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Picture: 123RF/BEKETOFF
Picture: 123RF/BEKETOFF

Hedge fund boss John Paulson made $20bn (R311.7bn) for himself and clients betting against the US housing market in 2008 but subsequently struggled to repeat that success. With his net worth pared back to less than $5bn (R78bn), Paulson returned what remained of investors’ cash in 2020. 

Now, he’s finally poised to strike pay dirt again thanks to an unusual wager on an underappreciated gem — Steinway Musical Instruments Holdings. 

A merger-arbitrage specialist, Paulson took the 169-year old Queens, New York-based piano maker private in 2013 with a rare foray leading a leveraged buyout himself. Almost a decade on from that $500m (R7.8bn) deal, Steinway has filed to go public again.

Traditionalists must have fretted hearing a renowned Wall Street trader had bought Steinway, but he’s proven to be a patient and sensitive owner: revenue and profit have swollen thanks to a burgeoning network of company-owned showrooms (more profitable than relying on independent dealers) and astute investments in technology.

The US IPO market has been in hibernation so far this year, but with inflation surging, portfolio managers are on the hunt for brands with strong pricing power. Steinway’s average selling prices have increased almost 50% in five years. A high-spec Steinway grand piano can cost up to $340,000 (R5.3m)  and special editions have sold for more than $2m (R31m).

A valuation range of $1bn (R15.6bn) to $1.5bn (R23.4bn) looks plausible, and that would net Paulson a handsome return on his roughly $200m (R3.1bn) equity investment. (1) He hasn’t taken dividends so far but almost all Steinway’s LBO debt is already paid down. Paulson-affiliated entities will receive all the IPO proceeds and his supervoting shares will allow him to retain control.

Steinway will need to sell investors on two key points: first, that there’s still a big untapped opportunity in China and second, that in addition to supplying concert halls, music schools and talented amateur pianists, the company has quietly become a vendor of digital home-entertainment systems to the non-piano playing super-rich.

Perhaps the most startling statistic in the IPO prospectus is that about one-third of Steinway-brand customers can’t play their instrument. (2) This isn’t as odd as it sounds. Launched in 2015, the Steinway Spirio is a grand piano capable of playing by itself every nuance of a pre-recorded or live-streamed performance. With a few taps on an iPad, a robotised Lang Lang or Yuja Wang will entertain your supper party or you can resurrect Duke Ellington for the evening.

Pioneered decades ago by Japanese rival Yahama, self-playing piano systems are the music world’s equivalent of Tesla’s Autopilot. Professional pianists can’t be delighted by the competition but after trying the product at a Berlin showroom this week, I can attest it’s pretty impressive. More importantly, the software has significantly expanded Steinway’s target market and gross margins (the option adds tens of thousands of dollars to the sticker price). (4)

Though in some respects in a league of its own — some 97% of concert circuit pianists use a Steinway — the company does face competition from brands like Bösendorfer, Fazioli, Kawai and Yamaha. The latter controls 40% of the acoustic piano market and an even larger share of digital pianos. (Steinway’s sales volumes are smaller. It hasn’t disclosed market share.) 

But there’s no denying that Steinway has successfully developed a lucrative, self-reinforcing cult around the brand, even persuading owners and restorers that unless a used instrument contains replacement parts sourced from the company, it’s not a “real Steinway.”  

“Steinway owns the collective consciousness as regards quality in pianos. There are hundreds of articles asking ‘what’s the best piano?’ but everything else ends up getting compared with a Steinway,” William Harold, Yale University’s piano curator, told me. 

This matters because the US and European acoustic piano markets have shrunk dramatically in the past few decades. Somewhat arrogantly perhaps, the company believes its biggest source of competition are private sales of its own equipment. No wonder it is so enamoured by China, where there isn’t a big installed base and both demand for new pianos and profit margins are higher.

China is investing heavily in concert halls and musical education: More than three quarters of the world’s children who take piano lessons are Chinese, according to the company. Steinway’s piano division sales in Asia-Pacific have doubled in five years but there’s potential for more — it sells only half as many grand pianos in China as in the U.S. “Modern Chinese musical culture is Steinway’s dream come true,” says Yale’s Harold. 

Picture: BLOOMBERG.
Picture: BLOOMBERG.

Of course, China represents opportunity but also risk: Concerns about Chinese growth and rising geopolitical tensions have caused luxury stocks to sag in recent weeks. (5)

This isn’t the only impediment Steinway faces. The company enjoyed a sales boost from the pandemic as wealthy folks deprived of luxury experiences either upgraded their residence or bought a bigger home. With pandemic restrictions easing, they’ve now other opportunities to spend. Housing markets are starting to soften due to rising interest rates and a recession may be around the corner. Amid the global financial crisis, Steinway’s revenue declined by one fifth in 2009, a much bigger fall than some luxury sector peers.

Indeed, Steinway’s operating profit margins aren’t in the league of say, a Hermes International or Ferrari . Operating returns are more comparable with Porsche, which like Steinway serves a range of luxury price points and is also preparing an IPO. (6)

Though manufacturing efficiency has improved, some costs are unavoidable: Steinways are by tradition handcrafted in New York or Hamburg and take up to a year to complete. The company also spend heavily on sales and marketing. (3) 

All this means Paulson may have to be a flexible on pricing the IPO but the “Porsche of pianos” still hits many of the right notes. Though not of sub-prime proportions, it’s a bravura performance.  

(1) Yamaha trades on 12 times earnings before interest, taxes, depreciation and amortisation, and 24 times net income but an uplift to both might be reasonable due to Steinway’s high-end credentials and superior growth. My selection of luxury auto and fashion comps delivers a similar upper value. In 2018 Steinway attracted takeover interest at a $1bn valuation.

(2) Spirio comprises 32% of piano segment sales and half of Steinway brand sales. 67% of buyers are non-pianists.

(3) The wholesale gross profit margin on a US Spirio is twice that of an equivalent non-Spirio, according to the prospectus.

(4) The majority of Steinway pianos sold in China are exported from Germany.

(5) The mid-level Boston and Essex brands account for the majority of Steinway’s sales unit volumes and are manufactured in Asia. However they represent less than one-fifth of piano segment revenues.

(6) Steinway doesn’t pay concert artists to use or endorse its equipment but it maintains a bank of 300 pianos they can access when performing worldwide.

More stories like this are available on bloomberg.com/opinion

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