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Rushil Surapaneni March 28th, 2017

UGBA 106 Assignment #3


2. A key advantage to the freemium strategy begins with the fact that free features are a potent
marketing tool, as the model allows a start-up, such as Dropbox at the time, to scale up and attract
a user base without expending resources on costly ad campaigns or a traditional sales force.
Houston notes that with a freemium strategy, optimization of marketing messages and pricing
would be critical to Dropboxs success. Dropbox initially pursued a paid search advertising
strategy, but due to the high customer acquisition cost (CAC) associated with this strategy, the
company eventually abandoned it in pursuit of organic customer acquisition efforts. An organic
customer acquisition engine, fueled through word-of-mouth referrals by users and viral marketing,
resonated well with the low-cost advantage associated with the freemium model, allowing
Dropbox to cut marketing costs and focus more so on product development.
Another advantage of the freemium model goes back to the referral program utilized by
Dropbox. An existing user who referred a new user to Dropbox received 250 MB of additional
free storage. The new user, upon sign-up, received 250 MB of space on top of the 2 GB allocated
to a free account. The freemium model works especially well with a program such as Dropbox as
it leverages the power of social networks in acquiring potential free and paying customers and the
appeal of the product is enhanced to potential users through the free features the service offers.
From this, an inherent level of value is derived, as users begin to realize they can only share a
Dropbox folder with other Dropbox users, intensifying the referral program. The primary
advantage of the freemium model in this instance is having customers realize the value of having
other customers using the product, generating increasing demand and usage of Dropbox.
A third advantage of the freemium model for Dropbox is that there exists a clear path for
customers to upgrade as the company innovates. Dropbox begins charging users once they exhaust
the free storage space quota of 2 GB. The free version is adequate for basic documents, but anyone
who wants to back up photos or other media quickly hits the limit, giving free users a compelling
reason to upgrade into a paid customer for the additional value in paying more. In addition to
serving as a revenue model, the freemium strategy serves as a commitment to innovation. Dropbox
evolved from simply backing up files to offering shared folders, automatic syncing of
smartphones, and the improvement of the user interface. With each new feature, the value of the
premium offering has increased, further incentivizing the conversion of free users.
There do exist fundamental risks associated with the freemium strategy that Dropbox
faces. The central question behind pursuing the freemium strategy for Dropbox is answering how
much is too much? The chief purpose of freemium is to attract new users, but if Dropbox is
generating lots of traffic but few customers are paying to upgrade, then the free offerings are too
rich. The challenge that exists with this is finding the optimal balance between traffic and paying
customers without facing user revolt when asked to pay for things they are accustomed to getting
free. As a result of the freemium business model, Dropbox consistently faces the pricing challenge
of balancing internal profitability marks with that of the willingness of consumers to pay for the
product without alienating potential and existing consumers who seek the free version.
Another risk unique to the freemium strategy is improperly communicating to customers
the purpose of the premium product. The freemium strategy communicates two sets of benefits to
customers, which already further complicates the marketing efforts of a young company such as
Dropbox. If Dropbox fails to demonstrate to customers what they would gain by upgrading, the
conversion cycle from free-to-paying consumers would shorten, damaging the monetization
capabilities of Dropboxs product. The primary risk found here is failing to make the distinction
between the free and premium product to consumers. Consumers need to see clear advantages in
regards to why they should upgrade to the premium product and if they dont see those benefits, it
becomes clear that the freemium model limits Dropboxs ability to monetize more users.

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Rushil Surapaneni March 28th, 2017
UGBA 106 Assignment #3
A third risk the freemium model presents is the cost of serving free users. If Dropbox does
not consistently find the proper balance between the number of paying users to the number of free
users, it can hemorrhage the companys profitability in regards to lost money and time spent on
servicing free users. Dropboxs sole source of revenue is driven through subscriptions and if the
company fails to hit its target conversion rate, it signals that the freemium strategy is either
providing too much for free or consumers dont understand or value the premium product. In
addition, if the conversion rate is too high, then it signals to Dropbox that the free product is not
compelling to consumers, limiting the growth of potential users of the product. Failing to find the
proper balance of free-to-paying customers and not developing a favorable, target conversion rate
can cause the freemium strategy to limit Dropboxs financial growth.
To calculate how many free users a paying user can support, the following steps are taken:
Step 1: Calculate Gross Profit of 1 Paying User per Year (Assume 10 GB plan for $99/year)
$99 ($3.18*12) = $60.84
Step 2: Divide Gross Profit of 1 Paying User per Year by Cost of Free User per Year
$60.84 / $1.32 = ~ 46 (1 Paying User can support around 46 Free Users per Year)

To calculate the profit or loss Dropbox is making per year, the following steps are taken:
Step 1: Annual Revenue Run Rate COGS = Gross Profit
$10mm ~ $15mm ((204,000*$38.16) + (6,596,000*$1.32)) = ($6.49mm) ~ ($1.49mm)
Step 2: Estimated total operating expenses modeled off of Carbonites 2010 financials
4,973,000 (R&D) + 3,600,000 (G&A*) + 5,000,000 (Sales & Marketing*) = $13.57mm
* G&A = # of employees as of June 2010 (24) * Fixed cost/employee (150k) = $3.6mm
* Sales & Marketing estimate at $5mm because of shift from paid advertising methods
Step 3: Gross Profit Total Operating Expenses = Operating (Loss) / Profit
($6.49mm) ~ ($1.49mm) - $13.57mm = ($20.06mm) ~ $(15.06mm)

4. Non-discounted CLV = ((Avg. Revenue/User Costs) / (Retention Rate)) * 5


Non-discounted CLV (Dropbox) = (($99-$38.16) / (0.83)) * 5 = $366.51
Non-discounted CLV (Carbonite) = (($54.95-$24.53) / (0.8)) * 5 = $190.13

For Dropbox to increase CLV, it must focus on 3 separate strategies: increasing customer loyalty,
expanding margins, and increasing customer acquisitions.
Improving customer loyalty, or in other words reducing customer churn, would allow for
Dropbox to increase net new sales. To reduce customer churn, Dropbox must examine which of
their consumer segments is most likely to leave and after identifying this specific group of
customers, attempt to contact and communicate about their efforts to leave. In the case of
Dropbox, even with its easy-to-use services, the service ranked 6th in the consumer segment in a
review of 25 online back-up companies and did not rank in either the SMB or enterprise segments.
To increase customer loyalty, Dropbox must focus on educating its customers in addition to saving
those customers ready to abandon the service and recognizing those customers committed to the
product through a rewards system. Customers tend to leave because of another product or service
that has a feature that they believe their original service does not provide. Even with it simple
product, Dropbox must focus on continuing to update customers about the features that make the
Dropbox product unique and advantageous to their users. Focusing on saving customers, or
retaining their services, is also critical for Dropbox to maintain customer loyalty. To do so,
Dropbox should develop a specialized Save Team dedicated to keeping customers and having
access to better offers and incentives to help the process going. On the other end, Dropbox should

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Rushil Surapaneni March 28th, 2017
UGBA 106 Assignment #3
look to reward and recognize customers for ongoing business. However, the company should
pursue this in a measured way to ensure that any potential loyalty program is delivering a net
customer value improvement. Through taking these measures to improve the overall customer
experience, Dropbox increases the overall appeal of its product, potentially improving customer
loyalty and conversely improving customer lifetime value.
In addition to customer loyalty, Dropbox should focus on expanding margins through
strategizing how to lower the cost to serve its customers while also seeking opportunities to upsell.
In regards to lowering the cost to serve, Dropbox ought to end marketing to low value customers.
Dropbox should take measures to ensure they are not continuing to market to customers who
cannot or will not buy more of their product and service. The ROI on its marketing campaigns is
critical to measure and Dropbox should ensure that its marketing efforts are generating increased
conversions and new customers. This cost-benefit analysis should be conducted coincidently with
marked efforts by the company to upsell its product. Dropbox should put forward a more
concerted effort in regards to understanding its customers buying behavior, preferences, and
purchasing powers to seek opportunities to upsell, or increase the value of its product, to its
customers. For this strategy to be successful, Dropbox must relay the benefits of its pricier
versions to customers and provide honest, targeted information to the customer. By pursuing this
opportunity to upsell, Dropbox increases its potential to increase average sales without having to
expend more resources into marketing expenses.
The last suggested strategy for Dropbox to utilize to build CLV is to focus on increasing
customer acquisitions through continued engagement with customers and developing partnerships
with other brands to gain exposure. In regards to engagement with users, Dropbox has already
initiated steps towards better understanding the needs and demands of their customers through the
utilization of the Votebox feature on its site. This community engagement delivers transparency to
Dropboxs customers, critical to the overall customer experience as McKinsey notes that 70% of
buying experiences are based on how the customers feels they are being treated. Dropbox should
continue this program in addition to developing programs arranging informal conversations with
existing customers and identifying opportunities to connect the companys values with its
consumers. Taking these additional steps will allow for Dropbox to develop accurate buyer
personas while also connecting the brands unique values with the needs of its customers,
providing a key element in signing up more customers for the service. Simultaneously, Dropbox
should reengage with its previous strategy of pursuing partnerships with other brands. While Drew
Houstons earlier partnership talks came to naught, the situation had evolved for Dropbox as it
now could offer millions of users and a strong reputation to potential partners. Pursuing strategic
alliances at this favorable time within Dropboxs life cycle offers opportunity to gain exposure to
new audiences, increase market share, and develop additional financial and human resources to
meet client demand. Engaging with and joining forces with like-minded brands can drive customer
acquisition for Dropbox through eliminating the need for client installation as partners could
bundle the Dropbox service into its offered product, lowering the barrier to adoption for Dropbox.
Pursuing these two strategies in building customer acquisitions, in addition to the aforementioned
strategies involving expanding both customer brand loyalty and margins, can combine to increase
the overall long-term CLV for the Dropbox service.