Don’t spend money on marketing, do offer flexibility and data exporting to eliminate buyers’ regret, make sure to capitalize on and value goodwill, and only charge for things that are hard to do. That’s what some startups say is the key to success in the freemium business. But the biggest reason the five presenters this morning at the Freemium Summit in San Francisco — Pandora, Dropbox, Evernote, Automattic (see disclosure at the bottom) and MailChimp — are doing well is because they have great products that people want. They’ve been able to get those products to a broad audience by using the freemium model — that is, offering a free service with the option to upgrade. It’s an increasingly important business model, but one that’s hard to navigate, so their anecdotes, open sharing of data, and lessons learned were really valuable.
Pandora’s reverse-freemium approach: Pandora first launched in August 2005 with something that sounds quite similar to freemium: users got 10 hours of free online radio at signup, after which they were asked to pay $36 per year. “In the first couple weeks we had 100,000 people come through and the vast majority listened to every last minute of their free ten hours,” said CTO Tom Conrad. “Then we asked them for their credit card and they would wander off into the wilderness.”
Pandora now has 20 million uniques and took in $50 million in revenue last year. Subscription rates had dropped to well below 1 percent of users. But 1 percent of a large number is still a large number, so last year the company launched Pandora One, a new take on premium with higher quality streams, a desktop app and fewer usage limits. It now has 300,000 subscribers, accounts for 1.6 or 1.7 percent of monthly uniques, and is expected to bring in 15 percent of 2010 revenue.
Dropbox’s numbers game: Dropbox CEO Drew Houston says you should know one thing about freemium: “It is a numbers game, so bust out your Excel spreadsheet. It’s all about finding things in the margins — lots of little things rather than one key thing.” Houston went into detail about the backup service’s attempts to recruit users through search marketing. The company found that obvious keywords like “online storage” were bid up, and the long tail of search terms had low volume. Then, people coming from search who actually signed up might not even pick the paid version (which has more storage and features).
Having dropped search marketing as a strategy, Dropbox has actually grown incredibly fast. At some point, the company realized that user referrals were its biggest source of growth, so now it encourages referrals with an incentive program. That increased signups by 60 percent, said Houston, and it now drives 30 percent of total signups. The company now devotes 30 percent of its engineering to acquiring active users.
Houston also told a second story about Dropbox’s realization that its unlimited undo history — available to free and paying users — was responsible for a huge and growing share of its costs. And further, few customers actually used the feature. “We said ‘holy sh*t!’ More than half of our hosting costs are going to deleted, not restored prior versions of files,” said Houston. The company was wary of rolling back a free feature, but was able to manage the transition without too much fuss by telling customers about it openly, and giving existing users the option to keep the feature if they liked.
Evernote’s key metric: Evernote, the personal note-taking service, faces a challenge to spreading virally in that it’s not at all a social product, said CEO Phil Libin. But what Evernote can focus on is deriving maximum value from the users it does have. The company, which launched in June 2008, has 2.7 million users, with 7,000 new users per day (mostly through word of mouth, despite the lack of social features, said Libin), and 50,000 paying users (who convert in order to use the service on multiple platforms and for other premium features).
Libin’s key metric is comparing revenue per active user with variable expenses. At this point, the company makes $0.25 per month per active user, and spends $0.09 on variable expenses like infrastructure, customers service and network operations. He said freemium can work for any business if you have 1) a great long-term retention rate, 2) a product that increases in value over time and 3) variable costs.
Automattic CEO Toni Schneider and MailChimp CEO Ben Chestnut added a few more key lessons in their talks. Schneider talked about the blogging-software company’s decision to offer a-la-carte freemium services instead of tiered levels, giving both his team and users more flexibility. His company now makes 40 percent of its revenue from premium services like domain mapping, with the remainder from ad sales and enterprise products. But he said the problem with this approach is customers may not know of services they could receive, because it’s harder to market them individually.
Chestnut talked about the fact that free products are ripe for abuse. His 10-year-old email marketing company started offering a free version seven months ago, and has seen 240 percent user growth, a 225 percent increase in email delivery volume from 200 to 450 million, and a 200 percent projected revenue increase. But the biggest bumps of all? A 354 percent increase in abuse-related issues like spamming, followed by a 245 percent increase in legal costs dealing people trying to game the system. Luckily, MailChimp was able to develop automated ways to discover and deal with some of these issues, but even as an anticipated side effect the increase in abuse from going freemium has been huge.
Disclosure: Automattic, maker of WordPress.com, is backed by True Ventures, a venture capital firm that is an investor in the parent company of this blog, Giga Omni Media. Om Malik, founder of Giga Omni Media, is also a venture partner at True.