Razor and Blades Model

The Razor and Blades Model (also known as the 'Bait and Hook Model') is a business strategy where a company sells a primary, durable product (the “razor”) at a very low price—sometimes even at a loss—to create a captive market for a secondary, consumable product (the “blades”) that it sells at a high profit margin. The initial sale is the “bait” designed to hook the customer into a long-term, profitable relationship. The classic story attributes this model to `Gillette`, which supposedly gave away razors to get soldiers hooked on buying its proprietary blades. While the historical accuracy of that specific tale is debated, the strategy is brilliantly effective. The low upfront cost of the razor removes the barrier to entry for customers. Once they own the main device, they are locked into purchasing the compatible, high-margin consumables repeatedly. This transforms a one-time transaction into a steady stream of `Recurring Revenue`, which is music to an investor's ears. Modern examples are everywhere, from video game consoles and their games to coffee machines and their proprietary pods.

For a value investor, a business built on the razor and blades model can be a thing of real beauty. It's not just about selling a product; it's about building a fortress around a company's profits. This is why investors like `Warren Buffett` have been so fond of companies that exhibit these characteristics.

The model's true genius lies in its ability to create a powerful economic `Moat`. The secret ingredient is high `Switching Costs`. Once a customer buys a `Sony` PlayStation (the razor), they've made a significant commitment. They've learned the system, built a library of games (the blades), and connected with friends on its network. The cost and hassle of switching to a `Microsoft` Xbox—which would require buying a new console and an entirely new set of games—are immense. This lock-in effect gives the company incredible `Pricing Power` over its consumables. The company knows you're unlikely to leave, so it can confidently charge a premium for its blades, leading to fat and consistent profit margins.

This model turns unpredictable, one-off sales into a predictable, annuity-like `Cash Flow`. Instead of trying to guess how many new customers will show up each quarter, the company can rely on its large existing “installed base” of razor owners who need a steady supply of blades. For an investor, this predictability is invaluable. It makes forecasting future earnings far more reliable and reduces the risk of nasty surprises. When analyzing such a company, smart investors look at two key metrics:

• The growth rate of the installed base (how many new “razors” are being sold).
• The consumption rate per user (how many “blades” each customer buys over time).

Once you know what to look for, you'll see this powerful model everywhere, sometimes in surprising forms.

• Shavers and Cartridges: The namesake, pioneered by `Gillette`. Buy the handle for a few dollars, but the replacement cartridges cost a small fortune over time.
• Printers and Ink: `Hewlett-Packard` and others often sell home printers for less than the cost of a full set of replacement ink cartridges. The printer is the bait; the ink is where the real money is made.
• Medical Devices: Many medical testing devices are sold cheaply to hospitals, which then must purchase the proprietary and expensive single-use testing strips or chemicals.

Clever companies like `Apple` have flipped the model on its head in what's known as the `Reverse Razor and Blades Model`.

• The iPhone: Here, the “razor” (the iPhone) is sold at a very high price and is a major source of profit itself. The “blades” are the relatively low-cost apps, services, and accessories from the `App Store`. While each app is cheap, the sheer volume of transactions creates a massive, high-margin revenue stream. The lock-in is just as powerful; once you're in the Apple ecosystem, leaving is difficult and expensive.

No model is foolproof, and investors must be aware of the potential cracks in the armor.

• Competition: The high margins on the “blades” are a juicy target for competitors. Third-party manufacturers may try to produce cheaper, compatible consumables (think generic ink cartridges or Nespresso-compatible coffee pods). Companies often use `Patents` and clever design to fight this, but it's a constant battle.
• Technological Disruption: A new technology can render the entire model obsolete. For example, if a permanent hair removal solution became cheap and widely available, it would devastate the traditional shaving business.
• Regulatory Scrutiny: If a company becomes too dominant, it can attract the attention of regulators. Forcing customers to buy tied products can sometimes lead to `Antitrust` investigations if it's seen as an abuse of market power.