What Is Freemium?

A combination of the words "free" and "premium," the term freemium is a type of business model that offers basic features to users at no cost and charges a premium for supplemental or advanced features. A company using a freemium model provides basic services for free often in a "free trial" or limited version for the user, while also offering more advanced services or additional features at a premium.

The term freemium is attributed to Jarid Lukin of Alacra, a provider of corporate information and workflow tools, who coined it in 2006. The practice, however, dates from the 1980s.

Key Takeaways

  • Freemiums represent a business model in which a company offers basic features to users at no cost and charges a premium for supplemental or advanced features.
  • Freemium business models date back to the 1980s, though the term was coined in 2006.
  • Freemium models are especially popular among software applications and Internet-based businesses.
  • Freemium business models are popular and have the advantage of acquiring a large set of initial users; especially when there's no cost associated with trying out an app or a service.
  • Ultimately, for the freemium model to work, companies must ensure their premium users can access more upgraded features such as increased storage or customizations and additional customer service.

Understanding Freemiums

Under a freemium model, a business gives away services at no cost to the consumer as a way to establish the foundation for future transactions. By offering basic-level services for free, companies build relationships with customers, eventually offering them advanced services, add-ons, enhanced storage or usage limits, or an ad-free user experience for an extra cost.

The freemium model tends to work well for Internet-based businesses with small customer acquisition costs, but high lifetime value. The freemium business model allows users to utilize basic features of a software, game, or service for free, then charges for "upgrades" to the basic package. It is a popular tactic for companies just starting out as they try to lure users to their software or service.

Since the 1980s, freemium has been common practice with many computer software companies. They offer basic programs to consumers that are free to try but have limited capabilities; to get the full package, you have to upgrade and pay a charge. It is a popular model for gaming companies as well. All people are welcome to play the game for free, but special features and more advanced levels are only unlocked when the user pays for them.

Freemium games and services can catch users off guard, as they may not be aware of how much they (or their kids) are spending on the game, as payments are made in small increments.

Freemiums as a practice date from the 1980s, though the term was coined in 2006.

Advantages and Disadvantages of Freemiums

Freemium business models are popular and have the advantage of acquiring a large set of initial users under a pressure-free trial, especially when there's no cost associated with trying out an app or a service. Most people are willing to take a new app or service for a spin, giving the company an easy way to acquire potential users and study their usage behavior. In many cases, companies still benefit from their free users: though they may not be explicitly purchasing upgrades or items, the company can collect their user information and data, show them ads to make revenue, and boost their own business numbers to continue to enhance the application.

Especially for startups or companies that are trying to build a following for their product, the freemium model brings a large amount of brand awareness while not having to provide a lot of customer support.

On the flipside, some of the disadvantages of the freemium model are that if done poorly, free users never convert to paid users. Ultimately, though some companies are perfectly happy with their free users (and have accounted for these free users to make up a majority of their forecasted earnings through their ad consumption or time spent on the app), they may offer too many features on the free version that prevents users from ever upgrading into the premium version.

In addition, users may eventually get tired of a free version as it doesn't offer additional bells and whistles but encounter other barriers or an unwillingness to upgrade to the premium version.

How to Convert a Free User to a Paid User?

Converting a free user to a paid one is at the crux of many businesses' dilemmas: especially when a business' longevity is hinging on converting users, there can be additional pressure to "upsell" their free users and make a larger margin of profit of them. Ultimately, for the freemium model to work and move people along to more expensive plans, companies must do a mix of the following:

  • Limit the features offered to free users, so that they will be enticed to upgrade for a better experience
  • As free users increasingly use the product or service, offer increased storage, more flexibility or time allowed on the app, and customizations
  • Offer additional personalized or customer service associated with an account

Examples of Freemiums

Spotify is one of the most well-known companies with a highly successful freemium model; the online music streaming service boasts an impressive 345 million users, with about 45% of those users as paid subscribers. This is a staggering rate, as a usually impressive conversion rate for free-to-paid models hovers around 4%, which is what other companies like Dropbox boast.

Users using the free version of Spotify—while they have the ability to access all the same music as premium users—have to listen to ads, can only shuffle songs on mobile or while listening in the car, and have a limited number of "skips" on songs they want, among other drawbacks. For some, these limitations don't pose a challenge. But for music aficionados who want more control and higher audio quality, the

An example of a company that uses the freemium business model is Skype, the firm that allows you to make video or voice calls over the Internet. There's no cost to set up a Skype account, the software can be downloaded for free, and there's no charge or their basic service—calling from a computer (or a cell phone or tablet) to another computer. But for more advanced services, such as placing a call to a landline or mobile phone, you do have to pay, albeit a small amount compared to conventional phone company charges.

Another popular employer of freemium—one of the earliest to do so—is King, the developer of the highly popular Internet game Candy Crush Saga. The addictive activity, available on the king.com site, on Facebook, and on apps, is free to play. It allows users an allotted number of lives within a certain timeframe, but charges for extra lives if someone wanted to play more during that window. Users also can pay for "boosters" or extra moves to help win the levels and advance through the game more easily.

4%

A relatively standard conversion rate for free-to-paid models, similar to what companies like Dropbox boast.

Freemium Definition FAQs

Is a Free Trial a Freemium?

Free trials and freemiums are slightly different; free trials are typically time-bound and only allow a user to "test out" a few parts of a product or service. Meanwhile, freemium models allow their free users to access the full application indefinitely.

Do Freemiums Increase the Number of Customers?

Freemium models lower new users' barriers to entry, increasing the business' number of total customers by allowing some to test out a limited version of the product without financial commitment.

What Companies Use Freemiums?

Many companies use freemium models, including Spotify, Dropbox, Hinge, Slack, Asana, and more.

Can Freemiums Lead to a Loss of Income?

Theoretically, businesses with freemium models can lose money if their conversion rate to get premium users is too low.