How to Design an Effective Freemium Model

January 24, 2019
Samantha Brachat

Freemium pricing strategies have become very popular in the software space, and for good reason. By offering an initial taste of their product for free, companies have found it much easier to rapidly attract a large userbase.

At the same time, the success of freemium models depends heavily on your ability to convert a significant percentage of your free users into paying customers. Fail to do so, and your large userbase turns into a cash sink rather than a reliable source of future revenue.

Fortunately, designing an effective freemium model is not a matter of luck. There is a proven playbook that has been used by countless companies to achieve successful monetization, and it can be broken down into four simple (if not necessarily easy) steps.

 

1. Demonstrate value from day one

The first step to effectively monetizing free users is to demonstrate enough value that they will stick around and continue using your service. While this might sound obvious, a surprisingly large number of products fail to achieve this basic goal. In fact, studies have shown that 40-60% of users only use an app once and never log in again.

The most important thing you can do to improve customer engagement is to make customer success a priority from day one. Ensure that your users get immediate, tangible value from your solution, and they’re a lot more likely to keep using it.

Of course, you probably won’t be able to invest as much into supporting your free users as you do for paid customers, so it’s important to focus on providing low-cost, scalable resources. For example:
 

  • Establish a streamlined onboarding process. Groove found that their users were 80% more likely to convert to premium subscriptions if they completed onboarding on the first day.
  • Create evergreen knowledge resources. A comprehensive knowledgebase lets free users find their own answers without submitting a support ticket.
  • Build a supportive user community. Maintaining a forum where users can ask each other questions can be a great way to reduce your support burden while also building your brand community.

 

2. Determine which features drive value for your customers

Once you’ve figured out how to keep your users engaged, the next step is to determine which features they value most. Premium versions of these features will then form the basis for your paid offerings.

There are two main ways to determine the relative importance of your various features. The first is to directly track feature usage with cohort analysis tools like Kissmetrics, Mixpanel and Amplitude. These tools will allow you to determine which features are used most often. For example, if you sell project management software and find that users are spending a lot of time using your analytics tools, you might want to restrict advanced analytics functionality to premium users.

In addition, you might want to consider segmenting your analysis by buyer persona, as it is likely that each customer type will prioritize features differently. In the project management software example, companies with a large or dispersed team might value powerful analytics tools. In contrast, smaller companies might prioritize the ability to quickly assign people to tasks and set deadlines.

The second way to find out what customers value is to ask them directly through an online survey. While this method might be less reliable than directly tracking usage, it can often yield useful qualitative insights. To get a more accurate picture of customer preferences, force them to make tradeoffs between features. That is, ask them to rank features from most to least important, thus compelling them to consider the actual relative importance of various features.

These two techniques will allow you to get a clear picture of which features your customers are most likely to pay for.

 

3. Price upgrades on value

Now that you’ve identified your most valuable features, it’s time to determine what to charge for them.

Many companies simply price their premium features based on what their competitors are charging, or their own costs of delivering the product. Neither of those methods is optimal, as it will often lead to undercharging.

Instead, you should seek to price your product based on the value that it delivers to your customers. One popular method is the Van Westendorp Price Sensitivity Meter (PSM). The PSM requires you to ask your customers four questions:

  • At what price would you consider the product to be so expensive that you would not consider buying it?
  • At what price would you consider the product to be priced so low that you would feel the quality couldn’t be very good?
  • At what price would you consider the product starting to get expensive, so that it is not out of the question, but you would have to give some thought to buying it?
  • At what price would you consider the product to be a bargain—a great buy for the money?

By plotting the cumulative frequencies of the answers, you’ll be able to determine the acceptable range of prices that your customers will be willing to pay for your premium features.

 

4. Use the right upsell approach

You’ve kept your users engaged, identified your most valuable features and figured out what to charge for them. The final step is to promote your premium upsells to customers in the most effective way possible.

Essentially, there are two main ways to upsell features. The first is to send upsell emails to your free customers. While there are countless tips and tricks you can use to optimize these emails, the key principle is to make sure that they are as relevant and personalized as possible.

In particular, behavior-based emails can be especially effective. Instead of being sent out at regular intervals, these emails are triggered in response to a specific user action. For instance, if you sell cloud storage software, you can send an email after your user uploads his first file, or shares a folder with another user for the first time. These emails can be used for increasing customer engagement, or for upselling them on a premium version of the feature they just used.

The best part is that you don’t have to be technical to set up these emails. Your marketing automation or CRM software might already include this functionality, or you can use third-party solutions like Intercom to create them yourself.

The second way to upsell features is to integrate upgrade prompts within the product itself. For example, Dropbox regularly reminds users when their storage space is almost full, and includes a simple CTA to upgrade to a premium account.

 

 

Make sure these prompts don’t happen so often that they become annoying, or impede the user experience. Remember, your users have to stick around for some time if they’re ever going to become paying customers.

 

Conclusion

There you have it – a tried-and-true process for converting freemium users to subscribers. It’s important to remember that the ideal model will evolve as your business grows. To that end, you should closely track your results so you can determine what’s working and what isn’t, and regularly tweak and improve your model over time.

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