Never Charge for a Mobile App (and Other Freemium Lessons From VCs)

Asking potential customers to buy a mobile app instead of giving them a free one is a huge mistake, said investors on a panel at Google I/O about the freemium business model, where companies give their product away for free and charge for premium features and services.

While investor Jeff Clavier said $4.99 has become the standard premium app price, he recommended against charging in favor of recurring revenue.

Subscription models, in-app upgrades and virtual goods are a much better idea than an upfront fee, said the panelists. Charging for mobile apps “sucks,” said Brad Feld of the Foundry Group. “You never want a customer to be a single-instance experience.” That’s a surprising statement, given the popularity of paid mobile apps, and the propensity of freemium businesses to offer a paid mobile app and a free “lite” version. But Jeff Clavier of SoftTech VC agreed. “Now that you have the ability to charge in-app you really want to do your math,” Clavier said. “Recurring revenue will make you way more than $4.99.”

Some of the other strong and quotable advice from the VCs and angels on the panel:

Know why you’re going freemium: There are three main reasons to offer a version of your paid product for free, said Dave McClure of the Founders Fund. First, giving a new user time to learn what your product is; second, taking advantage of viral distribution; and third, improving the value of your product for users via the network benefit of having more people using it. Know which reason you’re choosing and design around it.

Don’t forget the business model: “Put your business model into beta at the same time you put your product into beta,” said Joe Kraus of Google Ventures (s GOOG).

Pick big markets: The vast majority of customers for any freemium business will choose the free option. For just about everything except antivirus apps, “It’s about a 2 percent asymptote on conversion for most apps from free to premium,” said Kraus. Don Dodge of Google said he’d surveyed 25 freemium companies and found the average was between 3 and 5 percent of users converting to paid, depending on the price point. The lesson? “You want these markets to be really big,” said Matt Holleran of Emergence Capital. That may mean that the enterprise market doesn’t make sense — though you may be able to successfully piggyback onto Google Apps, Holleran said.

Making some customers pay will cap your growth: Feld spoke of his experience with the RSS company FeedBurner, which had 100,000 publishers at the time it was bought by Google. Of those, just 2,000 paid $5 per month for premium features. But the real business was advertising within feeds. After Google bought the company, it extended the premium version to everyone for free. The lesson, said Feld: “The freemium model may actually get in your way relative to the indirect opportunity.”

Making some customers pay will divide your company: The real danger in a freemium model, said Kraus, is it introduces a “cultural split” within the company between what to put in the paid version and what to put in the free one. But McClure disagreed, saying great businesses are not a zero-sum game. Let the customer advocates clash with the people trying to keep the lights on and see what happens, he said.

Don’t trust yourself; trust the numbers: “Your instinct about what a customer will pay for is likely wrong,” said Feld. McClure recommended that any would-be freemium entrepreneur read the book “Predictably Irrational” to learn about people’s non-intuitive buying preferences. The panelists agreed heartily that startups should collect and analyze analytics before, during and after a product is launched.

Pricing is hard: But here are some tips: Kraus, who founded and ran online document editor JotSpot before it was acquired by Google, said to look at consumer behavior around cell phone plans, where they tend to pay one tier higher than what they use. Over the course of a year, that’s more expensive than just incurring a couple overage charges. “People are not optimizing for lowest price, they optimize for least surprise.” Kraus also argued, “It’s much easier to raise prices than to lower prices. The people who got the earlier price feel like they got a good deal. If you lower they’re p***ed off.”

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Report: Monetizing Digital Content