Week 4

Marketing in Digital World
Professor Aric Rindfleisch
Module 4: Price
Table of Contents
Module 4: Price ..................................................................................................................... 1
Lesson 4.1 Price Overview ..............................................................................................................2
Pay What You Want ..................................................................................................................... 17
Panera Case ................................................................................................................................. 36
Digital Concept 2: Freemium ......................................................................................................... 49
Exercise: It's Full of Sparks ............................................................................................................ 74
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Lesson 4.1 Price Overview
The last of the Four Ps is price. This aspect of the marketing mix focuses on the amount that a
customer pays for a product. Price is different from the other three elements of the marketing
mix; product, promotion, and placement create value for a customer, while price captures this
value for the firm.
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Thus, having a good pricing strategy is critical for a firm’s profitability and very survival.
The development of a pricing strategy is a complex decision and often entails considering a
product’s cost of production, what customers are willing to pay, and the prices of competing
products.
3
For example Coke. Coke has traditionally employed a value-focused pricing strategy in order to
ensure that its product is affordable to a mass market. Over the years, it has also had intense
competitive pressure from Pepsi.
Thus, Coke has also tried to match the price of this competitor. Today, a can of Coke is less
than a dollar in the US and many other countries. Thus, it is very affordable for most consumers.
4
The Price portion of the marketing mix has a number of key concepts, including break-even
analysis, price elasticity, and reference prices.
In this module, we’ll focus on two fundamental concepts, pricing strategy by firms and price
knowledge among customers.
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A pricing strategy is a firm’s basic approach to how it prices its products. Firms employ a broad
range of pricing strategies.
Three of the most common pricing strategies are: cost-based pricing, competitor-based pricing,
and value-based pricing.
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Cost-plus pricing is a technique in which the price of a product is based upon the cost of
manufacturing or acquiring the product plus a commonly accepted markup percentage.
For example, in the US, most car dealers price cars at their invoice price plus a margin between
5-10%.
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Competitor-based pricing is a strategy in which the price of a product is based upon closely
matching the process of relevant competitors.
For example, if the price of gasoline is lowered by one gas station, nearby stations will typically
lower their gas price to a match this price.
8
Value-based pricing is a strategy that focuses on the added value that a product delivers to its
customers.
9
For example, a cold soda on a hot day during a sporting event is priced higher (and provides
more value) than a soda sitting a store shelf a mile down the road.
Now let’s look at price knowledge. Knowledge about prices is important because this knowledge
helps set price expectations and also gives consumers more power in the marketplace. After all,
knowledge is power.
10
Academic research on this topic suggests that for many product categories, consumers have a
relatively low level of price knowledge.
For example, one famous study about consumer price knowledge found that less than half of
supermarket shoppers knew the price of the items that they place in their shopping carts.
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Subsequent research has found that although most consumers don’t have very accurate recall
of exact prices in their short-term memory, they have pretty good recognition of appropriate in
their long-term memory. In other words, although most consumers can’t say how much
something costs when asked to name its price, when they see the price of a product they can
tell if that price is close the one they are used to seeing.
Now, what’s Changing: For most of the products we purchase, the price has been set by the
firm that either makes it or sells it, and we often don’t know the exact price until they see it on
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the shelf. For example, I bought this bottle of Coke at my local grocery store for the price of
$1.29. I didn’t know the exact price until I entered the store and this price wasn’t negotiable. I
actually asked if they would sell it to me for $1 and the store clerk looked at me rather oddly and
said, “No, that’s not how it works.”
This fixed, firm-centered approach is starting to break down due to the rise of digital tools. The
price that we pay for something is becoming more under our control. The digital revolution
allows consumers to get lots of things for free and choose the price options that fit them best.
A good example of this is information. For most of human history, information was difficult to
obtain and also quite expensive.
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For example, when I was young, there were door-to-door encyclopedia salespeople who
charged thousands of dollars for a set of books that contained what seemed like (at the time) all
of the knowledge in the world.
Now, thanks to the digital revolution, all of us have access to unlimited information for free.
Perhaps you are even viewing this video for free.
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Overall, the rise of digital tools has made it possible to get lots of things that are free or quite
cheap. For example, as we discussed in Module 3, Thingiverse allows anyone in the world to
download over a million different digital designs that can be transformed into physical products.
Also, if you have a smartphone or a tablet, you probably have downloaded an app that was free
but offered you the opportunity to gain access to added features for a low price.
This business model is commonly referred to as a Freemium.
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In sum, in this new digital marketing environment, we are moving from Fixed Prices to Flexible
Prices
In this module, we’ll discuss how new digital tools are changing this element of the marketing
mix and altering how we think about price.
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Pay What You Want
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“Pricing is the moment of truth. All of marketing comes into focus in the pricing decision.”
—Thomas Nagle
As illustrated by this quote by Thomas Nagle, picking the right price is an extremely important
part of a firm’s marketing strategy.
If the price is too high, firms will lose potential sales, it if is too low, it will lose potential revenue.
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Thus, the key is to find the price that’s just right.
The problem is that what is just right for you may be too high (or too low) for me.
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Thus, allowing price to vary according to the value that a product provides to various potential
customers makes a lot of sense. Firms try to do this in a number of ways. For example, in the
US, movie theatres offer discounts to demographic groups that traditionally have lower incomes,
such as students and senior citizens. This approach is called price segmentation and is a
commonly used pricing approach.
The setting of these different price segments has been traditionally determined by firms rather
than customers. For example, my local grocery store offers discounts on donuts that are two
days old. I can’t walk into the store and say that I want to pay this discounted price for freshly
baked donuts.
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However, in recent years, a few firms have experimented with the idea of allowing their
customers to segment themselves by letting them name their own price. This rather unorthodox
strategy is quickly gaining popularity and is being called Pay What you Want (or PWYW for
short). Although this pricing strategy has been employed in physical stores, it is ideally suited to
digital marketing because of the increased ability of firms to control the distribution of their
product and to track customer payment activity. In addition, since the marginal cost of a digital
good is close to zero, this strategy is relatively low risk.
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For examples, a wide variety of firms have experimented with a PWYW strategy including:
1. Radiohead: In 2007, the British rock band Radiohead offered its new album, In Rainbows for
sale using a PWYW strategy. This approach received worldwide attention and was the
launching pad for the PWYW movement. We’ll discuss this example in more detail during our
case discussion for this module.
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2. Headsets.com: In recent years, this online headset retailer has experimented with a PWYW
strategy as a means of rewarding customer loyalty. Nearly all of its customers paid the
suggested price (or close to it). According to its CEO Mike Faith, this strategy has resulted in a
30% increase in its return on investment.
3. Wikipedia: If you are like most people, you have used Wikipedia for free. But did you ever
wonder how Wikipedia makes money? Although its content is user-generated, Wikipedia has
lots of other expenses, such as the cost of its servers, technical support and attorney fees. Thus
to stay in business, Wikipedia relies upon a PWYW strategy through donations to the Wikimedia
Foundation and currently has over $75 million in assets.
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Pay What You Want is a pricing strategy that lets customers decide how much they want to pay
for a particular product. Although a firm may suggest a price, its customers are free to pay less
(or more) than this price. Indeed, several PWYW offerings let customers pay even nothing.
Now, let’s take a deeper dive. There are lots of interesting issues about PWYW. In this lecture, I
focus on three specific issues:
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First of all, do people actually pay when they don’t have to? According to standard economic
thought, customers are seeking to maximize their utility. In other words, they want to get as
much as they can for as little as they have to pay. Thus, from a strictly economic perspective, a
PWYW strategy seems quite foolish, as rational economic actors would just take a product
without paying anything for it. However, in reality, many people are not just self-interested
economic actors but also social beings who are governed by norms of honesty and fairness.
Thus, while some do behave as economists suggest, many do not. For example, a recent two
year study of the buying behavior of patrons at a PWYW restaurant in Vienna, Austria found that
over 99% paid something for the food they ate.
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Second, how can a firm make money by giving its product away for free?: This is a really good
question. A firm can’t make money (or stay in business) if it continuously gives its products
away for free. Fortunately, many people will pay something for a product even under a PWYW
strategy. Indeed, as we will see in the Radiohead case, under a PWYW strategy, some people
actually pay more that a firm would obtain under a typical pricing approach. Also, because a
PWYW strategy is novel and newsworthy, when a firm employs this approach, it usually gets a
lot of attention. This often results in increased traffic a higher customer volume.
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For example, the US National Aquarium in Baltimore recently held a Pay What You Want Day in
which patrons could set their own admission price. This event attracted over 7,500 visitors and
raised more than $33,000. Both of these amounts are well above their typical level.
Third, is this pricing strategy sustainable?: As we will discuss shortly, the emerging academic
research suggests that a PWYW strategy is more likely to be successful if it is offered for a
limited duration, available for only a subset of a firm’s product offerings, or limited to certain set
of buyers. Moreover, most of the successful examples of PWYW have employed PWYW on a
rather limited basis. For example, Radiohead used PWYW during the release of one of its
recent albums but employed a more traditional pricing approach for its next album release.
Thus, PWYW appears to be an approach that is a good change of pace but not sustainable as a
long-term pricing strategy.
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Academic Insights: The research on PWYW is relatively new and still emerging. So, there is a
lot that we don’t know yet about this new pricing strategy. However, a number of key insights
appear to emerging. I’d like to discuss two particular studies, one that was conducted about a
decade ago and a more recent one.
The first study is by Kim et al. (2009), “Pay What You Want: A New Participative Pricing
Mechanism,” Journal of Marketing: This study, conducted by a group of scholars in Germany,
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was the first academic study of PWYW pricing. In addition to introducing this concept and
explaining how it works, this article contains a series of field experiments in which the
researchers convinced three different businesses (two restaurants and a move theatre) to
employ a PWYW strategy for a period of time. They then studied the behavior of over 600
customers across these three businesses. The results they found were quite interesting!
First of all, they found that everyone paid something; none of the customers asked to be given
the product (or service) for free. On average, the prices paid were about 15% lower than the
price typically charged by these firms. However, the average volume of sales during the PWYW
period was about 10% higher. Thus, price went down but quantity went up. In total, the PWYW
strategy resulted in higher than average revenues for both restaurants but revenues lower than
typical for the movie theatre. This article provides early evidence that a PWYW pricing strategy
may actually be profitable under certain conditions.
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Second, Viglia (2019), “Paying Before or Paying After? Timing and Uncertainty in Pay-What-
You-Want Pricing,” Journal of Service Research: In this more recent study, a group of
international scholars examined the timing of a PWYW pricing strategy. These scholars
conducted a series of studies to understand the effectiveness of PWYW under different
conditions.
Specifically, they asked one set of consumers to name their price before receiving a product or
service while they asked a second set of consumers to name their price after receiving a
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product or service. They did this for both a meal in a restaurant in Italy as well as for a phot
taken on a cruise boat in the United Kingdom. In both of these studies, the researchers found
that consumers paid more after they received a product or service.
For example, they found that consumers were willing to pay an average of 5.25 pounds before
they saw their photo and 6.92 pounds after seeing their photo. Their findings suggest that this
tendency to pay more after seeing a product or service is due to uncertainty and that consumers
tend to pay less before they see a product or service because they are uncertain about what
they will be getting. This makes sense.
Four Practical Recommendations.
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First of all, Set a Reference Price: As we discussed earlier, most customers have a reference
price in mind when evaluating a potential purchase. This reference price effect can also be
employed in PWYW pricing. One way of doing this would be to clearly display the price of a
comparable item. For example, if a firm offers PWYW pricing for Vitamin C, it could announce
this next to its price for Vitamin D. Most people want to think of themselves as fair and honest.
Thus, the setting of a reference price should decrease their temptation to pay little or nothing for
a product that employs a PWYW strategy.
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Second, focus on Marginal Costs: Although most customers will likely pay something even
when they can name their own price, this is a risky strategy. Thus, PWYW is best employed for
products that have a low marginal cost. So PWYW is especially attractive for digital goods such
as music, text, and video. For these types of products, each additional unit has a very low
marginal costs. A firm can take this even one step further by pairing a digital PWYW product
with a physical product that has a relatively high listed price. For example, as part of its PWYW
strategy, Radiohead also offered customers the opportunity to buy a limited edition discbox of its
music for $82. It sold 100,000 of these discboxes for a total of over $8 million in revenue.
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Number three, Try a Limited Rollout: As discussed earlier, most successful PWYW strategies
are applied to a limited range of a firm’s product offerings or for a limited duration of time. For
example, Headsets.com employs a PWYW strategy for only two of the several hundred
headsets that it sells. In addition, this pricing strategy is only available to its returning customers.
This type of limited rollout reduces the risk of a PWYW strategy while maintaining is attention-
getting benefits.
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Fourth and final, Use Charity Appeals: Both academic research and practical experience
indicate that a PWYW strategy is more likely to be successful if the seller announces that some
or all of the proceeds will be donated to charity. This sends a signal that the seller is generous,
which will in turn encourage customers to exhibit generosity and thus be more likely to pay a
higher price. As noted earlier, Humble Bundle employs this strategy as a means of encouraging
higher payment levels from its customers.
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Panera Case
If you are like me, you probably enjoy eating a nice meal at a restaurant at least a couple of
times a week. It’s nice to not have to cook and visiting a restaurant can be a nice way to spend
some time with family, friends and colleagues. Although America is not really famous for its
food, many of our restaurants are well known. Thus, even if you have never visited the US, you
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have probably eaten in an American-based restaurant chain such as McDonalds, Pizza Hut or
Subways.
On of my favorite restaurant chains is Panera Bread.
Those of you who live in North America are probably familiar with Panera. They have over 2,000
locations across the US and Canada and are the one of largest bakery chains in the world.
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Here in Champaign, we have three Panera restaurants—one right next to campus. In addition
to delicious breads and pastries, Panera also serves great soup, salads and sandwiches. My
favorite Panera meal is the Grilled Cheese & Chicken Soup Combo with a side of Chips. It’s
cheap but delicious.
The purpose of this case study is to illustrate and apply the concept of Pay What You Want
Pricing
to an actual business.
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In addition to serving delicious food, Panera is also a very socially-responsible company and
cares a lot about the community.
In order to better serve the community, back in 2010, Panera implemented a PWYW pricing
strategy at one of its restaurants in St. Louis, Missouri. It then opened four other PWYW
restaurants across America, including Boston, Massachusetts, Dearborn, Michigan, Chicago,
Illinois and Portland, Oregon.
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Across these five locations, they found that around 60% of their customers paid the suggested
price, 20% paid less than the suggested price and 20% paid more than the suggested price. In
total, close to 90% of their customers paid something when they could have gotten their food for
free.
Since Panera was a well-known restaurant, its PWYW pricing strategy obtained a lot of attention
and it received lots of positive attention for this innovative approach.
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For example, as shown in the required video, a CBS new story proclaimed that by implementing
this approach, Panera was a “business genius.”
Despite these positive accolades, Panera was never able to expand this strategy beyond these
initial 5 restaurants and by early 2019, it had closed all of them.
Panera’s PWYW Pricing Strategy was a bold experiment than lasted nearly a decade and
collectively served over 2 million meals during their lifetime.
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The assigned reading and video highlight provide you a sense of what Panera was trying to
accomplish in through this initiative and how customers responded. In brief, here are three key
takeaways that you should carefully consider as you evaluate this case:
Profitability: As a business, Panera seeks to make a profit (or at least avoid a loss). Although
most of Panera’s customers were paying something for their food, their PWYW restaurants
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were experiencing about a 30% loss, on average. Thus, this approach did not achieve long-term
profitability.
Customer Response: Panera’s PWYW strategy also had some unexpected responses from
their customers. Although, Panera was very clear that their PWYW strategy was meant to help
people who could not afford to pay a full price for their meals, a number of people who could
afford to pay chose not to.
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Also, their PWYW restaurants attracted a large number of homeless people, which resulted in a
decline in their regular customer base. For example, one of its paying customers complained:
“These homeless people stink. I can’t stand eating like this.”
Impact on Employees: This change in Panera’s customer base, also had a significant impact on
their employees. For example, since only 5 of Panera’s 2,000 stores employed a PWYW,
customers were often confused by this approach and employees had to spend a lot of time
explaining how it worked.
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Also, many of its homeless customers were drug addicts or had some form of mental illness.
Thus, employees had to engage in non-typical duties such as dealing with people who were
using drugs in the bathroom.
I’d like you to carefully consider these issues as you evaluate the wisdom of Panera’s pricing
strategy and use them to help you answer the following questions.
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1. Was Panera’s PWYW experiment a success or a failure?
2. Would the outcome have been different if Panera was selling a digital product?
3. How could have Panera improved its PWYW strategy? What digital tools could they have
employed to enhance its success?
I hope you enjoy working on this case study and I look forward to seeing your thoughts!
Thanks for sticking around! Here is your bonus fact:
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Panera Bread was founded back in 1987 and was initially known as the St. Louis Bread
Company (because that is where it began).
It changed its name back in 1997, to give its brand a more global focus.
47
In fact, the word “Panera” is Spanish and means “breadbasket.” Good luck with the case!
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Digital Concept 2: Freemium
As we have discussed in this course, the 4Ps serve as a toolbox for marketers that help them
attract consumers and compete against competitive offerings. Although marketers usually lump
these 4Ps together, Price is very different than the other three Ps.
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Specifically, Product, Promotion and Placement are the ways in which firms create value for
customers. In contrast, Price provides a way for firms to capture this value in the form of
financial payment for their efforts. Thus, setting the right price is a critically important part of the
marketing equation.
Although the prices that marketers set may be driven by a variety of different approaches (such
as cost-based pricing vs. competitor-based pricing), most every product or service charges
some type of price. In essence, the offerings provided by marketers cost something—they’re not
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free. When is the last time that you waked into a physical store and walked out with a product
that you didn’t pay for? If you did, you were probably breaking the law.
Our traditional understanding of how pricing works is becoming increasingly challenged by the
rise of new digital tools.
For example, platforms such as ebay flip the way prices are set allow customers to bid on the
price of a product.
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Another intriguing development is the rise of Freemium model, which allows customers to
access a portion of a product or a service for free and then pay only for any added offerings that
they would like to have. The Freemium model is quite common for smartphone apps and can
also be found in a number of other digital domains, including software, social media sites and
communication platforms. In this video lecture, we’ll take a look at how Freemiums work and the
potential advantages they offer to both firms and consumers in our new digital world.
Here are a few examples of some familiar firms that successfully employ the Freemium model:
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Dropbox: Many of you probably have a Dropbox account. Dropbox is one of the world’s leading
file hosting platforms with over 500,000 million customers across more than 200 countries.
Dropbox provides free subscribers with 2GB of digital storage capacity. Once this limit is
reached, customers can upgrade to different types of premium subscriptions for a low monthly
fee. These premium subscription (Dropbox Plus & Dropbox Professional) providers customers
with at least 2TB of storage capacity (which is million times larger than an free account) as well
as a variety of other features such as a text-search function and a 30-day file recovery service.
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Thus far, Dropbox has convinced over 14 million people to become premium subscribers.
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Linked In: Linked In is one the world’s leading professional networking services and currently
has over 600 million registered users across more than 150 countries. All linked in members
can create a digital profile, connect with other members and contact potential employers or
employees for free. In addition to these free services, Linked In also offers a variety of different
premium memberships that range in price from around $30 to $120 per month. These various
members are targeted to different segments, such as job seekers, hiring firms and salespeople.
These premium subscribers have access to a variety of additional features not available to
Linked In’s free members. For example, individuals who subscribe to its Premium Career
service gain access to hiring managers and can compare their qualifications to other applicants.
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Approximately, 40% of Linked In users subscribe to one its premium services.
New York Times: The New York Time is one of America’s oldest, largest and most prestigious
newspapers.
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Like most newspapers, the NYT has been dramatically affected by the digital revolution and
has seen the number of subscribers to its physical product decline over the past 20 years.
In response, the NYT has created a nice online version of its newspaper and markets it using a
Freemium approach. Non-subscribers (free users) are allowed access to 5 NYT articles per
month. If they want more than that, they have to pay for a subscription. Over the years, the NYT
has changed its subscription price and offers discounts to certain segments, such as college
students.
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At present, readers can unlimited access to the NYT for the low price of $2 per week.
This price is quite appealing to many customers and the NYT currently has nearly 5 million paid
online subscribers, which is about 10 times larger than the number of subscribers to its physical
newspaper.
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In essence, a Freemium is a digital product or service that offers a set of basic features for free
but charges a price (usually a monthly or yearly subscription) for a set of premium features.
In essence, a Freemium combines “Free” & “Premium.” A freemium model can work well for
digital products or services due to the fact that the marginal cost of adding a new user is close
to zero.
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Now, let’s have a deeper dive. There are lots of interesting issues surrounding retailing in a
digital world. For the purpose of this discussion, I plan to focus on three key observations about
this new retailing landscape:
1. 5% Rule of Thumb: A Freemium model is based on the assumption that a small percentage
of paying customers can provide enough revenue to cover the costs of serving all of its free
customers. Thus, an important question is: what percentage of paying customers does a
Freemium business need? While the answer to this question somewhat depends upon the size
of a business’ user base and its cost structure, 5% is a good rule of thumb. In general, most
Freemium platforms seem to have a conversion rate somewhere between 2% to 5%. For
example, Dropbox appears to within this range. However, some
Freemium offerings such as Linked In have a much higher rate of conversion.
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2. Zero Price Effect: It order to succeed as a Freemium, a business needs to strike a balance
between offering enough free features to attract new customers, while putting enough premium
features behind a paywall in order to convert enough of these customers into paying members.
If too many of its valuable features are free, a business runs the risk of the Zero Price Effect.
This occurs when the free options provide so much value that free customers have little to no
incentive to subscribe to a premium version.
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One way to reduce the risk of a Zero Price Effect is to allow free users to temporarily see (and
use) the features available to premium subscribers. For example, at times, Linked In will provide
free users with temporary access to its Premium levels.
3. Twin Roles: We usually think of customers as providing value to a firm through their purchase
activity. Thus, according to our traditional perspective, customers who don’t pay anything are
not worth anything. In contrast, Freemium customers (who don’t initially pay anything) provide
value in at least two ways. First, free users can provide value by upgrading to a premium
membership. Second, free users can provide value through positive word of mouth and telling
others about a free offering. When we combines these twin roles, we find that a free user is
typically worth as much as 15%-25% of a premium subscriber.
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Here are some interesting academic insights about the Freemium model:
Juho Hamari, Nicolai Hanner and Jonna Koivisto (2020), “Why Pay Premium in Freemium
Services? A Study on Perceived Value, Continued Use and Purchase Intentions in Free-to-Play
Games,” International Journal of Information Management: In this article, the authors seek to
understand the factors that affect why consumers decide to upgrade to the premium features for
a freemium offering. Specifically, they examine the effect of four different forms of perceived
value: Quality, Enjoyment, Social Value and Economic Value. They tested the impact of these
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four different types of values through an online survey pf nearly 900 players of Freemium video
games in Finland. They asked each of these players to report the degree of value they obtain
from Freemium video games and also their usage and purchase intentions.
The results of this survey indicate that all four types of perceived value: Quality, Enjoyment,
Social Value and Economic value are positively associated with intention to use a Freemium
game.
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However, they found that among the four types of value they studied, only Social Value had a
direct positive association with the intention to purchase premium offerings.
In addition, they found that Enjoyment has a negative association with the intention to purchase
premium offerings.
In sum, the results of this study suggest that Social Value (how a product or service affects an
individual’s self-concept and how they are viewed) by others is the strongest predictor of
whether a consumer will upgrade from free to premium features. Thus, firms that employ a
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Freemium model should consider the value that their premium features provide in terms of
enhancing Social Value and that this form of value may be more important than more traditional
considerations such as an offering’s price and quality.
Thomas Niemand, Robert Mai and Sascha Kraus (2019), “The Zero-Price Effect in Freemium
Business Models: The Moderating Effects of Free Mentality and Price-Quality Inference,” This
article examines two potential factors that affect the zero-price effect. If you recall, the Zero-
Price effect is a condition under which a Freemium’s free options provide consumers with so
much value that they don’t purchase the premium version. The authors examine two ways that
consumers can view a Freemium offering: (1) Free Mentality—the perception that all of its
features should be freely available and (2)Price-Quality Inference—the perception that the free
offering may be of lower quality than the premium version.
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They suggest that Free Mentality will strengthen the Zero-Price Effect while Price-Quality
Inference will weaken the Zero-Price Effect.
They test their hypotheses via two studies conducted in France. The first study is an experiment
that assesses consumers’ implicit associations about free (version) premium offerings by having
65 participants quickly sort a set of words (e.g., Excellent, Cheap, Easy) into one of two
categories (Free or Premium).
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The results of this study indicate that consumers view Freemiums from both a Free Mentality
and Price-Quality perspective in about equal amounts. Their second study was conducted
among 538 participants in Germany, who were asked to choose among a set of different
packages for Netflix with various levels of free and premium offerings.
The results of this study suggest that Price-Quality Inferences have the strongest impact and
that these inferences significantly weaken the Zero-Price Effect.
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In sum, this study suggests that firms that employ a Freemium model should clearly
communicate the quality benefits and features for the premium version of their offerings in order
to gain a higher level of conversion.
Four Practical Recommendations:
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1. Add New Features: The initial buyers of any new offering are typically innovators and early
adopters who are quite different than later buyers. This observation is also true for Freemium
offerings. Most Freemium platforms find that it is easier to convert early free subscribers into
paying customers than it is to convert late adopters. Thus, they need to make their offerings
more appealing over time by adding new features. For example, when Dropbox was first
launched in 2008, it was essentially just a file backup service. However, over time Dropbox
added a variety of new features, such as the ability to share photos with others and the
convenience of automatic photo uploading.
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Be Sticky: Usually, being sticky is not a good thing. However, being sticky is a very good thing
for Freemium businesses. The more sticky they are, the harder it is for customers to switch to a
competitive offering. Freemium products and services can be sticky in at least two different
ways.
First, a Freemium can be sticky due to network effects. A network effect occurs when the value
of an offering for an existing customer increases as it gains more customers. For example, as a
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professional networking service, Linked In’s value becomes higher as it expands its subscriber
base, as each new subscriber is a potential network contact. Thus, Linked In gets stickier as it
gains more customers. Freemium offers can also become sticky through switching costs, which
make it difficult to leave a platform for another provider. For example, customers who have
uploaded lots of documents on DropBox would have to spend a lot of time and effort to
download (and upload) all of these files if they wanted to transfer to another file storage
provider. Due to these switching costs, once a customer joins a Freemium platform, they are
likely to stay there.
Be Restrictive: In order to successfully convert free users into paid subscribers, Freemium
platforms need to offer some benefits that are restricted to only their premium members. There
are lots of different types of restrictions that can be used. Two of the most common types are
restricted capacity and restricted features. For example, as we discussed earlier, Dropbox
restricts both capacity by limiting free users to an online storage capacity of only 2GB as well as
features by not allowing free users to obtain more advanced features such as file recovery.
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4. Reduce your Marketing Costs: In a traditional business model, firms usually launch an
expensive advertising campaign to raise awareness for their offerings and acquire new
customers. A Freemium model allows firms to greatly reduce their upfront marketing costs
because the free nature of their offering is a low cost and effective way to quickly acquire a
large number of customers. Also, when we get something for free, we often tell our family,
friends, and colleagues about it, so Freemium platforms often obtain a high degree of positive
word-of-mouth, which helps attract even more customers. Thus, firms that employ a Freemium
model should be able to spend much less upfront on marketing compared to a more traditional
type of business.
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Exercise: It's Full of Sparks
Since you are enrolled in this course, I assume that you have probably played a game on a
smartphone or tablet before. There are thousands of games available for downloading and
many of them employ a Freemium model. Thus, I thought that mobile games would be a good
example for this week’s exercise.
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Most of you are digital natives and like have one of these types of games already downloaded
to your phone or tablet. If you don’t, you can easily find one at your App store. If you don’t own a
smartphone or tablet, that is ok. You can simply view the game that I explore in this video and
use it to answer the questions for this exercise.
Just about any Freemium game will work for this exercise. A Freemium game is one that you
can download for free and play for a few levels or a limited time but will have to buy upgrades or
purchase a premium version to gain additional features or levels.
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The game that I suggest you try is a game called, “It’s Full of Sparks.” This game has beautiful
graphics, some clever features and is highly rated. It is available on both Apple and Android
phones and tablets. In this game, you play the role of a Firecracker that is lit on fire and will
soon explode. The goal of the game is to progress through a series of levels to find the “Old
One,” a mythical firecracker who’s fuse has never been lit. The motto of the game is: “When the
spark of life is lit, the countdown begins.” How true!
Let me give you an idea of how this game is played.
**Play Game**
After downloading the game, you get 10 firecrackers for free (each one is a different character).
After these are gone, you have four options.
**Show Options**
Which one will you pick?
Purpose: To gain a deeper appreciation for freemium pricing by taking the role of a consumer
who is faced with the decision of paying a premium for added features to something that is free.
Instructions: Here is what you need to do:
1. Find a freemium game that you would like to download.
2. Play this game.
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3. Take a look at the freemium options.
4. Decide what you want to do about these options.
Assignment:
1. Record the name of the game that you played. If you weren’t able to download a game, you
can just use It’s Full of Sparks as an example.
2. What options did the game provide you with? Please describe the nature of the freemium and
how much it cost.
3. Did you decide to purchase the freemium? Why or why not?
4. What did you learn about the freemium pricing model from this exercise?
77

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Marketing in Digital World

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

This business model is commonly referred to as a Freemium.

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Thus, the key is to find the price that’s just right.

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Four Practical Recommendations.

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

On of my favorite restaurant chains is Panera Bread.

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Thanks for sticking around! Here is your bonus fact:

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Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch

Professor Aric Rindfleisch