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SWORKIT: TAKING THE FREE OUT OF FREEMIUM?

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Michael A. Stanko wrote this case solely to provide material for class discussion_ The
author does not intend to 'Illustrate either effective or ineffective handling of a
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Copyright 02019, Ivey Business School Foundation version: 2019-08-23

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No clear consensus came from the leadership of the health and fitness appl Sworkit
after a lengthy October 2017 online Slack chat. The leadership group was debating the
app's pricing model and whether it needed drastic change. A decision would have to
wait until the conference call the group had scheduled for the next week.

Sworkit had a large, devoted user base and was on track to be profitable in 2017.
Despite this, Ben Young and Greg Coleman, the chief executive officer and president
of Nexercise Inc., the Maryland-based company that owned Sworkit, felt there was a
better way to capture value from their app. As Young and Coleman left the chat, it
seemed there was a real possibility that Sworkit might abruptly depart from the
business model that had allowed it to reach 1.5 million users in the past month.

"SIMPLY WORK IT": A BRIEF HISTORY OF SWORKIT

Towards the end of his time as a captain in the US Army, Ryan Hanna decided to learn
to write code. He decided on a project he would use himself: an app to help him build
workout routines, with randomized
exercises to keep his workouts fresh. His first goal was a modest 100 downloads.
Version 1.0 of Sworkit, which launched in 2012, used graphics of Hanna himself
performing the workouts, with voice instructions by his wife. This was a fun, leaning
side-project at the beginning; Hanna already had a "real job." A tweet Hanna sent to
the blog Lifehacker caught on, and Sworkit's growth accelerated, far sumassing
Hanna's original goal and propelling Sworkit past one million downloads. A Sworkit pro
version, including extra features, was launched in 2014 and sold for a one-time price of
$3.992; the free
version showed ads, which provided another revenue source.

Later in 2014, Hanna partnered with Young and Coleman, both graduates of the
Wharton Master of Business Administration program at the University of Pennsylvania.
Young and Coleman's company, Nexercise, had experience with fitness apps through
a previous successful product in this space (the product was also called Nexercise).
Said Hanna, "I'm a developer and a product person. They can make this a
business. . . . that's
where Ben and Greg come in.' The partnership provided additional resources for
customer acquisition as well as improved multimedia production quality in a completely
revamped version of the app. Sworkit's users could now target particular muscle
groups or fitness goals, allowing for personalized workout routines, with no equipment
required. Hanna became vice-president of product for the company and began
recruiting additional developers. The team was distributed globally; Hanna now lived in
the United Kingdom, while Coleman and Young worked out of a Rockville, Malylancl,
technology park.

Sworkit's interface was similar to that of a music app: it allowed users to skip exercises
they didn't feel like doing using a format that was familiar to customers. "We've created
a video workout player that's built on the same principles as a music player and people
understand that," said Young. "Instead of just watching a video, you're having an
interactive experience."4 Sworkit was featured in the Apple App store and Google Play
and was mentioned regularly by media outlets such as Cosmopolitan and the
Washington Post. It also received awards such as SELF magazine's award for Best
Bodyvveight/'High Intensity Interval Training Workout App. Loyal users praised
Sworkit's intuitiveness and the way it made workouts easy and fun.5

"In the early days, we were following the Silicon Valley playbook: Get as big as you
can, get as many eyeballs as you can, figure out how to monetize them later. We were
still thinking of advertising as the pruna1Y opportunity for revenue generation," said
Coleman. While most customer acquisitions came organically, the company also used
a variety of paid online advertising tactics to grow Sworkit's downloads (see Exhibit l).
In addition to efforts to gamer media mentions, Sworkit's promotional tactics also
included an active presence on social media platforms, particularly Twitter. Target
customers were busy individuals who didn't always have time to get to the gym, those
who were intimidated by the gym, and people who simply didn't want to think about
which exercises to do and preferred to let Sworkit expertly plan their anytime,
anywhere, no-equipment-required workouts. Workouts were organized under four
categories: strength, cardio, yoga, and stretching.

While the addition of a few new employees enabled the leadership team to focus more
on strategic matters, the atmosphere was still very much one that required "all hands
on deck." As Coleman explained, "On any given day, I might be doing payroll, legal
documents, marketing plans, bookkeeping, onboarding a new employee, HR [human
resources], handling benefits, and more." Both Hanna and Coleman had served in the
US military, and Coleman was still involved through the National Guard:
I'm a colonel in the Air National Guard. In a month, I may do 20 hours of military
service. . . . The biggest asset I bring from my military career is perspective.
Whatever happens, the sun is going to come up the next day. A lot of start-up
founders go through an emotional roller coaster. The company is going to go
through very high highs and very Iow Iows. You need to keep your emotions
measured.

As of 2015, the company had attracted 32.1 million in outside investment at a total
valuation of SI I million. Late in 2015, Young and Coleman had appeared on the
television show Shark Tank, seeking further investment and a partner to help them
continue Sworkit's growth.6 Young and Coleman requested 31.5 million for 8 per cent
of the company from the sharks. Their pitch was well received: one Shark Tank
observer commented that they had an "excellent understanding of monetization. . . .
These guys are
3 "Ryan Hanna: Sworkit From Side Project to Full Time Venture," YouTube video, 33:15, posted by "PhoneGap," July 26, 2017, accessed February 11, 2019,
https://youtube/ulQXYwoJ JY_
4 Katie McNally, "Second UVA Alumnus cn 'Shark Tank' Eams Record-Setbng Investment" UVA Today, March 1 , 2016, accessed Febmary 11 , 2019,
https://nevws_virginiaedu/content/second-uva-alumnus-shark-tank-eams-record-setting-investment
5 Kevin Loria, "A Guide to the Free Fitness App Sports Scientists Just Called the Best," Business Insider, August 19, 2015, accessed February 11, 2019,
wwwbusinessinsider.com/one-free-fitness-app-has-made-a-huge-difference-for-me-and- researchers-say-it-works-too-2015-8 Shark Tank, Season 7, episode
18.

doing it right, from the way they developed and marketed and then presented their
product. . People should take notes. "7 During the taping of the show, the fixo agreed
to basic terms with Mark Cuban to sell IO per cent of Sworkit plus some unused
advertising capacity in exchange for $1.5 million. After the taping, there were "a lot of
other terms that [weren't] discussed" on the show, Young said 8. Unfortunately, a few
weeks after the episode aired in February 2016, the deal had fallen apart a common
outcome during the due diligence period. Sworkit's leadership still viewed their Shark
Tank experience as positive, as downloads spiked when reruns of their episode aired.

Shortly after the Shark Tank appearance, Sworkit adjusted its premium offering to
make it a subscription service. As in the (now retired) one-time purchase pro version,
subscribers did not see in-app advertising, and they could also access additional
features and customization controls. Premium subscriptions launched at 32.99 per
month or SI 9.99 per year. Purchasers of the previous one-time fee pro version were
transitioned
to subscriptions. Said Hanna, "Consumers have come around to subscription pricing."
Many content apps used subscriptions—for instance, music apps such as Spotify,
news apps like the Wall Street Journal, and language-leaning apps like Duolingo.
Consumers also increasingly purchased non-digital products such as razors, food, and
wine through subscriptions. Negative feedback was minimal as customers were
transitioned to the subscription offering. Sworkit was regularly listed as one of the top
IO health and fitness
apps on the Apple App store, and it spent several days in 2015 and 2016 in the
number-one spot (i.e., most downloaded). Sworkit revenues for 2016 (the first year
under the subscription model) surpassed $1 million, which was similar to revenues the
prior year. However, 2017 revenues were on track to double as recurring subscriber
revenue came in alongside revenue from new customers. By the summer of 2017,
Sworkit had been downloaded 25 million times. Prices for the premium subscription
were raised to $7.99 per month or 359.99 per year. The fact that Sworkit had been
used to help so many people get fit and stay fit was a point of pride in the growing
organization, which now had seven employees and four contractors. A free (no
advertising) children 's version was developed to further the cause of exercise and
activity.

FREEMIUM BASICS
Nothing attracted consumers quite like the word "free," and this was the logic behind
the freemium pricing model: users got access to a basic product for free, but they had
to pay for additional features. 11. For instance, Dropbox Inc. allowed users up to two
gigabytes of free cloud storage. When customers had used nearly all of this capacity,
they were offered subscription accounts that included larger amounts of storage. This
model was used extensively for video games, where users were often asked to pay for
competitive advantages (for instance, power-ups or weapons). Even entertainment
offerings, such as Home Box Office Inc. 's (HBO) Last Week Tonight, used a form of
freemium, where one segment of each episode was posted for free viewing on
YouTube, while the entire episode was only available to paying HBO viewers. A
constant challenge with the freemium model was converting free users into paying
premium customers. The large majority of free users resisted upgrading. Generally,
making apps available for one-time purchases led to 4—8 per cent of free customers
converting. Subscription purchase options
7 "Shark -rank Breakdown Ep 8- SWORKIT, Clean Sleep, TUTI_Jblue, NOHBO," YouTube video, 6:24, postedby "Jeremy JasonA,"
February 22, 2016, accessed February 11 , 2019, https-//youtu_be/dmJ-m09Y-fM_
8 Sara Gilgore, "Mark Cuban 'Shark Tank' Investment Falls Through for Local Staftup," Washington Business Journa/, May
18, 2016, accessed February 11, 2019, wwvv.bizjoumals.com/washington/blog/techflashJ2016/05/mark-cuban-shark-tank-
investment-falls-through-for _ html.
9 "Ryan Hanna," op. cit.
10 Sara Gilgore, "This Md. Startup Lost Out on Mark Cuban's 'Shark Tank' Investment_ Now Its Back with a New Plan,"
Baltimore Busmess Journa/, August 1 , 2017, accessed February 1 1 , 2019, wvvw_bizjoumals.com/baltimore/news/2017/08/ 01 lthis-md-
staftup-lost-out-on-mark-cuban-s-shark
11 Xian Gu, PK_ Kannan, and Liye Ma, "Winning the Freemium-to-Premium Product Wars," American Marketing Association, December
6, 2018, accessed February 1 1 , 2019, wow.ama.orgJ2018/12/06/winning-the-freemium-to-premium-product-warsL

generally led to 1—4 per cent of customers converting from free usage. "The free
experience is enough for the average person," commented Coleman in the Shark Tank
episode.

Once customers converted to subscriptions, retaining them was a key concern. "It's
fitness. Retention is always a challenge in the fitness indust1Y," said Coleman.
Customer churn tended to have a consistent pattern, with the most chum in the first
billing period. "If you can hold on to customers for a few periods, you tend to be able to
hold on to them a lot longer," explained Coleman. In the fitness app indust1Y, 30 per
cent subscriber retention over the course of a year was considered good. These
realities led to pricing
options such as discounts for customers who prepaid for a full year.

Although Sworkit used an advertising mediation platform (MoPub, owned by Twitter

Inc.) to ensure the highest possible advertising revenue per free user, revenue from
each premium subscriber far surpassed the advertising revenue from each free user.
Overall, advertising amounted to approximately one-quarter of the app's total revenue
even though the vast majority of users were free users. "The challenge with advertising
is that it is unpredictable," said Coleman. "It is very' difficult to predict your revenue
from one
month to the next. The same amount of traffic Will have different financial results
depending on fluctuations in the bid rates offered by advertising platforms." For
instance, advertisers tended to spend heavily in the final months of the year (between
Black Friday and Christmas), while Sworkit's usage tended to be heavier in January,
just as many gyms were crowded. On average, advertising revenue ranged from 30.03
to 30.08 per month for each active free user, which meant that a massive quantity of
free users was needed to generate substantial advertising revenues. Free users also
generally exhibited a Iower commitment to the product in terms of frequency of
workouts and retention, both of which tended to be considerably Iower than for paid
subscribers. (A 20 per cent annual retention for free users was considered good.)
Coleman explained,

We had this idea: instead of sewing up Other people's ads, let's serve up some
of our own ads to get customers to upgrade to premium. We saw a dramatic
increase in the number of new subscribers. By advertising to the free users, we
were actually making more money off of the upgrades to subscriptions than we
were from the ads that otherwise would have been showing.

There was also a message carried with the free price: "Being available for free causes
people to devalue what you are offering." There was no denying that the ads detracted
from free users' experience, distracting them from their workouts. All of this created
fiustration and forced the leadership team to reconsider whether they wanted to be in
the advertising business.

In terms of metrics, Sworkit tended to focus on the so-called pirate metrics: acquisition,
activation, retention, referrals, and revenue AARRR). "There is no silver bullet," said
Coleman. "I'm a pilot. There is no one instrument I can stare at the entire time. If I did
that, I'd crash." That said, the team watched the number of monthly active users
closely. "If you are playing the advertising game, it is a monthly active users' game,"
said Coleman.

APP STORE ECONOMICS

Sworkit was available in 13 languages via the Apple App Store and Google Play, with
the majority of revenue generated through the Apple App Store. Both the Apple App
Store and Google Play's terms of service required all in-app purchases, even
subscriptions, to be processed these intermediaries, which had 30 per cent margins.
Advertising revenue was not channelled through the app store; Sworkit received
advertising revenue directly from MoPub.

Since 2012, health and fitness app downloads and total revenue had grown by
approximately 17 per cent each year, outperforming the app market as a whole. Over
time, the health and fitness category became more crowded (see Exhibit 2), making it
more challenging to consistently place in the top-10 category of downloads.
Competitors included MyFitnessPal (acquired by Under Armour Inc. in 2015), which
tracked users' progress towards diet and exercise goals and included a free offering
plus a premium subscription tier. Nike Training Club provided free access to
performance drills and exercises. In Other segments of the health and fitness app
categ01Y, there were numerous popular yoga and meditation apps with a variety of
pricing plans (many including free options, such as temporary trials).

While numerous competitive apps had sprung up, over 95 per cent of active health and
fitness app users made use of only one app, tending to use that app multiple times per
week. App use was similar to traditional gym use: weekdays had higher usage than
weekends with peak times in the morning and evening. Interestingly, app users tended
to work out earlier in the morning and later in the evening than traditional gym users.13
Within this competitive context, Sworkit was conscious of trying to acquire customers
profitably and had continued to reduce its spending on paid online advertising. "As we
get away from this eyeball game, we're not just trying to grow as fast as possible.
We're trying to grow in a profitable manner and build a sustaining company where the
user economics actually work," said Coleman.

TO CHARGE OR NOT TO CHARGE: THAT IS THE QUESTION

Throughout 2017, frustrations around the advertising business increasingly led the
leadership team to reconsider the freemium model. These concerns were coming to a
boil as the leadership team began to agree that the current Sworkit model encouraged
usage, but perhaps at the expense of revenue and profit. "I have a membership to Life
Time Fitness. They're not just going to let me go there for free. should we be giving
away our product for free forever?" asked Coleman. Some free users had been using
Sworkit for years without paying a cent. Despite these concerns, the freemium model
seemed to be working as intended: Downloads were consistently high, meaning a
steady introduction of new users who could potentially convert to premium subscribers.
Sworkit was profitable and had no pressing need for further investment.

The leadership conference call was lively, covering a wide range of questions: If
Sworkit eliminated free access, could the company convert a larger portion of
customers to subscriptions? On the Other hand, would a shift away from the freemium
model lead to fewer downloads and a much smaller funnel of users to potentially
convert to subscriptions? Was it possible to compete with freemium offerings without a
free option? Would the steady flow of valuable publicity stop if there wasn't a free
offering available? How could Sworkit's pricing and promotion be tailored to ensure a
sustainable, profitable outcome? Would keeping a free version available but drastically
reducing its functionality make converting to subscriptions more compelling, or was the
company better off continuing with its current approach?
Coleman tried to focus the conversation, saying to his colleagues, "It's risky, but to me,
it comes down to the question: What type of company are we? Are we an advertising
company that's based on eyeballs? Or are we a fitness company that's based on
helping people improve their fitness and health through an exchange of value for
value?"
13 Lali Kesiraju and Toby Vogels, "Health & Bitness App Users Are Going the Distance with Record-High Engagement," Fluny Ana/ytics
(blog), September 7, 2017, accessed February 12, 2019, https:ftunymobile_tumblr.com/post/165079311062/health-
mness-app-users-are-going-the-clistance.

Note: The health and fitness category grew at approximately 17% per year over this
period, both in terms of downloads and revenue. Since this plot shows rank within the
health and fitness category, a horizontal line (i.e., rank remaining constant)
corresponds with this 17% category growth. Assume a 10% internal rate of return
(i_e_, interest rate) for calculations such as customer lifetime value_
Source: Prepared by the case author with assistance from Curtis Pouncy, based on
data from "App Analytics & ASO The Tools You Need to Monitor, Optimize and Get
More Downloads," App Figures, accessed December 14, 2018,