tl;dr Selling your startup’s product using a freemium model can be an enticing option early on, seemingly offering you the best chance to get as many new customers on board using your product as possible. Be aware however that going with a freemium model may distract you from your real goals, and ultimately harm your business.
So you’re new to the market and need to convince inven/estors that your product is a good fit to your target customers. You need to demonstrate market traction to get investor attention, and your new product isn’t 100% ready yet anyway. So why not kickstart your business by giving away a portion of your services for free? You’ll probably get a lot of new users registering for your product, which is your main goal, right?
For fledgling businesses like yours, a freemium payment model may in fact have some advantages over a paid service model, at least for the short term. First off, you’ll take pricing out of the equation, which will almost certainly result in more people signing up to try out your new product. You’ll also have the chance to get some quick market traction as it will be much easier to onboard new customers. And it may be true that once people see what your product can do (at no cost) they’ll gladly convert into paying customers. As a bonus, you’ll likely get some free branding as people talk about your product and hopefully invite their friends to try it.
We here at Dynatrace considered all these points when we first started our business. There were some compelling points to the freemium model that we considered when putting together our business plans. Ultimately though we decided against the freemium approach. Now with some hindsight, we’re confident that we made the right choice.
Before diving into the details, consider the most important goal for any startup: product market fit. By definition, a market is the point where supply meets demand. One of your exercises should be to define who your target customer is. A substantial part of this exercise is to define how big your target market is, how much of your product the market will consume, and how much customers are willing to pay for your service. If you pitch your value proposition accurately, you shouldn’t have any trouble getting investors to buy in on it.
But what can you really learn if your market research is based on giving your product away for free? What you’ll in fact learn about is the product market fit for a downsized version of your product that people who aren’t willing to pay. This is not the kind of research you can build a business plan on.
But I can get so much more market traction with a freemium offering
This may be true, but what kind of traction will you be getting exactly? You won’t be gaining traction with your actual target market, those customers who are willing to spend money on your product. Still, a solid user base of customers who pay nothing to use your product is far better than no user base at all. And maybe in fact a long-term freemium approach does in fact fit your business model. If you’re really setting out to create a great freemium service that’s great, just make sure you’re being honest with yourself.
What we learned from not having a freemium offer
We decided to take the tougher route and not provide a freemium offer, and we learned a lot in the process. Following are the top lessons we learned by charging money for our product from day one, with no exceptions:
You build a solid foundation for your business
The foremost thing we learned is that price is not the reason why potential customers don’t buy. We actually never hear of cost as a reason for a customer not purchasing Dynatrace. If a potential customer doesn’t buy Dynatrace immediately, it’s because we’re lacking a specific feature that prevents the customer from taking the next step. Even if we don’t get a deal we usually hear some variation on “call me when you’re ready” at the end of the conversation. This is great feedback that has helped us to shape our roadmap.
Charging money gives you focus
We’re growing our business faster by not having a freemium offer. This may seem contradictory, but it’s true. We’re only a couple of months into our new business and we’re on track to having 100 paying customers soon. These are real paying customers who spend up to a couple of thousand dollars a month. We also now have a pretty sophisticated approach to targeting our customers. How? Because we’ve now learned what types of customers are willing to pay for our service; we know our target market. This has had a significant impact on who we target with our messaging and which industry events we attend. Charging money for Dynatrace has given us market focus.
You don’t waste time
One thing I hate about freemium models is that you waste time crippling your product down to a point where it offers just enough features to be useful, but only barely so. At the end of the day you want to convince people to go for your paid offering. This means you’ve wasted engineering resources making your commercial product attractive to people who are never going to pay for it. This time could be much better invested making your product more attractive to people who might eventually pay for it.
You talk to the right people
If you offer your product for free, many people will try it out. You’ll probably get a lot of new users who aren’t even able to buy. Even if they can purchase your product, they might not have the power within their organization to implement it successfully. You want to talk to potential customers who have their own budget and who are responsible for getting value for their money. Especially if you have a SaaS-based business with a low cost to entry, you can’t afford to climb up the ladder to find the right buyer in each organisation. This approach may work for enterprise software companies, but it’s way too expensive for transactional SaaS businesses.
Your chances to grow are much higher
You may assume that you first “sell” your free product into an organization and once it becomes important enough to the organization people will adopt your paid plan offering. It does work like this sometimes, but it’s more the exception to the rule. The truth is that companies are much more likely to invest time into making your product a success if they’ve invested money into it. The success of your product within the organization thereby confirms that the purchaser made the right decision.
What about companies who can’t afford your product?
As already mentioned, the price has never really been the reason that a customer has given for not buying Dynatrace. This has only occurred when we’ve talked to very early stage startups, NGOs, and private users. Building a freemium offering just for these customers does not make any sense.
Instead, we decided to create our own startup program that provides inexpensive access to the full version of our product. We’ve partnered with AWS in the AWS activate program. We also have a program offering for venture capitalists, seed fund investors, and business incubators. We even have an option for people just starting their first business out of a dorm room.
Our approach, however, is to give all customers the full product. Once they have sufficient funding, they see the benefits in becoming a regular customers. We offer competitive pricing, cheaper than other market players, including New Relic and AppDynamics.
What about all those successful companies that offer freemiums?
I’m not claiming that this strategy is ideal for all young companies. However, let’s face it, if you have a really successful freemium offering, why shouldn’t customers be willing to pay for it? I, for example, use the free versions of Evernote, Slack, and Trello. Each of these are highly useful tools for myself and my team. So why aren’t I paying money to these companies? Why should I? I get everything I need for free. These companies should be earning money from me.
So, my advice is to really think twice before you offer a freemium pricing model to grow your business. We didn’t, and it was one of the smartest decisions we’ve made for our business.