[Kyle Racki, CEO of Halifax-based Proposify, published this fantastic blog on his website this week. You can see the original blog and Kyle's other blogs here.] 

If you‘re trying to grow a SaaS company, freemium and low cost plans will no doubt cross your mind at some point. Here’s my experience with it.

Discussion over freemium has been raging for a long time now. Is it a business model or a marketing channel? Will it drive long term customer growth or just encourage more freeloaders?

Heavy hitters like Hiten Shah say that they would never start another SaaS company without offering a $0 plan: “If I’m starting a new SaaS business today, I would highly consider having a free plan that you invest resources in and plan on keeping forever.”

His rationale is that a free plan drives leads — leads that don’t churn out after 14–30 days like they would in a typical free trial model. People start using your product because it’s free, as the theory goes, and if it’s great, they keep using it. In time they’ll be hooked and upgrade to a paid account.

No doubt, freemium has been the main driver of growth for many darlings in the SaaS world, like Dropbox and Slack. But is it the right decision for your startup?

It’s easy to look at big successes and assume their model is best. It’s why people study the daily habits of billionaires to try and discover trends in their daily habits. Hey, if Bill Gates wakes up at 4 a.m. to read three books before breakfast, and I do the same, naturally I’ll one day be a billionaire.

By the same rationale, people think since Dropbox used freemium to grow their business then all they need to do is copy the model and enjoy the same success. But outliers are just that — outliers. By the very definition they are rare and difficult to emulate.

With all this said, let me tell you about the time I tried freemium for Proposify.

Proposify Goes Freemium

In 2015 I got excited by the case for freemium and wanted to try it out.

My co-founder, investors and the rest of the team was doubtful it would work. They were afraid it would cannibalize our growing recurring revenue.

I pushed hard for it, reassuring them that if it looked like it was going to sink us within a month we’d take it down. By the way, I don’t regret the decision to test it because trying new things out is how you achieve greatness.

Still, they were right.

Within a few days we noticed our signups spiking. Within a week we had generated over 3,000 new accounts. At the rate we were going we would have tens of thousands of accounts in a couple of months.

Now that’s startup growth!

But something else started to happen — customers who were paying us saw the free plan and started downgrading. Customers in trials that were considering buying paid accounts signed up for the free plan instead.

By the end of the month, our MRR growth plummeted to 5.5 percent.

Now, 5.5 percent might sound like healthy MRR growth. But considering the month before it was 15 percent and the month after we stopped offering the free plan it jumped back up to 12 percent, this was a noticeable flattening.

From a psychological standpoint it makes complete sense. When you pay nothing for something you don’t feel any sort of attachment to it.

If I buy one of my sons a toy, he’ll play with it for a couple of hours. But once he’s bored with it, the toy will somehow find its way to the bottom of the couch, only to be found during a thorough cleanup. But if he has to do chores for the toy or save his money for a month, he’ll value the same toy much more highly. After all, it cost him something.

If you tell someone your product is worth nothing, they’ll treat it as such.

Considering where we were at as a startup, with no more investment capital in the bank, relying purely on revenue from customers to pay our bills and grow, we simply couldn’t afford to offer a free plan.

Granted, who knows what may have happened if we kept it running for another six months? Perhaps we would have skyrocketed and became the next Slack. But for a small team of fewer than ten people at the time we wouldn’t have survived the six months to find out.

On top of that, our dev team wouldn’t have been able to handle the sheer volume of users pounding our servers. Infrastructure needs to be scaled with new users, and growing by tens of thousands of users in a short time frame would have presented massive technical challenges to our team, and likely a lot of downtime for our paying customers.

There’s also no guarantee that freemium would have turned those free users into paid customers over time. It’s well documented that Evernote has had a notoriously difficult time growing their revenue despite strong adoption and unicorn valuation.

“Despite reaching 150 million registered users this year, Evernote has been slow to develop the revenue side of its business and is grappling with departures and cost-cutting, according to interviews…” said Business Insider.

If your goal is to build a venture-backed “unicorn” startup with the mentality of “growth now, revenue later” then freemium is probably the only path to take.

But if your goal is to grow a real business now, freemium can be distracting, costly and ultimately kill your startup.

What about cheap $5 or $10 plans?

If people don’t value free things will they still value cheap things?

We had a lot of our users signing up to paid plans when they had a proposal to write, but as soon as they didn’t need our product they cancelled. It was a nice-to-have product, not a part of their life.

And since they were small companies, usually freelancers, they would rather cancel and later sign up for a new account six months down the road and rebuild their proposal than pay for a monthly subscription they briefly weren’t using.

So we tried offering a $10/month plan to keep them. They would only see this option to downgrade if they were already in the act of cancelling.

Surely we could convert those people to $10 plans, keeping them as customers? Isn’t it better to have them as a customer paying something rather than nothing?

Once again, I was proved wrong with data. Take a look at our churn rate broken down by monthly plan:

Customer churn is the percentage of accounts that cancel. Net MRR churn is the percentage of MRR that is lost due to downgrades or cancellations, factoring in upgrades (hence negative churn if you’re lucky).

As you can see from this chart, the more a customer paid for their plan the less they churned.

If healthy churn rate for a SaaS business is in the neighbourhood of 3 percent or less, our $10 plans had net MRR churn that was eight times higher than healthy. We were bleeding these customers at a ridiculous rate.

What was the dollar value of those customers? Since churn impacts the lifetime value (LTV) of a customer take a look at what an average customer on each plan was worth:

LTV is a rough calculation based on ARPA and churn, estimating how long a customer will stick around and what they’ll be worth in their “lifetime” as a customer.

This shocked me when I saw it and it still does.

The value of an account is disproportionate to the amount they spend.

In other words, by paying 10 times the amount for a plan ($100 vs $10) a customer brings 46 times more value in their lifetime!

This taught me a lot.

Cheap plans attract people who don’t really value your product and will leave the moment they stop using it.

People willing to pay more are serious about your product and are looking to adopt it into their overall workflow. When your product becomes a part of their daily, weekly or monthly system, how they execute their business, they are unlikely to ever leave.

You may be thinking, “Sure the cheap plans churn more, but at least they are bring in some revenue, which is better than nothing, right?”

That only makes economic sense if your sales, marketing and support costs are zero though.

You can’t spend $100 to acquire a customer if they will only ever bring you $133 in their lifetime. But a customer spending $6,228 in their lifetime means you can easily spend that $100 on Facebook ads (or wherever you’re spending the marketing dollars).

I’d rather achieve high MRR and ARPA growth than the vanity metrics of “number of users”.

So often we think of growing a business as getting more customers. But keeping customers and being able to extract more revenue from them (by providing more value in return) is a much better strategy.

That applies to many businesses too, not just SaaS ones.

Check out this chart from Price Intelligently:

Monetization will grow your company faster than acquiring more of them.

Sometimes you just have to accept that not everyone is your ideal customer. Your product will be too expensive for them, and that’s okay. They don’t see the value, and/or they aren’t the kind of customer that CAN get value from it.

Accept it, move on and focus on acquiring and retaining your best customers – the ones willing to invest their time and money into your product.

Kyle Racki is the CEO of Proposify, whose SaaS product helps users create beautiful proposals with ease. Follow his blogs at kyleracki.com.