Musings on freemium

By August 29, 2012Business models

I’ve been meaning to write a post on freemium since reading Alan Patrick’s When freemium fails, and doesn’t last week.

The point of Alan’s post is to say that whilst having a freemium business model works for some companies it is not as widely applicable as everyone (including me) thought a couple of years back. I think he’s largely right. The basic problem is illustrated by the story of Chargify (from WSJ):

for some, the "freemium" strategy is turning out to be a costly trap, leaving them with higher operating costs and thousands of freeloaders. That’s what happened to Chargify LLC, a provider of billing-management software to small businesses, which used the freemium business model when it started out in 2009. The Needham, Mass., company gave away its software to merchants that billed fewer than 50 customers a month. If a merchant wanted to bill more than 50 customers monthly, then the business owner would have to start paying $49 a month.

Most Chargify users never became paying customers. Within a year, the company was on the path to bankruptcy. Chargify eventually put up a paywall for all users. Last month the 12-employee company became profitable, with more than 900 paying customers. The starter plan is $65 a month.

Alan quotes David Cohen, founder of Techstars, as saying that due to low conversion from free to paid (typically 1-2%) freemium only makes sense for businesses that can reach millions of users. Otherwise they won’t get enough paying customers. This was Chargify’s problem.

For those that can’t reach millions that leaves two choices. Get everyone to pay or find another source of income – e.g. advertising, selling related products, or do something with the data. Of these, getting everyone to pay is at once the hardest model to execute and the easiest model to scale.