therefore makes it very hard for businesses to then introduce paid options. This can lead to frustration, lower levels of brand loyalty and switching to competitors that offer the same service for free.

So what are your views on the Freemium business model? Do you see it as a good revenue stream for online companies? Or do you look elsewhere when you are asked to upgrade to a premium service? Keen to hear your views..

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13 comments

  1. Alex Boston

    I think Freemium is a good idea, but not being customised enough across different industries or modified in any way to suit different media industries. Take Herald Sun for example, only receiving a 20% drop off since introducing readers http://www.crikey.com.au/2012/07/17/the-great-news-ltd-paywall-experiment-are-readers-logging-off/?wpmp_switcher=mobile
    which is actually a good result.

    I think a pay per click / per article approach might be much more attractive (thus harder to develop and implement) in the longer run, users don’t realise they amounts they are amassing vs a monthly subscription.

    I think via this kind of model, journalists get more rewarded for writing popular content and measurement within News Agencies favours popular writers.

    • sammydoyle

      Thanks for the feedback Alex! Yes that’s a lot less than I would have expected would have dropped off after the introduction of a paywall. That article though doesn’t really give clear stats on how many people have actually signed up for the paid premium subscription though. It might be the old gotomeeting scenario where you get a free 30 day trial and people just use a new email address every time? Guess the real stats will come up soon which will give us a better indication of how effective the paywall has been. To me I just find it hard to get my head around paying for online news when it has been free for so long..

      I agree, the pay per click model would be a great way to encourage journalists writing popular content.

    • Kristel Proctor (@justkyp)

      Not sure whether the 20% drop off can be trusted with the Herald Sun – they offered a free 2 month digital pass to all visitors. Only once those offers have expired can the success of the ‘pay’ experiment really be measured…

      • sammydoyle

        Oh really, I didn’t know that about the free trial. Very interesting. I just don’t understand who would pay for their news? It’s all negative doom and gloom anyway… haha

  2. James Rosales

    great article – thankYOU.
    i see that freemium is structural change, it’s not going away – which means we have to embrace it as we don’t have a vote. if businesses on the fringe that are highly successful are using it now, then it is bound to be social convention at some stage…..

    if we look back a few years:
    Microsoft gives away its Internet Explorer web browser for free. Qualcomm gives away its popular email program. Thomson, the eight billion dollar a year publisher, gives away its precious high-priced financial data to investors on the web. Millions of copies of McAfee’s antivirus software are distributed free each month. Java was passed out free by Sun Microsystems.

    Apple Computer’s superior operating system lost to Windows because it did not share its operating system. Sharing it freely would have created Apple as the hub instead of Microsoft.
    Another example is Citibank, which pioneered the use of 24-hour instant cash at ATMs. Citibank blanketed New York City with their proprietary machines. At first it was highly successful. Smaller competing banks started their own proprietary ATM networks, yet initially found that they couldn’t compete.

    it may be frustrating to be asked to pay at some stage to receive deeper value, however free is the future – even if it’s free only first at the start.

    • sammydoyle

      Great examples James. Hadn’t thought about a lot of those. When you think about it, the Freemium model is really not a new concept is it? Like you said Internet Explorer and McAfee have been using it for years. I think to use it effectively you must use it as a strategy when you first start out. All the companies you mentioned above entered the market with a free option… the challenge companies are having now such as Herald Sun is they are bringing it in years later (after consumers have anchored in their mind that their product is free) which is confusing the market place and raising frustrations with consumers. Maybe the Freemium model is only effective if it has been one of your strategies forever?

      • Kristel Proctor (@justkyp)

        Definitely not a new concept for the software industry! I personally believe the freemium model is more effective when utilised from the start – reworking your offer to include a free tier tends to arouse suspicions regarding motive!

      • sammydoyle

        Yep makes sense. It just seems to hard trying to introduce a paid option after people are used to getting it for free. If it was me, I would just look elsewhere..

  3. emarketingisinfashion

    great post covering a very interesting topic here. lots of recent articles referenced – great to see the most up to date information. i wonder how companies utilizing the freemium model are analyzing their paying client base? the information required for subscription would undoubtedly give great insight into the consumer, and allow freemium companies to extend their reach and make their product more appealing. did you come across any evidence of this in your research sam?

    • sammydoyle

      Thanks Meg! Appreciate the great feedback :) I agree the Freemium model will allow for the company to gain a lot more relevant information on the consumer and in turn create offerings that effectively satisfy their needs. As Alex mentioned above, Herald Sun lost about 20% of their customers when they introduced the paywall.They however believe that these individuals were the lower demographic, the ‘free riders’ and the shift to a paid option has actually been beneficial in the sense that they have ditched their D grade client base which will allow them to focus on their quality paying clients. I think it will be a trade off between having a lot of free subscribers with limited insight into the needs of these individuals or less paying subscribers with a lot of information. The second option will obviously allow for opportunities to up sell to different products/services and the ability for the firm to provide a better service as a whole. I guess you just need to weigh up the pros and cons?

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