If you’ve ever downloaded a free app for your mobile device, you may understand what’s behind the “freemium” pricing model. Freemium apps can be downloaded and accessed at no charge, but after using it for a specific amount of time, the user will realize that the app doesn’t have all the features of the “full” app that sells for a price.

With freemium apps, developers are trusting that users will like the abbreviated version so much, they’ll happily pay to receive the complete experience.

And it appears to be working well, as studies show that over 77% of the top sellers in Apple’s App Store are freemium apps.

The freemium pricing model has excelled with the explosion in digital technology – a workable solution to the problem of pricing something that has little or no marginal cost. This pricing model has also worked well with other platforms.  Internet call provider Skype, LinkedIn and Dropbox have all incorporated the strategy successfully.

As Sujay Jaswa, who heads business development for Dropbox, told the Wall Street Journal:  “It's about getting people engaged with the core free version and if they love it, they'll move upstream" to the paid versions.

The Freemium pricing model has numerous variations. Three of the most common are:

  • The “true” freemium, where one version of the product is free and fees are charged for others. This approach can be value based. As customer use grows, so does the value derived and ultimately the costs to make the switch. Eventually the usage limit is reached and the customer converts. This approach can also be characteristic-based with, for example, the size of the user organization can be considered. One person can use the product for free, but fees are assessed as users are added.
  • Another common approach is to offer a free product, but charge a fee for products that are added on or complement the original.
  • Some businesses also offer a time-based free trial and begin charging once the time period is up. The challenge is in determining the free period, ensuring it’s short enough to create some urgency to buy but long enough that the customer realizes the product’s value.

There are many reasons to integrate this approach to pricing. For startups, it simplifies what can be a hugely complicated modeling process. Moreover, it is a decided step above the traditional means of cold-calling people who may or may not be interested in what you’re offering. The freemium model can send a clear signal on who’s most likely to buy.

And yet, that simplicity may be misleading. What’s your basis for defining free versus paid features? And how many free features can you realistically offer without cannibalizing your paid customer base on one hand or failing to create sufficient interest to get off the ground on the other?  

Experts recommend delving into several underlying considerations before creating a freemium pricing model, including the ultimate goal for business size and growth. Those who seek dominance and a commanding level of market share are smart to go the freemium route for its power to hasten adoption.

It’s also critical to explore the value issue. There is value in the free user, whether by making money from ads directed to them or using it as a function of reducing costs, like marketing investment. At the same time, there is the issue of understanding the relative value of customer terms of how many new users the free users will refer.

The examination should also explore the cost of serving the free users. To avoid a money-losing situation, it must cost less to service them than the dollar value they may eventually provide. And finally, analyze the market size. As one executive noted, “The easiest way to get 1 million people paying is to get 1 billion people using.”

A study of freemiums by online software company Future Simple found that the most successful companies using this strategy all had phenomenal products in common. The underlying offer must fit that description and link to a product that exponentially improves on current solutions or innovates completely.

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