Why freemium is bad for business

Why freemium is bad for business

Summary: Businesses should spurn free online services. Here are four good reasons why it's not in the customer's interest to be lured into using them. Look instead for providers that have a sound revenue base.

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I've never been comfortable with free products for business use, even though it's difficult to avoid using them if you're a small or one-person business (web analytics, for example, has been all but wiped out as a low-end paid service by Google's free offering). As a long-term observer of the scene, my worry is that the track record over the past decade isn't encouraging; many more free services have failed or faded away than have continued successfully. That's why my New Year advice to SaaS and cloud vendors was to concentrate on "sound business revenues, earned in exchange for delivering real business value." So yesterday I was pleased to read Lincoln Murphy's newly published white paper, The Reality of Freemium in SaaS, which lays bare many of the drawbacks of the model for providers.

The trouble is, many SaaS vendors will still be tempted into loss-making freemium plays of the kind Murphy warns about because there seems to be so much demand they can tap. That's why I want to devote this blog post to examining why businesses should spurn free online services. Dear Mr/Ms Customer, it is not in your interest to be lured into using free for your business, and here are four good reasons why not:

It means vendors don't invest in proper access controls. Most low-end free services target individuals ('consumers') and so they're built around giving access to a single user. If you're a business, you'll probably want more than one user to have access to the same account, but that sort of access control infrastructure is expensive to set up and manage, so free services won't support it. That's fine if you can start off free and then migrate to a paid version when you need more access control, but many freemium vendors don't offer that option.

Here's what I discovered this week when I wanted to bring another user into the MailChimp account that's handling EuroCloud UK's email campaign management (we needed to co-ordinate ahead of next week's member meeting):

"Your MailChimp account only has one login per user with access to all areas of the account. We do not offer multiple users with different levels of access. If you need multiple users, feel free to share the login information as more than one person can be in an account at one time."

That's very limiting. And no mention of record locking, check-in/check-out and all the other controls that go along with multiple users. I would say, you get what you pay for, except Mailchimp simply doesn't offer any of these functions, at any price.

It means vendors don't invest in instrumentation. If there's no fee, there's little incentive to monitor usage patterns and service levels. Again, the infrastructure for this kind of capability is expensive, and if a vendor is focused on the kind of mass market that a free product has to appeal to, it's unlikely to want to spend money on features such as SLA monitoring, uptime dashboards, real-time user support or detailed usage pattern analysis. This limits its ability to offer differentiated services that performance-sensitive business customers will pay good money for, forcing it to focus even more on volume rather than quality.

There's no such thing as a free lunch. If the vendor is cutting corners on the above, what else is it skipping? Never mind functionality in the product, has it invested in enough advice and forethought to make sure it has a robust business plan? Probably not. "Many times 'free' is a cop-out," writes Murphy — a phenomenon I once called the 'lunatic fringe of freemium'. Murphy adds: "Business-focused people understand that free is not sustainable and they will wonder how long the vendor will be around if they do not charge for their product." Indeed.

It restricts choice because only the big guys can survive. I have to dissent from another of Murphy's assertions about freemium, however. "Rarely do existing companies wanting to bring a SaaS product to market default to freemium," he writes. I can understand why, in a paper designed to discourage naive vendors from plunging into freemium, he might want to say that. But the assertion is disproved by, for example, Google, which chose freemium as the model for Google Apps, or Adobe, which is using freemium to drive forwards its SaaS strategy. I think we're going to see established companies increasingly adopting the freemium model, but in many cases their motivation will be thoroughly pernicious: freemium by a big player effectively shuts a market to smaller competitors, because the mountainous investment required to build up sufficient market share to reach viability becomes too costly a barrier to entry.

Now you have been warned of the perils of signing up for a freemium service, I'll conclude by highlighting the exceptions where a freemium strategy offers buyers a safer, more trustworthy choice. Murphy explains how freemium can work if a vendor with a proven, revenue-generating service offering then spins off a separate free service that is compelling enough to fund itself:

"In this version of Freemium, and after the appropriate market due diligence, companies will build a very simple, single-purpose Alternative Product (AP) that solves an immediate, specific and highly targeted need, but which promotes significant network effect and ecosystem opportunities well beyond that application ... Users of this application will not need to convert to the flagship 'premium' product to generate revenue; the product is designed from the ground up to generate revenue by leveraging unpaid users ... the single-purpose AP is also more likely to be spread virally than a larger, full-featured application suite."

Such a service is still likely to kill off other, paid alternatives, but I guess we shouldn't grieve: that's capitalism in action. Examples that spring to mind include Adobe's Acrobat.com offerings, which I've mentioned above, or SaaS recruitment software vendor MrTed's launch of the free SmartRecruiters.com service in the US market (more on that in this more recent podcast).

Venture capitalist Bill Gurney, prompted by Google's announcement of free turn-by-turn navigation in its Android mobile operating system, called this the 'less-than-free business model'. It threatens to be highly disruptive, but the more disruptive it is, the bigger the spending it requires. Start-ups capable of achieving disruption on this scale are going to have to tap venture funding that runs to 9 figures (that's before you get to the decimal point). Everyone else would be well advised to stick to building sound revenue first. And business customers should be wary of trusting any vendor that doesn't have a self-evident revenue base.

Topics: Banking, Cloud, Data Centers, Emerging Tech, Enterprise Software

Phil Wainewright

About Phil Wainewright

Since 1998, Phil Wainewright has been a thought leader in cloud computing as a blogger, analyst and consultant.

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17 comments
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  • My bad.

    n/t
    davebarnes
    • He should have said "freemium" there which isn't the same thing. nt

      nt
      T1Oracle
  • Freemium works for individual customers

    The value in freemium is in the advertising and exposure. This is especially useful for hooking students on you product early on (who can't afford it yet), and for convincing individuals to purchase. However when your target is a business the situation is more complex.

    The free version is supposed to be limited enough to ensure that customers have an incentive to purchase. The cost of developing the free version should be very small as you are merly removing features from the working product. Also, the support for it should only request that you buy it.

    Freemium is not about producing a usable product, it is about advertising a usable product. You should not run a business on software that was handicapped intentionally.
    T1Oracle
  • RE: Why freemium is bad for business

    I think that Lincoln's white paper and your article highlight one crucial truth about "Freemium"- its not a silver bullet to address revenue concerns. If the proper investigation, analysis and planning is not done before leveraging Freemium, then there's a good chance a business is going to fail.

    If you embrace freemium but don't instrument your service to track and account "free" accounts- you lose most of the marketing value those accounts provide. If you don't provide a sensible and seamless upgrade path from a free to a paid tier, you leave money on the table (and risk going bankrupt).

    If you do end up deciding to go with a freemium-based strategy, building strong metrics to track the success each portion of your plan is crucial. I recommend checking out Eric Ries blog (http://www.startuplessonslearned.com/) for more tips on this.
    Recurly
  • I use free much free software myself, but I wonder...

    (Am I talking about the same thing as you? If not, ignore this stoopid comment.)

    How does it come to be? How is it supported? Do the folks who write and support free software also have "normal" jobs, with just free time on the side to donate to a free software cause?

    I often see, on Yahoo! Answers, requests for hints of sources of free software for this and that. These same folks will in another question, ask how to make money online. They don't seem to see the dichotomy.

    Is a website built with no banners worth more than a free one with banners?

    Is a downloaded free trial worth it, if it gets a temporarily-needed job done, as opposed to buying a full-blown package?
    fjpoblam
  • What is wrong with free services?

    If they are JUST AS GOOD as the paid services, you would have to be a NUTJOB not to use them!

    Something tells me this is REALLY a rail against the fact that our society is going more and more towards "no money" every single year.
    Lerianis10
  • Focusing on the wrong factor

    Whether or not you pay for a service is hardly the
    distinguishing factor in whether or not it is a good fit for
    you. The most important thing to understand isn't whether
    or not you are paying for it, but who is, and whether or not
    you can count on [i]that.[/i] There are plenty of innovative businesses
    starting up out there that are monetizing in new ways, but new
    doesn't always mean invalid. In fact, freemium models can push
    vendors toward [i]better[/i] services because their revenue
    relies on impressing you, a free customer, enough that you
    are willing to pay them for add-ons and extras.

    Don't mistake anecdotal examples of poor planning or
    execution for a problem with the model itself. The right
    things to look at are whether or not the vendor is capable
    of providing the service you want, and whether or not they
    can make money at it... whether the money is coming out
    of your pocket or not.
    IMS_Scott
    • It's too fine a line

      "In fact, freemium models can push
      vendors toward better services because their revenue
      relies on impressing you, a free customer, enough that you
      are willing to pay them for add-ons and extras."

      Sounds good but does not work in practice, it's too fine a line between giving them something usefll for free, or bait n switch, and providing "just not quit enough" to prompt them to purchase the addon/extras.

      Basically business does not care about free, it does not factor into business ideas, businesses are more than happy and willing to pay for products and services that increase their business worth, and productivity.

      Businesses are not in business to save money, to find bargins, or to find the cheapest way of doing something.

      They are in business to make money, earn profit, pay wages, employ people, build assets, build security, and so on.

      Businesses have assets, that could be skilled employees, equipment, buildings, computers, cars, plains and so on.

      The business model most businesses used, is to employ and use these assets to provide products or services to clients who themselves cannot afford to own those particular assets on a permanent basic, so they employ another business, who specialises in that area.

      For example it's expensive to run an airline, you have to purchase assets, plains, terminals, hire and train people as so on, it's too expensive and specialised for most individuals to do that, so they "hire" other companies to do that for them, they hire that company because it's cheaper than doing it themselves.

      The airline has to purchase plains, maintain them, support them, and so on, the airline charges the customer these costs, and makes a profit by economies of scale.

      IF jets were free, jet fuel was free, and staff were willing to work for free, then there would be far less incentive for outsiders to use that company, it would be easier and cheaper to do it themselves.

      But the economy does not work that way, if you make something "just good enough" in the first place, people will just use that, if you make it a "bait and switch" system, with a semi-quality product, with the hopes that if you pay you get a bit extra, it wont work.

      Companies, have assets, and those assets enable it to operate their business effectively, free is for charities not for business.

      And companies like Google are NOT free, they charge for advertising, and who pay for advertising,,,,,, EVERYONE DOES... You, me, everybody (reminds me of a song).

      Companies use their products, assets and skills to add value to a product or service to enable other companies or individuals to benifit from that company by using and paying for the service they provide, at a price that individual would NOT be able to do it himself.

      If all the companies assets and products are free, it means individuals can NOT use that company and create their own service or product, reducing business and efficiency.

      It's the same in reverse, imagine if everyone got a high pay, but no one had to work?

      What would that do to the economy ? what would that do to the progress of humans?

      Why would anyone want to grow food, or invent faster CPU's, or better cars, or other products or services. ?

      Technology, and human progress is based entirely on money, and the value people can add to something.

      IF you are not adding value, or wealth the an economy you are doing nothing to improve or sustain human endeviour.

      Im happy to pay for something, if I know that money has paid engineers, programmers, workers, governments, businesses execs and so on.

      IF that group of people have worked hard to create something I WANT, and I can afford to pay for, I will reward them by purchasing their product, telling them,, "good work, you laboured hard and you created something I was willing to pay for". so here is some of MY hard earned money as you're reward.

      In freemium, that mechanism does not exist.
      Aussie_Troll
  • Freemium is a marketing, not business strategy

    Freemium is about swapping customer acquisition costs
    from money you spend on ads to money you spend on
    subsidizing your own service for a subset of your
    customers.

    Vendors who confuse this --a marketing innovation--
    with product or service decisions are simply missing the
    point.

    I disagree with your advice to customers. My advice is: pick
    the product that best does the job for you at a price point
    you're willing to pay.

    In my opinion, Freemium has made it possible for a lot of
    folks to get access to otherwise out of reach technology.
    samaparicio
    • Yes, it is marketting.

      Freemium products are not supposed to be productive, they are supposed to get you to buy. It's just shareware without the timer.
      T1Oracle
  • RE: Why freemium is bad for business

    Phil,

    great post as usual. I do see even a bigger risk in the
    "as-a-service" model: the "Freepoff" model where once you
    have integrated a service in a free or modestly expensive
    way, the service provider leverages "the cost of
    switching" to increase your monthly bill. I have seen it
    already in a real business situation where a "new" charge
    mysteriously appeared from one month to the next
    resulting in a 20+ fold increase of the bill.
    jdubray
  • You've just argued against outsourcing.

    Quite rightly, this article is a rant in favour of 100% control over your own data. If security is what you require, you can only get that if you hug the data on your own servers. Do not use contractors, do not let contractors work unmonitored on your servers, and most of all, you cannot outsource anything. Remember that the cheapest outsourcer is doing all that corner-cutting that the article worries about.
    peter_erskine
  • You get what you pay for.

    There is nothing wrong with using free services.

    But when you use free services, you can't complain about the quality or expect any security or even basic privacy. The service is free and you sign away your rights as soon as you sign up for it.

    There are some things where a free service is good enough. But when it comes to real business a company who relies on free services from 3rd parties (ie: not talking about in-house usage of open source products) is doomed to failure.

    You get what you pay for .... when you pay nothing, expect nothing in return for your investment.
    wackoae
  • Freemium means business customers pay for better service.

    "Freemium" doesn't mean "free". It means "There's a basic free version and a superior paid-for version." Commonly, the free provision is licensed for personal, not business use. Or else it's just the better, business-ready features that you pay for. The things you just complained about leaving out.

    With many projects it doesn't cost much at all to offer a free service to people who weren't going to become paying customers anyway. On the other hand, it may stop them from becoming your competitor's paying customers, as a result of which, you won't have a competitor. That's smart business!

    Plus, it can be an advantage for business users to be using the same system that everyone uses but most people don't pay for... you can hire people who already taught themselves to use the system for personal projects, you don't have to train them.
    Robert Carnegie 2009
  • RE: Why freemium is bad for business

    It's just a matter of numbers:

    http://news.cnet.com/8301-13505_3-10314283-16.html?tag=mncol

    Freemium is a great idea where the cost of supporting a free user is low and your convert rate to the premium offering is high enough.

    Freemium is a bad idea where the cost of a free user is high and your convert rate is too low.
    mmullany
  • Freemium is Suspect

    It's true, you can't build a scalable SaaS business on anything other than a pre-built business logic such as Force.com - unless you've got very deep pockets. And yes, be aware of freemium - and vendors who have no clear revenue-generating model. Remember Coghead?
    XceliantBear
  • freemium is good

    freshbooks is a great example of freemium.

    try it until you make some money with those first
    invoices and then you're ready to go.

    freemium isn't a bad thing, bad freemium or poorly
    impleneted or thought out freemium is.

    now generalization, that is a bad thing.
    sandersAK-23352211225438481939154658613468