January 15, 2020

Understanding freemium: 3 expert tips for getting the strategy right

I used to hate freemium. I even wrote articles railing against the idea. But today I’m something of a freemium zealot. Over time, I studied the data and realized how effective freemium can be when it’s handled the right way under the right circumstances. Done well, freemium is a powerful acquisition tool. 

At ProfitWell, we have a free, turnkey subscription financial metrics product that provides more than 8,000 companies with accurate, in-depth information that is critical to their business growth. This product is a “forever free” product. It will never be a source of revenue. Instead, we earn money when freemium users purchase our paid products to solve the problems they uncover with our freemium product. 

Based on the success of this model, we’ve doubled down on driving subscriptions to our freemium product. Once we get people through the door and let them experience our product, we’re really well positioned to take the relationship to the next level, a.k.a. paid products to help lower churn, optimize pricing, and recognize revenue. 

If you had asked me 8 years ago, I wouldn’t have predicted that I’d be as enthusiastic as I am about making freemium a core part of our business model, but here we are. But there’s a caveat: There are right and wrong ways to use freemium, which is what I want to share today.

Freemium–why we need it and how it works

First things first—why freemium, and why freemium right now? There are several key factors that are driving the efficacy of freemium in today’s market. 

For one thing, the cost of customer acquisition has risen 70% over the past five years. This drastic increase is true across the board—it doesn’t matter whether you’re B2B or B2C or which channel you’re talking about.

customer acquisition cost increase by 70 percent, profitwell chart

No matter who you are or how you’re prospecting, it’s just a lot more expensive to land new customers. The second shift has to do with the fact that, in a lot of ways, the magic is gone when it comes to software. People are harder to impress. There are so many products out there that the value has fallen in the buyer’s eyes. 

The dilemma that comes out of this environment is: How do you close the gap? How do you engage people more quickly and effectively so you can reduce CAC? 

The answer: You have to lower the energy required to get a reaction out of a prospective customer. 

In chemistry, reactions don’t occur spontaneously. A situation has to meet certain criteria, and there has to be an energy source to activate the reaction. When it comes to creating a reaction between a prospect and your product, you want to do everything you can to reduce the amount of energy your prospect needs to expend. A freemium product is the best way to do this because it removes hurdles and friction that require more effort. 

3 tips for getting freemium right

As I’ve said, you have to do freemium the right way in order to reap the benefits. “Free” on its own isn’t enough—you need a well-thought-out strategy, and you need to know how to avoid the pitfalls that many companies fall into. Freemium is not a sledgehammer. It’s a scalpel. You have to use it in a precise way at the right time and with the proper support. 

Here are three keys to getting it right:

1. Have a great product

Freemium doesn’t work with a bad product. In fact, freemium doesn’t really work that well with a “good” product. You have to have a product that is a lot better than the competition. Just because something is free doesn’t mean people will put up with it being crappy. Remember—buyers have a lot of options. There’s no longer any reason to settle for something subpar. 

At ProfitWell, we realized early on that accuracy was going to be the most important thing to our potential freemium subscribers. This didn’t make our engineers very happy because building an accurate metrics product is a grueling experience with hundreds of edge cases and other complexities. Despite the challenges, we knew what we had to do. We bit the bullet and buckled down for 18 straight months, putting everything we had into ensuring that our freemium product’s accuracy would be unrivaled.

It was a tough haul. While we were nose-to-grindstone on our accuracy mission, our competitors were hitting the market hard and fast with monthly feature releases. As a result, we were inundated with tons of support tickets from freemium users who wanted this feature and that feature. It was tough to stay focused, but we did.

In the end, it paid off. Our users realized that—due to all our hard work—our numbers are better. Once people saw the value of accurate insights, none of those other features mattered. Today, we’re 10x bigger than our next closest competitor in terms of user numbers. 

2. Launch it at the right time

As the saying goes, timing is everything. The companies that are most successful with freemium are the ones that hold off until they are 3 to 4 years into their business. This strategy works because that’s about the point at which a new company really starts to figure out what’s going on—with their customers, their personas, and their product. Most importantly, they have  enough experience to gain a better understanding about what it takes to convert a new customer. 

At this stage, the situation becomes a top-of-funnel problem, for which the solution is more leads. Freemium works so well here because—I’m going to say it again—it’s an acquisition strategy, not a revenue model. If you don’t want to be disappointed, don’t set your freemium up for failure by having the wrong expectations.  

3. Know your customer

Last, but never least, if you don’t know enough about your customer, freemium won’t work. You have to do your research. You have to understand what motivates your customers, what they will and won’t do, and how all of that affects the dynamics of the conversation. 

Case in point: We had originally planned for our analytics product to be a paid product, but we did a lot of research and discovered some enlightening information:

  • The willingness to pay for analytics is typically terrible
  • The retention for analytics products is usually really bad
  • But … analytics are still valuable

We put two and two together and decided that freemium was the only way to go. We chose to go with a “forever free” approach, which we also refer to as “pool free” because it’s a strategy that allows us to create a pool of potential users. 

The benefit for the users is a really great, free product that delivers actual value. The benefit for us is that we essentially own these leads and have a way to sell into them in a natural, low pressure way. 

The true power (and purpose) of freemium

This “pool” is the real power of freemium for ProfitWell and many other companies that use a similar model. Creating a free product that people love allows you to own the lead. Through your freemium product, you’re able to deliver a really great experience and tangible value. This helps you earn a lot of goodwill and build stronger relationships with prospects. In turn, this opens the door to valuable conversations that can lead to conversions in paid products. 

Ultimately, the way we use freemium is a brand play. It gives us the opportunity to engage with our best prospective buyers in a very authentic and helpful way. This means that—when they are ready to level up to a paid product—they think of us first, giving us an advantage over our competitors. 

The “forever free” model is just one way to do freemium. There are other approaches that may work better, depending on your circumstances and business objectives. 

The faux free trial

This popular strategy gives trial users limited access to a product. The limitations might be based on usage quotas or the kind of support available or some other restriction. You need to be careful where you draw the line. Say, for instance, you offer email tracking. Your faux free trial might be limited to 100 email opens per month. As soon as they go over that—and you want to time it so the average user will exceed the limit within 14 days—you prompt them to upgrade. Even if they don’t exceed the limit, their trial will just refresh, and you essentially still own that lead. 

The tangentially free product

This strategy involves providing a product that is related to your core product for free. The idea is to choose a free product concept that will appeal to the same audience you’re trying to attract to your core paid product. Hubspot’s free CRM product is a great example of this. They offer the free CRM because it allows them to build relationships that eventually help them in selling their paid products to the rest of the organization. 

Whichever freemium strategy you employ, the main benefit is that you own the relationship, and therefore the lead. You have a direct line to the people who are your best prospects, and you’re already on their good side because you’ve proven that you can deliver value. 

Freemium in the future

profitwell data willingness to pay for saas product

The other thing to keep in mind about freemium is that it’s an evolving strategy that follows a cyclical trend. I’m not just saying this because of my own flip-flop on the value of a freemium model. The freemium concept has actually been around since the 80s, and its popularity has ebbed and flowed. 

In the past, a product team’s main competitive advantage was all about speed to market. Beating the competition depended on their ability to ship faster than everyone else. But after a long time of shipping and shipping and shipping, we wound up with a market that’s overflowing with a massive number of choices. Based on the basic rules of supply and demand, this has driven value down. 

On a related note, the cost of switching providers has also plummeted, both in terms of finances and disruption. It’s easy for a company to rip out one product and switch to another, meaning that software companies can’t feel any sense of security once they’ve gotten a foothold in a company. The game can change at any moment. 

In this environment, the secret of successful product companies is their ability to identify where there’s a greater willingness to pay. This is a powerful ability, but not a silver bullet. To figure out where these conversion points sit requires a lot of in-depth customer research. And to put that insight to work effectively, you need to own the lead so that you have enough time to nurture prospects. 

The good news is that users’ willingness to transition from free to paid is increasing. In the past, free was a bad anchor for a lot of products because once you’d given something away, it was really hard to get people to pay even $10 a month. In recent years, the willingness to pay has jumped into the thousands of dollars. The difference? Companies are moving toward a value-driven pricing model that makes it easier for a user to justify—to themselves and the powers that be—converting to a paid product, even if the fee is substantial. 

With value-based pricing, it’s easier for prospects to articulate the ROI on their investment, so making that investment feels less risky. If, for instance, a prospect knows that a product will solve $1,000 worth of churn, they will probably be willing to pay $200 for that value. 

Value-based pricing shifts the focus from features to value metrics. Instead of selling based on bells and whistles, today’s most successful companies are selling based on how much money they can bring in for a company or how much money they can save a company. Because these bottom-line numbers are often hard to quantify, product companies find a proxy—number of users, number of widgets, etc.—that represents the ultimate outcome. 

The popularity and efficacy of freemium models will continue to fluctuate based on market influences, but it seems likely that this approach—combined with value-based pricing—will continue to drive growth for a lot of product companies. It’s too good of a strategy for attracting the right customers and building strong relationships that offer valuable sales and marketing opportunities. 

Liked this article? Check out the full Voice of the Product interview to hear more.

Patrick Campbell is the CSO of Paddle and Founder of ProfitWell (formerly Price Intelligently), the software for helping subscription companies with their monetization and retention strategies. Prior to ProfitWell, Patrick lead Strategic Initiatives for Boston based Gemvara and was an Economist at Google and the US Intelligence community.

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