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Should You Give Away Your Product?

This article is more than 10 years old.

This week, Microsoft (Nasdaq:MSFT) said it would give away its Flight Simulator product. To make money on it, the company plans to sell premium items like different planes or locales.

This approach is known as the "freemium" model -- and it is gaining traction in the tech world. In fact, one of the most successful practitioners is social game-maker Zynga (Nasdaq:ZNGA). The company does not charge to play its games, but it sells in-game content like farm equipment or specialized weapons. Last year, the business produced more than $1 billion in revenues.

So in light of this, should your company use the freemium model as well? To help answer this question, I recently interviewed YouSendIt CEO Ivan Koon. His company has a free cloud-based collaboration tool that currently has more than 28 million users -- of which 550,000 are paying customers.

Here’s his advice:

Real Value: The free offering must solve real problems for customers. If not, then it is really a free trial. "You need to treat free users as you would paying customers,” Koon said.

Marketing: Giving away a product essentially is a replacement for traditional marketing. Ivan said it easily would have cost YouSendIt more than $100 million to get its current user base. This would have been from aggressive spending on search engine marketing (SEM) and other paid channels.

“The cost of getting a user under the freemium model should be near zero,” Koon said. “It also needs to be viral. This means a free user should lead to even more users and eventually paid users.”

Conversion: The industry standard for free-to-paid is about 2%. This means you generally will need millions of users to get any critical mass with the business model.

YouSendIt has a conversion rate of 7.3%. Then again, this has taken a lot of work, such as experimentation, engagement with the user base and ongoing innovation.

Word of Mouth: This is key for success. To this end, YouSendIt uses the Net Promoter Score (NPS) to measure the enthusiasm for its offering. This asks users a simple question: Would you refer the service to your friends and colleagues?

A good NPS is over 40%. YouSendIt is around 68% to 69%, which is within the range of companies like Amazon.com (Nasdaq:AMZN), eBay (Nasdaq:EBAY) and Apple (Nasdaq:AAPL).

“To make the freemium model work, you need to have highly satisfied users and customers," Koon said. "And this must be a constant focus.”

Tom Taulli runs the InvestorPlace blog IPOPlaybook, a site dedicated to the hottest news and rumors about initial public offerings. He also is the author of "The Complete M&A Handbook," “All About Short Selling” and “All About Commodities.” Follow him on Twitter at @ttaulli.