Beyond freemium: how ad-supported subscriptions reshape platform pricing and innovation dynamics

Purpose Streaming and other subscription platforms increasingly add an ad-supported plan to their free and premium tiers, attracting price-sensitive users but possibly cannibalizing premium subscriptions. This study examines how such a plan affects innovation investment, long-term profitability and welfare and how the reference price effect changes the platform's preference for it. Design/methodology/approach A differential game model captures how the platform sets subscription prices and development effort over time as innovation accumulates. Four scenarios are compared: a freemium model with free and premium plans, a model that adds an ad-supported plan and their extensions with a reference price effect from users comparing current and past prices. Equilibria are derived analytically for the first two scenarios and numerically for the extensions. Findings The platform first sets lower prices and invests heavily in development, then raises prices and reduces development effort as innovation accumulates. Introducing an ad-supported plan stimulates innovation investment. With the reference price effect, the plan raises cumulative profit and user surplus in all numerical experiments and can enhance societal welfare. Without the effect, the platform generally avoids the plan but can still prefer it when it is short-sighted and users are less sensitive to innovation. The innovation strategy responds mainly to consumer price sensitivity. Originality/value This study jointly models subscription pricing and cumulative innovation in a dual-state differential game with tiered plans and reference prices. The results show platform managers when to introduce an ad-supported plan and help policymakers promote long-term innovation through price transparency.