Freemium is a well-known business model which enables online platforms to give users free and premium product features. Users have free access to basic features, while advanced features are restricted. Users must pay a monthly or annual fee if they want to “unlock” premium features.
The word freemium combines two familiar words: free and premium. The freemium business model is also known as the internet model since online platforms mainly use it. It is especially convenient for online start-ups to form their customer base.
Table of contents
- How does a freemium business model work?
- Freemium – advantages and disadvantages
- Freemium and Free trial model combinations
- Who should use the freemium model?
- What does free plan and premium plan offer to users?
- Is freemium a successful business model?
How does a freemium business model work?
The freemium model offers services for free with the additional option to buy advanced features. The primary income of these online platforms comes from charging premium features. Free accounts serve to lure more users and create a customer base. The model works on the premise that the users will, in time, get familiar with the product and want more functionality with premium options.
Usually, with more product usage, the time comes when a user chooses to either cancel the subscription or pay for the premium model. The premium plan gives access to advanced features such as more user accounts, advanced tools, more data storage, or in the case of online entertainment, fewer advertisements and higher streaming quality.
The freemium business model can be a very profitable strategy. Giving away free access to a product will enable a business to quickly build up a sizable user base that will later upsell with additional premium features or services.
Freemium – advantages and disadvantages
Freemium is a convenient model for online businesses but has many upsides and downsides. Sometimes it is hard to convert free plan users to premium. After the free plan, users get used to this “free treatment” and are often reluctant to pay for the premium plan. Maybe the company’s free plan is too generous, and most users don’t feel the need to upgrade.
Businesses must consider the freemium models’ advantages and disadvantages before implementing it. Let’s look at the freemium model’s advantages and disadvantages.
Some of the key advantages of the freemium model include not having a usage barrier. Everyone competes to get attention from prospective buyers in a world filled with products. It is more appealing to users when businesses offer something for free. The phrase “free” appears warm and welcoming. Unlike demos or limited free trials, a freemium provides a more relaxed way of interacting with a product.
Studies show that more customers will buy a product if they have the option to try it for free first. This explains why freemium businesses can acquire a large user base. The only problem is keeping these users and persuading them to switch to a premium plan.
Here are some advantages of the freemium model.
Reducing customer acquisition costs (CAC)
Offering free features of a product will attract new users much faster than when trying to sell them a paid version of a product. So the efforts and costs a business must invest into customer acquisition are much lover when working with a freemium model.
As a result of these free plans, companies get leads on potentially interested clients and get a chance to persuade users to go premium. Furthermore, it can help build a loyal user base and secure steady annual recurring revenue.
Increasing brand value
By demonstrating the product’s features, users can experience it in its basic form. In this case, users get to see how this product works and its core values by subscribing to the free version. A satisfied user, even on a free plan, will increase the brand value.
Experimenting with new features
Businesses can experiment with new features to see how they perform while testing them through the free plan. By subscribing to the free plan, users can give data and feedback on new features and their performance.
Collecting user data
Companies can use data gathered from users to strengthen their performance. By tracking the product engagement data, businesses can identify a user’s propensity to purchase and find powerful opportunities to upsell.
Fighting the competitors
User data helps, and further testing can identify product gaps that should be improved. Businesses invest a lot of money into expanding their data analytics capabilities. They utilize gathered information to customize their premium offers better than competitors.
Freemium is a good marketing strategy in the short term, but if you want to grow the business and especially revenue, you need a more effective plan. It is suitable for growing the business, but getting as many users as possible for free and converting all of them to premium is almost impossible.
Freemium’s free option can sometimes attract the wrong customer base. If a business advertises something for free, users assume they will get everything or at least a substantial part of it for free. A company must communicate users’ advantages with upgrading and hold its promises.
Users who decide to upgrade based on genuine trust or need for the product are likelier to go permanently premium.
To successfully manage the freemium business model a company must also have advanced billing software or even better, good subscription management software.
Here are some disadvantages of the freemium model.
No balance between free and premium product
Users will cancel their subscriptions if there is a vast difference between free and premium features. The point of a free plan is to give users a glimpse of what a premium plan offers but to provide them with enough to test and see if it suits them.
Users can feel deceived if they notice the premium plan only aims to profit rather than make a good user experience.
This works in both ways. A user can sign up for a free plan but finds out the free plan is so limited that he has no use. He will feel conned into subscribing and cancel the subscription.
On the other hand, if a free plan offers too much, many will seriously doubt if an upgrade is really justified.
So the trickiest part of any freemium model is to find the right balance between free and paid features or services.
The burden on operational resources
Freemium implementation costs can be very high. Maintaining a free plan additionally increases the operational costs for businesses. Although users pay nothing for free product versions, the company will still have to spend money on the software’s design, development, construction, launch, and ongoing maintenance.
In the long run, a conversion rate from free to paid plans must be fast and high enough to support all costs. A free trial is better if a business wants to cover expenses quickly. With free accounts, data storage can rise rapidly, which makes it another additional cost to the company.
Low conversions rates
A lot of users never convert from free to a premium plan. There are many reasons for this, but the price usually plays a significant role. The price-quality ratio must be adequate so that users do not feel the only reasonable option is a free plan. Limited features sometimes react oppositely – rather than subscribing to a premium plan, users get frustrated and leave.
Freemium and Free trial model combinations
We must differentiate freemium’s free plans from free trials.
In a freemium business model, users have limited access to a product’s features, but the free plan is valid forever. On the other hand, with a free trial, users have full access to all (or the majority of) a product’s features but only for a limited time, usually seven days.
Free trials can be a standalone option, or they can be combined with a freemium model.
A typical scenario is that the company offers freemium to get a broad user base. This user base is then offered a free trial to premium features as an additional motivator for getting users to upgrade.
After the free trial expires, two things can happen. If a free trial does not require a previous payment reservation with a credit card, the user loses access to all advanced features and is downgraded to a free plan. If a free trial is accessible only with a credit card, the user will automatically subscribe to a paid premium plan if they fail to unsubscribe before the trial ends.
Who should use the freemium model?
Online platforms are among the most prevalent examples of the freemium business model. Although freemium is a great business model for start-ups and giants such as LinkedIn, there are still some downsides.
For example, implementation costs are very high, making it difficult for start-ups to grow. Additionally, freemium only works when you’re going after a huge market, so the geographical location makes a big difference. Lastly, the product matters. If a business does not offer enough features to differentiate between free and premium plans, there is no need for a freemium business model.
In theory, all businesses can use freemium as their business model. If the right conditions are met, a freemium model can help drive faster recurring revenue and profit growth than a paid-only model. But before a business opts for a freemium business model, here are some of the questions to answer first:
- Is there a market for that product?
- Is that product built to self-serve?
- Does that product offer useful premium features?
Some of the companies that employ the freemium business model include:
- Word press
- Candy Crush Saga
Semrush is a Search engine optimization and digital marketing platform. This product is frequently used to find keyword data, and Google ranks tracking, site audits, research competitor analysis, backlink analysis, and more.
Semrush offers a freemium, free trial, and three premium plans: Pro, Guru, and Business. The difference between the three premium plans is their available features, user accounts, and other limitations like several projects, tracked keywords, etc.
With free plans, users have limited features. Users must give their credit card information for the free trial period to ensure future payment. After seven days, the free trial period is over, and the basic premium plan (Pro) is automatically activated. Users can upgrade the premium plan from Pros to Guru or Business anytime and unlock additional features.
Spotify is an online music platform where artists and music fans engage. It has a free subscription and premium plan. Users can listen to music with a free subscription, but there will be ads and download limitations. With premium features, users get unlimited content on the platform without ads.
Fortnite freemium model
A great example of freemium in online gaming is the game Fortnite by Epic Games. It’s a free-to-play or free-to-use model. While the game is free to play, its commercial success lies in in-app purchases of the virtual currency called v-bucks. With v-bucks, players can pay for battle passes and cosmetic updates to players’ characters.
Although the additional paid content does not influence the gaming experience, the other content is a must-have among the gamers in their community as a sign of status and self-expression.
Fortnite has about 400 million registered players and generated $5.8 billion in revenue in 2021, all on the freemium business model.
What does free plan and premium plan offer to users?
We established the difference between free and premium plans, but what are all the features that premium offers that make it alluring to users to switch?
Let’s take LinkedIn as an example. LinkedIn is an online business-orientated social media platform. With the free version, some options include opening an account, posting, and sharing content with other users.
The Premium version consists of the famous “Who’s Viewed Your Profile” feature, LinkedIn learning courses, InMail credits, Lead generation campaigns, recruitment tools, and more.
When it comes to more specific business tools such as Trello or Slack, with the premium plan, you can create:
- Advanced checklists
- Timeline overview of your work
- Advanced roadmaps and project lists
- Structured custom fields
- Automated tasks
- Face-to-face group communication (voice and video calls)
- Streamlined administration with centralized controls and customizable policies
These premium features are just some of the options you can find on freemium business models.
Is freemium a successful business model?
Many experts argue about what would be a perfect conversion rate. The answer is that there is no ideal number.
On average, freemium conversion rates are around 1%, ideally between 2%, and 5%. It may sound low, but it all comes down to the company’s number of active freemium users.
Some companies have a much higher conversion rate than this, such as Spotify, which had a 46% conversion rate back in 2019, and Slack, which had a 30% conversion rate. Dropbox, on the other hand, has a 4% conversion rate.
If the conversion number is too low, it could mean there is no significant difference between free and premium features. If the rate is suspiciously high, it could mean you overpromised on the paid plan’s features.
So apart from the conversion rate, the customer churn rate and customer retention rate must also be monitored closely.
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