From Growth to Monetization: Managing Freemium Services

38 Pages Posted: 8 Feb 2023 Last revised: 5 Oct 2023

See all articles by Yunke Mai

Yunke Mai

University of Kentucky - Gatton College of Business and Economics

Bin Hu

University of Texas at Dallas - Department of Information Systems & Operations Management

Date Written: April 5, 2023

Abstract

Motivated by the recent rapid growths of freemium services, we study freemium service providers’ dynamic operating policies to maximize their lifetime profits. We adopt a hybrid of the Bass diffusion model and the replicator equation from evolutionary game theory to capture the user base growth, and model the provider’s dynamic decisions as an optimal control problem. We analyze two variants of the freemium business model inspired by two prominent examples, Dropbox and Spotify, which respectively adopt the monetization strategies of limiting features and advertising (and its removal). We establish the optimal dynamic operating policies for the Dropbox-inspired ad-free freemium model and the Spotify-inspired ad-supported freemium model and identify their distinctive operational characteristics: the optimal policies as well as the sustainability of the Dropbox model critically depend on the network effect among users, whereas the optimal policies of the Spotify model suggest that advertising could be a more effective monetization strategy than limiting features. Overall, our analysis of the dynamic operational decisions establishes the versatility of the freemium model to suit distinct needs of a service in different stages from growth to monetization. We then show that our findings are robust in more general models, and that the freemium model significantly outperforms the ad-supported free model in weak advertising markets. Our study highlights the value of the freemium model and provides guidelines for service providers adopting this business model.

Suggested Citation

Mai, Yunke and Hu, Bin, From Growth to Monetization: Managing Freemium Services (April 5, 2023). Available at SSRN: https://ssrn.com/abstract=4349210 or http://dx.doi.org/10.2139/ssrn.4349210

Yunke Mai

University of Kentucky - Gatton College of Business and Economics ( email )

550 South Limestone
Lexington, KY 40506
United States

Bin Hu (Contact Author)

University of Texas at Dallas - Department of Information Systems & Operations Management ( email )

P.O. Box 830688
Richardson, TX 75083-0688
United States

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