Thoughts on the Freemium model

As I continue to develop a mobile application, I have been spending a lot of time over the last year trying to determine how to best generate revenues from it. I have been interested in the Freemium business model from the outset but somehow I was never really sure if it was appropriate for my situation.

For those not comfortable with the term "Freemium", it stands for the practice of offering basic web services or basic downloadable software for free and then charging a premium for advanced or special features.

As an active user of digital media and services, I have come across a lot of premium offerings and I strongly believe that some of these are certainly more appropriate and successful than others. I believe that in general one or two of the following situations have to apply:

(i) Either a service or software needs to generate a lot of users for the basic model at virtually no cost (e.g. word of mouth) so that only a small percentage of the customers needs to be willing to choose the premium service for the company to be profitable. Good examples of such companies in my opinion are Skype and Pandora which both have a very large user base but only minority of the users pay for premium services.

(ii) The premium features of a software or web service either trigger a strong interest or address a major inconvenience for the user so that he is inclined to pay for the additional features. However, in this instance it is extremely important to consider the price sensitivity of the consumer as he is paying for a feature that he has not experienced yet personally. Also, it is important that the users are interested enough in downloading the basic application in the first place (i.e. it can not be too limited). A good example for this in recent weeks was the Sports Illustrated Swimsuit Edition application for the iPhone. The application was free to download on the appstore but only included a limited amount of content (i.e. pictures despite the fact that the app was not labeled as a lite version. Once downloaded, the user realizes that not all the pictures are available and the application asks the user if he wants to upgrade to the full-version for small fee of $1.99. I certainly believe that this is an effective use of the Freemium model.