The Freemium Model: Faster, Higher, Stronger

The most recent market data and studies confirm that freemium (derived from free and premium) applications are doing well for iOS and Android retailers. Already in 2011 they accounted for 50% of revenues from the 200 most downloaded iOS apps and close to 65% of revenues from popular Android apps. Now a recent study by the analysis firm App Annie indicates that market growth for these products is accelerating.

After analyzing data concerning more than 700,000 applications available for download, App Annie Intelligence concludes that total revenues generated by freemium applications have more than quadrupled for iOS over the last 24 months and grew by a factor of 3.5 for Google Play in 2012. Freemium apps now represent nearly 69% of application revenues for AppStore and 75% for Android, while sales of premium applications for the two platforms have remained flat.

In September, a more extensive study by Gartner looking at data for all sales and distribution platforms for mobile apps (including communication service providers and proprietary platforms, among others) concluded that free applications represented 89% of downloads this year. Nearly a third of these apps will offer in-app purchase options by 2016. Gartner estimates that freemium applications will generate 41% of all revenues for the sector by 2016.

An increasing number of consumers are turning to free applications that include premium options. Such options allow the user to complete the game faster, score more points, add fuel or more sophisticated powers, unblock photo-editing tools or purchase additional content. According to NPD Group, statistics are significant when it comes to downloaded games: 40% of players who downloaded a freemium application purchased at least one app feature. The actual conversion rate per game, however, remains low at between 1% and 5%.

At the same time, all data indicate that the critical price point for premium apps is $3.00: products priced under this threshold account for 90% of sales and revenues for the category. The purchase options incorporated in a freemium application can, given a reasonable conversion rate, sometimes generate even greater total value over the product’s life cycle. Would the conversion rate be higher if the floor price were lower for micro-sales? Producers who have experimented with this are not convinced.

Analysts are now unanimous in underscoring the importance for application retailers of turning to this business model as quickly as possible. At the same time, however, they insist that producers wanting to leave an existing business model in favour of freemium applications should proceed with extreme caution.

To be successful, freemium games need strong storylines, but—even more importantly—users must be able to complete them without making a purchase. Most producers who have tried the freemium model insist that players who complete the game at least once become their best clients. They are committed and motivated to replay the game better and faster, as seasoned players, and are prepared to spend virtual or real currency to enrich and personalize the experience. The freemium model is therefore an effective means of retaining fans. But can the principle be applied to other types of application? The trend that has been observed among the gaming community can also be found with service providers such as Evernote and DropBox, who offer additional storage options to their premium subscribers.

The freemium model of in-app purchase options is not a panacea; it currently only works well when users can master an application quickly and enjoy the experience fully without purchasing extra features. Consumers tend to upgrade a basic application within the first month of use. With conversion rates still very low, it would appear that a large number of downloads is required for an application to generate significant levels of revenue in this way. The high failure rate among start-up companies casts doubt on the value of the freemium model. Relying on the monetization of a small user base remains a risky proposition. An analysis of freemium success stories would seem to point to applications that offer the option of purchasing more power and a personalized experience rather than additional features. Consumers expect options to be added free of charge with new updates. If users have access to tools that allow them to perform better, they will use an application more often and for longer periods of time.

What would make for the ideal freemium application? The model should be simple and focused on three steps: 1) a large user base with a comprehensive and well-marketed application; 2) a dynamic application with free feature upgrades to retain the most frequent users; and 3) monetization of users’ willingness to spend time with the application and master it more effectively.

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