In full swing, The Freemium model is especially popular in the field of new technologies: Internet, mobile applications, games … We can cite for example Skype or LinkedIn. This new economic model consists of offering a free, but limited, offer to acquire a customer base and then trying to “convert” its customers by offering them a more complete and successful paid offer. But despite its apparent simplicity, it is important to understand how the Freemium model works to optimize its profitability…
What is the principle of Freemium?
If your business model is based on Freemium, your goal will be to generate traffic with a free offer and then move your users to your paid offer. To do this, you will set up restrictions on the free offer to encourage your users to subscribe to your paid offer. There are several types of restrictions in the Freemium model.
The main types of possible restrictions:
- Restrictions on functionality :
For example, the Adobe application that allows you to read PDFs for free but requires using the paid version to access the functionality to convert PDF to WORD
- Restrictions on quantity:
This is what DropBox uses: The free version allows you to store up to 2 GB of data maximum, to have more storage capacity, you have to upgrade to the paid version
- Restrictions on effort:
A good example is the mobile game “Clash of Clans”, the paid version of which allows you to pass levels faster
We can note that this model is expected to develop in the coming years, which can be explained by the convergence between three factors:
- The increase in low variable or marginal cost business activities fostered by the continued development of the internet and mobile technologies;
- The structural erosion of the purchasing power of individuals and the stagnation of corporate margins (consequences of increased global economic competition);
- Loss aversion is a fairly widespread behavioral bias: since users are more sensitive to losses than to potential gains, they want to be able to test a service (especially on the internet) before committing to a paid offer.
What strategy should be adopted to have a successful Freemium model?
In her Harvard Business Review article “Using the Freemium Wisely” in February, Vineet Kumar, a marketing researcher, highlighted the key points to keep in mind when using a Freemium model.
- Differentiate between the functions which must be free and those which must be paid
The first thing is to make sure that your free and paid offers are clear and that customers perceive the difference between these two offers. If your customers do not clearly see this difference, they will be satisfied with the free offer by default. Your paid offer must offer functionality far superior to that offered by the free version so that a sufficient number of users choose to switch to the paid version. Otherwise, your model will not be profitable. Be careful not to neglect too much your free version which must remain attractive enough to attract a maximum of users. The delimitation between what must be free and what must be paid is not always easy to find, companies sometimes have to test multiple configurations before finding the right balance. In her article, Vineet Kumar cites the example of the New York Times which in 2011 restricted access to its website to 20 free articles per month. Despite this, the newspaper realized that its website was not generating enough revenue. So they went to 10 free items per month to get enough subscribers.
- What conversion rate should you target?
The conversion rate represents the percentage of users who subscribe to the paid version. Obviously, the profitability of your business model requires that this rate is not too low, knowing that in most cases it varies between 2% and 5%. A conversion rate of less than 1% is too low because it requires you to have a gigantic user base or to overcharge your premium version.
On the other hand, a very high conversion rate is not necessarily a good thing. If you can convert 50% of your users into customers, this may indicate that your free offer is not generating enough traffic (unless of course you already have a base of 30 million users).
- Adapt your strategy to the conversion cycle of a Freemium service
The conversion rate tends to vary over the life of the product or service. Generally, this rate will be higher at the launch of your offer because you will then attract customers who are more interested in the value of your product than in the attractiveness of its price. But the more time passes, the more price sensitive the customers you will attract. So your conversion rate will gradually decrease.
This is an element to take into account in your strategy because it also means that with the passage of time, each new user will represent a higher marginal cost (although very low for a web or mobile service). Indeed, these users will be less likely to subscribe to your paid offer, but will still represent a cost, for example in terms of storage space.
- Bet on the virality of your service
In her research, Vineet Kumar noted that the value provided by users of the free service can take two forms:
- Those who subscribe to the paid service;
- Those who sponsor other users who then subscribe to the paid service.
Indeed, thanks to sponsorship, the value of a user of the free service can reach 15% to 25% of that of a subscriber to the premium offer. It is also interesting to note that a company can increase the value of sponsorship by being attentive to the benefits it provides and to its communication. We can cite the example of DropBox which offers free users 500 MB and premium customers 1 GB of storage space for each additional sponsorship.
Optimize your performance
To optimize the performance of your Freemium model, you will need to continuously improve your two offers:
- Your free offer:
- To continue to attract a large number of users;
- To attract users who are attracted by the value of your product and are less sensitive to your prices, which will mechanically improve your conversion rate;
- To encourage your users to sponsor other users who can become subscribers.
- Your paid offer:
- To increase your conversion rate and improve your profitability;
- To retain your customers subscribed to the premium service;
- To stay one step ahead of your competition.
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