Economics of Freemium (Stanford 4/14)

The Economics of Freemium

Peter FishmanDirector of Analytics, Yammer

4/8/14

My Background

Relevant Experience

Who is a data scientist?

Product &Communication

Programming

Statistics

Agenda

• Gaming Pricing– Evolution of Freemium– Lifetime Value Model

• Pricing Psychology– How do prices affect utility?• Should they?

• Bacon Hot Sauce

Gaming Pricing

How do you maximize revenue?P

(Value Per Game)

D

Q

How do you maximize revenue?P

(Value Per Game)

D

Q

Two Part Tariffs

Low “tariff” with multiple types

Evolved Pricing Model

How do you maximize revenue?P

DH

Q

DL

A tale of two travelers

1st Class $2000 $420

Coach $1000 $400

Adam Pete

What happens?

• Charge Adam $1999 and Pete $419 for 1st Class tickets.– Airline makes $2418

• Charge $1999 for 1st Class and $399 for coach.– Airline makes $2398

• Charge $998 for 1st Class and $399 for coach.– Airline makes $1397

• Charge $1999 for 1st Class and >$999 for coach.– Airline makes $1999

Can you walk down a demand curve?

P

DH

Q

DL

Freemium Model

Costs– No upfront revenue– Cannibalization– Risky revenue

streams– Difficult to segment

Benefits– Lower Barrier to Entry

• This drives down discovery costs and risks

– Lowers Customer Expectations

– Can get cheap feedback and iterate

Premium Features, Advertising, Cross Subsidy

Perfectly Evolved

Invite Friends Virality

Buy Things Monetization

Use the product Retention

The “virtuous cycle”

New userAcquisition

Revenue =

Users Install/User

DAU/Install

Payer/DAU

Revenue/Payerx x x x

ViralityMonetization

Components of “lifetime value” = Revenue/User

RetentionUser Acquisition

Marketing / CRM

User Mechanics

Tech Investments

DAUs

Get the levers right

The Economist

• Online-only – $59.00• Print + Online – $125.00• Print-only – $125.00

0%10%20%30%40%50%60%70%80%90%

Online Online + Print Print Only

Perc

enta

ge

Williams Sonoma

$275 $429

Choice Set Dependence

• Chicken, Fish, Steak– Unwanted items can affect the perception of

other goods

• Adjacent Offerings Can Impact Preferences– An overpriced option can make a nearby choice

seem like a bargain

Geek is the new cool

“If you ever go bar hopping, who do you want to take with you? You want a slightly uglier version of yourself. Similar… but slightly uglier.”

– Dan Ariely

Free Can Be Helpful

Free Can Be Harmful

What are the last 2 digits of your telephone number?

Are there more or less countries in Africa thanthat number?How many countries are there in

Africa?

Thaler (1980), Kahneman (1984)

Freemium• Which is more important, short-run profits or grabbing land?

– How much runway?

• Do you get network effects? Or externality benefits like analytics?

• Can you deliver a premium experience that is worthy of breaking out the credit card?– Your toughest competition may be yourself

• Does the consumer psychology of free enhance your monetization opportunities?

Thank You, Any Questions

Aim, Fire, Adjust

“That which is measured improves”

- Pearson’s Law

Why are weather forecasters so accurate?

HT: Murphy & Winkler (1974)