What is it?

A combination of the words “free” and “premium,” the term freemium is a type of business model, a product-led market strategy that involves offering customers both complementary and extra-cost services.

Under a freemium model, a business gives away basic-level services for free to try to establish the foundation for customers’ future “upgrades” (additional features at a premium).

The freemium model tends to work well for Internet-based/SaaS businesses with small customer acquisition costs, but high lifetime value. It is a popular tactic for companies just starting out as they try to lure users to their software or service.

To successfully implement a freemium acquisition model, a company must place limitations on certain aspects of their product, which will create friction for free users, encouraging them to upgrade to the premium tier. Some common examples of freemium product limitations are:

– Feature limitations: offering extra features, enhanced functionality of available features, or ad hoc paid upgrades, such as rare items in a game (e.g. Evernote)

– Usage quotas: storage limits (e.g. Dropbox), monthly credits, data processing quotas, number of users (e.g. Canva)

– Limited support: tiered access to customer service and support resources

– Advertisement addition (e.g. Spotify)

– Cross-sells: some freemium products are fully functional (e.g. iTunes), but access to them is an entry point to an ecosystem that incentivizes future purchases (e.g. iCloud)

How and why does it work?

Consumers like to know what value they’re getting before making a purchase decision. This usually requires some education through expensive advertising, sales demos, and other marketing campaigns.

The main goal of using a freemium acquisition model is to decrease the customer acquisition cost (CAC) for a business, by shifting the education burden from the sales and marketing teams to the customer, who discovers the product and its capabilities on their own. And by eliminating the cost to sign up for an account, one is effectively lowering the bar to entry for new users starting to use a product.

After achieving success with the product, free tier users will eventually reach the limits of the free-level account and decide to invest in a premium account in order to gain access to the full set of features.

An alternative to Freemium: Free-trial

A free trial gives users full access to a product for a limited period of time (self-paced, time-limited demo). Just like freemium, free trials are designed to lower the cost of acquisition by letting the product and on-boarding do the work of converting leads into customers. But there are two ways in which freemium and free trials differ:

– With a freemium system the free plan lasts forever, whereas free trials are only for a limited time (e.g. one week).

– Free trials give users complete access to all (or most) of a product’s features, whereas free users of a freemium product only have limited access to features within a product.

Benefits of Freemium vs. Free-Trial

With a Free-trial the company doesn’t have to support casual users who never generate any direct revenue. This generates a higher product engagement rate (because paying users are the only ones left), which can lead to a longer customer lifetime, which translates into more revenue over time.

A Freemium creates a pressure-free environment for new users to explore the product without being forced to make a purchase decision before they’re ready. It also allows for the solution to scale in parallel with users’ needs, as customer may not require all functionality when they first sign up, but as they grow, their needs may evolve as well. In addition, freemium products are more shareable than free trial products, bringing in a higher volume of “leads”, which produces more opportunities to reach a wider audience through word of mouth.

A case study – Spotify:

Spotify’s freemium conversion rate is of almost 27% (compared to an average of 1%). As for its retention, 80% of all users (free and paid) use Spotify multiple times per week.

Some conversion triggers employed by Spotify are:

– Hard pushes: when the user tries to add to “up next”, skip tracks more than 8 times, enable “available offline”, skip an ad, change streaming quality, change download quality and download using cellular;

– Soft pushes: when the user tries to listen without a connection, select a specific song from a list and not hear another random playlist after.

Other popular companies using the freemium model are Slack, Dropbox, Skype, Candy Crush, Evernote, SurveyMonkey and Zoom.

In case you’d like to widen your Freemium knowledge go here for more theory and information, and to this article for real life examples of freemium businesses. Lastly, for a different approach to freemium on games check out this video.