**UNITEDSTATES SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C.  20549**

 

**FORM 10-K**

 

| **x**      | ** ** | **ANNUAL  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934**     |
|------------|------------|----------------------------------------------------------------------------------------------------------|
| ** ** | ** ** | ** **                                                                                               |
| ** ** | ** ** | **FOR  THE FISCAL YEAR ENDED DECEMBER 31, 2007**                                                         |
| ** ** | ** ** | ** **                                                                                               |
| **o**      | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934** |

 

**COMMISSION FILE NUMBER 001-11911**

 

**STEINWAYMUSICAL INSTRUMENTS, INC.**

(Exact name of registrant as specified in itscharter)

 

| **DELAWARE**                                                   | ** ** | **35-1910745**                       |
|----------------------------------------------------------------|------------|--------------------------------------|
| (State or Other Jurisdiction of Incorporation or Organization) |       | (I.R.S. Employer Identification No.) |

 

| **800 South Street, Suite 305,**    |       |       |
|------------------------------------------|------------|------------|
| **Waltham, Massachusetts**               | ** ** | **02453**  |
| (Address of Principal Executive Offices) |       | (Zip Code) |

 

Registrant’s telephone number, including area code

**(781) 894-9770**

 

Securities registeredpursuant to Section 12(b) of the Act:

 

| **Title of  each class**                    |       | **Name of  each exchange on which registered** |
|---------------------------------------------|------------|------------------------------------------------|
| **Ordinary Common Shares, $.001 par value** | ** ** | **New York Stock Exchange**                    |

 

Securities registeredpursuant to Section 12(g) of the Act: **None**

 

Indicateby check mark whether the registrant is a well-known seasoned issuer, asdefined in Rule 405 of the Securities Act.

Yeso   Nox

 

Indicateby check mark if the registrant is not required to file reports pursuant to Section 13or 15(d) of the Act.  Yes o   No x

 

Indicateby check mark whether the registrant (1) has filed all reports required tobe filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject tosuch filing requirements during the past 90 days.    Yes x    No o

 

Indicateby check mark if disclosure of delinquent filers pursuant to Item 405 ofRegulation S-K is not contained herein, and will not be contained, to the bestof registrant’s knowledge, in definitive proxy or information statementsincorporated by reference in Part III of the Form 10-K or anyamendment to this Form 10-K.  x

 

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, a non-accelerated filer, or a smaller reporting company.

 

| Large  accelerated filer o     |   | Accelerated  filer                   x |
|--------------------------------|--------|----------------------------------------------------------------------------------------------------------------------------------|
|                           |   |                                                                                                                             |
| Non-accelerated  filer  o |   | Smaller  Reporting Company o                                                                                                     |

 

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).

Yeso   Nox

 

Theaggregate market value of the Common Stock held by non-affiliates of theregistrant was $ 181,485,359 as of June 30, 2007.

 

| Number  of shares of Common Stock outstanding as of March 12, 2008: |   | Class A |   | 477,952   |
|--------------------------------------------------------------------------|--------|--------------|--------|-----------|
|                                                                     |   | Ordinary     |   | 8,102,328 |
|                                                                     |   | Total        |   | 8,580,280 |

 

## **DOCUMENTSINCORPORATED BY REFERENCE**

## ** **

Part III - Items 10-14 - Definitive Proxy Statement of theRegistrant to be filed pursuant to Regulation 14A, Parts I-IV - FinalProspectus of the Registrant dated August 1, 1996 filed pursuant to Rule 424(b).

 

** **

----

 

**Note Regarding Forward-LookingStatements**

 

Certainstatements contained throughout this Annual Report on Form 10-K are “forward-lookingstatements” within the meaning of Section 21E of the Securities ExchangeAct of 1934, as amended. These forward-looking statements represent our presentexpectations or beliefs concerning future events. We caution readers that suchstatements are necessarily based on certain assumptions that are subject torisks and uncertainties, which could cause actual results to differ materiallyfrom those indicated in this report. These risk factors include, but are notlimited to, the factors discussed in Item 1A of this report. We encourage investorsto read Item 1A carefully. Undue reliance should not be placed on theforward-looking statements contained in this report. These statements, like allstatements contained in this report, speak only as of the date of this report(unless another date is indicated) and we undertake no obligation to update orrevise the statements except as required by law.

 

### **Note RegardingIncorporation By Reference**

### ** **

TheSecurities and Exchange Commission (“SEC”) allows us to disclose certaininformation by referring the reader to other documents we have filed with theSEC. The information to which we refer is “incorporated by reference” into thisAnnual Report on Form 10-K. Please read that information.

 

### **PART I**

### ** **

### **Item 1. Business**

### ** **

### **Company History**

### ** **

SteinwayMusical Instruments, Inc., through its wholly owned subsidiaries, is aglobal leader in the design, manufacture, marketing and distribution of highquality musical instruments. We are the largest domestic manufacturer ofmusical instruments. Whenever we refer to the “Company” or to “us,” or use theterms “we” or “our” in this annual report, we are referring to Steinway MusicalInstruments, Inc. and its subsidiaries.

 

SteinwayMusical Instruments, Inc., formerly Selmer Industries, Inc., wasincorporated in 1993, at which time it purchased The Selmer Company, Inc.(“Selmer”), the largest U.S. manufacturer of band & orchestralinstruments. In May of 1995, we purchased Steinway Musical Properties, Inc.(“Steinway”), a manufacturer and distributor of acoustic pianos. In August of1996, Steinway Musical Instruments, Inc. became publicly held.

 

In September of2000, we acquired United Musical Instruments Holdings, Inc. (“UMI”), thesecond largest manufacturer of band & orchestral instruments in theUnited States and on January 1, 2003 Selmer and UMI merged intoConn-Selmer, Inc. (“Conn-Selmer”). In August of 2004, we acquired theassets of G. Leblanc Corporation, a manufacturer of high quality bandinstruments with production facilities in Wisconsin and France.

 

Weare a Delaware corporation with our principal executive offices located at 800South Street, Suite 305, Waltham, Massachusetts 02453, and our telephonenumber is (781) 894-9770. Through our corporate website, www.steinwaymusical.com,we provide access free of charge to all of our filings with the SEC, includingour Annual Reports on Form 10-K, quarterly reports on Form 10-Q, andcurrent reports on Form 8-K. These reports are available immediatelyfollowing filing with the SEC. Information contained on or connected to ourwebsite is not incorporated by reference into this Annual Report on Form 10-Kand should not be considered part of this report or any other filing that wemake with the SEC. 

 

2

----

 

Additionally, the SECmaintains an Internet site at www.sec.gov that contains reports, proxy andinformation statements and other information regarding issuers that fileelectronically with the SEC.

 

**Financial Information by Segment and GeographicLocation**

 

Information on business segments and geographic areas inwhich we operated for the years ended December 31, 2007, 2006 and 2005 iscontained in Note 17 to the Consolidated Financial Statements included in thisreport.

 

**Musical Instrument Industry**

 

We operate two reportable segments within the musicalinstrument industry: pianos and band & orchestral instruments.

 

### **Pianos–**The overall piano market is comprised of two main categories: grandpianos and upright pianos. Steinway & Sons pianos compete in thehigh-end segment of the market, whereas our Boston and Essex lines compete inthe mid-priced segment of the piano market.

### ** **

Forseveral years, increases in piano imports from Asia contributed to an increasein grand piano unit sales in the United States, the world’s largest grand pianomarket. During the last two years, Asian imports declined sharply as did grandpiano sales in the United States. A majority of these imports were on thesmaller end of the size range. Since Steinway realizes the majority of itsprofit from high-end grand piano sales, our results are generally more affectedby economic cycles, demographics, and the public’s continued interest in musicthan by industry trends. The piano market in China is growing at a rapid paceand is now the second largest piano market for the *Family ofSteinway-Designed Pianos* outside the United States. We continue totarget this region in our distribution strategies.

 

**Band &Orchestral Instruments** – Demand for band & orchestralinstruments in the domestic market has traditionally been more significantlyimpacted by factors such as demographic trends and school budgeting than bymacroeconomic cycles. Studies haveemphasized the importance of music education in a child’s development and manyschool band directors are promoting band programs as social organizationsrather than the first step of intensive music study. We expect this emphasis onmusic education and steady demographic trends to contribute to a relatively stable domestic market in the near-term.

 

Inrecent years, there has been an increase in units imported into the domesticmarket from offshore low-cost producers. This has created a highly pricesensitive domestic market where manufacturers have implemented aggressivepricing programs in an attempt to maintain market share positions. To remaincompetitive in this market, we now import some student woodwind and brassinstruments, primarily entry-level, made to our specifications. The impact oflower priced imported instruments has also led to consolidation within theindustry, leaving Conn-Selmer, Yamaha and Jupiter as the top three remainingfull line competitors.

 

3

----

 

**Business and Products**

 

**Piano Segment**

 

The *Family of Steinway-DesignedPianos* is a comprehensive offering of the world’s finest pianos atthree distinct price points to suit every buyer looking to purchase a finequality piano. The family is comprised of our three brands: Steinway &Sons, Boston and Essex.

 

Steinway & Sons grand pianos, handcrafted in NewYork and Germany, are considered to be the highest quality pianos in the worldand have one of the most widely recognized and prestigious brand names. We alsooffer Steinway & Sons upright pianos as well as two mid-priced linesof pianos under the Boston and Essex brand names.

 

**Steinway & Sons Pianos** – Steinway & Sons pianos differfrom all others in design specifications, materials used and the assemblyprocess. We offer twopremium-priced product lines under the Steinway & Sons brand: grandpianos and upright pianos. Grand pianos historically have accounted for themajority of our production. We offer seven sizes of the grand piano rangingfrom the 5’1” baby grand to the largest 9’ concert grand. The smaller grandsare sold to both individual and institutional customers, while the concertgrands are sold primarily to institutions. Steinway & Sons grandpianos are premium pianos in terms of quality and price, with retail prices forebony pianos generally ranging from $44,000 to $111,000 in the United States.Limited edition pianos and pianos with special veneers sell for retail pricesof up to $170,000. Steinway & Sons also offers art case pianosdesigned by either Steinway master craftsmen or renowned artisans. These uniquecreations often feature exteriors of elaborate marquetry and intricatehand-painting. Many of these pianos are created to commemorate special eventsand anniversaries.

 

In 2007, we sold2,994 grand pianos, of which 1,791 units were shipped from ourNew York facility to dealers in the Americas. The remaining 1,203 units wereshipped from our German facility primarily to Europe and Asia. Our uprightpianos offer dealers a complete line of quality pianos to satisfy the needs ofinstitutions and other customers who are constrained by space limitations. Wealso provide services such as repair, replacement part sales, tuning andregulation of pianos, and restoration. Restoration services range from repairsof minor damage to complete restorations of vintage pianos.

 

**Boston and Essex Pianos** – We introduced the Boston line in theearly 1990s to allow us to compete in the mid-priced category. Retail pricesfor upright and grand pianos generally range from $6,000 to $40,000 in theUnited States. Subsequently, we added a full line of pianos under the Essexbrand name to our mid-priced offering. Retail prices for Essex pianos rangefrom $4,000 to $20,000 in the United States.Sales of Boston and Essex pianos accounted for approximately 20% of our pianodivision revenue and nearly 70% of piano unit sales in 2007. With certain limited exceptions,we allow only Steinway & Sons dealers to carry the Boston and Essexpiano lines, thereby ensuring that these pianos will be marketed ascomplementary product lines to the Steinway & Sons line. These pianos,which were designed by us and are produced for us in Asia, provide our dealerswith an opportunity to realize bettermargins in this price range while capturing sales that would have otherwisegone to a competitor. Also, since our research indicates that the vast majorityof Steinway customers have previously owned another piano, Boston and Essexpianos provide future Steinway piano customers with the opportunity to join theSteinway family of owners sooner. The *Family of Steinway-DesignedPianos* increases our business with our dealers, making us theirprimary supplier in many instances.

 

4

----

 

**Band Segment**

 

We are the largest domestic producer of band &orchestral instruments and offer a complete line of brass, woodwind, percussionand string instruments with well-known brand names. We have complemented ourdomestic manufacturing strategy with a sourcing strategy from Asia to remaincompetitive in the global marketplace. Over the past few years, we haveestablished relationships with several overseas manufacturers to produceimported entry-level student instruments to our design specifications. Toensure that our imported instruments meet our expectations, we have hired ourown quality assurance staff in China to monitor and evaluate our instrumentsuppliers.

 

In 2007, sales of sourced products accounted for 37% ofour band division revenue. Approximately one third of these sales were from ourimported entry-level student woodwind and brass instruments.

 

**Woodwind and Brass Instruments** – We manufacturepiccolos, flutes, clarinets, oboes, bassoons, trumpets, French horns, tubas,and trombones in our manufacturing facilities in Indiana, Ohio, Wisconsin, and France. We sell student levelinstruments in threedistinct product groupings: “good” entry-level imported instruments, “better”mid-priced instruments, which are either imported or manufactured by us, and “best”instruments, which are primarily manufactured by us. In addition, we alsomanufacture intermediate and professional level woodwind and brass instruments.Sales of woodwind and brass instrumentsaccounted for 67% of our band division revenue in 2007.

 

We sell our woodwind and brass products under the brand names*Bach, Selmer, C.G. Conn, Leblanc, King, Armstrong, Holton, Martin,Yanagisawa, Vito, Emerson, Avanti, Noblet, Artley,*and*Benge*.Suggested retail prices generally range from $300 to $2,400 for studentinstruments and from $1,000 to $12,000 for intermediate and professionalinstruments. We often customize the products that we sell to professionalmusicians so that the product meets requested design specifications or hascertain sound characteristics. We believe that specialization of products helpsmaintain a competitive edge in quality and product design. Our specializedwoodwind and brass instruments sell for up to $29,000.

 

We are the exclusive U.S. distributor for*Yanagisawa* saxophones and *Selmer Paris*saxophones, clarinets and trumpets. The *Selmer Paris*saxophone is the best selling professional saxophone in the world. *Selmer Paris*,in turn, has exclusive distribution rights to some of our brass instruments inFrance.

 

**Percussion Instruments** – We manufacture,source, and distribute acoustical and tuned percussion instruments, includingoutfit drums, marching drums, concert drums, marimbas, xylophones, vibraphones,orchestra bells, and chimes. We manufacture percussion products in NorthCarolina and Illinois under the *Ludwig* and *Musser* brand names. *Ludwig* isconsidered a leading brand name in acoustical drums and timpani and *Musser* has a strong market position in tuned percussionproducts. Suggested retail prices range from $400 to $5,300 for acoustical drumoutfits and from $1,000 to $16,000 for tuned percussion instruments, withspecialized tuned instruments purchased by symphonies and orchestras sellingfor up to $22,000. Sales of percussion instruments accounted for 14% of ourband division revenue in 2007.

 

**String Instruments** – We distributeviolins, violas, cellos, and basses. Products are sold under the brand names*Glaesel, Scherl & Roth,*and *W**illiam Lewis &Son*. Suggested retail prices generally range from $160 to $3,200 forstudent instruments and from $1,100 to $4,800 for intermediate and advancedinstruments, with specialized instruments selling for up to $14,000. Componentsare primarily imported from Europe and Asia and adjusted at our factory inOhio. Sales of string instruments accounted for 2% of our band division revenuein 2007.

 

5

----

 

**Accessories** – We manufacture mouthpieces and distributeaccessories such as music stands, batons, mallets, straps, mutes, reeds, pads,chin rests, strings, bows, cases and instrument care products. Sales ofaccessories accounted for 16% of our band division revenue in 2007.

 

**Customers**

 

**Piano Segment**

 

Most of our piano sales are to individuals, bothprofessional artists and amateur pianists. A majority of our Boston and Essexcustomers are between 35 and 45 years old and have an intermediate level ofmusical skill. They hold graduate degrees and report annual household incomeover $100,000. Our Steinway & Sons customers are slightly older,between 40 and 50 years old, and have an advanced level of musical skill. Theyalso hold graduate degrees but report income over $300,000.

 

We also sell pianos to institutions such as concert halls,conservatories, colleges, universities and music schools. Approximately 20% ofpianos sold in 2007 were to institutional customers. We have developed the “All-SteinwaySchool” program to focus on increasing piano sales to music schools, as thismarket segment is typically less sensitive to economic cycles. Institutions canearn the “All-Steinway School” designation by owning essentially all Steinway-designedpianos, enabling them to provide their students and faculties with thebest instruments possible for the study of music, from the practice room to therecital hall. The number of “All-Steinway Schools” grew 25% in2007, to 85 schools and conservatories worldwide.

 

Marketsize and volume trends are difficult to quantify for international pianomarkets, as there is no single source for worldwide sales data. Outside theUnited States, our strongest market shares are in Germany, Austria,Switzerland, the United Kingdom, France, and Italy. We believe that we hold anaverage grand piano market share of approximately 18% in these countries. Wealso continue to expand our business in former Eastern Bloc countries where wedoubled our unit sales in 2007.

 

Outside of the United States, China is currently the second largestgrand piano market in the world. With our three piano lines, we believe ourmarket share of grand piano units is currently 5% in China. Our unit sales inChina more than doubledin 2007 and we expect a large portion of our long-term growth to comefrom this market.

 

In2007, our piano sales had the following geographic breakdown based on customerlocation: approximately 47% in the United States, 31% in Europe, 7% in Japan,5% in China, and the remaining 10% primarily in other Asian countries. Ourlargest piano dealer accounted for approximately 4% of piano sales in 2007,while the top 15 accounts represented 29% of piano sales.

 

## **Band Segment**

## ** **

Band & orchestral instruments are sold tostudent, amateur and professional musicians, and institutions. The majority ofour instruments are purchased or rented from dealers by students enrolled inmusic education programs in the United States. Traditionally, students joinschool bands or orchestras at age 10 or 11 and learn on beginner levelinstruments, progressing to intermediate or professional level instruments inhigh school or college. We estimate that approximately 80% of our domestic bandsales are generated through educational programs. The remaining domestic bandsales are to amateur or professional musicians or performing groups, includingorchestras and symphonies. Student level instruments accounted for approximately 65% of band &orchestral unit sales and approximately 35% of instrument revenues in 2007,with intermediate and professional instruments representing the balance.

 

6

----

 

Historically,over 80% of our band sales have been in the United States. We believe that theAsian and European markets present significant opportunities for growth due tothe quality of our instruments and the strength of our brand names.

 

In2007, approximately 76% of band sales were in the United States, 11% in Europeand the remaining 13% primarily in Japan and Canada. Our largest group of band dealers under common control accounted for approximately13% of band sales in 2007, while the top 15 accounts represented approximately41% of band sales.

 

**Sales and Marketing**

 

### **Piano Segment**

### ** **

We distribute our pianos worldwide through nearly220 independent dealers who operate approximately 350 showrooms. We also sellour pianos through nine company operated retail showrooms: four in the UnitedStates and five in Europe. We have subsidiaries and dealers in both Japanand China that provide direct access to the growing Asian piano market. Salesto dealers accounted for approximately 75% of piano segment revenue in 2007.The remaining 25% was generated from sales made directly by us at one of ournine company operated retail showrooms.

 

Weemploy district sales managers whose responsibilities include developing closeworking relationships with piano dealers. These highly experiencedprofessionals provide dealers with sales training and technical support, anddevelop sales and marketing programs for the consumer and institutionalmarkets. These sales managers are also responsible for promoting the SteinwayArtist Program.

 

**Steinway Artist Program** – Steinway Artists areworld-class pianists who voluntarily endorse Steinway & Sons byselecting the Steinway piano. Our Steinway Artist program is unique in that wedo not pay artists to endorse our instruments. To become a Steinway Artist, apianist must not only meet certain performance and professional criteria, he orshe must also own a Steinway piano. We use these renowned artists in ourmarketing programs to help reinforce recognition of the Steinway brand name andits association with quality. The Steinway Artist Program currently includesmore than 1,400 of the world’s finest pianists who perform on Steinway pianos.In return for their endorsements, Steinway Artists are provided with access tothe Concert and Artist Piano Bank.

 

**Concert and Artist Piano Bank** – To ensure that allpianists, especially Steinway Artists, have a broad selection of instruments tomeet their individual touch and tonal preferences, we maintain the Concert andArtist Piano Bank. The Piano Bank includes approximately 430 instrumentsworldwide. Of these instruments, approximately 320 are located in the UnitedStates. In New York City alone, the Piano Bank includes approximately 150 instrumentsavailable for various occasions. The remaining domestic-based pianos are leasedto dealers around the country who actively support the Steinway Artist program.The Piano Bank promotes our instruments in the music industry and providesmanagement with continual feedback on the quality and performance of recentlyproduced instruments from our most critical customer, the professional pianist.The Piano Bank instruments are generally sold after four or five years andreplaced with new pianos.

 

### **BandSegment**

### ** **

Ourband & orchestral, string and percussion instruments and relatedaccessories are distributed worldwide through approximately 1,700 independentmusical instrument dealers and distributors.

 

7

----

 

In North America, wemarket our products through district sales managers and telemarketingrepresentatives who are responsible for sales within assigned geographicterritories. Each district sales manager is also responsible for developingrelationships with band & orchestral directors. These directorsrepresent all levels of music educators, from those who teach elementary schoolchildren through those involved at the college and professional levels. Theseindividuals are the primary influencers in the choice of an instrument brand asthey will generally refer students to designated dealers for the purchase ofinstruments.

 

As part of our banddirector outreach and support strategy, we have developed Conn-Selmer Institute(“CSI”). Originally created to help graduating musiceducation majors transition into teaching careers, we have expanded CSI toinclude a program for experienced music educators who want a refresher course.We also have aneducational director who travels extensively, lecturing and motivating students,educators and parents on the value of music in a child’s development. Webelieve that our well-established, long-standing relationships with influentialmusic educators are an important component of our distribution strategy andthat our CSI efforts will further enhance these relationships.

 

To reach international markets, we primarily sell ourinstruments through distributors. We recently reorganized our internationalsales staff to include regional sales directors who have more direct contactwith our customers overseas. We currently have sales directors in Europe, LatinAmerica and Asia.

 

We support our dealers and distributors through incentiveprograms, advertising and promotional activities. We reach our customers through trade shows, educatorconferences, print media, direct mail, telemarketing, the Internet and personalsales calls. We also actively advertise in educator and trade publications andprovide educational materials, catalogs and product specifications to students,educators, dealers and distributors.

 

**Competition**

 

### **Piano Segment**

### ** **

**Steinway & Sons****Pianos** – The level ofcompetition our pianos face depends on the market definition. Steinway & Sonspianos hold a unique position at the top end of the grand piano market, both interms of quality and price. While there are many makers of pianos, only a fewcompete directly with our Steinway brand. Other manufacturers of primarilyhigher priced pianos include Bösendorfer and Fazioli.

 

Because Steinway pianos are built to last forgenerations, we believe used Steinways are the primary competition in ourmarket segment. It is difficult to estimate the significance of used pianosales, since most are conducted in the private aftermarket. However, we haveincreased our emphasis on restoration services and the procurement,refurbishment and sale of used Steinway pianos to help us mitigate the impactof these aftermarket sales on our piano business.

 

**Boston and Essex Pianos** – While ourmid-priced pianos compete with brands such as Baldwin and Schimmel, our primarycompetition has been from Japanese, Korean and Chinese manufacturers such asKawai, Yamaha, Young Chang, and Pearl River. By working with manufacturers inthe same geographic areas, we have been able to enjoy labor costs andmanufacturing efficiencies similar to those of our primary competitors whileoffering consumers the added benefit of pianos designed by Steinway &Sons.

 

Inrecent years, piano manufacturing in China has been growing at a rapid pace. While thevast majority of the production continues to be upright pianos, Chinesemanufacturers have begun producing low-priced, smaller grand pianos. In 2005,we established an OEM relationship with Pearl River Piano Group, the largestpiano manufacturer in China, to build pianos for our Essex line. In June of2006, we 

 

8

----

 

successfully re-launchedour Essex line, introducing several new Essex models in a variety of finishes.We now offer pianos priced in a considerably more competitive price range thanpreviously available, bringing a good measure of Steinway design benefits to awider reach of consumers.

 

**BandSegment**

 

Weare the largest domestic producer of band & orchestral instruments. Wehave leading market shares with many of our professional level instruments.Yamaha, a Japanese corporation, is our largest competitor. New entrants intothe domestic market generally experience difficulty competing due to the needfor both brand recognition and an effective distribution system.

 

Dueto the growth of offshore manufacturers, competition for sales of student levelinstruments in the United States has intensified in recent years. Theseproducers benefit from low labor costs, enabling them to offer instruments athighly competitive prices. It is difficult to quantify the impact of importedmusical instruments since the majority of offshore manufacturers do not reportdata through industry channels.

 

**Patents and Trademarks**

 

Steinway &Sons pioneered the development of the modern piano with over 125 patentsgranted since our founding. While we have several patents effective and pendingin the United States and in several foreign countries, we do not believe ourbusiness is materially dependent upon any single patent.

 

We also have someof the most well-known brand names in the music industry. Our piano trademarksinclude *Steinway, Steinway & Sons,*theLyre design, *Boston, Heirloom Collection,**Crown Jewel Collection* and*Essex*. Our band &orchestral trademarks include *Bach, Selmer, C.G. Conn,Leblanc, King, Armstrong, Ludwig, Musser, Holton, Vito, Glaesel, Scherl &Roth, Emerson, William Lewis & Son, Martin,*and*Benge.* We consider our trademarks to be important andvaluable assets. It is possible that the termination, expiration orinfringement of one or more of our trademarks may have an adverse effect on ourbusiness, depending on the trademark and the jurisdiction. Accordingly, wemaintain trademark registrations in appropriate jurisdictions on an ongoingbasis and vigorously pursue any infringement by competitors.

 

### **Raw Materials, ComponentParts, and Sourced Products**

### ** **

Ourraw materials consist primarily of metals and woods. The majority of thesematerials is sourced from the Americas, with the balance coming from Europe,Asia and Africa. We manufacture our own piano plates and keys to ensureavailability of these component parts. Component parts for string andpercussion instruments are imported from Europe and Asia. We have had adequatesupplies of raw materials and component parts in the past and do not expect anydisruption to the supply of these items during 2008 or in the future.

 

Currently, our Bostonpianos are sourced from a single manufacturer, as are our Selmer Parisinstruments and certain other component parts. Although we may experiencedelays in availability of product due to the lead times required by thesemanufacturers, we do not anticipate any material disruptions to the supply ofthese products. Some of our entry-level band instruments are also sourced fromsingle manufacturers. We continually scrutinize these suppliers and the qualityof products that they manufacture for us and we believe that we have asufficient number of qualified suppliers to ensure availability of all offeredproducts in the upcoming year.

 

9

----

** **

**Labor**

 

As ofDecember 31, 2007, we employed 2,226 people, consisting of 1,615 hourlyproduction workers and 611 salaried employees. Of the 2,226 employees, 1,646were employed in the United States and the remaining 580 were employed primarilyin Europe.

 

Approximately50% of our workforce in the United States is represented by labor unions. On April 1,2006, our labor contract with employees at our brass instrument manufacturingfacility in Elkhart, Indiana expired. These employees, who are represented byLocal 364 of the United Auto Workers (UAW), have been on strike since thattime. By the end of 2006, we had hired our desired number of permanentreplacement workers for this facility. In November of 2007, the employeesvoted on a petition to decertify the UAW as the exclusive bargainingrepresentative at the plant. In December, the National Labor Relations BoardRegional Office held a hearing to determine eligibility of certain ballotswhich had been challenged during the vote. While the hearing officer sustainedthe vast majority of our challenges, each side is expected to file exceptionsto some of the rulings. We cannot speculate as to when the National LaborRelations Board in Washington will issue a final ruling. Members of Local 364are not included in our workforce statistics below.

 

The followingtable indicates the union representation and the current status of ourcollective bargaining agreements in the United States:

 
| **Location**    | ** ** | **Union affiliation**                                                                                   | ** ** | **Type of  manufacturing** | ** ** | **Number of   employees** | ** ** | **Agreement  expiration** |
|-----------------|------------|---------------------------------------------------------------------------------------------------------|------------|----------------------------|------------|---------------------------|------------|---------------------------|
| Elkhorn, WI     |       | International  Brotherhood of Boilermakers, Iron Shipbuilders, Blacksmiths,  Forgers & Helpers |       | Band instruments           |       | 62                        |       | July 20, 2008        |
| LaGrange, IL    |       | Carpenters                                                                                              |       | Percussion instruments     |       | 33                        |       | November 21, 2009    |
| New York, NY    |       | United Furniture  Workers                                                                               |       | Pianos                     |       | 423                       |       | December 31, 2009    |
| Springfield, OH |       | Glass, Molders,  Pottery, Plastics & Allied Workers                                            |       | Piano plates               |       | 33                        |       | November 8, 2010     |
| Eastlake, OH    |       | United Auto Workers                                                                                     |       | Band instruments           |       | 240                       |       | February 15, 2011    |
| Elkhart, IN     |       | United Auto Workers                                                                                     |       | Band instrument  warehouse |       | 13                        |       | March 31, 2012       |

 

InGermany, the workers’ council represents all employees other than management.Nevertheless, most employment contract conditions are settled in collectivebargaining agreements made between various trade unions and the employerorganizations to which we belong. Our current agreement expires on November 30,2009. We believe that relations with our employees and these unions aregenerally good.

 

10

----

 

**Item 1A.  Risk Factors**

 

An investment in our Company involves risk. In addition to the otherinformation in this report, prospective investors should carefully consider thefollowing risks before making an investment. The risks described below are notthe only risks we face. There may be additional risks and uncertainties that wedo not presently know of or that we currently consider immaterial. All of theserisks could adversely affect our business, financial condition, or results ofoperations.

 

#### **We operate in competitivemarkets**

#### ** **

Our successdepends upon our ability to maintain our share of the musical instrument marketby providing the best instruments at prices equal to or below our competitorsproviding instruments of comparable quality. Increased competition could leadto price reductions, fewer large sales to institutions, reduced operatingmargins and loss of market share.

 

Our Steinwaypianos currently compete with brands sold by Bösendorfer and Fazioli, whichprimarily produce and market pianos at the high end of the market. Because ofthe potential savings associated with buying a used instrument, as well as thedurability of the Steinway piano, a relatively large market exists for usedSteinway pianos. It is difficult to estimate the significance of used pianosales, because most are conducted in the private aftermarket. However, webelieve that used Steinway pianos provide the most significant competition inthe high end piano market.

 

While our mid-pricedpianos compete with brands such as Baldwin and Schimmel, our primarycompetition in this market segment has been from Japanese, Korean, and Chinesemanufacturers such as Kawai, Yamaha, Young Chang, and Pearl River. By workingwith manufacturers in the same geographic areas, our labor costs and manufacturingefficiencies are similar to those of our primary competitors. Also, with certain limited exceptions, weallow only Steinway dealers to carry the Boston and Essex piano lines, therebyensuring that these pianos will be marketed as complementary product lines tothe Steinway line.

 

Our band &orchestral division competes with a number of domestic and Asian manufacturersof musical instruments, including Jupiter and Yamaha. Any of our competitorsmay concentrate their resources upon efforts to compete in our markets. Inaddition, Asian musical instrument manufacturers have made significant stridesin recent years to improve their product quality. They now offer a broad rangeof quality products at highly competitive prices and represent a significantcompetitive challenge for us. Our failure to compete effectively could have anegative impact on our results of operations.

 

###### **Economicdownturns and changes in consumer preferences could adversely affect ourbusiness**

###### ** **

Our business is subject to a number ofgeneral economic factors, many of which are out of our control, that may, amongother things, result in a decrease in sales and net income. Sales ofmusical instruments are dependent in part upon discretionary consumer spending,which may be affected by general economic conditions. For example, Steinway,which represents more than half of our net sales, sells a relatively smallnumber of Steinway & Sons grand pianos each year (2,994 in 2007).Given the small number of pianos we sell, even a slight decrease in sales couldadversely affect our profitability. Band & orchestral sales are alsodependent upon the continued interest of school-aged children in playingmusical instruments. Any decrease in consumer spending or reduction inschool-aged children’s interest in music could result in decreased sales, whichcould adversely affect our business and operating results. Furthermore, terrorist activities, war orother armed conflict involving the United States or its interests abroad mayresult in a downturn in the U.S and global economies, thus reducing spending onluxury goods and may exacerbate the risks to our business.

 

11

----

 

**We couldbe subject to work stoppages or other business interruptions as a resultof our unionized work force**

 

A significant portion of our hourly employees are represented byvarious union locals and covered by collective bargaining agreements. Theseagreements contain various expiration dates and must be renegotiated uponexpiration. If we areunable to negotiate any of our collective bargaining agreements on satisfactoryterms prior to expiration, we could experience disruptions in our operations.On April 1, 2006, our labor contract with employees at our brassinstrument manufacturing facility in Elkhart, Indiana expired. These employees,who are represented by Local 364 of the United Auto Workers (UAW), have been onstrike since that time. However, we have been staffed with permanentreplacement workers at this facility since the end of 2006. Nevertheless, anyfuture prolonged work stoppage or delay in renegotiating collectivebargaining agreements at another facility could have a material adverse effecton our operations.

 

**Anysignificant disruption in our supply from key suppliers could delay productionand adversely affect our sales**

 

Our Boston piano line, many of our Essex piano models, our Selmer Parisinstruments, and many of our student level band & orchestralinstruments are sourced from single foreign manufacturers. We are highlydependent on the availability of essential materials and purchased componentsfrom our suppliers, some of which may be available only from limited resources.Moreover, we are dependent upon the availability of our suppliers to providematerial that meets specifications, quality standards and delivery schedules.Our suppliers’ failure to provide expected raw materials or component partscould adversely affect production schedules and profitability.

 

Although we have had adequate supplies of raw materials and componentparts in the past, there is no assurance that we may not experience seriousinterruptions in the future. Our continued supply of materials is subject to anumber of risks including: 1) the destruction of our suppliers’ facilities ortheir distribution infrastructure; 2) work stoppages or strikes by oursuppliers’ employees; 3) the failure of our suppliers to provide materials ofthe requisite quality; 4) the failure of essential equipment at our suppliers’plants; 5) the failure or shortage of supply of raw materials to our suppliers;and 6) contractual amendments and disputes with our suppliers.

 

We cannot assure investors that our suppliers will continue to provideproducts to us at attractive prices or at all, or that we will be able to obtainsuch products in the future from these or other providers on the scale andwithin the time periods we require. Furthermore, we cannot assure investorsthat substitute raw materials or component parts will meet the strictspecification and quality standards we impose. If we are not able to obtain keymaterials, supplies, components or sourced instruments on a timely basis and ataffordable costs, or we experience significant delays or interruptions of theirsupply, it could have a material adverse effect on our business, financialcondition and results of operations.

 

**We experience inherent concentration of credit risk in our accountsreceivable**

 

Weestablish reserves for accounts receivable and notes receivable. We reviewoverall collectibility trends and customer characteristics such as debtleverage, solvency, and outstanding balances in order to develop our reserveestimates. Historically, a large portion of our sales have been generated byour top 15 customers. As a result, we experience some inherent concentration ofcredit risk in our accounts receivable due to its composition and the relativeproportion of large customer receivables to the total. This is especially trueat our band division, which characteristically has the majority of ourconsolidated accounts receivable balance. We consider the credit health andsolvency of our customers when developing our receivable reserve estimates.Historically, our bad debt expense has been low. However, two of oursignificant customers filed for bankruptcy in 2006, causing us to incur asignificant increase in bad debt expense. If our customers fail to pay asignificant portion of outstanding receivable balances, it could have anegative impact on our results of operations.

 

12

----

 

**We may beunable to successfully integrate acquisitions of related companies into ourbusiness**

 

We havehistorically acquired other businesses whose operations or product linescomplement our existing business. We continually explore new opportunities toenter into business combinations with other companies in order to maintain andgrow our revenues and market presence. These potential transactions with othercompanies create risks such as difficulty in assimilating the personnel,customers, technology, products and operations with our personnel, customers,technology, products and operations; disruption of our ongoing business,including loss of management focus on existing businesses; and impairment ofrelationships with existing executives, employees, customers and businesspartners. In addition, we may not be able to identify suitable candidates forthese transactions or obtain financing or otherwise make these transactions onacceptable terms. Furthermore, the benefits that we anticipate from thesepotential transactions may not develop as expected and we cannot be sure thatwe will recover our investment in any such strategic transaction.

 

**Shifts inour product mix may result in declines in our gross margins and profit levels**

 

Our gross margins vary among our product groups and have fluctuatedfrom quarter to quarter as a result of shifts in product mix (that is, how muchof each product type we sell in any particular quarter). The introduction ofnew band products, decreases in average selling prices and shifts in theproportion of student level instruments to professional level instruments maycause variances in our gross margins. We also experience variances in our grossmargins as a result of shifts in the proportion of our piano retail sales towholesale sales, as well as changes in amounts of piano sales to territorieswhere we realize more favorable pricing. For example, our product sales in theformer Eastern Bloc countries generally produce higher margins because mostsales are at retail prices. We expect fluctuations in gross margins to continuein the future.

 

**Failureof our new products to gain market acceptance may adversely affect ouroperating results**

 

New products may not achieve significant market acceptance or generatesufficient sales to permit us to recover development, manufacturing andmarketing costs associated with these products. Achieving market acceptance fornew products may also require substantial marketing efforts and expenditures toexpand consumer demand. These requirements could strain our management,financial and operational resources. Furthermore, failure of our new productsto achieve market acceptance could prevent us from maintaining our existingcustomer base, gaining new customers or expanding our markets and could have amaterial adverse effect on our business, financial condition and results ofoperations.

 

**Since wehave a limited number of facilities, any loss of use of any of our facilitiescould adversely affect our operations**

 

Our operationswith respect to specific products are concentrated in a limited number ofmanufacturing facilities. Because we are heavily dependent on each of thesefacilities, our operations would be adversely affected if we experience adisruption in business at any particular facility for a prolonged period oftime because we would not have adequate substitute facilities available to us.

 

**Ouroperations may subject us to liabilities for environmental matters, the costsof which could be material**

 

Our manufacturingoperations involve the use, handling, storage, treatment and disposal ofmaterials and waste products that may be toxic or hazardous. Consequently, weare subject to numerous federal, state and local environmental laws andregulations, specifically those relating to discharges to air, water and land,the handling and disposal of solid and hazardous waste, and the cleanup ofproperties contaminated by hazardous substances. Many environmental laws imposestrict, retroactive, joint and several liability broadly upon owners andoperators of properties, including with respect to environmental matters thatoccurred prior to the time the party became an owner or operator. In addition,we may have liability with respect to third-party sites to which we sent wastesfor disposal in the past. Our potential liability at any of these sites isaffected by many factors including, but not limited to, the method of 

 

13

----

 

remediation, our portionof the hazardous substances at the site relative to that of other responsibleparties, the number of responsible parties, the financial capabilities of otherparties, and contractual rights and obligations.

 

We have obligations and liability with respect to the remediation ofcurrent and former properties and third-party waste disposal sites. Theliabilities and obligations in some cases are covered by indemnificationagreements and we have accrued liabilities for sites where the liability isprobable and can be estimated. We cannot guarantee the indemnitors willcontinue to fund the cleanup liability or that the actual costs of cleanup willnot exceed our present accruals. Furthermore, we may be required to fundadditional remedial programs in connection with other current, former or futurefacilities.

 

Future events, such as the discovery of additional contamination orother information concerning past releases of hazardous substances at ourmanufacturing sites (or at sites to which we sent wastes for disposal), changesin existing environmental laws or their interpretation, and more rigorousefforts by regulatory authorities, may require additional expenditures by us tomodify operations, install pollution control equipment, clean contaminatedsites or curtail our operations. These expenditures could have a materialnegative impact on our operations.

 

**We maynot be able to protect our proprietary information**

 

We rely in part onpatent, trade secret, unfair competition, trade dress and trademark laws toprotect our rights to aspects of our business and products, including productdesigns, proprietary manufacturing processes and technologies. The laws of manyforeign countries do not protect proprietary rights to the same extent as lawsin the United States. In addition, although we may have rights to a particulartrademark in a given country, we may not have similar rights to that trademarkin other countries.

 

**Changesin our effective tax rates could affect future results**

 

As an international Company, we are subject to taxation in the UnitedStates and various other foreign jurisdictions in which we do business. Some ofthese foreign jurisdictions have higher statutory rates than those in theUnited States, and certain of our international earnings are also taxable inthe United States. Accordingly, our effective tax rates will vary depending onthe relative proportion of foreign to U.S. income and absorption of foreign taxcredits, changes in the valuation of our deferred tax assets and liabilities,and changes in tax laws. In addition, we are subject to examination of ourincome tax returns by the U.S. Internal Revenue Service and other taxauthorities. We regularly assess the likelihood of adverse outcomes resultingfrom these examinations to determine the adequacy of our income tax reservesand expense. Should actual events or results differ from our currentexpectations, charges or credits to our income tax expense reserves and incometax expense may become necessary. Any such adjustments could have a significantimpact on our results of operations.

 

**Ourforeign operations are exposed to risks associated with foreign regulations,exchange rate fluctuations, trade restrictions and political, economic andsocial instability**

 

We manufacture, market and distribute our products worldwide. As aresult, we are subject to the risks normally associated with foreignoperations. For example, foreign regulations may limit our ability to produceand sell some of our products or repatriate profits to the United States. Inaddition, a foreign government may impose trade or foreign exchangerestrictions or increased tariffs, which could adversely affect our operations.Our operations may also be negatively impacted by political, economic andsocial instability in foreign countries in which we operate. We are also exposedto risks associated with foreign currency fluctuations. A strengthening of theU.S. dollar, the Japanese yen, the British pound, the Chinese yuan or the eurorelative to each other or other foreign currencies could have a negative impacton us. Although we sometimes engage in transactions to protect against risksassociated with foreign currency fluctuations, we cannot be sure that thesefluctuations will not have an adverse effect on us. Sales outside the UnitedStates accounted for approximately40% of our net sales in 2007.

 

14

----

 

**The requirements of complying with the Sarbanes-Oxley Act may strainour resources and distract management**

 

As a public company, we are subject to thereporting requirements of the Sarbanes-Oxley Act. Sarbanes-Oxley requires thatwe maintain effective disclosure controls and procedures, corporate governancestandards, and internal controls over financial reporting. Although we devotesignificant time and resources to ensure ongoing compliance with the reportingrequirements of Sarbanes-Oxley, we can give no assurance that we will continueto meet these requirements in the future or that reportable conditions ormaterial weakness in our internal controls and procedures may not arise despiteour best efforts to prevent them. While we have taken and continue to take allsteps necessary to comply with Sarbanes-Oxley, including maintaining effectiveinternal controls, our failure to meet the requirements of Sarbanes-Oxley couldnegatively impact our business, financial condition and results of operations.In addition, the effort to comply with these obligations may divert management’sattention from other business concerns.

 

**Messrs. Kirklandand Messina exercise significant control over us, which could adversely affectinvestors**

 

Mr. Kyle R. Kirkland, Chairman of the Board, and Mr. Dana D.Messina, Chief Executive Officer, hold in the aggregate 100% of our Class Acommon stock, representing approximately 85% of the voting power of our Company’scapital stock. So long as Messrs. Kirkland and Messina continue to hold amajority of the voting power, they will be able, acting together, to exercise acontrolling influence over our Company, including with respect to thecomposition of our board of directors and, through it, the direction andpolicies of the Company. We cannot assure that Messrs. Kirkland andMessina will not pursue other business interests that will conflict withinvestors’ interests.

 

**Item1B.  Unresolved Staff Comments**

 

None.

 

15

----

 

**Item2.  Properties**

 

We own most of our manufacturing and warehousingfacilities, as well as the building that includes Steinway Hall in New YorkCity. The remaining Steinway retail stores are leased. Substantially all of thedomestic real estate has been pledged to secure our debt.

 

Thefollowing table lists our significant owned and leased facilities:

** **
| **Location**               | ** ** | **Owned/  Leased** | ** ** | **Approximate  Floor Space  (Square Feet)** | ** ** | **Type of Facility and Activity Performed**                      |
|----------------------------|------------|--------------------|------------|---------------------------------------------|------------|------------------------------------------------------------------|
| Long  Island City, NY      |       | Owned              |       | 450,000                                     |       | Piano  manufacturing; restoration center; administrative offices |
| New  York, NY              |       | Owned              |       | 217,000                                     |       | Piano  retail store/showroom; office rental property             |
| Westport,  CT              |       | Leased             |       | 11,000                                      |       | Piano  retail store/showroom                                     |
| Coral  Gables, FL          |       | Leased             |       | 6,000                                       |       | Piano  retail store/showroom                                     |
| Paramus,  NJ               |       | Leased             |       | 4,000                                       |       | Piano  retail store/showroom                                     |
| Springfield,  OH           |       | Owned              |       | 110,000                                     |       | Piano  plate manufacturing                                       |
| Hamburg,  Germany          |       | Owned              |       | 221,000                                     |       | Piano  manufacturing; executive offices                          |
|                       |       | Leased             |       | 6,000                                       |       | Piano  retail store/showroom                                     |
| Munich,  Germany           |       | Leased             |       | 15,000                                      |       | Piano  retail store/showroom                                     |
| Berlin,  Germany           |       | Leased             |       | 7,000                                       |       | Piano  retail store/showroom/service workshop                    |
| Remscheid,  Germany        |       | Leased             |       | 25,000                                      |       | Piano  key manufacturing                                         |
| Wilkow,  Poland            |       | Owned              |       | 10,000                                      |       | Piano  key manufacturing                                         |
| Shanghai,  China           |       | Leased             |       | 22,000                                      |       | Piano  warehouse/showroom/workshop                               |
| London,  England           |       | Leased             |       | 10,000                                      |       | Piano  retail store/showroom                                     |
|                       |       | Leased             |       | 6,000                                       |       | Piano  workshop/storage                                          |
| Tokyo,  Japan              |       | Leased             |       | 9,000                                       |       | Piano  selection center; warehouse                               |
|                       |       | Leased             |       | 2,000                                       |       | Administrative  offices                                          |
| Eastlake,  OH              |       | Owned              |       | 160,000                                     |       | Brass  instrument manufacturing                                  |
| Elkhart,  IN               |       | Owned              |       | 150,000                                     |       | Brass  instrument manufacturing                                  |
|                       |       | Owned              |       | 88,000                                      |       | Woodwind  manufacturing; warehouse; office                       |
|                       |       | Owned              |       | 81,000                                      |       | Warehouse                                                        |
|                       |       | Owned              |       | 25,000                                      |       | Administrative  offices                                          |
| Elkhorn,  WI               |       | Owned              |       | 58,000                                      |       | Brass  instrument manufacturing                                  |
| Kenosha,  WI               |       | Owned              |       | 95,000                                      |       | Woodwind  manufacturing; warehouse (to be closed 2008)           |
| LaGrange,  IL              |       | Owned              |       | 35,000                                      |       | Percussion  instrument manufacturing                             |
| Monroe,  NC                |       | Leased             |       | 154,000                                     |       | Drum  and case manufacturing                                     |
| Cleveland,  OH             |       | Leased             |       | 62,000                                      |       | String  instrument manufacturing                                 |
| London,  England           |       | Leased             |       | 8,000                                       |       | Band  instrument office; warehouse                               |
| LaCouture  Boussey, France |       | Owned              |       | 32,000                                      |       | Woodwind  manufacturing                                          |

 

We spent $5.0 million for capital improvements in 2007 consistingprimarily of software and computer system implementations and upgrades,machinery and production equipment, and plant and facility improvements. Weexpect capital spending in 2008 to be in the range of $5.0 to $7.0 million,relating to similar items.

 

16

----

 

**Item 3.  Legal Proceedings**

 

**General**

 

Weare involved in certain legal proceedings regarding environmental matters,which are described below. Further, in the ordinary course of business, we areparty to various legal actions that management believes are routine in natureand incidental to the operation of the business. While the outcome of suchactions cannot be predicted with certainty, we believe that, based on ourexperience in dealing with these matters, their ultimate resolution will nothave a material adverse impact on our business, financial condition or resultsof operations or prospects.

 

**Environmental Matters**

 

We are required to comply with various federal, state, local andforeign environmental laws, including those relating to discharges to air,water and land, the handling and disposal of solid and hazardous waste and thecleanup of properties contaminated by hazardous substances, includingchlorinated solvents. Our operations are subject to environmental laws andregulations that require us to obtain and maintain permits from regulatoryauthorities. Non-compliance with environmental laws and regulations or thepermits we have been issued could give rise to significant fines, penalties andother costs. We currently do not expect to incur material expenditures relatingto environmental compliance in 2008.

 

Certain environmental laws, such as the Comprehensive EnvironmentalResponse, Compensation, and Liability Act, as amended (“CERCLA”), imposestrict, retroactive, joint and several liability upon persons responsible forreleases of hazardous substances, which liability is broadly construed. UnderCERCLA and other laws, we may have liability for investigation and cleanupcosts and other damages relating to our current or former properties, orthird-party sites to which we sent wastes for disposal. Our potential liabilityat any of these sites is affected by many factors including, but not limitedto, the method of remediation, our portion of the hazardous substances at thesite relative to that of other parties, the number of responsible parties, thefinancial capabilities of other parties, and contractual rights andobligations.

 

In this regard, we operate certain manufacturing facilities which werepreviously owned by Philips Electronics North America Corporation (“Philips”).When we purchased these facilities, Philips agreed to indemnify us for certainenvironmental matters resulting from activities of Philips occurring prior to December 29,1988 (the “Environmental Indemnity Agreement”). To date, Philips has fullyperformed its obligations under the Environmental Indemnity Agreement, whichterminates on December 29, 2008; however, we cannot assure investors thatit will continue to do so in the future. Four matters covered by theEnvironmental Indemnity Agreement are currently pending. Philips has enteredinto Consent Orders with the Environmental Protection Agency (“EPA”) for onesite and the North Carolina Department of Environment, Health and NaturalResources for a second site, whereby Philips has agreed to pay requiredresponse costs. On October 22, 1998, we were joined as defendant in anaction involving a third site formerly occupied by a business we acquired inIllinois. Philips has accepted the defense of this action pursuant to the termsof the Environmental Indemnity Agreement. At the fourth site, which is athird-party waste disposal site, four Conn-Selmer predecessor entities areamong the potentially responsible parties (“PRP”) group. The PRP group hasrecently entered into a Consent Order with the EPA, the site owners, and thelargest contributor. For two of the Conn-Selmer predecessor entities, whichwere previously owned by Philips, this matter was tendered to Philips pursuantto the Environmental Indemnity Agreement. Philips is a party to the ConsentOrder and has paid its share of the liability. The four Conn-Selmer predecessorentities paid approximately $0.1 million in 2006 and settled this claim exceptfor the possibility of a contingent remedial action, should any additionalenvironmental issues be discovered. We 

 

17

----

 

believethe likelihood of a contingency assessment to be remote and, our share of theliability, if any, would not be material.

 

In addition, we are continuing an existingenvironmental remediation plan at a facility we acquired in 2000. We estimateour costs, which approximate $0.8 million, over a 13-year period. We haveaccrued approximately $0.6 million for the estimated remaining cost of thisremediation program, which represents the present value total cost using adiscount rate of 4.54%. A summary of expected payments associated with thisproject is as follows:

 
| ** ** | ** ** | **Environmental  Payments** | ** ** |
|------------|------------|-----------------------------|------------|
| 2008       |       | $                           | 61         |   |
| 2009       |       | 61                          |       |
| 2010       |       | 61                          |       |
| 2011       |       | 61                          |       |
| 2012       |       | 61                          |       |
| Thereafter |       | 484                         |       |
| Total      |       | $                           | 789        |   |

 

In 2004, we acquired two manufacturing facilities from G. LeblancCorporation, now Grenadilla, Inc. (“Grenadilla”), for which environmentalremediation plans had already been established. In connection with theacquisition, we assumed the existing accrued liability of approximately $0.8million for the cost of these remediation activities. Based on a review of pastand ongoing investigatory and remedial work by our environmental consultants,and discussions with state regulatory officials, as well as recent sampling, weestimate the remaining costs of such remedial plans to be $2.1 million.Pursuant to the purchase and sale agreement, we have sought indemnificationfrom Grenadilla for anticipated costs above the original estimate in the amountof $2.5 million. We filed a claim against the escrow and recorded acorresponding receivable for this amount in prepaid expenses and other currentassets in our consolidated balance sheet. In 2007, we reduced this receivableto $2.1 million based on the current estimated costs of remediation. We havereached an agreement with Grenadilla whereby environmental costs are paiddirectly out of the escrow. Should the escrow be reduced to zero, we would seekindemnification from Grenadilla for these additional costs. However, we cannotbe assured that we will be able to recover such costs.

 

Based on our past experience and currently available information, thematters described above and our other liabilities and compliance costs arisingunder environmental laws are not expected to have a material impact on ourcapital expenditures, earnings or competitive position in an individual year.However, some risk of environmental liability is inherent in the nature of ourcurrent and former business and we may, in the future, incur material costs tomeet current or more stringent compliance, cleanup, or other obligationspursuant to environmental laws.

 

**Item 4.  Submission ofMatters to a Vote of Security Holders**

 

No matters were submitted to a vote of our securityholders during the fourth quarter of the year ended December 31, 2007.

 

18

----

 

**PART II**

 

### **Item 5.  Markets for Registrant’s Common Equity,Related Stockholder Matters and Issuer Purchases of Equity Securities**

### ** **

Our Ordinary common stock is traded on the New YorkStock Exchange (“NYSE”) under the “LVB” symbol. On May 23, 2007, wesubmitted an unqualified certification to the NYSE regarding our compliancewith NYSE corporate governance listing standards as of the date ofcertification. The following table sets forth, for the periods indicated, thehigh and low share prices of our Ordinary common stock as reported on the NYSE.

 
| **Year Ended December 31, 2007** | ** ** | **High** | ** ** | **Low** | ** ** |
|------------------------------------------------------|------------|----------|------------|---------|------------|
| First Quarter                                        |       | $        | 36.85      |    | $          | 29.99 |   |
| Second Quarter                                       |       | 39.23    |       | 31.22   |       |
| Third Quarter                                        |       | 36.51    |       | 28.83   |       |
| Fourth Quarter                                       |       | 31.95    |       | 26.95   |       |
|                                                      |            |          |            |         |            |  |  |

 
| **Year Ended December 31,  2006** | ** ** | **High** | ** ** | **Low** | ** ** |
|----------------------------------------|------------|----------|------------|---------|------------|
| First Quarter                          |       | $        | 34.90      |    | $          | 25.45 |   |
| Second Quarter                         |       | 33.50    |       | 23.71   |       |
| Third Quarter                          |       | 29.18    |       | 22.50   |       |
| Fourth Quarter                         |       | 32.50    |       | 26.86   |       |
|                                        |            |          |            |         |            |  |  |

 

We have two classes of common stock: Class Aand Ordinary. With the exception of disparate voting power, both classes aresubstantially identical. Each share of Class A common stock entitles theholder to 98 votes. Holders of Ordinary common stock are entitled to one voteper share. Class A common stock shall automatically convert to Ordinarycommon stock if, at any time, the Class A common stock is not owned by anoriginal Class A holder.

 

**Holders of Record**– As of March 11,2008, there were 2,686 beneficial shareholders of our Ordinary common stock andtwo holders of record of the Class A common stock.

 

**Dividends**– Prior to 2006, we were restrictedby the terms of our domestic credit facility and indenture relating to our8.75% Senior Notes from paying cash dividends on our common stock. During 2006we restructured our debt agreements. Under our new domestic credit facilityagreement, and our 7.00% Senior Note indenture, we are permitted, withincertain limitations, to pay cash dividends on our common stock.

 

On February 13, 2007, we declared a dividend of $3.00 per sharefor shareholders of record as of February 23, 2007. This dividend payment,which amounted to $25.2 million, was paid on March 7, 2007. Although thelimits under our debt agreements increase as our earnings increase over time,we do not anticipate paying additional cash dividends on our common stock inthe foreseeable future.

 

The payment of any future dividends will bedetermined by the Board of Directors in light of conditions then existing,including our results of operations, financial condition, cash requirements,limitations or restrictions in financing agreements, tax treatment ofdividends, business conditions and other factors.

 

**PerformanceGraph****– The following line graph compares the yearly percentage change in ourcumulative total shareholder return on our Ordinary common stock for the periodfrom December 31, 2002 to December 31, 2007, to the cumulative totalreturn for the Russell 2000 Stock Index (“Russell 

 

19

----

 

2000”) and the cumulativetotal return for a peer group (“Peer Group”) consisting of La-Z-Boy, Inc.,Harley-Davidson, Inc., Callaway Golf Company, and Fleetwood Enterprises.Guitar Center, Inc., which was previously in the Peer Group, was replacedby La-Z-Boy, Inc. due to its acquisition by a private company.

 

The Peer Group was selected by managementbased on the status of each as a manufacturer and/or distributor of consumergoods in the luxury, leisure, furniture, or musical instrument categories. Theperformance graph assumes a $100 investment on December 31, 2002 in eachof our Ordinary common stock, the Russell 2000, and the common stock of thePeer Group. Steinway Musical Instruments, Inc. is included in the Russell2000. Total shareholder return for Steinway Musical Instruments, Inc., aswell as the Russell 2000 and the Peer Group, is based on the cumulative amountof dividends for a period (assuming dividend reinvestment) and the differencebetween the share price at the beginning and at the end of the period.

 
| ** **                               | ** ** | **December 31,** | ** ** |
|------------------------------------------|------------|-----------------------|------------|
| ** **                               | ** ** | **2002**              | ** ** | **2003** | ** ** | **2004** | ** ** | **2005** | ** ** | **2006** | ** ** | **2007** | ** ** |
| Steinway Musical  Instruments, Inc. |       | $                     | 100.00     |   | $ | 151.81 |   | $ | 177.87 |   | $ | 156.79 |   | $ | 190.84 |   | $ | 187.89 |   |
| Russell 2000                             |       | $                     | 100.00     |   | $ | 150.33 |   | $ | 170.08 |   | $ | 175.73 |   | $ | 205.61 |   | $ | 199.96 |   |
| Old Peer Group                           |       | $                     | 100.00     |   | $ | 128.49 |   | $ | 168.24 |   | $ | 153.34 |   | $ | 166.16 |   | $ | — |   |
| New Peer Group                           |       | $                     | 100.00     |   | $ | 105.71 |   | $ | 114.12 |   | $ | 101.43 |   | $ | 116.33 |   | $ | 87.50 |   |

 

 

### **Issuer Purchases ofEquity Securities****–**There was no common stock repurchasedor sales of unregistered securities for the fourth quarter ended December 31,2007.

 

20

----

 

### **Equity Compensation Plans**

### ** **

Thefollowing table sets forth the equity compensation plan information for ourEmployee Stock Purchase Plans and our Stock Plans, which are described in Note12:

 

| ** **                                               | ** ** | **Number of  securities to be  issued upon  exercise of  outstanding  options, warrants  and rights** | ** ** | **Weighted-average  exercise price of  outstanding  options, warrants  and rights** | ** ** | **Number of securities  remaining available  for future issuance  under equity  compensation plans  (excluding securities  reflected in column  (a))** | ** ** |
|----------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
| **Plan Category**                                   | ** ** | **(a)**                                                                                                                                  | ** ** | **(b)**                                                                                                 | ** ** | **(c)**                                                                                                                                                                                                  | ** ** |
|                                                     |       |                                                                                                                                     |       |                                                                                                    |       |                                                                                                                                                                                                     |       |
| Equity  compensation plans approved by security holders: |       |                                                                                                                                     |       |                                                                                                    |       |                                                                                                                                                                                                     |       |
|                                                     |       |                                                                                                                                     |       |                                                                                                    |       |                                                                                                                                                                                                     |       |
| 1996 Stock Plan                                          |       | 417,876                                                                                                                                  |       | $                                                                                                       | 21.16      |                                                                                                                                                                                                     | —     |   |
| 2006 Stock Plan                                          |       | 126,700                                                                                                                                  |       | $                                                                                                       | 32.44      |                                                                                                                                                                                                     | 873,300    |   |
| 2006 Purchase  Plan                                      |       | 10,441                                                                                                                                   |       | $                                                                                                       | 28.73      |                                                                                                                                                                                                     | 363,307    |   |
|                                                     |       |                                                                                                                                     |       |                                                                                                    |       |                                                                                                                                                                                                     |       |
| Total                                                    |       | 555,017                                                                                                                                  |       | $                                                                                                       | 23.88      |                                                                                                                                                                                                     | 1,236,607  |   |

 

21

----

 

**Item 6.****   ****Selected Financial Data**

 

The following table sets forth our selectedconsolidated financial data as of and for each of the five years in the periodended December 31, 2007, as derived from our audited financial statements.The table should be read in conjunction with our Consolidated FinancialStatements, including the footnotes, and “Management’s Discussion and Analysisof Financial Condition and Results of Operations” included elsewhere in thisreport, as well as previously filed Annual Reports on Form 10-K.

 

(In thousands exceptshare and per share data)

 
| **Years Ended December  31,** | ** ** | **2007**  | ** ** | **2006 (1)** | ** ** | **2005**  | ** ** | **2004 (2)** | ** ** | **2003 (3)** | ** ** |
|---------------------------------------------------|------------|-----------|------------|-------------------|------------|-----------|------------|-------------------|------------|-------------------|------------|
| **Income  statement data:**                       |       |      |       |              |       |      |       |              |       |              |       |
| Net sales                                         |       | $         | 406,314    |              | $          | 384,620   |       | $                 | 387,143    |              | $          | 375,034 |   | $ | 337,220 |   |
| Gross profit                                      |       | 123,486   |       | 107,407           |       | 111,534   |       | 109,133           |       | 92,553            |       |
| Income from  operations                           |       | 35,202    |       | 18,378            |       | 34,837    |       | 34,241            |       | 22,824            |       |
| Net income  (loss)                                |       | 15,410    |       | (668              | )          | 13,792    |       | 15,867            |       | 9,698             |       |
| Earnings (loss)  per share                        |       |      |       |              |       |      |       |              |       |              |       |
| Basic                                             |       | $         | 1.81       |              | $          | (0.08     | )          | $                 | 1.71       |              | $          | 1.97 |   | $ | 1.09 |   |
| Diluted                                           |       | $         | 1.78       |              | $          | (0.08     | )          | $                 | 1.67       |              | $          | 1.91 |   | $ | 1.09 |   |
|                                              |       |      |       |              |       |      |       |              |       |              |       |
| **Weighted  average shares:**                     |       |      |       |              |       |      |       |              |       |              |       |
| Basic                                             |       | 8,521,700 |       | 8,303,770         |       | 8,069,721 |       | 8,046,256         |       | 8,924,578         |       |
| Diluted                                           |       | 8,647,300 |       | 8,303,770         |       | 8,265,234 |       | 8,304,066         |       | 8,925,672         |       |
|                                              |       |      |       |              |       |      |       |              |       |              |       |
| **Balance  sheet data (at December 31):**    |       |      |       |              |       |      |       |              |       |              |       |
| Cash                                              |       | $         | 37,304     |              | $          | 30,409    |       | $                 | 34,952     |              | $          | 27,372 |   | $ | 42,283 |   |
| Current assets                                    |       | 285,729   |       | 282,678           |       | 295,731   |       | 308,761           |       | 288,270           |       |
| Total assets                                      |       | 457,678   |       | 447,175           |       | 455,655   |       | 477,545           |       | 445,665           |       |
| Current  liabilities                              |       | 66,986    |       | 66,048            |       | 71,881    |       | 72,893            |       | 61,304            |       |
| Total debt                                        |       | 176,266   |       | 178,411           |       | 204,692   |       | 221,208           |       | 196,602           |       |
| Stockholders’  equity                        |       | 163,779   |       | 158,001           |       | 148,830   |       | 145,553           |       | 152,635           |       |
|                                              |       |      |       |              |       |      |       |              |       |              |       |
| **Other  financial data:**                        |       |      |       |              |       |      |       |              |       |              |       |
| Capital  expenditures                             |       | $         | 4,967      |              | $          | 5,549     |       | $                 | 5,004      |              | $          | 5,186 |   | $ | 5,462 |   |
| Cash dividends  declared per common share         |       | $         | 3.00       |              | $          | —    |       | $                 | —     |              | $          | — |   | $ | — |   |
|                                              |       |      |       |              |       |      |       |              |       |              |       |
| **Margins:**                                      |       |      |       |              |       |      |       |              |       |              |       |
| Gross profit                                      |       | 30.4%     |       | 27.9%             |       | 28.8%     |       | 29.1%             |       | 27.4%             |       |
| Operating                                         |       | 8.7%      |       | 4.8%              |       | 9.0%      |       | 9.1%              |       | 6.8%              |       |

 

----

(1)          In 2006, our results were adversely affectedby a significant increase in our provision for doubtful accounts, whichresulted from the bankruptcy filings of two large band division customers; theloss on extinguishment of debt of $9.7 million; and the strike at our Elkhart,Indiana brass instrument manufacturing facility. These items are described morefully in “Item 7. Management’s Discussion and Analysis of Financial Conditionand Results of Operations.”

 

(2)          In 2004, our results were positively impactedby the acquisition of Leblanc. This acquisition is described more fully in ourAnnual Report on Form 10-K for the period ended December 31, 2004.

 

(3)          In 2003, our results were adversely affectedby strikes at two of our band segment plants which resulted in lower sales and$1.3 million in unabsorbed overhead and lost profit; facility rationalizationcharges of $5.9 million, comprised of $1.7 million in severance costs, $1.2million in inventory write-down charges, $3.0 million in asset impairmentcharges; and $1.9 million in payments associated withexpired labor contracts. These events are described more fully in ourAnnual Report on Form 10-K for the period ended December 31, 2003.

 

22

----

 

**Item 7.****   ****Management’s Discussion and Analysis of Financial Condition and Resultsof Operations  (Tabular Amounts inThousands)**

 

**Introduction**

 

The following discussion provides an assessment ofthe results of our operations and liquidity and capital resources together witha brief description of certain accounting policies. Accordingly, the followingdiscussion should be read in conjunction with our Consolidated FinancialStatements and the Notes to Consolidated Financial Statements included withinthis report.

 

**Overview**

 

We, through our operating subsidiaries, are one ofthe world’s leading manufacturers of musical instruments. Our strategy is tocapitalize on our strong brand names, leading market positions, strongdistribution networks, and quality products.

 

**Piano Segment –** Sales of our pianos are influenced by generaleconomic conditions, demographic trends and general interest in music and thearts. The operating results of our piano segment are primarily affected bySteinway & Sons grand piano sales. Given the total number of thesepianos that we sell in any year (2,994 sold in 2007), a slight change in unitssold can have a material impact on our business and operating results. Ourresults are also influenced by sales of Boston and Essex pianos, which togetherrepresented almost 70% of total piano units sold but just over 20% of totalpiano revenues in 2007. Our Boston piano line and many of our Essex pianomodels are sourced from Asia by single manufacturers. The ability of thesemanufacturers to produce and ship products to us could impact our business andoperating results. A breakdown of sales byour divisions and their geographic location can be found in Note 17 to thefinancial statements. In 2007, our piano sales had the followinggeographic breakdown based on customer location: approximately 47% in theUnited States, 31% in Europe, 7% in Japan, 5% in China, and the remaining 10%primarily in other Asian countries. For theyear ended December 31, 2007, our piano segment sales were $235.2 million,representing 58% of our total revenues.

 

### **Piano Outlook for 2008 –** Overall, we expect arelatively stable year for our piano segment with respect to sales and grossprofit. Similar to 2007, we anticipate a challenging market domestically, andsolid overseas results. However, the continued strengthening of the euro couldhave an adverse impact on international sales. We intend to focus on reducingexisting inventory levels, developing our distribution structure in China, andimplementing various manufacturing improvement initiatives in the upcomingyear. We currently have sufficient, but not excessive, manufacturing capacityto meet anticipated or increased demand.

### ** **

**Band Segment** –****Ourstudent band instrument sales are influenced by trends in school enrollment,general attitudes toward music and the arts, and our ability to providecompetitively priced products to our dealer network. Management estimates that80% of our domestic band sales are generated through educational programs; theremainder is to amateur or professional musicians or performing groups,including symphonies and orchestras.

 

Recently,our sales growth has been tempered by dealer consolidations in the marketplace.However, since industry data indicates that retail sales of band instrumentsremain strong, we expect orders to approach a more normal volume towards theend of 2008 as the dealers work through excess inventory.

 

With respect to sourced products, in recent years weexpanded our offerings to include quality, competitively priced instrumentsthat have our brand names and are built to our specifications. Our productofferings are tailored to the needs of traditional school music dealers whoprovide full-service rental programs to beginning band students, as well asmusic retailers and e-commerce dealers selling 

 

23

----

 

directlyto end consumers from their stores or through the Internet. We believe ourproduct offerings have helped us remain competitive at various price points andwill continue to do so in the future.

 

In 2007, beginner instruments accounted forapproximately 65% of band & orchestral unit shipments andapproximately 35% of band instrument revenues, with intermediate andprofessional instruments representing the balance. In 2007, approximately 76%of band sales were in the United States, 11% in Europe and the remaining 13%primarily in Japan and Canada.For the year ended December 31, 2007, ourband sales were $171.1 million, representing 42% of our total revenues.

 

**Band Outlook for 2008 –**We are entering 2008 with backorders for someproducts made at our Elkhart, Indiana brass instrument manufacturing facility,as well as certain sourced products. We expect to close our Kenosha, Wisconsinwoodwind manufacturing facility in mid-2008, and incorporate its manufacturingprocesses into our remaining woodwind facility. This will cause short-termdisruption in our Elkhart, Indiana woodwind plant and result in some margindeterioration as we will be unable to produce at maximum efficiency while newand existing employees are trained to manufacture these products. However, weexpect minimal disruption in availability of woodwind products during thistransition period. Barring any changes in our dealer network or orders in thecurrent year, we expect improved revenue and stable margins towards the end of2008.

 

**Inflation and Foreign Currency Impact –**Although we cannot accurately predict theprecise effect of inflation on our operations, we do not believe that inflationhas had a material effect on sales or results of operations in recent years.

 

Sales to customers outside the United States represented41% of consolidated sales in 2007. We record sales in euro, Japanese yen,British pounds, and Chinese yuan. In 2007, we generated 76% of ourinternational sales through our piano segment. Foreign exchange rate changesimpacted sales favorably by approximately $8.0 million in the current year.Although currency fluctuations affect international sales, they also affectcost of sales and related operating expenses. Consequently, they generally havenot had a material impact on operating income. We use financial instrumentssuch as forward exchange contracts and currency options to reduce the impact ofexchange rate fluctuations on firm and anticipated cash flow exposures andcertain assets and liabilities denominated in currencies other than the functionalcurrency of the affected division. We do not purchase currency-relatedfinancial instruments for purposes other than exchange rate risk management.

 

**Taxes –**We are subject to U.S. income taxes as well as tax in several foreignjurisdictions in which we do business. Some of these foreign jurisdictions havehigher statutory rates than the United States. In addition, certain of ouroperations are subject to both U.S. and foreign taxes. However, in such caseswe receive a credit against our U.S. taxes for foreign taxes paid equal to thepercentage that such foreign income (as adjusted for reallocated interest)represents of the total income subject to U.S. tax. Accordingly, our effectivetax rates will vary depending on the relative proportion of foreign to U.S.income and the absorption of foreign tax credits in the United States.

 

In 2005, we were unable to utilize approximately onethird of the foreign tax credits generated during the year, which we reservedat 50%, as the American Jobs Creation Act of 2004 extended the foreign taxcredit carryforward period. This, coupled with the income generated in higherrate jurisdictions such as Germany, resulted in a tax rate of 37.3% .

 

In 2006, we were unable to utilize any of theforeign tax credits generated in the current period as we incurred a loss fromoperations subject to U.S. tax due to our debt restructuring costs and thestrike at one of our brass instrument plants. Based on the extendedcarryforward period, the impact of an anticipated reduction in the German taxrates in 2008, and other tax planning strategies, we recognized the full 

 

24

----

 

benefitfor the excess foreign tax credits generated in the current year. The overalleffective tax rate of (75.3%) in 2006 differs from the statutory rate primarilydue to foreign taxes that are not creditable against U.S. taxes, permanentdifferences between book and tax income and expenses, and state taxes. Theoverall effective rate is also a function of the insignificant level of lossbefore income taxes, for which a small change in any amount results in a largepercentage change in effective tax rate.

 

In 2007, we recognized a benefit of approximately$0.3 million due to the reduction in German tax rates and were able to use amajority, but not all, of our foreign tax credits. We carried forward $1.7million of credits, and recognized the full benefit for the excess foreign taxcredits generated. However, our rate was adversely impacted by approximately$0.6 million of taxes, penalties, and interest associated with uncertain taxpositions. Accordingly, our overall effective tax rate was 39.5% in 2007.Excluding the impact of any addition to or resolution of uncertain taxpositions, we anticipate an overall effective tax rate of approximately 40% for2008.

 

**Resultsof Operations**

 

Fiscal Year 2007 Compared to Fiscal Year 2006

 
| ** **                         | ** ** | **For the years ended December 31,** | ** ** | ** ** | ** ** | **Change** | ** ** |
|------------------------------------|------------|---------------------------------------------------------------|------------|------------|------------|------------|------------|
| ** **                         | ** ** | **2007**                                                      | ** ** | ** ** | ** ** | **2006**   | ** ** | ** ** | ** ** | **$** | ** ** | **%** | ** ** |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Net sales                          |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Band                               |       | $                                                             | 171,124    |       |       |       | $          | 170,426 |   |   |   | 698 |   | 0.4 |   |
| Piano                              |       | 235,190                                                       |       |       |       | 214,194    |       |   |   | 20,996 |   | 9.8 |   |
| Total sales                        |       | 406,314                                                       |       |       |       | 384,620    |       |   |   | 21,694 |   | 5.6 |   |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Cost of sales                      |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Band                               |       | 136,870                                                       |       |       |       | 138,745    |       |   |   | (1,875 | ) | (1.4 | ) |
| Piano                              |       | 145,958                                                       |       |       |       | 138,468    |       |   |   | 7,490 |   | 5.4 |   |
| Total cost of  sales               |       | 282,828                                                       |       |       |       | 277,213    |       |   |   | 5,615 |   | 2.0 |   |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Gross profit                       |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Band                               |       | 34,254                                                        |       | 20.0       | %          | 31,681     |       | 18.6 | % | 2,573 |   | 8.1 |   |
| Piano                              |       | 89,232                                                        |       | 37.9       | %          | 75,726     |       | 35.4 | % | 13,506 |   | 17.8 |   |
| Total gross  profit                |       | 123,486                                                       |       |       |       | 107,407    |       |   |   | 16,079 |   | 15.0 |   |
|                               |       | 30.4%                                                         |       |       |       | 27.9%      |       |   |   |   |   |   |   |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Operating  expenses                |       | 85,842                                                        |       |       |       | 79,879     |       |   |   | 5,963 |   | 7.5 |   |
| Provision for  doubtful accounts   |       | 2,442                                                         |       |       |       | 9,150      |       |   |   | (6,708 | ) | (73.3 | ) |
| Total operating  expenses          |       | 88,284                                                        |       |       |       | 89,029     |       |   |   | (745 | ) | (0.8 | ) |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Income from  operations            |       | 35,202                                                        |       |       |       | 18,378     |       |   |   | 16,824 |   | 91.5 |   |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Other income,  net                 |       | (59                                                           | )          |       |       | (2,170     | )          |   |   | 2,111 |   | (97.3 | ) |
| Loss on  extinguishment of debt    |       | —                                                        |       |       |       | 9,674      |       |   |   | (9,674 | ) | (100.0 | ) |
| Net interest  expense              |       | 9,771                                                         |       |       |       | 11,255     |       |   |   | (1,484 | ) | (13.2 | ) |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Income (loss)  before income taxes |       | 25,490                                                        |       |       |       | (381       | )          |   |   | 25,871 |   | (6,790.3 | ) |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Income tax  provision              |       | 10,080                                                        |       | 39.5       | %          | 287        |       | (75.3 | )% | 9,793 |   | 3,412.2 |   |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Net income  (loss)                 |       | $                                                             | 15,410     |       |       |       | $          | (668 | ) |   |   | 16,078 |   | (2,406.9 | ) |

 

25

----

 

**Overview –**By the end of 2007 our band business recovered from the strike at ourElkhart, Indiana brass instrument manufacturing facility, as production ofintermediate and professional level instruments surpassed pre-strike levels.This beneficially impacted revenues and gross margins. However, the sales andmargin improvements were partially offset by reduced order volumes caused bydealer consolidations.

 

Despitea slight decrease in domestic piano revenues, our piano division sales improvedsignificantly due to the improved overseas demand for Steinways and there-launched Essex line of pianos. Piano margins improved, largely due to theincreased ratio of overseas product to domestic product sold, as our overseaspiano division typically earns higher margins.

 

**Net Sales –**Net salesincreased $21.7 million, virtually all of which is attributable to pianodivision performance. Despite the 11% decrease in overall band unit shipments,which was largely due to reduced demand for percussion and string instruments,band revenues increase slightly ($0.7 million) for the year. Sales ofintermediate and professional level brass instruments, which are higher pricedthan student level instruments, caused the revenue improvement. Total pianosales improved $21.0 million to $235.2 million in 2007. Domestic salesdeteriorated $1.3 million despite a 17% increase in mid-priced piano shipments,due to a 12% decrease in Steinway grand unit shipments. The increase inSteinway grand unit shipments of 9% and mid-priced piano line shipments of 84%overseas drove a revenue increase of $22.3 million, which includes $8.0 millionin foreign currency translation.

 

**Gross Profit –****Gross profitimproved $16.1 million due to improved sales and margins at both the piano andband divisions. Band gross profit was beneficially impacted by the Elkhart,Indiana brass instrument manufacturing facility’s improved production ofintermediate and professional level instruments, which exceeded pre-strikelevels by year end. This more than offset the impact of unabsorbed overhead andproduction variances due to reduced production levels at some of our plants, whichwe experienced due to dealer consolidations and reduced order volume.

 

Piano segment grossprofit increased $13.5 million primarily due to the improvement in sales. Grossmargins benefited from the ratio of overseas division product to domesticproduct sold, as the overseas divisions typically have higher margins.Domestically, margins improved from 30.5% to 34.5% due to sales of highermargin limited edition pianos and lower-than-anticipated physical inventoryadjustments.

 

**Operating Expenses –**Operating expensesdecreased $0.7 million compared to 2006. Our provision for doubtful accountsdecreased from $9.2 million to $2.4 million, but remained higher than normaldue to the at-risk receivables of two of our piano division dealers. (In 2006,provision for doubtful accounts was exceptionally high due to the bankruptcy oftwo large band division customers.) Sales and marketing expenses increased $2.8million in correlation with revenue. This was largely due to advertising andpromotional activities at our overseas divisions, as well as cost associatedwith the introduction of a limited edition piano by our domestic division.Administrative costs, including legal, overseas bonuses, recruiting andrelocation activities, and salaries increased $1.9 million. Other operatingexpenses increased $1.1 million, partially due to the $0.5 million reserverecorded against a $2.0 million escrowed deposit relating to a terminated assetpurchase agreement. We also recognized a $0.1 million write down of property associatedwith the pending closure of our Kenosha, Wisconsin woodwind instrumentmanufacturing plant.

 

**Non-operating Expenses –** Non-operating expenses decreased $9.0million largely due to the absence of $9.7 million in loss on extinguishment ofdebt, which we recorded in 2006 as a result of our Senior Note refinancing andrepayment of our term loans. Other income, net decreased $2.1 million due to$1.1 million in legal fees associated with the West 57th Streetbuilding, as well as a $0.9 million shift from foreign exchange gains toforeign exchange losses.

 

26

----

 

Net interest expense decreased $1.5 million comparedto 2006. The impact of the $0.9 million decrease in interest income, which wasdue to lower average cash balances, was more than offset by the $2.4 milliondecrease in interest expense as a result of our debt restructuring activitiesin the prior year.

 

**Resultsof Operations**

 

Fiscal Year 2006 Compared to Fiscal Year 2005

 
| ** **                         | ** ** | **For the years ended December 31,** | ** ** | ** ** | ** ** | **Change** | ** ** |
|------------------------------------|------------|---------------------------------------------------------------|------------|------------|------------|------------|------------|
| ** **                         | ** ** | **2006**                                                      | ** ** | ** ** | ** ** | **2005**   | ** ** | ** ** | ** ** | **$** | ** ** | **%** | ** ** |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Net sales                          |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Band                               |       | $                                                             | 170,426    |       |       |       | $          | 183,626 |   |   |   | (13,200 | ) | (7.2 | ) |
| Piano                              |       | 214,194                                                       |       |       |       | 203,517    |       |   |   | 10,677 |   | 5.2 |   |
| Total sales                        |       | 384,620                                                       |       |       |       | 387,143    |       |   |   | (2,523 | ) | (0.7 | ) |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Cost of sales                      |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Band                               |       | 138,745                                                       |       |       |       | 146,168    |       |   |   | (7,423 | ) | (5.1 | ) |
| Piano                              |       | 138,468                                                       |       |       |       | 129,441    |       |   |   | 9,027 |   | 7.0 |   |
| Total cost of  sales               |       | 277,213                                                       |       |       |       | 275,609    |       |   |   | 1,604 |   | 0.6 |   |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Gross profit                       |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Band                               |       | 31,681                                                        |       | 18.6       | %          | 37,458     |       | 20.4 | % | (5,777 | ) | (15.4 | ) |
| Piano                              |       | 75,726                                                        |       | 35.4       | %          | 74,076     |       | 36.4 | % | 1,650 |   | 2.2 |   |
| Total gross  profit                |       | 107,407                                                       |       |       |       | 111,534    |       |   |   | (4,127 | ) | (3.7 | ) |
|                               |       | 27.9%                                                         |       |       |       | 28.8%      |       |   |   |   |   |   |   |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Operating  expenses                |       | 79,879                                                        |       |       |       | 76,273     |       |   |   | 3,606 |   | 4.7 |   |
| Provision for  doubtful accounts   |       | 9,150                                                         |       |       |       | 424        |       |   |   | 8,726 |   | 2,058.0 |   |
| Total operating  expenses          |       | 89,029                                                        |       |       |       | 76,697     |       |   |   | 12,332 |   | 16.1 |   |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Income from  operations            |       | 18,378                                                        |       |       |       | 34,837     |       |   |   | (16,459 | ) | (47.2 | ) |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Other income,  net                 |       | (2,170                                                        | )          |       |       | (1,338     | )          |   |   | (832 | ) | 62.2 |   |
| Loss on  extinguishment of debt    |       | 9,674                                                         |       |       |       | 538        |       |   |   | 9,136 |   | 1,698.1 |   |
| Net interest  expense              |       | 11,255                                                        |       |       |       | 13,645     |       |   |   | (2,390 | ) | (17.5 | ) |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| (Loss) income  before income taxes |       | (381                                                          | )          |       |       | 21,992     |       |   |   | (22,373 | ) | (101.7 | ) |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Income tax  provision              |       | 287                                                           |       | (75.3      | %)         | 8,200      |       | 37.3 | % | (7,913 | ) | (96.5 | ) |
|                               |       |                                                          |       |       |       |       |       |   |   |   |   |   |   |
| Net (loss)  income                 |       | $                                                             | (668       | )          |       |       | $          | 13,792 |   |   |   | (14,460 | ) | (104.8 | ) |

 

**Overview –**In 2006 our band business suffered due to the strike at our Elkhart,Indiana brass instrument plant, which has been ongoing since April 1,2006, and the bankruptcy filings of two large customers. Although productionlevels at most of our other facilities were either stable or improved, theseevents caused both band division sales and gross margins to deteriorate in thecurrent year.

 

Ourpiano division sales improved marginally in the United States, and moresignificantly abroad, as customers reacted favorably to our Essex productre-launch. Piano margins declined slightly due to reduced production at ourdomestic manufacturing facility in the first half of the year.

 

27

----

 

**Net Sales –**Net salesdecreased $2.5 million due to an estimated $19.3 million in lower brassinstrument sales caused by the strike which began April 1st atone of our Elkhart, Indiana manufacturing facilities. Overall band unitshipments remained stable as a 6% decrease in band units was offset byincreases in string and percussion unit shipments. Total piano sales improved$10.7 million to $214.2 million in 2006. Domestic sales increased $2.4 million,despite lower Steinway grand unit shipments, due to the increase in total pianounit shipments of 10%, which was largely attributable to our Essex productre-launch mid-year. Overseas, revenues increased $8.3 million, including $1.2million attributable to foreign currency translation. This resulted fromimproved demand for all product lines in both Europe and Asia.

 

**Gross Profit –****Gross profitdecreased $4.1 million due to band division results for the period. We estimatelost gross profit of $6.5 million on the lost brass instrument sales mentionedabove. Band gross profit was also adversely impacted by $3.9 million ofunabsorbed overhead at the Elkhart, Indiana brass instrument manufacturingplant, approximately half of which was incurred in the second and thirdquarters and resulted from the lack of production due to the strike. Theremainder was incurred in the fourth quarter and was due to productioninefficiencies as we trained replacement workers at that location. Band marginswere less affected by atypical charges in the current period. These coststotaled $0.1 million in 2006, compared to $1.6 million in 2005, and arose fromthe sell through of purchased Leblanc inventory, which was written up to fairvalue upon acquisition. Improved production at other facilities, such as theElkhart, Indiana woodwind manufacturing facility, helped mitigate the margindeterioration caused by the strike.

 

Piano segment grossprofit increased $1.7 million due to the increase in piano division sales.However, margins deteriorated slightly from 36.4% to 35.4% primarily due tothree weeks of additional plant shutdown at our domestic manufacturingfacility, which were taken to control inventory levels.

 

**Operating Expenses –**Operating expensesincreased $12.3 million, mostly due to the $8.7 million increase in theprovision for doubtful accounts, which increased due to bankruptcy filings oftwo large band division customers in July and November 2006. Theremaining increase in operating expenses resulted from band division recruitingand personnel relocation activities of $0.5 million and legal costs of $0.7million, a large portion of which is attributable to the strike. An increase inbonuses of $0.5 million for the overseas piano divisions and an increase inpromotion and sales costs associated with our Essex re-launch of $0.5 millionaccounted for most of the remaining increase.

 

**Non-operating Expenses –** Non-operating expenses increased $5.9million in 2006 due to the loss on extinguishment of debt of $9.7 millionresulting from the refinancing of our 8.75% Senior Notes and the earlyrepayment of our acquisition term loan. This net loss was comprised of premiumspaid to bondholders of $7.7 million, the write-off of term loan relateddeferred financing fees of $1.0 million, and the write-off of bond relateddeferred financing fees of $2.2 million, which were offset in part by the write-offof bond premium of $1.3 million. We incurred $0.5 million in loss onextinguishment of debt in the prior year period resulting from the repurchaseof $8.2 million of our 8.75% Senior Notes and the write-off of the associateddeferred financing fees.

 

Other income, net improved $0.8 million due to ashift of $0.7 million from foreign exchange losses to foreign exchange gainsduring the period. Net interest expense decreased $2.4 million as a result of$1.2 million increase in interest income, which resulted from interest earnedon our higher average cash balance at higher rates during the current period.Lower interest expense of $1.2 million due to our debt refinancing and lowerborrowings on our credit facilities also contributed to the net interest expensedecrease.

 

28

----

 

***Liquidity andCapital Resources***

* *

We have relied primarily upon cash provided byoperations, supplemented as necessary by seasonal borrowings under our domesticworking capital line, to finance our operations, repay or repurchase long-termindebtedness, finance acquisitions, and fund our capital expenditures. Ouroverseas divisions, particularly in Asia, are normally in a borrowing positionon their lines. These borrowings are likely to be less than $10.0 million atany given time. In 2005 our domestic borrowings peaked at approximately $11.0million due to seasonal borrowings. In 2006, our domestic borrowings reached$13.9 million, due to the repayment of our term loan in September. In 2007, domesticborrowings peaked at $28.9 million, due to the dividend we issued in March 2007,coupled with seasonal borrowings and the semi-annual interest payment on ourbonds.

 

**Cash Flows –**Our statements of cash flows are summarized as follows:

 
| **For the years ended December 31,**                              | ** ** | **2007**   | ** ** | **2006**   | ** ** | **2005**   | ** ** |
|--------------------------------------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|
| ** **                                                                                 | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net income  (loss):                                                                        |       | $          | 15,410     |       | $          | (668       | )          | $ | 13,792 |   |
| Changes in  operating assets and liabilities                                               |       | 8,297      |       | 8,607      |       | 6,324      |       |
| Other  adjustments to reconcile net income (loss) to cash flows from operating  activities |       | 10,358     |       | 21,281     |       | 11,313     |       |
| Cash flows from  operating activities                                                      |       | 34,065     |       | 29,220     |       | 31,429     |       |
|                                                                                       |       |       |       |       |       |       |       |
| Cash flows from  investing activities                                                      |       | (4,760     | )          | (3,798     | )          | (5,756     | )          |
|                                                                                       |       |       |       |       |       |       |       |
| Cash flows from  financing activities                                                      |       | (23,217    | )          | (31,978    | )          | (15,860    | )          |
|                                                                                            |            |            |            |            |            |            |            |  |  |  |

 

In 2007, cash flows from operating activitiesincreased $4.8 million due to the $16.1 million shift from net loss to netincome. This more than offset the decrease in non-cash adjustments which areadded back to cash flows from operating activities. These adjustments wereabnormally high in the prior year due to the large provision for doubtfulaccounts and the loss on extinguishment of debt. Cash provided by inventorydecreased $2.9 million, as we continue to carry excess inventory at ourdomestic piano division.

 

In2006, cash flows from operating activities, which decreased $2.2 million, wereimpacted by many factors. While the decrease in net income was the largestfactor, that amount included many expense items which are added back inadjustments to cash flows from operating activities. Cash provided by inventoryincreased $2.2 million due to increased piano sales combined with reducedproduction at our Elkhart brass instrument facility. Cash used by accountsreceivable increased $5.8 million due to increased sales and extended paymentterms offered as part of the Essex re-launch promotional activities and anincrease in our band division aged receivable balance.

 

Cashflows from operating activities were also impacted by the $1.4 million purchaseof securities (which are classified as trading) for our supplemental executiveretirement plan (“SERP”). This purchase was funded by the sale of existing SERPsecurities and is described below. We realized gains of $0.2 million on thesale of these securities. Realized gains on the newly purchased securities wereless than $0.1 million for the year ended December 31, 2006.

 

In2005, cash flows from operating activities increased $7.6 million despite theincrease in cash used for accounts payable of $1.9 million. This improvementwas largely due to the increase in cash provided by inventory and receivables of $8.7 million,which resulted from improved management of work-in-process inventory andreceivables collections at our band division.

 

29

----

 

In 2007, cash used for investing activitiesincreased $1.0 million, largely due to the absence of securities sales whichoccurred in the prior year. In 2006 the use of cash for investing activitiesdecreased $2.0 million as we sold all of the securities in our SERP, which wereclassified as available-for-sale securities, recognizing $1.4 million in grossproceeds in the period. The remainder of the decrease was due to the absence ofacquisition activity in the period, as compared to $2.2 million in 2005. In2005, cash used for acquisitions was limited to the $2.2 million final purchaseprice adjustment for Leblanc. Capital expenditures were $5.0 million in 2007,$5.5 million in 2006, and $5.0 million in 2005. (See Capital Expendituresdiscussion below.)

 

Despite the $25.2 million dividend payment and $0.9million less in proceeds from issuance of stock, cash used for financing activitiesin 2007 decreased $8.8 million because we did not have any debt restructuringactivities, as in the prior year. In 2006, cash used for financing activitiesincreased $16.1 million due largely to our debt restructuring activities. Werefinanced our bonds, which generated proceeds of $173.7 million, offset by theextinguishment of $166.2 million of our 8.75% Senior Note debt, and therepayment of our acquisition and real estate term loans. Although we hadadditional proceeds from the issuance of stock of $3.3 million, premiums paidon the extinguishment of debt of $7.7 million and costs related to the bond anddomestic credit facility refinancing of $4.6 million caused the increased useof cash in the period. In 2005, cash flows from financing activities decreased$16.9 million due in part to the $4.0 million decrease in proceeds fromissuance of stock. In addition, we repaid approximately $1.5 million on ourline borrowings in that year, whereas borrowings provided cash of $2.9 millionin the prior year. Lastly, in December 2005, we repurchased $8.2 millionof our own 8.75% Senior Notes at 105% of face value, which resulted in a use ofcash of $8.6 million.

 

**Capital Expenditures –**Our capitalexpenditures consist primarily of softwareand computer system conversions and upgrades, machinery and productionequipment, and plant and facility improvements. We expect capital spending in2008 to be in the range of $5.0 to $7.0 million, relating to similar items.

 

**Seasonality –**Consistent with industry practice, we sell band instruments almostentirely on credit utilizing the two financing programs described below. Due tothese programs, we have large working capital requirements during certain timesof the year when band instrument receivable balances reach highs ofapproximately $65 to $70 million in August and September, and lesserrequirements when they are at lows of approximately $55 to $60 million in January andFebruary. The financing options, intended to assist dealers with theseasonality inherent in the industry and facilitate the rent-to-own programsoffered to students by many retailers, also allow us to match our productionand delivery schedules. The following forms of financing are offered toqualified band instrument dealers:

 

a)              **Receivabledating****–** Payments on purchases made from October throughAugust of the following year are due in October. Dealers are offereddiscounts for early payment.

 

b)**            ****Notereceivable financing****–** Dealersthat meet certain credit qualifications may convert open accounts to a notepayable to us. The note program is offered primarily in October andcoincides with the receivable dating program. The terms of the notes generallyinclude payment over a nine to twelve month period with interest ranging from 11.25%to 13.25% (generally 4% to 5% over prime). Interest rates are contingent uponcredit ratings and borrowing periods. In certain situations,  we have offered long-term arrangements for upto thirty six months. In most instances, the note receivable is secured bydealer inventories and receivables.

 

**Off Balance Sheet Arrangements –**We generally do not provide extendedfinancing arrangements to our piano dealers. To facilitate long-term financingrequired by some dealers, we have arranged financing through third-partyproviders. We generally provide no guarantees with respect to thesearrangements.

 

30

----

 

**Retail Financing Obligations** – Certain ofour retail sales overseas were financed by our customers through a local bankunder an arrangement that included an obligation on our part to repurchasepianos seized by the bank upon default by the customer. The buyback price isestablished as a percentage of the original sales price, starting at 80% in thefirst year and declining to 30% in the fifth year of the loan.

 

This program ceased in the first quarter of 2003.Nevertheless, because our obligation continues until the bank is paid in fullby the customers, our commitment can remain outstanding for up to 8 years whichis the maximum term of the consumer loan. Our maximum obligation under thisarrangement is estimated to be approximately €0.1 million ($0.2 million at the December 31,2007 exchange rate). To date, we have not been required to repurchase anypianos under this program and we believe the likelihood of such repurchases inthe future is remote. Accordingly, we have not recognized a liability for thisobligation in our financial statements. Further, in the unlikely event of arepurchase, we believe the proceeds received upon our resale of the piano wouldexceed the amount payable to the bank.

 

**Pensions and OtherPostretirement Benefits –**When determining the amountsto be recognized in the consolidated financial statements related to ourdomestic pension, we used a long-term rate of return on plan assets of 9%,which was developed with input from our actuaries and our investment committee,and is consistent with prior years. We believe that 9% is consistent with thehistorical long-term return trends on our domestic pension assets and ourexpectations for future returns. The discount rate utilized for determiningfuture pension and other postretirement benefit obligations for our domesticplans is based on a long-term bond yield curve which matches the expectedbenefit payment period under the plan. The bonds used receive an AA- or betterrating by a recognized rating agency. The discount rate used for December 31,2007 was 6.30% for our domestic pension plan and 6.20% for our postretirementbenefit obligation plan. The rate for December 31, 2006 for both plans was5.75%.

 

The discount rates and rates of return on planassets for our foreign pension and other postretirement benefit plans weresimilarly developed utilizing long-term rates of return and discount ratesreasonably expected to occur in the applicable jurisdiction.

 

**Borrowing Activities and Availability –**We have a domestic credit facility with a syndicate of domestic lenders(the “Credit Facility”). The Credit Facility provides uswith a potential borrowing capacity of $110.0 million in revolving creditloans, and expires on September 29, 2011. It also provides for borrowingsat either London Interbank Offering Rate (“LIBOR”) plus a range from 1.25% to1.75% or as-needed borrowings at an alternate base rate, plus a range from0.00% to 0.25%; both ranges depend upon availability at the time of borrowing.Borrowings are collateralized by our domestic accounts receivable, inventoryand fixed assets.

 

Our non-domestic credit facilities provided for borrowings equivalentto $29.6 million as of December 31, 2007. There have been no materialchanges to our borrowing abilities overseas, and we typically are in aborrowing position of less than $10.0 million at any given time. Ournon-domestic credit facilities are discussed more fully in Note 11 to theconsolidated financial statements.

 

At December 31, 2007, our total outstanding indebtedness amountedto $177.3 million, consisting of $175.0 million of 7.00% Senior Notes due March1, 2014 and $2.3 million of notes payable to foreign banks. Cash interest paidwas $13.5 million in 2007, $14.7 million in 2006 and $19.4 million in 2005.

 

All of our debt agreements contain covenants thatplace certain restrictions on us, including our ability to incur additionalindebtedness, to make investments in other entities, and limitations on cashdividend payments. We were in compliance with all such covenants as of December 31,2007 and do not anticipate any compliance issues in 2008. Our bond indenturecontains limitations, based on net income (among other things), on the amountof discretionary repurchases we may make of our Ordinary common 

 

31

----

 

stock.Our intent and ability to repurchase additional Ordinary common stock eitherdirectly from shareholders or on the open market is directly affected by thislimitation.

 

We experience long production and inventory turnover cycles, which weconstantly monitor since fluctuations in demand can have a significant impacton these cycles. We were able to effectively utilize cash flow from operationsto fund our debt and capital requirements and pay off our seasonal borrowingson our domestic line of credit. Looking forward to 2008, we anticipate thatboth our piano and band divisions will perform consistently throughout theperiod. Our intention is to manage accounts receivable, reduce inventorylevels, and repay any credit facility borrowings.

 

We donot have any current plans or intentions that will have a material impact onour liquidity in 2008, although we may consider acquisitions that may requirefunding from operations or from our credit facilities. Other than thosedescribed, we are not aware of any trends, demands, commitments, or costs ofresources that are expected to materially impact our liquidity or capitalresources. Accordingly, we believe that cash on hand, together with cash flowsanticipated from operations and available borrowings under the Credit Facilityand non-domestic credit facilities, will be adequate to meet our debt servicerequirements, fund continuing capital requirements and satisfy our workingcapital and general corporate needs through 2008.

 

32

----

 

**Contractual Obligations –**The followingtable provides a summary of our contractual obligations at December 31,2007.

 
| ** **                         | ** ** | **Payments due by period** | ** ** |
|------------------------------------|------------|-------------------------------------------|------------|
| **Contractual Obligations**        | ** ** | **Total**                                 | ** ** | **Less than   1 year** | ** ** | **1 - 3 years** | ** ** | **3 - 5 years** | ** ** | **More than   5 years** | ** ** |
|                               |       |                                      |       |   |   |   |   |   |   |   |   |
| Long-term debt  (1)                |       | $                                         | 252,862    |   | $ | 14,570 |   | $ | 24,500 |   | $ | 24,500 |   | $ | 189,292 |   |
| Capital leases                     |       | 39                                        |       | 16 |   | 23 |   | — |   | — |   |
| Operating leases  (2)              |       | 265,832                                   |       | 4,931 |   | 9,280 |   | 8,262 |   | 243,359 |   |
| Purchase obligations  (3)          |       | 26,275                                    |       | 26,255 |   | 20 |   | — |   | — |   |
| Other  non-current liabilities (4) |       | 38,322                                    |       | 8,510 |   | 4,836 |   | 4,701 |   | 20,275 |   |
| Total                              |       | $                                         | 583,330    |   | $ | 54,282 |   | $ | 38,659 |   | $ | 37,463 |   | $ | 452,926 |   |

 

----

**Notes toContractual Obligations:**

 

(1) Long-term debt represents long-term debt obligations, the fixed interest on our7.0% Senior Notes, and the variable interest on our other loans. We estimatedthe future variable interest obligation using the applicable December 31,2007 rates. The nature of our long-term debt obligations is described morefully in the “Borrowing Availability and Activities” section of “Liquidity andCapital Resources.”

 

(2) Approximately $251.0 million of our operating lease obligations areattributable to the ninety-nine year land lease associated with Steinway Hall,which is described in Note 13 in the Notes to Consolidated Financial Statementsincluded within this filing; the remainder is attributable to the leasing ofother facilities and equipment.

 

(3) Purchase obligations consist of firm purchase commitments for raw materials,finished goods, and equipment.

 

(4) Our other long-term liabilities consist primarily of the long-term portion ofour pension obligations, which are described in Note 14 in the Notes toConsolidated Financial Statements included within this filing, and obligationsunder employee and consultant agreements, which are described in Note 13 in theNotes to the Consolidated Financial Statements included within this filing. Wehave not included $2.5 million of uncertain tax positions within this scheduledue to the uncertainty of the payment date, if any.

 

**Critical AccountingEstimates**

 

The Securities and Exchange Commission (“SEC”) has issued disclosureguidance for “critical accounting policies.” The SEC defines “critical accountingpolicies” as those that require application of management’s most difficult,subjective or complex judgments, often as a result of the need to makeestimates about the effect of matters that are inherently uncertain and maychange in subsequent periods.

 

Management is required to make certain estimates and assumptions duringthe preparation of the consolidated financial statements. These estimates andassumptions impact the reported amounts of assets and liabilities anddisclosures of contingent assets and liabilities as of the date of theconsolidated financial statements. Estimates and assumptions are reviewedperiodically and the effects of revisions are reflected in the consolidatedfinancial statements in the period they are determined to be necessary. Actualresults could differ significantly from those estimates.

 

The significant accounting policies are described in Note 2 of theNotes to Consolidated Financial Statements included herein. Not all of thesesignificant accounting policies require management to make 

 

33

----

 

difficult, subjective orcomplex judgments or estimates. However, management considers the following tobe critical accounting policies based on the definition above.

 

**Accounts Receivable**

 

        We establish reserves foraccounts receivable and notes receivable. We review overall collectibilitytrends and customer characteristics such as debt leverage, solvency, andoutstanding balances in order to develop our reserve estimates. Historically, alarge portion of our sales at both our piano and band divisions has beengenerated by our top 15 customers. As a result, we experience some inherentconcentration of credit risk in our accounts receivable due to its compositionand the relative proportion of large customer receivables to the total. This isespecially true at our band division, which characteristically has a majorityof our consolidated accounts receivable balance. We consider the credit healthand solvency of our customers when developing our receivable reserve estimates.

 

**Inventory**

 

        We establish inventoryreserves for items such as lower-of-cost-or-market and obsolescence. We reviewinventory levels on a detailed basis, concentrating on the age and amounts ofraw materials, work-in-process, and finished goods, as well as recent usage andsales dates and quantities to help develop our estimates. Ongoing changes inour business strategy, including a shift from batch processing to single pieceproduction flow, coupled with increased offshore sourcing, could affect ourability to realize the current cost of our inventory, and are considered bymanagement when developing our estimates. We also establish reserves foranticipated book-to-physical adjustments based upon our historical level of adjustmentsfrom our annual physical inventories. We account for our inventory usingstandard costs. Accordingly, variances between actual and standard costs thatare not abnormal in nature are capitalized into inventory and released based oncalculated inventory turns.

 

**Workers’ Compensation and Self-Insured Health Claims**

 

        We establish self-insured workers’compensation and health claims reserves based on our trend analysis of dataprovided by third-party administrators regarding historical claims and anticipatedfuture claims.

 

**Warranty**

 

        We establish reserves forwarranty claims based on our analysis of historical claims data, recent claimstrends, and the various lengths of time for which we warranty our products.

 

**Long-lived Assets**

 

        We review long-livedassets, such as property, plant, and equipment, for impairment whenever eventsor changes in circumstances indicate that the carrying amount of an asset maynot be recoverable. We measure recoverability by comparing the carrying amountof the asset to the estimated future cash flows the asset is expected togenerate.

 

        We test our goodwill andindefinite-lived trademark assets for impairment annually or on an interimbasis if events or circumstances indicate that the fair value of an asset mayhave decreased below its carrying value. Our assessment is based on severalanalyses, including a comparison of estimated fair values to our marketcapitalization and multi-year cash flows.

 

34

----

 

**Pensions and Other Postretirement Benefit Costs**

 

        We make certainassumptions when calculating our benefit obligations and expenses. We base ourselection of assumptions, such as discount rates and long-term rates of return,on information provided by our actuaries, investment advisors, investmentcommittee, current rate trends, and historical trends for our pension assetportfolio. Our benefit obligations and expenses can fluctuate significantlybased on the assumptions management selects.

 

**Income Taxes**

 

        We record valuation allowancesfor certain deferred tax assets related to foreign tax credit carryforwards andstate net operating loss carryforwards. When assessing the realizability ofdeferred tax assets, we consider whether it is more likely than not that thedeferred tax assets will be fully realized. The ultimate realization of theseassets is dependent upon many factors, including the ratio of foreign sourceincome to overall income and generation of sufficient future taxable income inthe states for which we have loss carryforwards. When establishing or adjustingvaluation allowances, we consider these factors, as well as anticipated trendsin foreign source income and tax planning strategies which may impact futurerealizability of these assets.

 

        A liability has been recordedfor uncertain tax positions. When analyzing these positions, we consider theprobability of various outcomes which could result from examination,negotiation, or settlement with various taxing authorities. The final outcomeon these positions could differ significantly from our original estimates dueto expiring statues of limitations, availability of detailed historical data,the results of audits or examinations conducted by taxing authorities or agentsthat vary from management’s anticipated results, identification of new taxcontingencies, the release of applicable administrative tax guidance,management’s decision to settle or appeal assessments, or the rendering ofcourt decisions affecting our estimates of tax liabilities, as well as otherfactors.

 

**Stock-Based Compensation**

 

        We grant stock-basedcompensation awards which generally vest over a specified period. Whendetermining the fair value of stock options and subscriptions to purchaseshares under the Purchase Plan, we use the Black-Scholes option valuationmodel, which requires input of certain management assumptions, includingdividend yield, expected volatility, risk-free interest rate, expected life ofstock options granted during the period, and the life applicable to thePurchase Plan subscriptions. The estimated fair value of the options andsubscriptions to purchase shares, and the resultant stock-based compensationexpense, can fluctuate based on the assumptions used by management.

 

**Environmental Liabilities**

 

        We make certain assumptionswhen calculating our environmental liabilities. We base our selection ofassumptions, such as cost and length of time for remediation, on data providedby our environmental consultants, as well as information provided by regulatoryauthorities. We also make certain assumptions regarding the indemnifications wehave received from others, including whether remediation costs are within thescope of the indemnification, the indemnifier’s ability to perform under theagreement, and whether past claims have been successful. Our environmentalobligations and expenses can fluctuate significantly based on management’sassumptions.

 

We believe the assumptionsmade by management provide a reasonable basis for the estimates reflected inour financial statements.

 

35

----

 

**RecentAccounting Pronouncements**

 

In September 2006, theFASB issued Statement of Financial Accounting Standard No. 157, “FairValue Measurements” (“SFAS No. 157”). SFAS No. 157 defines fairvalue, establishes a framework for measuring fair value and expands disclosuresabout fair value measurements. SFAS No. 157 is effective for financialstatements issued for fiscal years beginning after November 15, 2007. Weare currently evaluating the requirements of SFAS No. 157 and have not yetdetermined the impact, if any, its adoption will have on our consolidatedfinancial position and results of operations. In February 2008, the FASBdelayed the effective date of SFAS No. 157 for all nonrecurring fair valuemeasurements of nonfinancial assets and nonfinancial liabilities until fiscalyears beginning after November 15, 2008.

 

In February 2007, the FASB issued SFAS No. 159,“The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS No. 159”).SFAS No. 159 provides entities with an option to report selected financialassets and liabilities at fair value, with the objective to reduce both thecomplexity in accounting for financial instruments and the volatility inearnings caused by measuring related assets and liabilities differently. Wewill be required to adopt SFAS No. 159 in the first quarter of fiscal year2008. We are currently evaluating the requirements of SFAS No. 159 andhave not yet determined the impact, if any, of its adoption on our consolidatedfinancial position and results of operations.

 

**Item7A.  Quantitative and QualitativeDisclosures About Market Risk**

 

**Foreign Currency Risk**

 

We are subject to market risk associated withchanges in foreign currency exchange rates and interest rates. We mitigate someof our cash flow exposure to foreign currency fluctuations by holding forwardforeign currency contracts. These contracts are not designated as hedges foraccounting purposes. The contracts relate primarily to intercompanytransactions and are not used for trading or speculative purposes. The fairvalue of these contracts is sensitive to changes in foreign currency exchangerates. As of December 31, 2007, a 10% negative change in foreign currencyexchange rates from market rates would decrease the fair value of the contractsby $0.1 million. Gains and losses on the foreign currency exchange contractsare defined as the difference between the contract rate at its inception dateand the current forward rate. However, we would offset any such gains andlosses by corresponding losses and gains, respectively, on the related asset orliability.

 

**Interest Risk**

 

Our interest rate exposure is limited primarily tointerest rate changes on our variable rate debt. Our revolving loans bearinterest at rates that fluctuate with changes in PRIME, LIBOR, TIBOR, andEURIBOR and are therefore sensitive to changes in market interest rates. Forthe year ended December 31, 2007, a hypothetical 10% increase in interestrates would have increased our interest expense by less than $0.1 million.

 

Our long-term debt includes $175.0 million of SeniorNotes with a fixed interest rate. Accordingly, there would be no immediateimpact on our interest expense associated with these Notes due to fluctuationsin market interest rates. However, based on a hypothetical 10% immediatedecrease in market interest rates, the fair value of our Senior Notes, whichwould be sensitive to such interest rate changes, would be increased byapproximately $2.8 million as of December 31, 2007.

 

36

----

 

**Item8.  Financial Statements AndSupplementary Data**

 

REPORT OFINDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

CONSOLIDATEDFINANCIAL STATEMENTS:

ConsolidatedStatements of Operations for the Years Ended December 31, 2007, 2006, and2005

Consolidated BalanceSheets as of December 31, 2007 and 2006

ConsolidatedStatements of Cash Flows for the Years Ended December 31, 2007, 2006, and2005

ConsolidatedStatements of Stockholders’ Equity for the Years Ended December 31, 2007,2006, and 2005

Notes toConsolidated Financial Statements

 

37

----

 

**REPORT OF INDEPENDENT REGISTEREDPUBLIC ACCOUNTING FIRM**

 

To the Board of Directors and Stockholders of

Steinway Musical Instruments, Inc.

Waltham, Massachusetts

 

We have audited the accompanying consolidated balance sheets ofSteinway Musical Instruments, Inc. and subsidiaries (the “Company”) as of December 31,2007 and 2006, and the related consolidated statements of operations,stockholders’ equity, and cash flows for each of the three years in the periodended December 31, 2007. These financial statements are the responsibilityof the Company’s management. Our responsibility is to express an opinion on thefinancial statements based on our audits.

 

We conducted our audits in accordance with the standards of the PublicCompany Accounting Oversight Board (United States). Those standards requirethat we plan and perform the audit to obtain reasonable assurance about whetherthe financial statements are free of material misstatement. An audit includesexamining, on a test basis, evidence supporting the amounts and disclosures inthe financial statements. An audit also includes assessing the accountingprinciples used and significant estimates made by management, as well asevaluating the overall financial statement presentation. We believe that ouraudits provide a reasonable basis for our opinion.

 

In our opinion, such consolidated financial statements present fairly,in all material respects, the financial position of Steinway MusicalInstruments, Inc. and subsidiaries as of December 31, 2007 and 2006,and the results of their operations and their cash flows for each of the threeyears in the period ended December 31, 2007, in conformity with accountingprinciples generally accepted in the United States of America.

 

Asdiscussed in Note 2 to the consolidated financial statements, the Companyadopted Financial Accounting Standards Board (“FASB”) Interpretation No. 48, *Accounting for Uncertainty in Income Taxes—aninterpretation of FASB Statement No. 109*, effective January 1,2007, the recognition and disclosure provisions of Statement of FinancialAccounting Standards (“SFAS”) No. 158, *Employers’ Accounting forDefined Benefit Pension and Other Postretirement Plans – an amendment of FASBStatements No. 87, 88, 106 and 132(R),*effective December 31,2006 and SFAS No. 123(R), *Share-Based Payment*,effective January 1, 2006.

 

We have also audited, in accordance with the standards of the PublicCompany Accounting Oversight Board (United States), the Company’s internalcontrol over financial reporting as of December 31, 2007, based on thecriteria established in *InternalControl—Integrated Framework* issued by the Committee of SponsoringOrganizations of the Treadway Commission and our report dated March 17,2008 expressed an unqualified opinion on the Company’s internal control overfinancial reporting.

 

 
| /s/  DELOITTE & TOUCHE LLP |
|-------------------------------------|
|                                |
| Boston,  Massachusetts              |
| March 17,  2008                |

 

38

----

 

Steinway Musical Instruments, Inc. andSubsidiaries

**CONSOLIDATED STATEMENTS OF OPERATIONS**

(In Thousands Except Share and Per Share Data)

** **
| **For the years ended December 31,** | ** ** | **2007**  | ** ** | **2006**  | ** ** | **2005**  | ** ** |
|---------------------------------------------------------------|------------|-----------|------------|-----------|------------|-----------|------------|
|                                                          |       |      |       |      |       |      |       |
| Net sales                                                     |       | $         | 406,314    |      | $          | 384,620   |       | $ | 387,143 |   |
| Cost of sales                                                 |       | 282,828   |       | 277,213   |       | 275,609   |       |
|                                                          |       |      |       |      |       |      |       |
| Gross profit                                                  |       | 123,486   |       | 107,407   |       | 111,534   |       |
|                                                          |       |      |       |      |       |      |       |
| Operating  expenses:                                          |       |      |       |      |       |      |       |
| Sales and  marketing                                          |       | 48,393    |       | 45,586    |       | 45,475    |       |
| Provision for  doubtful accounts                              |       | 2,442     |       | 9,150     |       | 424       |       |
| General and  administrative                                   |       | 35,005    |       | 33,062    |       | 29,200    |       |
| Amortization                                                  |       | 786       |       | 812       |       | 1,116     |       |
| Other operating  expenses                                     |       | 1,530     |       | 419       |       | 482       |       |
| Facility  rationalization                                     |       | 128       |       | —    |       | —    |       |
| Total operating  expenses                                     |       | 88,284    |       | 89,029    |       | 76,697    |       |
|                                                          |       |      |       |      |       |      |       |
| Income from  operations                                       |       | 35,202    |       | 18,378    |       | 34,837    |       |
|                                                          |       |      |       |      |       |      |       |
| Other income,  net                                            |       | (59       | )          | (2,170    | )          | (1,338    | )          |
| Loss on extinguishment  of debt                               |       | —    |       | 9,674     |       | 538       |       |
| Interest income                                               |       | (3,687    | )          | (4,565    | )          | (3,335    | )          |
| Interest expense                                              |       | 13,458    |       | 15,820    |       | 16,980    |       |
| Total  non-operating expenses                                 |       | 9,712     |       | 18,759    |       | 12,845    |       |
|                                                          |       |      |       |      |       |      |       |
| Income (loss)  before income taxes                            |       | 25,490    |       | (381      | )          | 21,992    |       |
|                                                          |       |      |       |      |       |      |       |
| Income tax  provision                                         |       | 10,080    |       | 287       |       | 8,200     |       |
|                                                          |       |      |       |      |       |      |       |
| Net income  (loss)                                            |       | $         | 15,410     |      | $          | (668      | )          | $ | 13,792 |   |
|                                                          |       |      |       |      |       |      |       |
| Earnings (loss)  per share - basic                            |       | $         | 1.81       |      | $          | (0.08     | )          | $ | 1.71 |   |
|                                                          |       |      |       |      |       |      |       |
| Earnings (loss)  per share - diluted                          |       | $         | 1.78       |      | $          | (0.08     | )          | $ | 1.67 |   |
|                                                          |       |      |       |      |       |      |       |
| Weighted average  shares:                                     |       |      |       |      |       |      |       |
| Basic                                                         |       | 8,521,700 |       | 8,303,770 |       | 8,069,721 |       |
| Diluted                                                       |       | 8,647,300 |       | 8,303,770 |       | 8,265,234 |       |

 

See notes to consolidated financial statements.

 

39

----

 

Steinway Musical Instruments, Inc. andSubsidiaries

**CONSOLIDATED BALANCE SHEETS**

** **(InThousands Except Share and Per Share Data)

 
| **December 31,**                                                                                                                                                                                                         | ** ** | **2007** | ** ** | **2006** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------|------------|----------|------------|
|                                                                                                                                                                                                                          |       |     |       |     |       |
| Assets                                                                                                                                                                                                                        |       |     |       |     |       |
| Current assets:                                                                                                                                                                                                               |       |     |       |     |       |
| Cash                                                                                                                                                                                                                          |       | $        | 37,304     |     | $          | 30,409 |   |
| Accounts, notes  and other receivables, net                                                                                                                                                                                   |       | 73,131   |       | 75,161   |       |
| Inventories, net                                                                                                                                                                                                              |       | 152,451  |       | 154,623  |       |
| Prepaid expenses  and other current assets                                                                                                                                                                                    |       | 11,272   |       | 12,711   |       |
| Deferred tax  assets                                                                                                                                                                                                          |       | 11,571   |       | 9,774    |       |
| Total current  assets                                                                                                                                                                                                         |       | 285,729  |       | 282,678  |       |
|                                                                                                                                                                                                                          |       |     |       |     |       |
| Property, plant  and equipment, net                                                                                                                                                                                           |       | 94,150   |       | 95,598   |       |
| Trademarks                                                                                                                                                                                                                    |       | 14,119   |       | 13,671   |       |
| Goodwill                                                                                                                                                                                                                      |       | 32,907   |       | 31,481   |       |
| Other  intangibles, net                                                                                                                                                                                                       |       | 3,937    |       | 4,725    |       |
| Other assets                                                                                                                                                                                                                  |       | 18,014   |       | 12,988   |       |
| Long-term  deferred tax asset                                                                                                                                                                                                 |       | 8,822    |       | 6,034    |       |
|                                                                                                                                                                                                                          |       |     |       |     |       |
| Total assets                                                                                                                                                                                                                  |       | $        | 457,678    |     | $          | 447,175 |   |
|                                                                                                                                                                                                                          |       |     |       |     |       |
| Liabilities and  stockholders’ equity                                                                                                                                                                                    |       |     |       |     |       |
| Current  liabilities:                                                                                                                                                                                                         |       |     |       |     |       |
| Debt                                                                                                                                                                                                                          |       | $        | 2,285      |     | $          | 4,595 |   |
| Accounts payable                                                                                                                                                                                                              |       | 12,381   |       | 16,805   |       |
| Other current  liabilities                                                                                                                                                                                                    |       | 52,320   |       | 44,648   |       |
| Total current  liabilities                                                                                                                                                                                                    |       | 66,986   |       | 66,048   |       |
|                                                                                                                                                                                                                          |       |     |       |     |       |
| Long-term debt                                                                                                                                                                                                                |       | 173,981  |       | 173,816  |       |
| Deferred tax  liabilities                                                                                                                                                                                                     |       | 15,003   |       | 11,754   |       |
| Pension and  other postretirement benefit liabilities                                                                                                                                                                         |       | 30,093   |       | 32,847   |       |
| Other  non-current liabilities                                                                                                                                                                                                |       | 7,836    |       | 4,709    |       |
| Total  liabilities                                                                                                                                                                                                            |       | 293,899  |       | 289,174  |       |
|                                                                                                                                                                                                                          |       |     |       |     |       |
| Commitments and  contingent liabilities                                                                                                                                                                                       |       |     |       |     |       |
|                                                                                                                                                                                                                          |       |     |       |     |       |
| Stockholders’  equity:                                                                                                                                                                                                   |       |     |       |     |       |
| Class A  common stock, $.001 par value, 5,000,000 shares authorized, 477,952 shares  issued and outstanding                                                                                                              |       | —   |       | —   |       |
| Ordinary common  stock, $.001 par value, 90,000,000 shares authorized, 10,052,704 and  9,943,502 shares issued in 2007 and 2006, respectively, and 8,099,728 and  7,898,052 shares outstanding in 2007 and 2006, respectively |       | 11       |       | 10       |       |
| Additional  paid-in capital                                                                                                                                                                                                   |       | 94,370   |       | 90,266   |       |
| Retained  earnings                                                                                                                                                                                                            |       | 112,917  |       | 125,711  |       |
| Accumulated  other comprehensive income (loss)                                                                                                                                                                                |       | 1,773    |       | (10,550  | )          |
| Treasury stock,  at cost (1,952,976 shares of Ordinary common stock in 2007 and 2,045,450  shares of Ordinary common stock in 2006)                                                                                           |       | (45,292  | )          | (47,436  | )          |
| Total stockholders’  equity                                                                                                                                                                                              |       | 163,779  |       | 158,001  |       |
|                                                                                                                                                                                                                          |       |     |       |     |       |
| Total  liabilities and stockholders’ equity                                                                                                                                                                              |       | $        | 457,678    |     | $          | 447,175 |   |

 

See notes to consolidated financial statements.

 

40

----

 

Steinway Musical Instruments, Inc. andSubsidiaries

**CONSOLIDATED STATEMENTS OF CASHFLOWS**

(In Thousands)

 
| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Cash flows from  operating activities:                        |       |     |       |     |       |     |       |
| Net income  (loss)                                            |       | $        | 15,410     |     | $          | (668     | )          | $ | 13,792 |   |
| Adjustments to  reconcile net income (loss) to cash           |       |     |       |     |       |     |       |
| flows from  operating activities:                             |       |     |       |     |       |     |       |
| Depreciation and  amortization                                |       | 10,477   |       | 10,659   |       | 11,267   |       |
| Amortization of  bond discount (premium), net                 |       | 165      |       | 98       |       | (252     | )          |
| Loss on  extinguishment of debt                               |       | —   |       | 9,674    |       | 538      |       |
| Stock-based  compensation expense                             |       | 1,103    |       | 1,174    |       | —   |       |
| Excess tax  benefits from stock-based awards                  |       | (410     | )          | (431     | )          |     |       |
| Tax benefit from  stock option exercises                      |       | 735      |       | 945      |       | 170      |       |
| Deferred tax  benefit                                         |       | (3,925   | )          | (8,127   | )          | (682     | )          |
| Provision for  doubtful accounts                              |       | 2,442    |       | 9,150    |       | 424      |       |
| Purchase of  trading securities                               |       | —   |       | (1,393   | )          | —   |       |
| Other                                                         |       | (229     | )          | (468     | )          | (152     | )          |
| Changes in  operating assets and liabilities:                 |       |     |       |     |       |     |       |
| Accounts, notes  and other receivables                        |       | (428     | )          | (845     | )          | 4,955    |       |
| Inventories                                                   |       | 4,876    |       | 7,730    |       | 5,488    |       |
| Prepaid expenses  and other assets                            |       | (376     | )          | (4,785   | )          | 1,189    |       |
| Accounts payable                                              |       | (4,712   | )          | 2,261    |       | (503     | )          |
| Other current  and non-current liabilities                    |       | 8,937    |       | 4,246    |       | (4,805   | )          |
| Cash flows from  operating activities                         |       | 34,065   |       | 29,220   |       | 31,429   |       |
|                                                          |       |     |       |     |       |     |       |
| Cash flows from  investing activities:                        |       |     |       |     |       |     |       |
| Capital  expenditures                                         |       | (4,967   | )          | (5,549   | )          | (5,004   | )          |
| Proceeds from  sales of property, plant and equipment         |       | 207      |       | 365      |       | 1,415    |       |
| Proceeds from  sale of available-for-sale securities          |       | —   |       | 1,386    |       | —   |       |
| Acquisition of  business, net of cash acquired                |       | —   |       | —   |       | (2,167   | )          |
| Cash flows from  investing activities                         |       | (4,760   | )          | (3,798   | )          | (5,756   | )          |
|                                                          |       |     |       |     |       |     |       |
| Cash flows from  financing activities:                        |       |     |       |     |       |     |       |
| Borrowings under  lines of credit                             |       | 171,883  |       | 79,169   |       | 188,844  |       |
| Repayments under  lines of credit                             |       | (174,473 | )          | (79,756  | )          | (190,297 | )          |
| Debt issuance  costs                                          |       | —   |       | (4,638   | )          | —   |       |
| Proceeds from  issuance of debt                               |       | —   |       | 173,676  |       | —   |       |
| Repayments of  long-term debt                                 |       | —   |       | (198,205 | )          | (15,763  | )          |
| Premium paid on  extinguishment of debt                       |       | —   |       | (7,740   | )          | (407     | )          |
| Proceeds from  issuance of stock                              |       | 4,150    |       | 5,085    |       | 1,763    |       |
| Excess tax  benefits from stock-based awards                  |       | 410      |       | 431      |       | —   |       |
| Dividends paid                                                |       | (25,187  | )          | —   |       | —   |       |
| Cash flows from  financing activities                         |       | (23,217  | )          | (31,978  | )          | (15,860  | )          |
|                                                          |       |     |       |     |       |     |       |
| Effects of  foreign exchange rate changes on cash             |       | 807      |       | 2,013    |       | (2,233   | )          |
|                                                          |       |     |       |     |       |     |       |
| Increase  (decrease) in cash                                  |       | 6,895    |       | (4,543   | )          | 7,580    |       |
| Cash, beginning  of year                                      |       | 30,409   |       | 34,952   |       | 27,372   |       |
|                                                          |       |     |       |     |       |     |       |
| Cash, end of  year                                            |       | $        | 37,304     |     | $          | 30,409   |       | $ | 34,952 |   |
|                                                          |       |     |       |     |       |     |       |
| Supplemental  cash flow information:                          |       |     |       |     |       |     |       |
| Interest paid                                                 |       | $        | 13,510     |     | $          | 14,687   |       | $ | 19,437 |   |
| Income taxes  paid                                            |       | $        | 11,964     |     | $          | 8,243    |       | $ | 11,160 |   |

 

See notes to consolidated financial statements.

 

41

----

 

Steinway Musical Instruments, Inc. andSubsidiaries

**CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY**

(In Thousands Except Share Data)

** **
| ** **                                                 | ** ** | **Common  Stock** | ** ** | **Additional  Paid-In  Capital** | ** ** | **Retained  Earnings** | ** ** | **Accumulated  Other  Comprehensive Income (Loss)** | ** ** | **Treasury  Stock** | ** ** | **Total  Stockholders’  Equity** | ** ** |
|------------------------------------------------------------|------------|-------------------|------------|----------------------------------|------------|------------------------|------------|-----------------------------------------------------|------------|---------------------|------------|---------------------------------------|------------|
|                                                       |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| Balance,  January 1, 2005                             |       | $                 | 10         |                             | $          | 81,129                 |       | $                                                   | 112,587    |                | $          | (737                                  | )          | $ | (47,436 | ) | $ | 145,553 |   |
| Comprehensive  income:                                     |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| Net income                                                 |       |              |       |                             |       | 13,792                 |       |                                                |       |                |       | 13,792                                |       |
| Foreign currency  translation adjustment                   |       |              |       |                             |       |                   |       | (8,377                                              | )     |                |       | (8,377                                | )          |
| Additional  minimum pension liability, net                 |       |              |       |                             |       |                   |       | (4,105                                              | )     |                |       | (4,105                                | )          |
| Holding gain on  marketable securities, net                |       |              |       |                             |       |                   |       | 34                                                  |       |                |       | 34                                    |       |
| Total  comprehensive income                                |       |              |       |                             |       |                   |       |                                                |       |                |       | 1,344                                 |       |
|                                                       |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| Exercise of 64,100  options for shares of                  |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| common stock                                               |       |              |       | 1,244                            |       |                   |       |                                                |       |                |       | 1,244                                 |       |
| Tax benefit of  options exercised                          |       |              |       | 170                              |       |                   |       |                                                |       |                |       | 170                                   |       |
| Issuance of  20,663 shares of common stock                 |       |              |       | 519                              |       |                   |       |                                                |       |                |       | 519                                   |       |
|                                                       |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| Balance,  December 31, 2005                           |       | 10                |       | 83,062                           |       | 126,379                |       | (13,185                                             | )          | (47,436             | )          | 148,830                               |       |
|                                                       |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| Comprehensive  income:                                     |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| Net loss                                                   |       |              |       |                             |       | (668                   | )          |                                                |       |                |       | (668                                  | )          |
| Foreign currency  translation adjustment                   |       |              |       |                             |       |                   |       | 6,440                                               |       |                |       | 6,440                                 |       |
| Additional minimum  pension liability, net                 |       |              |       |                             |       |                   |       | (108                                                | )          |                |       | (108                                  | )          |
| Realized gain on  available-for-sale securities, net       |       |              |       |                             |       |                   |       | (128                                                | )          |                |       | (128                                  | )          |
| Total  comprehensive income                                |       |              |       |                             |       |                   |       |                                                |       |                |       | 5,536                                 |       |
|                                                       |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| SFAS  No. 158 transition obligation, net              |       |              |       |                             |       |                   |       | (3,569                                              | )          |                |       | (3,569                                | )          |
| Exercise of  236,873 options for shares of                 |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| common stock                                               |       |              |       | 4,551                            |       |                   |       |                                                |       |                |       | 4,551                                 |       |
| Tax benefit of  options exercised                          |       |              |       | 945                              |       |                   |       |                                                |       |                |       | 945                                   |       |
| Stock-based  compensation                                  |       |              |       | 1,174                            |       |                   |       |                                                |       |                |       | 1,174                                 |       |
| Issuance of 26,121  shares of common stock                 |       |              |       | 534                              |       |                   |       |                                                |       |                |       | 534                                   |       |
|                                                       |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| Balance,  December 31, 2006                           |       | 10                |       | 90,266                           |       | 125,711                |       | (10,550                                             | )          | (47,436             | )          | 158,001                               |       |
|                                                       |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| FIN 48  adjustment                                         |       |              |       |                             |       | (2,757                 | )          |                                                |       |                |       | (2,757                                | )     |
| Comprehensive  income:                                     |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| Net income                                                 |       |              |       |                             |       | 15,410                 |       |                                                |       |                |       | 15,410                                |       |
| Foreign currency  translation adjustment                   |       |              |       |                             |       |                   |       | 5,232                                               |       |                |       | 5,232                                 |       |
| Changes in  pension and other postretirement benefits, net |       |              |       |                             |       |                   |       | 7,091                                               |       |                |       | 7,091                                 |       |
| Total  comprehensive income                                |       |              |       |                             |       |                   |       |                                                |       |                |       | 27,733                                |       |
|                                                       |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| Dividends paid                                             |       |              |       |                             |       | (25,187                | )          |                                                |       |                |       | (25,187                               | )          |
| Exercise of  175,424 options for shares of                 |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| common stock                                               |       | 1                 |       | 1,720                            |       | (260                   | )          |                                                |       | 2,144               |       | 3,605                                 |       |
| Tax benefit of  options exercised                          |       |              |       | 735                              |       |                   |       |                                                |       |                |       | 735                                   |       |
| Stock-based  compensation                                  |       |              |       | 1,103                            |       |                   |       |                                                |       |                |       | 1,103                                 |       |
| Issuance of  26,252 shares of common stock                 |       |              |       | 546                              |       |                   |       |                                                |       |                |       | 546                                   |       |
|                                                       |       |              |       |                             |       |                   |       |                                                |       |                |       |                                  |       |
| Balance,  December 31, 2007                           |       | $                 | 11         |                             | $          | 94,370                 |       | $                                                   | 112,917    |                | $          | 1,773                                 |       | $ | (45,292 | ) | $ | 163,779 |   |

 

See notes to consolidated financial statements.

 

42

----

 

Steinway MusicalInstruments, Inc. and Subsidiaries

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS**

Years Ended December 31, 2007, 2006, and2005

(Tabular Amounts in Thousands Except Shareand Per Share Data)

 

**1.****             ****Natureof Business**

 

SteinwayMusical Instruments, Inc. and subsidiaries (the “Company”) is one of theworld’s leading manufacturers of musical instruments. The Company, through itspiano (“Steinway”) and band (“Conn-Selmer”) divisions, manufactures anddistributes products within the musical instrument industry. Steinway producesthe highest quality piano in the world and has one of the most widelyrecognized and prestigious brand names. Conn-Selmer is the leading domesticmanufacturer of band & orchestral instruments and related accessories,including complete lines of brass, woodwind, percussion and string instruments.Selmer Paris saxophones, Bach Stradivarius trumpets, C.G. Conn French horns,Leblanc clarinets, King trombones and Ludwig snare drums are considered by manyto be the finest such instruments in the world.

 

Throughout these financial statements “we,” “us,”and “our” refer to Steinway Musical Instruments, Inc. and subsidiariestaken as a whole.

 

**2.****             ****SignificantAccounting Policies**

 

**Principles of Consolidation** – Our consolidated financial statements include the accounts of alldirect and indirect subsidiaries, all of which are wholly owned. All intercompanybalances have been eliminated in consolidation.

 

**Use of Estimates** – The preparation of financial statements in conformity withaccounting principles generally accepted in the United States of Americarequires us to make estimates and assumptions that affect the reported amountsof assets and liabilities, the disclosure of assets and contingent liabilitiesat the date of the financial statements, and the reported amounts of revenuesand expenses during the reporting period. Actual results could differ fromthose estimates. The significant estimates in the financial statements includeaccounts receivable reserves, inventory reserves, workers’ compensation andself-insured health claims, warranty reserves, impairment of long-lived assets,pension and other post retirement benefit cost assumptions, stock-basedcompensation assumptions, deferred income tax valuation allowances, uncertaintax positions, and environmental liabilities.

 

**Revenue Recognition** – Generally, revenue for wholesale transactions is recognized uponshipment following receipt of a valid dealer order. Retail revenue is generallyrecognized upon delivery to the customer in accordance with the customer’spurchase agreement, and restoration revenue is recognized based on thecompleted contract method. Revenue from restoration services and rentals is notmaterial to the consolidated financial statements and are included within netsales. Shipping and handling feesbilled to customers are not material and are included within net sales and therelated costs are reported within cost of sales. We provide for theestimated costs of warranties, discounts and returns at the time of revenue recognition.

 

**Inventories** – Inventories are stated at the lower of cost, determined on afirst-in, first-out basis, or market.

 

43

----

 

**Depreciation and Amortization** – Property, plant and equipment are recorded at cost. Depreciationis provided using the straight-line method over the estimated useful lives ofthe assets. Leasehold improvements are amortized using the straight-line methodover the estimated useful lives of the improvements or the remaining term ofthe respective lease, whichever is shorter. Estimated useful lives are asfollows:

 

| Buildings and  improvements           |   | 15 – 40 years |
|---------------------------------------|--------|--------------------|
| Leasehold  improvements               |   | 5 – 15 years  |
| Machinery,  equipment and tooling     |   | 3 – 10 years  |
| Office furniture  and fixtures        |   | 3 – 10 years  |
| Concert and  Artist and rental pianos |   | 15 years           |

 

When impairment indicators are present, we evaluatethe recoverability of our long-lived assets by comparing the estimated futurecash flows expected to be generated by those assets to their carrying value.Should the assessment indicate an impairment, the affected assets are writtendown to fair value. Assets held-for-sale are recorded at the lower of cost ornet realizable value.

 

**Goodwill, Trademarks, and Other Intangible Assets** – Intangible assets other thangoodwill and indefinite-lived trademarks are amortized on a straight-line basisover their estimated useful lives. Deferred financing costs are amortized overthe repayment periods of the underlying debt. We test our goodwill and trademarks annually, or on an interim basis ifevents or circumstances indicate that the fair value of an asset has decreasedbelow its carrying value. At July 31, 2007, we evaluated these assets anddetermined that based upon the implied fair value (which includes factors suchas, but not limited to, our market capitalization, control premium and recentstock price volatility) there was no impairment of goodwill or trademarks. Noother events or circumstances have occurred subsequent to our annual impairmentdate which have indicated that these assets may potentially be impaired. We have notrecognized any impairments for the years ended December 31, 2007, 2006,and 2005.

 

**Advertising** – Advertising costs are expensed as incurred. Advertising expense was $9.0 millionfor the year ended December 31, 2007, $7.4 million for the year ended December 31,2006, and $7.6 million for theyear ended December 31, 2005.

 

**Accounts, Notes and Other Receivables, Net**– Accounts,notes and other receivables are recorded net of allowances for bad debts,discounts and returns.

 
| **December 31,**                | ** ** | **2007** | ** ** | **2006** | ** ** |
|--------------------------------------|------------|----------|------------|----------|------------|
|                                 |       |     |       |     |       |
| Accounts  receivable                 |       | $        | 69,196     |     | $          | 74,922 |   |
| Notes and other  receivables         |       | 21,454   |       | 21,879   |       |
|                                 |       | 90,650   |       | 96,801   |       |
| Allowance for  doubtful accounts     |       | (13,570  | )          | (17,869  | )          |
| Allowance for  discounts and returns |       | (3,949   | )          | (3,771   | )          |
|                                 |       | $        | 73,131     |     | $          | 75,161 |   |

 

44

----

 

A summary of the activityin the allowance for doubtful accounts is as follows:

 

| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                          |       |     |       |     |       |     |       |
| Beginning  balance                                            |       | $        | 17,869     |     | $          | 9,207    |       | $ | 11,811 |   |
| Additions  charged to costs and expenses                      |       | 2,442    |       | 9,150    |       | 424      |       |
| Foreign currency  translation adjustments                     |       | 25       |       | 87       |       | (109     | )     |
| Deductions and  other                                         |       | (6,766   | )          | (575     | )          | (2,919   | )          |
| Ending balance                                                |       | $        | 13,570     |     | $          | 17,869   |       | $ | 9,207 |   |

 

**Income Taxes** – We provide for income taxes using an asset and liability approach.We compute deferred income tax assets and liabilities annually fordifferences between the financial statement and tax bases of assets andliabilities that will result in taxable or deductible amounts in the futurebased on enacted tax laws and rates applicable to the periods in which thedifferences are expected to affect taxable income. When necessary, we establishvaluation allowances to reduce deferred tax assets to the amount that morelikely than not will be realized.

 

We provide reserves for potential payments of tax tovarious tax authorities related to uncertain tax positions and other issues. Priorto 2007, these reserves were recorded when management determined that it wasprobable that a loss would be incurred related to these matters and the amountof the loss was reasonably determinable. In 2007, we adopted FinancialAccounting Standards Board (“FASB”) Interpretation No. 48, “Accounting forUncertainty in Income Taxes — an interpretation of FASB Statement No. 109”(“FIN No. 48”). As a result, reserves recorded subsequent to adoption are basedon a determination of whether and how much of a tax benefit taken in our taxfilings or positions is more likely than not to be realized, assuming that thematter in question will be raised by the tax authorities. Potential interestand penalties associated with such uncertain tax positions are recorded as acomponent of income tax expense. At adoption date, we made a comprehensivereview of our uncertain tax positions. We believe appropriate provisions foroutstanding issues have been made.

 

**Foreign Currency Translation andRemeasurement** – We translate assetsand liabilities of non-U.S. operations into U.S. dollars at year end rates,and revenues and expenses at average rates of exchange prevailing during theyear. We report the resulting translation adjustments as a separate componentof accumulated other comprehensive income or loss. We recognize foreign currencytransaction gains and losses in the consolidated statements of operations asincurred.

 

**Foreign Currency ExchangeContracts** – We enter into foreigncurrency exchange contracts to mitigate the risks from foreigncurrency fluctuations on certain intercompany transactions. These contracts arenot designated as hedging instruments for accounting purposes, and are not usedfor trading or speculative purposes. Gains and losses arising from fluctuationsin exchange rates are recognized at the end of each reporting period. Suchgains and losses offset the foreign currency exchange gains or lossesassociated with the corresponding receivable, payable, or forecastedtransaction. We have credit risk to the extent the counterparties are unable tofulfill their obligations on the foreign currency exchange contracts. However,we enter into these contracts with reputable financial institutions and webelieve we have no significant credit risk.

 

**Stock-Based Compensation** – We have an employee stock purchase plan (“Purchase Plan”) and stock award plans (“StockPlans”), which are described in Note 12.

 

Effective January 1,2006, we adopted Statement of Financial Accounting Standards (“SFAS”)No.123(R), “Share-Based Payment,” (“SFAS No. 123(R)”) which requires acompany to measure the

 

45

----

 

grant date fair value of equity awards given to employees in exchangefor services and recognize that cost over the period that such services areperformed. We adopted the provisions of SFAS No. 123(R) using themodified prospective application method. We recognize the cost of share-basedawards on a straight-line basis over the award’s requisite service period. Weestimate the fair value of our stock option awards and employee stock purchaseplan rights on the date of grant using the Black-Scholes option valuationmodel. See Note 12 for additional information regarding the impact of SFAS No. 123(R) onour financial statements. During the year ended December 31, 2006, weelected the “Long” method, as defined in SFAS No. 123(R)-3 to calculatethe additional paid-in capital pool.

 

Prior to January 1, 2006, we applied theintrinsic value method in Accounting Principles Board (“APB”) Opinion No. 25,“Accounting for Stock Issued to Employees” (“APB No. 25”) and relatedinterpretations in accounting for our stock plans and the disclosure-onlyprovisions SFAS No. 148, “Accounting for Stock-BasedCompensation-Transitional and Disclosure-An Amendment of FASB Statement No. 123.”

 

**Earnings (loss) per Common Share** – Basic earnings (loss) per commonshare is computed using the weighted-average number of common sharesoutstanding during each year. Diluted earnings per common share reflects theeffect of our outstanding options (using the treasury stock method), exceptwhen such options would be antidilutive.

 

Areconciliation of the weighted-average shares used for the basic and dilutedcomputations is as follows:

 
| **For the years ended December 31,** | ** ** | **2007**  | ** ** | **2006**  | ** ** | **2005**  | ** ** |
|---------------------------------------------------------------|------------|-----------|------------|-----------|------------|-----------|------------|
|                                                          |       |      |       |      |       |      |       |
| Weighted-average  shares for basic earnings per share         |       | 8,521,700 |       | 8,303,770 |       | 8,069,721 |       |
| Dilutive effect  of stock options                             |       | 125,600   |       | —    |       | 195,513   |       |
| Weighted-average  shares for diluted earnings per share       |       | 8,647,300 |       | 8,303,770 |       | 8,265,234 |       |

 

We did not include 22,500 outstanding options to purchaseshares of common stock in the computation of diluted earnings per common sharefor the year ended December 31, 2007 because their impact would have beenantidilutive. We did not include any of the 594,500 outstanding options topurchase shares of common stock or the right to purchase shares under ouremployee stock purchase plan of 11,281 in the computation of diluted loss percommon share for the year ended December 31, 2006 because their impactwould have been antidilutive. All outstanding options were included in thecomputation of diluted earnings per common share for the years ended December 31,2005.

 

**Environmental Matters** – Potential environmental liabilities are recorded when it is probablethat a loss has been incurred and its amount can reasonably be estimated. (SeeNote 13.)

 

**Segment Reporting** – We have two reportable segments: the piano segment and the band &orchestral instrument segment. We consider these two segments reportable as theyare managed separately and the operating results of each segment are separatelyreviewed and evaluated by our senior management on a regular basis. The Company’schief operating decision maker is the Chief Executive Officer.

 

**RetirementPlans** – We have defined benefit pension plans covering a majority of ouremployees, including certain employees in foreign countries. Certain domestichourly employees are covered by multi-employer defined benefit pension plans towhich we make contributions. We also provide postretirement health care andlife insurance benefits to certain eligible hourly retirees and theirdependents.

 

46

----

 

Benefitsunder the pension and other postretirement benefit plans are generally based onage at retirement and years of service and, for some pension plans, benefitsare also based on the employee’s annual earnings. The net cost of our pensionand other postretirement plans is determined using the projected unit creditmethod and several actuarial assumptions, the most significant of which are thediscount rate, the long-term rate of asset return, and current rate trends(rate of growth for medical costs). A portion of net periodic pension and otherpostretirement income or expense is not recognized in net earnings in the yearincurred because it is allocated to production as product costs, and reflectedin inventory at the end of a reporting period.

 

Effective December 31, 2006 we adopted SFAS No. 158,“Employers’ Accounting for Defined Benefit Pension and Other PostretirementPlans – an amendment of FASB Statements No. 87, 88, 106 and 132(R)” (“SFASNo. 158”) which requires that the balance sheet reflects the funded statusof the pension and postretirement plans.

 

**Comprehensive Income****(Loss)** – Comprehensive income (loss) iscomprised of net income (loss), foreign currency translation adjustments,pension liabilities, and unrealized gains and losses on available-for-sale(AFS) marketable securities and is reported in the consolidated statements ofstockholders’ equity for all periods presented. The components of accumulatedother comprehensive income (loss) are as follows:

 
| ** **                      | ** ** | **Foreign  Currency  Translation  Adjustment** | ** ** | **Holding  Gain/(Loss)  on  AFS  Marketable  Securities** | ** ** | **Tax Impact of  Gain/(Loss)  on  AFS  Marketable  Securities** | ** ** | **Additional  Minimum  Pension  Liability** | ** ** | **Tax Impact of  Additional  Minimum  Pension Liability** | ** ** | **Pension &  Other Post-  Retirement  Benefits** | ** ** | **Tax Impact of  Pension &  Other Post-  Retirement  Benefits** | ** ** | **Accumulated  Other  Comprehensive  Income (Loss)** | ** ** |
|---------------------------------|------------|------------------------------------------------|------------|-----------------------------------------------------------|------------|---------------------------------------------------------------------------|------------|---------------------------------------------|------------|--------------------------------------------------------------------------|------------|----------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------|------------|-----------------------------------------------------------|------------|
|                            |       |                                           |       |                                                      |       |                                                                      |       |                                        |       |                                                                     |       |                                                           |       |                                                                                    |       |                                                      |       |
| Balance January 1,  2005   |       | $5,746                                         |       | $157                                                      |       | $(63                                                                      | )          | $(10,802                                    | )          | $4,225                                                                   |       | $—                                                        |       | $—                                                                                 |       | $(737                                                     | )          |
| Activity                        |       | (8,377                                         | )          | 56                                                        |       | (22                                                                       | )          | (6,622                                      | )          | 2,517                                                                    |       | —                                                         |       | —                                                                                  |       | (12,448                                                   | )          |
| Balance December 31,  2005 |       | (2,631                                         | )          | 213                                                       |       | (85                                                                       | )          | (17,424                                     | )          | 6,742                                                                    |       | —                                                         |       | —                                                                                  |       | (13,185                                                   | )          |
| Activity                        |       | 6,440                                          |       | (213                                                      | )          | 85                                                                        |       | (31                                         | )          | (77                                                                      | )          | —                                                         |       | —                                                                                  |       | 6,204                                                     |       |
| Adoption of SFAS  No. 158  |       | —                                         |       | —                                                    |       | —                                                                    |       | 17,455                                      |       | (6,665                                                                   | )          | (23,235                                                        | )          | 8,876                                                                                   |       | (3,569                                                    | )          |
| Balance  December 31, 2006 |       | 3,809                                          |       | —                                                    |       | —                                                                    |       | —                                      |       | —                                                                   |       | (23,235                                                        | )          | 8,876                                                                                   |       | (10,550                                                   | )          |
| Activity                        |       | 5,232                                          |       | —                                                    |       | —                                                                    |       | —                                      |       | —                                                                   |       | 11,619                                                         |       | (4,528                                                                                  | )          | 12,323                                                    |       |
| Balance  December 31, 2007 |       | $9,041                                         |       | $—                                                   |       | $—                                                                   |       | $—                                     |       | $—                                                                  |       | $(11,616                                                       | )          | $4,348                                                                                  |       | $1,773                                                    |       |

 

**Recent Accounting Pronouncements** –In September 2006, the FASB issued SFAS No. 157, “Fair ValueMeasurements” (“SFAS No. 157”). SFAS No. 157 defines fair value,establishes a framework for measuring fair value and expands disclosures aboutfair value measurements. SFAS No. 157 is effective for financialstatements issued for fiscal years beginning after November 15, 2007. Weare currently evaluating the requirements of SFAS No. 157 and have not yetdetermined the impact, if any, its adoption will have on our consolidatedfinancial position and results of operations. In February 2008, the FASBdelayed the effective date of SFAS No. 157 for all nonrecurring fair valuemeasurements of nonfinancial assets and nonfinancial liabilities until fiscalyears beginning after November 15, 2008.

 

In February 2007, the FASB issued SFAS No. 159,“The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS No. 159”).SFAS No. 159 provides entities with an option to report selected financialassets and liabilities at fair value, with the objective to reduce both thecomplexity in accounting for financial instruments and the volatility inearnings caused by measuring related assets and liabilities differently. Wewill be required to adopt SFAS No. 159 in the first quarter of fiscal year2008. We are currently evaluating the requirements of SFAS No. 159 andhave not yet determined the impact, if any, of its adoption on our consolidatedfinancial position and results of operations.

 

47

----

 

**3.****             ****FacilityRationalization – Band Segment**

 

As part of our effort to reduce excess manufacturingcapacity in our band segment, in December 2007 we announced the pendingclosure of our Kenosha, Wisconsin woodwind manufacturing facility. As a resultof this closing, which we expect to occur in mid-2008, we recorded charges ofless than $0.1 million in severance expenses as a component of cost of goodssold and $0.1 million in facility impairment charges as a component ofoperating expenses for the year ended December 31, 2007.

 

**4.****             ****Inventories,net**

 
| **December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** |
|-----------------------|------------|----------|------------|----------|------------|
| Raw materials         |       | $        | 18,615     |     | $          | 20,989 |   |
| Work-in-process       |       | 51,402   |       | 49,316   |       |
| Finished goods        |       | 82,434   |       | 84,318   |       |
|                  |       | $        | 152,451    |     | $          | 154,623 |   |

 

A summary of the activityin the inventory reserves is as follows:

 
| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                          |       |     |       |     |       |     |       |
| Beginning  balance                                            |       | $        | 9,277      |     | $          | 8,722    |       | $ | 7,574 |   |
| Additions  charged to costs and expenses                      |       | 2,046    |       | 3,729    |       | 2,548    |       |
| Foreign currency  translation adjustments                     |       | 125      |       | 122      |       | (95      | )          |
| Deductions and  reclassifications                             |       | (894     | )          | (3,296   | )          | (1,305   | )          |
| Ending balance                                                |       | $        | 10,554     |     | $          | 9,277    |       | $ | 8,722 |   |

 

**5.****             ****Property,Plant and Equipment, Net**

** **
| **December 31,**                           | ** ** | **2007** | ** ** | **2006** | ** ** |
|-------------------------------------------------|------------|----------|------------|----------|------------|
| Land                                            |       | $        | 20,404     |     | $          | 19,694 |   |
| Buildings and  improvements                     |       | 72,041   |       | 70,571   |       |
| Leasehold  improvements                         |       | 4,534    |       | 4,359    |       |
| Machinery,  equipment and tooling               |       | 58,524   |       | 54,049   |       |
| Office furniture  and fixtures                  |       | 12,928   |       | 12,458   |       |
| Concert and Artist  and rental pianos           |       | 18,288   |       | 16,874   |       |
| Construction-in-progress                        |       | 1,652    |       | 1,979    |       |
|                                            |       | 188,371  |       | 179,984  |       |
| Less accumulated  depreciation and amortization |       | (94,221  | )          | (84,386  | )          |
|                                            |       | $        | 94,150     |     | $          | 95,598 |   |

 

Depreciation expense was $9.7 million in2007, $9.8 million in 2006, and $10.2 million in 2005.

 

48

----

 

**6.     Goodwill, Trademarks, and Other Intangible Assets**

 
| **December 31,**              | ** ** | **2007** | ** ** | **2006** | ** ** |
|------------------------------------|------------|----------|------------|----------|------------|
| Non-amortizing  intangible assets: |       |     |       |     |       |
| Goodwill                           |       | $        | 32,907     |     | $          | 31,481 |   |
| Trademarks                         |       | $        | 14,119     |     | $          | 13,671 |   |
|                               |       |     |       |     |       |
| Amortizing  intangible assets:     |       |     |       |     |       |
| Deferred  financing costs          |       | $        | 5,755      |     | $          | 5,750 |   |
| Accumulated  amortization          |       | (1,980   | )          | (1,287   | )          |
| Deferred  financing costs, net     |       | $        | 3,775      |     | $          | 4,463 |   |
|                               |       |     |       |     |       |
| Covenants not to  compete          |       | $        | 500        |     | $          | 500 |   |
| Accumulated  amortization          |       | (338     | )          | (238     | )          |
| Covenants not to  compete, net     |       | $        | 162        |     | $          | 262 |   |

 

Thechanges in the carrying amounts of goodwill and trademarks are as follows:

 
| ** **                           | ** ** | **Piano  Segment** | ** ** | **Band  Segment** | ** ** | **Total** | ** ** |
|--------------------------------------|------------|--------------------|------------|-------------------|------------|-----------|------------|
| Goodwill:                            |       |               |       |              |       |      |       |
| Balance at  January 1, 2006     |       | $                  | 21,533     |              | $          | 8,555     |       | $ | 30,088 |   |
| Foreign currency  translation impact |       | 1,393              |       | —            |       | 1,393     |       |
| Balance at  December 31, 2006   |       | 22,926             |       | 8,555             |       | 31,481    |       |
| Foreign currency  translation impact |       | 1,426              |       | —            |       | 1,426     |       |
| Balance at  December 31, 2007   |       | $                  | 24,352     |              | $          | 8,555     |       | $ | 32,907 |   |

 
| ** **                           | ** ** | **Piano  Segment** | ** ** | **Band  Segment** | ** ** | **Total** | ** ** |
|--------------------------------------|------------|--------------------|------------|-------------------|------------|-----------|------------|
| Trademarks:                          |       |               |       |              |       |      |       |
| Balance at  January 1, 2006     |       | $                  | 7,409      |              | $          | 5,824     |       | $ | 13,233 |   |
| Foreign currency  translation impact |       | 438                |       | —            |       | 438       |       |
| Balance at  December 31, 2006   |       | 7,847              |       | 5,824             |       | 13,671    |       |
| Foreign currency  translation impact |       | 448                |       | —            |       | 448       |       |
| Balance at  December 31, 2007   |       | $                  | 8,295      |              | $          | 5,824     |       | $ | 14,119 |   |

 

Theweighted-average amortization period for deferred financing costs is six years,and the weighted-average amortization period of covenants not to compete isfive years. The following tablesummarizes amortization expense, which includes amortization of deferredfinancing costs:

 

49

----

** **

| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                          |       |     |       |     |       |     |       |
| Total  amortization expense                                   |       | $        | 786        |     | $          | 812      |       | $ | 1,116 |   |
|                                                               |            |          |            |          |            |          |            |  |  |  |

 

The following tableshows the estimated amortization expense for intangible assets for each of thefive succeeding fiscal years:

 
| **For the years ended December 31,** | ** ** | **Amount** | ** ** |
|---------------------------------------------------------------|------------|------------|------------|
| 2008                                                          |       | $          | 789        |   |
| 2009                                                          |       | 747        |       |
| 2010                                                          |       | 664        |       |
| 2011                                                          |       | 626        |       |
| 2012                                                          |       | 514        |       |
| Thereafter                                                    |       | 597        |       |
|                                                               |            |            |            |  |

 

**7.     Other Assets**

 
| **December 31,**      | ** ** | **2007** | ** ** | **2006** | ** ** |
|----------------------------|------------|----------|------------|----------|------------|
|                       |       |     |       |     |       |
| Intangible  pension assets |       | $        | 3,695      |     | $          | — |   |
| Notes receivable           |       | 5,681    |       | 5,267    |       |
| Marketable  securities     |       | 1,839    |       | 1,547    |       |
| Deposits                   |       | 4,883    |       | 4,571    |       |
| Other assets               |       | 1,916    |       | 1,603    |       |
| Total                      |       | $        | 18,014     |     | $          | 12,988 |   |

 

Deposits include $2.6million set aside for potential workers’ compensation liabilities and $2.0million for environmental remediation; therefore the use of these funds isrestricted unless we replace the deposits with a letter of credit of a similaramount.

 

**8.****             ****OtherCurrent Liabilities**

 
| **December 31,**                                                    | ** ** | **2007** | ** ** | **2006** | ** ** |
|--------------------------------------------------------------------------|------------|----------|------------|----------|------------|
|                                                                     |       |     |       |     |       |
| Accrued payroll  and related benefits                                    |       | $        | 16,721     |     | $          | 16,397 |   |
| Current portion  of pension and other postretirement benefit liabilities |       | 1,440    |       | 1,461    |       |
| Accrued warranty  expense                                                |       | 1,541    |       | 1,888    |       |
| Accrued interest                                                         |       | 4,049    |       | 4,178    |       |
| Deferred income                                                          |       | 10,224   |       | 6,348    |       |
| Environmental  liabilities                                               |       | 2,648    |       | 3,232    |       |
| Income and other  taxes payable                                          |       | 6,139    |       | 3,012    |       |
| Other accrued  expenses                                                  |       | 9,558    |       | 8,132    |       |
| Total                                                                    |       | $        | 52,320     |     | $          | 44,648 |   |

 

Accrued warranty expense is recorded at the time ofsale for instruments that have a warranty period ranging from one to ten years.The accrued expense recorded is generally based on a historical warranty costsas a percentage of sales and is adjusted periodically following an analysis ofwarranty activity. A summary of the activity in accrued warranty expense is asfollows:

 

50

----

 
| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                          |       |     |       |     |       |     |       |
| Accrued warranty  expense:                                    |       |     |       |     |       |     |       |
| Beginning  balance                                            |       | $        | 1,888      |     | $          | 1,857    |       | $ | 2,139 |   |
| Additions                                                     |       | 798      |       | 806      |       | 858      |       |
| Claims and  reversals                                         |       | (1,200   | )          | (849     | )          | (1,045   | )          |
| Foreign currency  translation                                 |       | 55       |       | 74       |       | (95      | )          |
| Ending balance                                                |       | $        | 1,541      |     | $          | 1,888    |       | $ | 1,857 |   |

 

** 9.****          ****OtherIncome, Net**

** **
| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                          |       |     |       |     |       |     |       |
| West 57th  Building income                                    |       | $        | (4,653     | )        | $          | (4,653   | )          | $ | (4,653 | ) |
| West 57th  Building expenses                                  |       | 3,284    |       | 3,282    |       | 3,269    |       |
| Foreign exchange  (gain) loss, net                            |       | 469      |       | (432     | )          | 271      |       |
| Miscellaneous,  net                                           |       | 841      |       | (367     | )          | (225     | )          |
| Total                                                         |       | $        | (59        | )        | $          | (2,170   | )          | $ | (1,338 | ) |

 

**10.****      ****IncomeTaxes**

 

The components of the income tax provision are asfollows:

 
| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                          |       |     |       |     |       |     |       |
| U.S. federal:                                                 |       |     |       |     |       |     |       |
| Current                                                       |       | $        | 3,474      |     | $          | (259     | )          | $ | 1,167 |   |
| Deferred                                                      |       | (2,976   | )          | (8,001   | )          | 98       |       |
| U.S. state and  local:                                        |       |     |       |     |       |     |       |
| Current                                                       |       | 548      |       | 553      |       | 464      |       |
| Deferred                                                      |       | (25      | )          | 278      |       | (171     | )          |
| Foreign:                                                      |       |     |       |     |       |     |       |
| Current                                                       |       | 9,983    |       | 8,120    |       | 7,251    |       |
| Deferred                                                      |       | (924     | )          | (404     | )          | (609     | )          |
| Total                                                         |       | $        | 10,080     |     | $          | 287      |       | $ | 8,200 |   |

 

51

----

 

Thecomponents of income (loss) before income taxes are as follows:

** **
| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                          |       |     |       |     |       |     |       |
| U.S. operations                                               |       | $        | (88        | )        | $          | (20,077  | )          | $ | 4,265 |   |
| Non-U.S.  operations                                          |       | 25,578   |       | 19,696   |       | 17,727   |       |
| Total                                                         |       | $        | 25,490     |     | $          | (381     | )          | $ | 21,992 |   |

 

Ourincome tax provision differed from that using the statutory U.S. federal rateas follows:

 
| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                          |       |     |       |     |       |     |       |
| Statutory  federal rate applied to income (loss) before       |       |     |       |     |       |     |       |
| income taxes                                                  |       | $        | 8,922      |     | $          | (133     | )          | $ | 7,697 |   |
| Increase  (decrease) in income taxes resulting from:          |       |     |       |     |       |     |       |
| Foreign income  taxes (net of federal benefit) (1)            |       | 1,406    |       | 6,680    |       | 1,817    |       |
| German tax rate  change(4)                                    |       | (325     | )          | —   |       | —   |       |
| State income  taxes (net of federal benefit)                  |       | 966      |       | 267      |       | 642      |       |
| Benefit of  excess foreign tax credits (2)                    |       | (1,666   | )          | (7,182   | )          | (938     | )          |
| Detriment  (benefit) of state net operating losses (3)        |       | —   |       | 364      |       | (562     | )          |
| Other                                                         |       | 777      |       | 291      |       | (456     | )          |
| Income tax  provision                                         |       | $        | 10,080     |     | $          | 287      |       | $ | 8,200 |   |

 

----

(1)   Includesthe impact of foreign taxes in excess of the U.S. statutory rate of 35% as wellas foreign income also subject to U.S. tax, less the foreign tax credit allowedin the current year. No foreign tax credits were used in 2006.

 

(2)   Representsthe impact of excess foreign taxes eligible to offset future U.S. taxes, lessan associated valuation allowance of $938 in 2005. All foreign tax credits generatedin 2006 were excess foreign tax credits. No valuation allowance was recordedagainst foreign tax credits generated in 2006 and 2007.

 

(3)   Representsthe impact of state net operating losses available to offset current and futuretaxable income at the state level. No NOLs were available for use in 2007.

 

(4)   In 2007,Germany passed legislation that reduced the rate at which certain of ouroperations pay tax. Upon passage of the legislation, we recognized a reductionof $0.3 million of our deferred tax liabilities based on the change in rate.This legislation is effective in 2008.

 

At December 31, 2007, accumulated retainedearnings of non-U.S. subsidiaries totaled $13.4 million. We did not provide forU.S. income taxes or foreign withholding taxes for these subsidiaries becauseour current intention is to reinvest such earnings for the foreseeable future.

 

52

----

 

The components of netdeferred taxes are as follows:

 
| **December 31,**                                        | ** ** | **2007**   | ** ** | **2006**   | ** ** |
|--------------------------------------------------------------|------------|------------|------------|------------|------------|
| ** **                                                   | ** ** | ** ** | ** ** | ** ** | ** ** |
| Deferred tax  assets:                                        |       |       |       |       |       |
| Uniform  capitalization and reserve adjustments to inventory |       | $          | 3,751      |       | $          | 2,396 |   |
| Allowance for  doubtful accounts                             |       | 4,399      |       | 3,557      |       |
| Accrued expenses  and other current assets and liabilities   |       | 7,403      |       | 8,061      |       |
| OCI - pension  and OPEB plans                                |       | 4,348      |       | 8,876      |       |
| Net operating  losses                                        |       | 2,321      |       | 5,694      |       |
| Foreign tax  credits                                         |       | 18,851     |       | 18,914     |       |
| Other                                                        |       | 1,686      |       | —     |       |
| Total deferred  tax assets                                   |       | 42,759     |       | 47,498     |       |
|                                                         |       |       |       |       |       |
| Deferred tax  liabilities:                                   |       |       |       |       |       |
| Pension  contributions                                       |       | (1,660     | )          | (3,164     | )          |
| Fixed assets                                                 |       | (17,725    | )          | (18,839    | )          |
| Intangibles                                                  |       | (8,198     | )          | (8,030     | )          |
| Total deferred  tax liabilities                              |       | (27,583    | )          | (30,033    | )          |
| Net deferred  taxes before valuation allowances              |       | 15,176     |       | 17,465     |       |
| Valuation  allowances                                        |       | (9,786     | )          | (13,411    | )          |
| Net deferred  taxes                                          |       | $          | 5,390      |       | $          | 4,054 |   |

 

The valuation allowances generally take intoconsideration limitations imposed upon the use of the tax attributes and reducethe value of such items to the likely net realizable amount. The valuationallowances relate to foreign tax credits and state net operating losscarryforwards generated in excess of amounts we more likely than not expect toutilize. Gross state tax net operating loss carryforwards totaled $88.5 millionas of December 31, 2007 and expire in varying amounts from 2007 through2027. Our foreign tax credits expire in varying amounts from 2009 through 2017.

 

Valuation allowances decreased $3.6 million during2007 and increased $2.6 million during 2006. Valuation allowances relating tothe acquisition of Steinway totaled $2.7 million as of December 31, 2007and $3.1 million as of December 31, 2006. The difference results primarilyfrom exchange rate fluctuations. If these valuation allowances are removed, thereversal would reduce goodwill.

 

As a result of our adoptionof FIN 48 effective January 1, 2007, we recorded a decrease of $2.8million in retained earnings, an increase of $1.6 million in net deferredincome tax assets, a net increase of $0.3 million in other current liabilities,and an increase of $4.1 million in other non-current liabilities. Inconjunction with the adoption of FIN 48, we began reporting income tax-relatedinterest and penalties as a component of income tax expense. In prior periodssuch interest was reported in interest expense. As of January 1, 2007, weaccrued $1.3 million for the payment of interest and $0.6 million for thepayment of penalties. As of December 31, 2007 we have $1.6 million accruedfor the payment of interest and $0.6 million for the payment of penalties. Forthe year ended December 31, 2007 we incurred $0.3 million in interest expenseand less than $0.1 million in penalties related to uncertain tax positions.

 

As of the date of adoption, the total amount ofunrecognized tax benefits was $7.4 million, of which $1.9 million would affectour effective tax rate, if recognized. As of December 31, 2007, the totalamount of unrecognized tax benefits was $6.6 million, of which $2.1 millionwould affect our effective tax rate, if recognized.

 

53

----

 

As of December 31,2007, we had approximately $2.8 million recorded in other current liabilitiesand $2.5 million in other non-current liabilities related to uncertain taxpositions in the accompanying consolidated balance sheet. Although we believeour tax estimates are appropriate, the final determination of tax audits andany related litigation could result in favorable or unfavorable changes in ourestimates.

 

Therehave been no material changes to the liability for uncertain tax positions. Areconciliation of the beginning and ending amount of unrecognized tax benefitsis as follows:

 
| Balance at  January 1, 2007                               |   | $    | 7,367  |   |
|-----------------------------------------------------------|--------|------|--------|--------|
| Gross increase -  tax positions taken in a prior year     |   | 16   |   |
| Gross decrease -  tax positions taken in a prior year     |   | (200 | )      |
| Gross increase -  tax positions taken in the current year |   | 122  |   |
| Gross decrease -  settlements with taxing authorities     |   | (250 | )      |
| Cash advance in  connection with proposed settlement      |   | (436 | )      |
| Balance at  December 31, 2007                             |   | $    | 6,619  |   |

 

We file income tax returns in the U.S. federal jurisdiction and variousstate and foreign jurisdictions. With few exceptions, our returns are no longersubject to U.S. federal, state and local, or non-U.S. income tax examinationsfor years before 2004.

 

Inaddition, we believe that it is reasonably possible that our tax reservesduring 2008 will decrease approximately $2.0 million due to resolution ofcertain tax positions taken in local jurisdictions, and $0.8 million due toresolution of certain tax positions taken in state jurisdictions.

 

**11.  Long-Term Debt**

 

Duringthe year ended December 31, 2006, we significantly restructured ourlong-term debt. In February 2006 we repaid our larger, higher interestterm loan, which had an outstanding balance of $16.0 million at the time ofpayoff. We also issued $175.0 million of 7.00% Senior Notes dueMarch 1, 2014 and extended a tender offer to purchase the $166.2million of our outstanding 8.75% Senior Notes. We issued our new 7.00% SeniorNotes at 99.2435%, and received proceeds of $170.2 million, net of associatedfees. We used the proceeds from this issuance to extinguish $114.6 million ofthe 8.75% Senior Notes pursuant to our tender offer in the first quarter of2006. The remaining proceeds, supplemented by borrowings on our line of credit,were used to exercise our right to call the remaining $51.6 million of 8.75%Senior Notes on April 17, 2006.

 

OnSeptember 29, 2006 we restructured our domestic credit facility and usedour first borrowing, supplemented by cash on hand, to repay our remaining termloan, which had a balance of $14.6 million at the time of payoff. Ourrestructured domestic credit facility provides us with a potential borrowingcapacity of $110.0 million in revolving credit loans, and expires on September 29,2011. It also provides for borrowings at either London Interbank Offering Rate(“LIBOR”) plus a range from 1.25% to 1.75% or as-needed borrowings at analternate base rate, plus a range from 0.00% to 0.25%; both ranges depend uponavailability at the time of borrowing. Borrowings are collateralized by ourdomestic accounts receivable, inventory and fixed assets. As a result ofour debt restructuring activities, we recorded a net

 

54

----

 

loss on extinguishment ofdebt of $9.7 million for the year ended December 31, 2006, which consistsof the following:

 
| **For the year ended December 31,** | ** ** | **2006** | ** ** |
|--------------------------------------------------------------|------------|----------|------------|
| Deferred  financing costs write-off - term loan              |       | $        | 977        |   |
| Deferred  financing costs write-off - 8.75% Senior Notes     |       | 2,247    |       |
| Premiums  pursuant to the tender offer and call              |       | 7,740    |       |
| Bond premium  write-off                                      |       | (1,290   | )          |
| Total net loss  on extinguishment of debt                    |       | $        | 9,674      |   |

 

Ourlong-term debt consists of the following:

 
| **December 31,**                                    | ** ** | **2007** | ** ** | **2006** | ** ** |
|----------------------------------------------------------|------------|----------|------------|----------|------------|
| 7.00% Senior  Notes                                      |       | $        | 175,000    |     | $          | 175,000 |   |
| Unamortized bond  discount                               |       | (1,019   | )          | (1,184   | )          |
| Open account  loans, payable on demand to a foreign bank |       | 2,285    |       | 4,595    |       |
| Total                                                    |       | 176,266  |       | 178,411  |       |
| Less current  portion                                    |       | 2,285    |       | 4,595    |       |
| Long-term debt                                           |       | $        | 173,981    |     | $          | 173,816 |   |

 

Scheduledpayments of long-term debt as of December 31, 2007 are as follows:

 
| ** ** | ** ** | **Amount** | ** ** |
|------------|------------|------------|------------|
|       |       |       |       |
| 2008       |       | $          | 2,285      |   |
| 2009       |       | —     |       |
| 2010       |       | —     |       |
| 2011       |       | —     |       |
| 2012       |       | —     |       |
| Thereafter |       | 175,000    |       |
| Total      |       | $          | 177,285    |   |

 

Our non-domestic creditfacilities originating from two German banks that provide for borrowings byforeign subsidiaries of up to €17.4 million ($25.4 million at the December 31, 2007 exchangerate), net of borrowing restrictions of €0.7 million ($1.0 million at the December 31, 2007 exchange rate) and are payableon demand. These borrowings are collateralized by most of the assets of theborrowing subsidiaries. A portion of the loans can be converted into a maximumof £0.5 million ($1.0 million at the December 31, 2007 exchange rate) for use by our U.K. branch and ¥300million ($2.7 million at the December 31,2007 exchange rate) for use by our Japanese subsidiary. Our Chinesesubsidiary also has the ability to convert the equivalent of up to €2.5 millioninto U.S. dollars or Chinese yuan ($3.7 million at the December 31, 2007 exchange rate). Euro loans bearinterest at rates of Euro Interbank Offered Rate (“EURIBOR”) plus a margindetermined at the time of borrowing. Margins fluctuate based on the loan amountand the borrower’s bank rating. The remaining demand borrowings bear interestat rates of LIBOR plus 0.8% for British pound loans (no outstanding borrowingsat December 31, 2007),LIBOR plus 1.0% for U.S. dollar loans of our Chinese subsidiary (no outstandingborrowings at December 31, 2007), and Tokyo Interbank Offered Rate (“TIBOR”)plus 0.9% for Japanese yen loans (borrowings at 

 

55

----

 

1.6% at December 31, 2007). We had less than $0.1 million outstanding as of December 31, 2007 on these credit facilities.

 

Our Japanese subsidiaryalso maintains a separate revolving loan agreement that provides additionalborrowing capacity of up to ¥460 million ($4.1 million at the December 31, 2007 exchange rate)based on eligible inventory balances. The revolving loan agreement bearsinterest at an average 30-day TIBOR rate plus 0.8% (outstanding borrowings at1.5% at December 31, 2007)and expires on January 31, 2010. As of December 31, 2007, we had $2.2 millionoutstanding on this revolving loan agreement.

 

All of our debt agreements contain covenants thatplace certain restrictions on us, including our ability to incur additionalindebtedness, to make investments in other entities, and to pay cash dividends.We were in compliance with all such covenants as of December 31, 2007.

 

**12.****      ****Stockholders’ Equity and StockArrangements**

 

Our common stock iscomprised of two classes:Class A and Ordinary. With the exception of disparate voting power, bothclasses are substantially identical. Each share of Class A common stockentitles the holder to 98 votes. Holders of Ordinary common stock are entitledto one vote per share. Class A common stock shall automatically convert toOrdinary common stock if, at any time, the Class A common stock is notowned by an original Class A holder. As of December 31, 2007 ourChairman and our Chief Executive Officer collectively owned 100% of the Class Acommon shares, representing approximately 85% of the combined voting power ofthe Class A common stock and Ordinary common stock.

 

**Employee Stock Purchase Plan** - Underour 2006 Employee Stock Purchase Plan substantially all employees maypurchase Ordinary common stock through payroll deductions at a purchase priceequal to 85% of the lower of the fair market values as of the beginning or endof each twelve-month offering period. Stock purchases under the Purchase Planare limited to 5% of an employee’s annual base earnings. We reserved 400,000shares for issuance under this plan and may grant options to purchase shares upto ten years from the plan’s commencement on August 1, 2006. In 2007, weregistered 400,000 shares for potential issuance under this plan. Shares issuedunder the 2006 Employee Stock Purchase Plan were 26,252 during 2007.

 

The1996 Employee Stock Purchase Plan expired on July 31, 2006. We hadreserved 500,000 shares for issuance under this plan. Shares issued under the1996 Employee Stock Purchase Plan were 26,121 during 2006, and 20,663 during2005, while 196,788 shares went unused under the plan.

 

**StockPlans** – The 2006 Stock Plan provides for the granting of 1,000,000 stockoptions (including incentivestock options and non-qualified stock options), stock appreciation rights andother stock awards to certain key employees, consultants and advisors. Ourstock options generally have five-year vesting terms and ten-year option terms.In 2007, we registered 1,000,000 shares for potential issuance under this plan.No shares have been issued out of the 2006 Stock Plan as of December 31,2007 and 126,700 stock options are outstanding.

 

The 1996 Stock Plan, as amended, expired as of July 31,2006. This plan still has vested and unvested options outstanding andoriginally provided for the granting of 1,500,000 stock options (including incentive stock options andnon-qualified stock options), stock appreciation rights and other stock awardsto certain key employees, consultants and advisors. We reserved 721,750treasury stock shares to issue under this plan. We reached our registered sharelimitation in early 2007, and have since issued 92,474 shares of treasury stockto cover options exercised, with 417,876 remaining options outstanding. Sincein most instances the average cost of the treasury stock exceeded the price ofthe options exercised, the difference between the proceeds received and theaverage cost of the treasury stock issued resulted in a reduction of retainedearnings of $0.3 million during the twelve months ended December 31, 2007.

 

EffectiveJanuary 1, 2006, we adopted SFAS No. 123(R), “Share-Based Payment” toaccount for our stock compensation arrangements, using the modified prospectiveapplication transition method. Accordingly, we did not restate the results ofprior periods. Prior to January 1, 2006, we applied

 

56

----

 

APB No. 25, “Accounting for Stock Issuedto Employees” and did not recognize any compensation expense associated withemployee stock options because the exercise price was equal to the market priceat the date of option grant. SFAS No. 123(R) requires thatstock-based compensation cost be recognized over the period from the date ofgrant to the date when the award is no longer contingent upon the employeeproviding additional service.

 

Thefollowing table illustrates the effect on net income and earnings per share ifwe had applied the fair value method to measure stock-based employeecompensation prior to January 1, 2006:

 
| **For the year ended December 31,**                                                                                  | ** ** | **2005**   | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------|------------|------------|------------|
| ** **                                                                                                                                    | ** ** | ** ** | ** ** |
| Net income, as  reported                                                                                                                      |       | $          | 13,792     |   |
| Less: Total  stock-based employee compensation expense determined under fair value method  for all awards, net of related tax effects of $141 |       | (933       | )          |
| Pro forma net  income                                                                                                                         |       | $          | 12,859     |   |
| Earnings per  share:                                                                                                                          |       |       |       |
| As reported -  Basic                                                                                                                          |       | $          | 1.71       |   |
| As reported -  Diluted                                                                                                                        |       | $          | 1.67       |   |
| Pro forma -  Basic                                                                                                                            |       | $          | 1.59       |   |
| Pro forma -  Diluted                                                                                                                          |       | $          | 1.57       |   |

 

The compensation cost and the income tax benefitrecognized for the Stock Plans and Employee Stock Purchase Plan is as follows:

 
| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|
|                                                          |       |     |       |     |       |
| Compensation  cost included in:                               |       |     |       |     |       |
| Basic income  (loss) per share                                |       | $        | 0.11       |     | $          | 0.12 |   |
| Diluted income  (loss) per share                              |       | 0.11     |       | 0.12     |       |
| Stock-based  compensation expense                             |       | 1,103    |       | 1,174    |       |
| Income tax  benefit                                           |       | 183      |       | 171      |       |
|                                                               |            |          |            |          |            |  |  |

 

We measured the fair valueof options on their grant date, including the valuation of the option featureimplicit in our Purchase Plan, using the Black-Scholes option-pricing model.The risk-free interest rate is based on the weighted-average of U.S. Treasuryrates over the expected life of the stock option or the contractual life of theoption feature in the Purchase Plan. The expected life of a stock option isbased on historical data of similar option holders. We have segregated our employees into twogroups based on historical exercise and termination behavior. The expected lifeof the option feature in the Purchase Plan is the same as its contractual life.Expected volatility is based on historical volatility of our stock over theexpected life of the option, as our options are not readily tradable.

 

57

----

 

Key assumptionsused to apply this pricing model to the Stock Plans are as follows:

 
| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                          |       |     |       |     |       |     |       |
| Risk free  interest rate                                      |       | 4.59%    |       | 4.98%    |       | 4.19%    |       |
| Weighted average  expected life (in years)                    |       | 8.1      |       | 7.1      |       | 7.5      |       |
| Expected  volatility of underlying stock                      |       | 25.1%    |       | 24.4%    |       | 26.1%    |       |
| Expected  dividends                                           |       | n/a      |       | n/a      |       | n/a      |       |

 

Theweighted-average fair values of options granted under the Stock Plan are asfollows:

 
| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Stock Plan                                                    |       | $        | 13.61      |     | $          | 10.95    |       | $ | 10.68 |   |
|                                                               |            |          |            |          |            |          |            |  |  |  |

 

The followingtable sets forth information regarding the Stock Plans:

 
| ** **                                            | ** ** | **Number of  Options** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** | **Remaining  Contractual  Life  (in years)** | ** ** | **Aggregate  Intrinsic  Value  (not in 000s)** | ** ** |
|-------------------------------------------------------|------------|-----------------------------|------------|-----------------------------------------|------------|---------------------------------------------------|------------|----------------------------------------------------------|------------|
| Outstanding at  January 1, 2007                  |       | 594,500                     |       | $                                       | 20.98      |                                              |       |                                                     |       |   |
| Granted                                               |       | 142,100                     |       | 32.39                                   |       |                                              |       |                                                     |       |
| Exercised                                             |       | (175,424                    | )          | 20.55                                   |       |                                              |       |                                                     |       |
| Forfeited                                             |       | (16,600                     | )          | 31.09                                   |       |                                              |       |                                                     |       |
| Outstanding at  December 31, 2007                |       | 544,576                     |       | $                                       | 23.78      |                                              | 6.2        |                                                     | $          | 2,560,420 |   |
|                                                  |       |                        |       |                                    |       |                                              |       |                                                     |       |
| Exercisable at  December 31, 2007                |       | 336,476                     |       | $                                       | 20.21      |                                              | 4.9        |                                                     | $          | 2,372,864 |   |
|                                                  |       |                        |       |                                    |       |                                              |       |                                                     |       |
| Vested or  expected to vest at December 31, 2007 |       | 495,064                     |       | $                                       | 23.18      |                                              | 6.0        |                                                     | $          | 2,513,552 |   |

 

The total intrinsic value of the options exercised during the twelvemonths ended December 31, 2007, 2006, and 2005 was $2.4 million, $2.8million, and $0.6 million, respectively.

 

As of December 31, 2007, there was $1.9 million of unrecognizedcompensation cost related to nonvested share-based compensation arrangementsgranted under the Stock Plan. This compensation cost is expected to berecognized over a period of three and a half years.

 

58

----

 

Key assumptionsused to apply the Black-Scholes pricing model to the Purchase plan are asfollows:

 
| **Fore the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|----------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                           |       |     |       |     |       |     |       |
| Risk-free  interest rate                                       |       | 5.00%    |       | 4.32%    |       | 2.83%    |       |
| Weighted-average  expected life of option feature (in years)   |       | 1.0      |       | 1.0      |       | 1.0      |       |
| Expected  volatility of underlying stock                       |       | 25.2%    |       | 23.6%    |       | 25.0%    |       |
| Expected  dividends                                            |       | n/a      |       | n/a      |       | n/a      |       |

 

Theweighted-average fair value of the option feature in the Purchase Plan is asfollows:

 
| **For the years ended December 31,** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|---------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Option feature  in Purchase Plan                              |       | $        | 7.23       |     | $          | 6.83     |       | $ | 7.29 |   |
|                                                               |            |          |            |          |            |          |            |  |  |  |

 

The following tables setforth information regarding the Purchase Plan:

 
| ** **                             | ** ** | **Number  of Options** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** | **Remaining  Contractual  Life  (in years)** | ** ** | **Aggregate  Intrinsic  Value  (not in 000s)** | ** ** |
|----------------------------------------|------------|-----------------------------|------------|-----------------------------------------|------------|---------------------------------------------------|------------|----------------------------------------------------------|------------|
| Outstanding at  January 1, 2007   |       | 11,281                      |       | $                                       | 20.80      |                                              |       |                                                     |       |   |
| Shares  subscribed                     |       | 26,541                      |       | 23.97                                   |       |                                              |       |                                                     |       |
| Exercised                              |       | (26,252                     | )          | 20.80                                   |       |                                              |       |                                                     |       |
| Canceled,  forfeited, or expired       |       | (1,129                      | )          | 21.89                                   |       |                                              |       |                                                     |       |
| Outstanding at  December 31, 2007 |       | 10,441                      |       | $                                       | 28.73      |                                              | 0.6        |                                                     | $          | 42,704 |   |
|                                        |            |                             |            |                                         |            |                                                   |            |                                                          |            |  |  |

 

As reported in the consolidated statements of cash flows, cash receivedfrom option exercises under the Stock Plan for the periods ended December 31,2007 and 2006 was $4.2 million and $5.1 million, respectively. SFAS No. 123(R) requiresthat cash flows from tax benefits resulting from tax deductions in excess ofthe compensation cost recognized for stock-based awards under a fair valuebasis (excess tax benefits) be classified as a cash flow from financingactivities. Accordingly, for the periods ended December 31, 2007 and 2006,$0.4 million of excess tax benefits has been classified as an outflow fromoperating activities and an inflow from financing activities in the statementof cash flows. For the periods ended December 31, 2007 and 2006, $0.7million and $0.9 million, respectively, of tax benefit from stock optionexercises is presented as a cash inflow from operating activities.

 

**13.****      ****Commitments and ContingentLiabilities**

 

**Lease Commitments** – We leasevarious facilities and equipment under non-cancelable operating lease arrangements. These leases expire at varioustimes through 2022. Rent expense was $5.8 million for the year ended December 31,2007, $5.6 million for the year ended December 31, 2006 and $5.7 millionfor the year ended December 31, 2005.

 

59

----

 

In March 1999, we acquired the buildingon West 57th Street in New York City that includes the Steinway Hallretail store for approximately $30.8 million. We entered into a ninety-nineyear land lease as part of the transaction. Annual rent payable under the landlease is $2.2 million in the first ten years, $2.8 million for the subsequentten-year period and will be adjusted every twenty years thereafter to thegreater of the existing rent or 4% of the fair market value of the land andbuilding combined. Rent expense is being recognized on a straight-line basisover the initial twenty-year fixed rent period. We also entered into a ten-yearmaster lease whereby all of our interest in the land and building was leasedback to the owner of the land. Rental expense and rental income associated withthese leases was included, along with other real estate costs, in Other Income,Net (see Note 9). Future minimum lease payments for our non-cancelableoperating leases, excluding the land lease discussed above, and future rentalincome under the master lease are as follows:

 
| **For the years ending December 31,** | ** ** | **Lease  Payments** | ** ** | **Rental  Income** | ** ** |
|----------------------------------------------------------------|------------|---------------------|------------|--------------------|------------|
| 2008                                                           |       | $                   | 4,861      |               | $          | 4,653 | (1)  |
| 2009                                                           |       | 2,082               |       | —             |       |
| 2010                                                           |       | 1,773               |       | —             |       |
| 2011                                                           |       | 1,466               |       | —             |       |
| 2012                                                           |       | 1,216               |       | —             |       |
| Thereafter                                                     |       | 5,511               |       | —             |       |
| Total                                                          |       | $                   | 16,909     |               | $          | 4,653 |   |

 

----

(1) In 2008, if the master lease is not renewed or replaced wewould then directly receive the rental income from all other tenants in the building.

 

**Employment Agreements and Other Obligations** – We maintain employment agreements withcertain employees and consultants, including our Chairman and Chief ExecutiveOfficer. Most of these agreements have one-year terms and contain automaticrenewal provisions. Our obligation under these agreements at currentcompensation levels is approximately $3.3 million per year.

 

The Chairman and ChiefExecutive Officer collectively hold 100% of the Class A common shares,representing 85% of the combined voting power of the Class A common stockand Ordinary common stock. Further, these individuals have established alimited liability corporation to which we pay reimbursement of certain rent,overhead and travel-related expenses. These expenses totaled $0.3 million forthe year ended December 31, 2007 and $0.2 million in each of the yearsended December 31, 2006 and 2005. We included less than $0.1 million inaccounts payable related to these expenses at December 31, 2007 and 2006.

 

**Retail Financing Obligations** – Certain ofour retail sales overseas were financed by our customers through a local bankunder an arrangement that included an obligation on our part to repurchasepianos seized by the bank upon default by the customer. The buyback price isestablished as a percentage of the original sales price, starting at 80% in thefirst year and declining to 30% in the fifth year of the loan.

 

This program ceased in thefirst quarter of 2003. Nevertheless, because our obligation continues until thebank is paid in full by the customer, our commitment can remain outstanding forup to 8 years – the maximum term of the consumer loan.

 

60

----

 

Our maximum obligation underthis arrangement is estimated to be approximately €0.1 million ($0.2 million atthe December 31, 2007 exchange rate). To date, we have not been requiredto repurchase any pianos under this program and we believe the likelihood ofsuch repurchases in the future is remote. Accordingly, we have not recognized aliability for this obligation in our financial statements. Further, in theunlikely event of a repurchase, we believe the proceeds received upon ourresale of the piano would exceed the amount payable to the bank.

 

We generally do not provideextended financing arrangements to our piano dealers. To facilitate long-termfinancing required by some dealers, we have arranged financing throughthird-party providers. We generally provide no guarantees with respect to thesearrangements.

 

**Legal and Environmental Matters** – We are involved in certain legalproceedings regarding environmental matters, which are described below.Further, in the ordinary course of business, we are party to various legalactions that we believe are routine in nature and incidental to the operationof our business. While the outcome of such actions cannot be predicted withcertainty, we believe that, based on our experience in dealing with thesematters, their ultimate resolution will not have a material adverse impact onour business, financial condition, results of operations or prospects.

 

Certain environmental laws, such as the Comprehensive EnvironmentalResponse, Compensation, and Liability Act, as amended (“CERCLA”), imposestrict, retroactive, joint and several liability upon persons responsible forreleases of hazardous substances, which liability is broadly construed. UnderCERCLA and other laws, we may have liability for investigation and cleanupcosts and other damages relating to our current or former properties, orthird-party sites to which we sent wastes for disposal. Our potential liabilityat any of these sites is affected by many factors including, but not limitedto, the method of remediation, our portion of the hazardous substances at thesite relative to that of other parties, the number of responsible parties, thefinancial capabilities of other parties, and contractual rights andobligations.

 

In this regard, we operate certain manufacturing facilities which werepreviously owned by Philips Electronics North America Corporation (“Philips”).When we purchased these facilities, Philips agreed to indemnify us for certainenvironmental matters resulting from activities of Philips occurring prior to December 29,1988 (the “Environmental Indemnity Agreement”). To date, Philips has fullyperformed its obligations under the Environmental Indemnity Agreement, whichterminates on December 29, 2008, however, we cannot assure investors thatit will continue to do so in the future. Four matters covered by theEnvironmental Indemnity Agreement are currently pending. Philips has enteredinto Consent Orders with the Environmental Protection Agency (“EPA”) for onesite and the North Carolina Department of Environment, Health and NaturalResources for a second site, whereby Philips has agreed to pay requiredresponse costs. On October 22, 1998, we were joined as defendant in anaction involving a third site formerly occupied by a business we acquired inIllinois. Philips has accepted the defense of this action pursuant to the termsof the Environmental Indemnity Agreement. At the fourth site, which is athird-party waste disposal site, four Conn-Selmer predecessor entities areamong the potentially responsible parties (“PRP”) group. The PRP group hasrecently entered into a Consent Order with the EPA, the site owners, and thelargest contributor. For two of the Conn-Selmer predecessor entities, whichwere previously owned by Philips, this matter was tendered to Philips pursuantto the Environmental Indemnity Agreement. Philips is a party to the ConsentOrder and has paid its share of the liability. The four Conn-Selmer predecessorentities paid approximately $0.1 million in 2006 and settled this claim exceptfor the possibility of a contingent remedial action, should any additionalenvironmental issues be discovered. We believe the likelihood of a contingencyassessment to be remote and, our share of the liability, if any, would not bematerial.

 

61

----

 

In addition, we are continuing an existingenvironmental remediation plan at a facility we acquired in 2000. We estimateour costs, which approximate $0.8 million, over a 13-year period. We haveaccrued approximately $0.6 million for the estimated remaining cost of thisremediation program, which represents the present value total cost using adiscount rate of 4.54%. A summary of expected payments associated with thisproject is as follows:

 
| ** ** | ** ** | **Environmental  Payments** | ** ** |
|------------|------------|-----------------------------|------------|
| 2008       |       | $                           | 61         |   |
| 2009       |       | 61                          |       |
| 2010       |       | 61                          |       |
| 2011       |       | 61                          |       |
| 2012       |       | 61                          |       |
| Thereafter |       | 484                         |       |
| Total      |       | $                           | 789        |   |

 

In 2004, we acquired two manufacturing facilities from G. LeblancCorporation, now Grenadilla, Inc. (“Grenadilla”), for which environmentalremediation plans had already been established. In connection with theacquisition, we assumed the existing accrued liability of approximately $0.8million for the cost of these remediation activities. Based on a review of pastand ongoing investigatory and remedial work by our environmental consultants,and discussions with state regulatory officials, as well as recent sampling, weestimate the remaining costs of such remedial plans to be $2.1 million.Pursuant to the purchase and sale agreement, we have sought indemnificationfrom Grenadilla for anticipated costs above the original estimate in the amountof $2.5 million. We filed a claim against the escrow and recorded acorresponding receivable for this amount in prepaid expenses and other currentassets in our consolidated balance sheet. In 2007, we reduced this receivableto $2.1 million based on the current estimated costs of remediation. We havereached an agreement with Grenadilla whereby environmental costs are paiddirectly out of the escrow. Should the escrow be reduced to zero, we would seekindemnification from Grenadilla for these additional costs. However, we cannotbe assured that we will be able to recover such costs.

 

Based on our past experience and currently available information, thematters described above and our other liabilities and compliance costs arisingunder environmental laws are not expected to have a material impact on ourcapital expenditures, earnings or competitive position in an individual year.However, some risk of environmental liability is inherent in the nature of ourcurrent and former business and we may, in the future, incur material costs tomeet current or more stringent compliance, cleanup, or other obligationspursuant to environmental laws.

 

**14.          Retirement Plans**

 

Wehave defined benefit pension plans covering the majority of our employees,including certain employees in foreign countries. Certain domestic hourlyemployees are covered by multi-employer defined benefit pension plans to whichwe make contributions. These contributions totaled $1.0 million in 2007 and2006, and $1.1 million in 2005. The corresponding pension plan assets andliabilities belong to third parties and, accordingly, are not reflected in thisNote or our consolidated financial statements.

 

Ourplan assets are invested primarily in common stocks and fixed incomesecurities. We make contributions to our domestic plan with the objective ofmaintaining a 90% funded status for the projected benefit obligation. At aminimum, our contributions equal the amounts required by federal laws and

 

62

----

 

regulations. Foreign plans are funded inaccordance with the requirements of the regulatory bodies governing each plan.

 

In2003, we combined all of our domestic pension plans into one plan, “TheSteinway Musical Pension Plan,” to facilitate plan monitoring and plan investmentmanagement. Effective June 1, 2005 we established a master trust for thiscombined plan and we will continue to evaluate this plan’s funded status andmake any required minimum contributions annually.

 

OnDecember 31, 2006 we adopted the recognition and disclosure provisions ofSFAS No. 158, which requires us to recognize the funded status of ourdefined benefit pension plans and post-retirement benefit plan on our balancesheet as of December 31, 2006, with a corresponding adjustment toaccumulated other comprehensive income (loss), net of taxes. Thefunded status of the plans is measured as the difference between the planassets at fair value and the projected benefit obligation. We have recognizedthe aggregate of all underfunded plans in other current and pension and otherpostretirement liabilities. The portion of the amount by which the actuarialpresent value of benefits included in the projected benefit obligation exceedsthe fair value of plan assets, payable in the next twelve months, is reflectedin other current liabilities. The measurement date for our pension and otherpostretirement plans is December 31.

 

During2007 we recognized a curtailment loss of $1.2 million due to a significantreduction in expected years of future service from the striking workers of theElkhart, Indiana brass instrument manufacturing facility. The curtailment lossrepresents the previously unrecognized prior service cost which, absent thestrike, would have been recognized over the years of service expected to berendered.

 

63

----

 

Thefollowing table sets forth the funded status and amounts recognized for ourdefined benefit pension plans:

 
| ** **                                             | ** ** | **Domestic Plans** | ** ** | **Foreign Plans** | ** ** |
|--------------------------------------------------------|------------|-------------------------|------------|------------------------|------------|
| **December 31,**                                  | ** ** | **2007**                | ** ** | **2006**               | ** ** | **2007** | ** ** | **2006** | ** ** |
| ** **                                             | ** ** | ** **              | ** ** | ** **             | ** ** | ** ** | ** ** | ** ** | ** ** |
| Change in  benefit obligation:                         |       |                    |       |                   |       |   |   |   |   |
| Benefit obligation,  beginning of year                 |       | $                       | 58,122     |                   | $          | 52,949 |   | $ | 35,383 |   | $ | 29,587 |   |
| Service cost                                           |       | 552                     |       | 866                    |       | 946 |   | 910 |   |
| Interest cost                                          |       | 3,230                   |       | 2,949                  |       | 1,667 |   | 1,309 |   |
| Plan  participants’ contributions                 |       | 10                      |       | 11                     |       | 72 |   | 64 |   |
| Amendments                                             |       | 32                      |       | —                 |       | — |   | — |   |
| Actuarial (gain)  loss                                 |       | (3,327                  | )          | 4,152                  |       | (2,968 | ) | 1,005 |   |
| Foreign currency  exchange rate changes                |       | —                  |       | —                 |       | 2,714 |   | 3,713 |   |
| Benefits paid                                          |       | (3,233                  | )          | (2,805                 | )          | (1,335 | ) | (1,205 | ) |
| Benefit  obligation, end of year                       |       | 55,386                  |       | 58,122                 |       | 36,479 |   | 35,383 |   |
|                                                   |       |                    |       |                   |       |   |   |   |   |
| Change in plan  assets:                                |       |                    |       |                   |       |   |   |   |   |
| Fair value of  plan assets, beginning of year          |       | 55,700                  |       | 48,820                 |       | 6,024 |   | 4,790 |   |
| Actual return on  plan assets                          |       | 6,604                   |       | 8,174                  |       | 452 |   | 429 |   |
| Employer  contribution                                 |       | —                  |       | 1,500                  |       | 1,383 |   | 1,250 |   |
| Employee  contributions                                |       | 10                      |       | 11                     |       | 72 |   | 64 |   |
| Foreign currency  exchange rate changes                |       | —                  |       | —                 |       | 85 |   | 696 |   |
| Benefits paid                                          |       | (3,233                  | )          | (2,805                 | )          | (1,335 | ) | (1,205 | ) |
| Fair value of  plan assets, end of year                |       | 59,081                  |       | 55,700                 |       | 6,681 |   | 6,024 |   |
| Funded status                                          |       | $                       | 3,695      |                   | $          | (2,422 | ) | $ | (29,798 | ) | $ | (29,359 | ) |
|                                                   |       |                    |       |                   |       |   |   |   |   |
| Amounts  recognized on the balance sheet consist of:   |       |                    |       |                   |       |   |   |   |   |
| Pension and  other post retirement benefit liabilities |       | $                       | —     |                   | $          | (2,422 | ) | $ | (29,798 | ) | $ | (29,359 | ) |
| Other assets                                           |       | 3,695                   |       | —                 |       | — |   | — |   |
| Net amount recognized                                  |       | $                       | 3,695      |                   | $          | (2,422 | ) | $ | (29,798 | ) | $ | (29,359 | ) |

 

Theweighted-average assumptions used to determine our benefit obligations are asfollows:

 
| ** **                     | ** ** | **Domestic Plans** | ** ** | **Foreign Plans** | ** ** |
|--------------------------------|------------|-------------------------|------------|------------------------|------------|
| **December 31,**          | ** ** | **2007**                | ** ** | **2006**               | ** ** | **2007** | ** ** | **2006** | ** ** |
| Discount rate                  |       | 6.30%                   |       | 5.75%                  |       | 5.40% |   | 4.62% |   |
| Rate of  compensation increase |       | n/a                     |       | n/a                    |       | 3.61% |   | 3.42% |   |

 

Theweighted-average assumptions used to determine our net periodic benefit costare as follows:

 
| ** **                                                    | ** ** | **Domestic Plans** | ** ** | **Foreign Plans** | ** ** |
|---------------------------------------------------------------|------------|-------------------------|------------|------------------------|------------|
| **For the years ended December 31,** | ** ** | **2007**                | ** ** | **2006**               | ** ** | **2005** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
| Discount rate                                                 |       | 5.75%                   |       | 5.75%                  |       | 6.00% |   | 4.61% |   | 4.59% |   | 4.31% |   |
| Expected return  on assets                                    |       | 9.00%                   |       | 9.00%                  |       | 9.00% |   | 6.00% |   | 6.00% |   | 6.00% |   |
| Rate of  compensation increase                                |       | n/a                     |       | n/a                    |       | n/a |   | 3.38% |   | 3.33% |   | 2.55% |   |
|                                                          |       |                    |       |                   |       |   |   |   |   |   |   |   |   |
|                                                               |            |                         |            |                        |            |  |  |  |  |  |  |  |  |  |  |

 

64

----

 

Thecomponents of net pension expense for the years ended December 31 are asfollows:

 
| **For the years ended December 31,** | ** ** | **2007**   | ** ** | **2006**   | ** ** | **2005**   | ** ** |
|---------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|
| ** **                                                    | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Domestic Plans:                                               |       |       |       |       |       |       |       |
| Service cost                                                  |       | $          | 552        |       | $          | 866        |       | $ | 852 |   |
| Interest cost                                                 |       | 3,230      |       | 2,949      |       | 2,915      |       |
| Expected return  on plan assets                               |       | (4,969     | )          | (4,337     | )          | (4,221     | )          |
| Amortization of  prior service cost                           |       | 386        |       | 431        |       | 471        |       |
| Recognized  actuarial loss                                    |       | 551        |       | 642        |       | 378        |       |
| Curtailment loss                                              |       | 1,249      |       | —     |       | —     |       |
| Net pension  expense                                          |       | $          | 999        |       | $          | 551        |       | $ | 395 |   |
|                                                          |       |       |       |       |       |       |       |
| Foreign Plans:                                                |       |       |       |       |       |       |       |
| Service cost                                                  |       | $          | 946        |       | $          | 910        |       | $ | 701 |   |
| Interest cost                                                 |       | 1,667      |       | 1,309      |       | 1,278      |       |
| Expected return  on plan assets                               |       | (372       | )          | (309       | )          | (287       | )          |
| Recognized  actuarial loss                                    |       | 293        |       | 257        |       | —     |       |
| Net pension  expense                                          |       | $          | 2,534      |       | $          | 2,167      |       | $ | 1,692 |   |

 

Estimatedamounts that will be amortized from accumulated other comprehensive income(loss) into net periodic benefit cost in 2008 are as follows:

 
| ** **          | ** ** | **Domestic Plans** | ** ** | **Foreign Plans** | ** ** |
|---------------------|------------|-------------------------|------------|------------------------|------------|
| Net actuarial  loss |       | $                       | 49         |                   | $          | 99 |   |
| Prior service  cost |       | 161                     |       | n/a                    |       |
|                     |            |                         |            |                        |            |  |  |

 

Amountsrecognized in accumulated other comprehensive income (loss) as of December 31,2007 and 2006 are as follows:

 
| ** **            | ** ** | **Domestic Plans** | ** ** | **Foreign Plans** | ** ** |
|-----------------------|------------|-------------------------|------------|------------------------|------------|
| **December 31,** | ** ** | **2007**                | ** ** | **2006**               | ** ** | **2007** | ** ** | **2006** | ** ** |
|                  |       |                    |       |                   |       |   |   |   |   |
| Net actuarial  loss   |       | $                       | 6,410      |                   | $          | 11,924 |   | $ | 4,354 |   | $ | 7,746 |   |
| Prior service  cost   |       | 927                     |       | 2,530                  |       | — |   | — |   |
| Income taxes          |       | (2,935                  | )          | (5,782                 | )          | (1,443 | ) | (2,680 | ) |
| Total                 |       | $                       | 4,402      |                   | $          | 8,672 |   | $ | 2,911 |   | $ | 5,066 |   |

 

Theprojected benefit obligation, accumulated benefit obligation, and fair value ofplan assets for pension plans with accumulated benefit obligations in excess ofplan assets were as follows:

 
| ** **                      | ** ** | **2007** | ** ** | **2006** | ** ** |
|---------------------------------|------------|----------|------------|----------|------------|
| Projected  benefit obligation   |       | $        | 36,479     |     | $          | 93,505 |   |
| Accumulated  benefit obligation |       | 34,428   |       | 91,288   |       |
| Fair value of  plan assets      |       | 6,681    |       | 61,724   |       |
|                                 |            |          |            |          |            |  |  |

 

The accumulated benefit obligation for our domesticpension plans was $55.4 million in 2007 and $58.1 million in 2006. Theaccumulated benefit obligation for our foreign pension plans was $ 34.4 millionin 2007 and $33.2 million in 2006.

 

65

----

 

Theweighted-average asset allocations of our invested assets held in our domesticdefined benefit plans were as follows:

 
| **December 31,**    | ** ** | **2007**   | ** ** | **2006**   | ** ** |
|--------------------------|------------|------------|------------|------------|------------|
| ** **               | ** ** | ** ** | ** ** | ** ** | ** ** |
| Asset category:          |       |       |       |       |       |
| Debt securities          |       | 7%         |       | 26%        |       |
| Equity securities        |       | 77%        |       | 67%        |       |
| Cash reserves  and other |       | 16%        |       | 7%         |       |
| Total                    |       | 100%       |       | 100%       |       |

 

Domestic plan assets include52,631 shares of the Company’s Ordinary common stock, which was valued at $1.5million as of December 31, 2007 and $1.6 million as of December 31,2006. This represents less than 3% of the total plan assets.

 

Ourinvestment strategy includes the following range of target asset allocationpercentages:

 
| **Asset category:**                   | ** ** | **Minimum** | ** ** | **Maximum** | ** ** |
|--------------------------------------------|------------|-------------|------------|-------------|------------|
|                                       |       |        |       |        |       |
| Domestic equity  securities                |       | 25%         |       | 90%         |       |
| International  and other equity securities |       | 0%          |       | 80%         |       |
| International  debt securities             |       | 0%          |       | 30%         |       |
| Domestic debt  securities                  |       | 0%          |       | 60%         |       |
| Other                                      |       | 0%          |       | 30%         |       |
| Cash                                       |       | 0%          |       | 5%          |       |
|                                       |       |        |       |        |       |

 

Theobjective of our investment policy is to maximize the return on invested assetswhile maintaining an appropriate level of diversification to manage risk. Ourpolicy sets forth specific criteria used in the selection and ongoingevaluation of individual funds.

 

Ourinvestment committee generally meets on a quarterly basis with an outsideregistered investment advisor to review actual performance against relevantbenchmarks, such as the S&P 500 Index. Consistent with our policy, changesin funds are made when a fund falls outside of our predetermined guidelines foran extended period.

 

Theinvestment committee reviews our domestic benefit obligations no less thanannually with the objective of maintaining a 90% funded status for theprojected benefit obligation. Whenever possible, our annual contribution isexpected to cover the short-term liquidity requirements of the plan, so as tomaintain the plan’s assets for long-term investment. The performance goal setfor the plan’s assets is to achieve a long-term rate of return no less than8.5%.

 

For the periods ended December 31,2007, 2006, and 2005 we used an assumed long-term rate of return on domesticplan assets of 9%. These rates were developed with input from our actuaries andour investment committee and are based on long-term rates of return for theassets held. This rate is consistent with previous rates we have used and lowerthan the historical return trends on our plan assets.

 

For the periods ended December 31,2007, 2006, and 2005, we used an assumed long-term rate of return on foreignplan assets of 6.00%. In accordance with the requirements of local regulations,our 

 

66

----

 

German plans do not hold assets and payparticipant benefits as incurred. Expected 2008 benefit payments under theseplans are $1.5 million.

 

We did not make acontribution to our domestic pension plan in 2007. During 2006 we made acontribution of $1.5 million. Based on federal laws and regulations, we are notrequired to make, and do not anticipate making, a contribution to our domesticpension plan in 2008 due to our plan’s current funded status as calculatedunder ERISA guidelines. The domestic plan invests a small portion of its assetsin a group annuity contract. We expect benefits to be covered by this contractin 2008 to be $0.2 million.

 

Contributionsto our U.K. plan totaled $0.2 million in 2007 and 2006. We anticipatecontributing approximately $0.2 million to this plan in 2008. Due to theunfunded status of the German plans, 2008 anticipated contributions are equalto anticipated benefit payments of $1.3 million.

 

The domestic and foreign pension plans expectto pay benefits in each year from 2008 through 2017 as follows:

 
| ** **  | ** ** | **Domestic Plans** | ** ** | **Foreign Plans** | ** ** |
|-------------|------------|-------------------------|------------|------------------------|------------|
| 2008        |       | $                       | 3,085      |                   | $          | 1,500 |   |
| 2009        |       | 3,206                   |       | 1,563                  |       |
| 2010        |       | 3,328                   |       | 1,606                  |       |
| 2011        |       | 3,435                   |       | 1,719                  |       |
| 2012        |       | 3,534                   |       | 1,930                  |       |
| 2013 - 2017 |       | 19,660                  |       | 10,697                 |       |
| Total       |       | $                       | 36,248     |                   | $          | 19,015 |   |

 

We provide postretirement health care and lifeinsurance benefits to certain eligible hourly retirees and their dependents.The health care plan is contributory, with retiree contributions adjusted basedon the changes in the union contract, which is negotiated every three years.Although we are negotiating this union contract, the members have been onstrike since April 2006, which resulted in the decrease in postretirementbenefit cost and benefits paid in the current year. The plan is unfunded and wepay part of the health care premium and the full amount of the life insurancecost for eligible plan participants.

 

During2007 the postretirement benefit plan had a curtailment and negative planamendment relating to the elimination of medical benefits for retiredparticipants of the Elkhart, Indiana brass instrument manufacturing facility. Werecognized a curtailment loss of $0.1 million relating to the acceleration ofunrecognized transition obligation associated with the portion of future yearsof service that, as a result of the curtailment, are no longer expected to berendered. The remaining $0.1 million of previously unrecognized transitionobligation was used to offset the negative plan amendment of $0.7 millionresulting in $0.6 million of prior service cost to amortized over a period ofapproximately eleven years.

67

----

 

Thefollowing table sets forth the funded status of our postretirement benefit planand accrued postretirement benefit cost reflected in our consolidated balancesheets:

 
| **December 31,**                                                   | ** ** | **2007**   | ** ** | **2006**   | ** ** |
|-------------------------------------------------------------------------|------------|------------|------------|------------|------------|
| ** **                                                              | ** ** | ** ** | ** ** | ** ** | ** ** |
| Change in  benefit obligation:                                          |       |       |       |       |       |
| Benefit  obligation, beginning of year                                  |       | $          | 2,527      |       | $          | 2,535 |   |
| Service cost                                                            |       | 7          |       | 40         |       |
| Interest cost                                                           |       | 130        |       | 143        |       |
| Plan  participants’ contributions                                  |       | 23         |       | 44         |       |
| Actuarial gain                                                          |       | (230       | )          | (161       | )          |
| Benefits paid                                                           |       | (38        | )          | (74        | )          |
| Plan amendment                                                          |       | (684       | )          | —     |       |
| Benefit  obligation, end of year                                        |       | 1,735      |       | 2,527      |       |
|                                                                    |       |       |       |       |       |
| Fair value of  plan assets                                              |       | —     |       | —     |       |
|                                                                    |       |       |       |       |       |
| Funded status                                                           |       | $          | (1,735     | )          | $          | (2,527 | ) |
|                                                                    |       |       |       |       |       |
| Amounts  recognized on the balance sheet consist of:                    |       |       |       |       |       |
| Other current  and pension and other postretirement benefit liabilities |       | $          | 1,735      |       | $          | 2,527 |   |

 

Theassumed weighted-average discount rate used to determine benefit obligations asof December 31 was 6.20% in 2007 and 5.75% in 2006. The assumedweighted-average discount rate used to determine our net postretirement benefitcost for the years ended December 31 was 5.75% in 2007, 5.75% in 2006, and6.00% in 2005. The annual assumed rate of increase in the per capita cost ofcovered health care benefits was 9.00% in 2008 and is assumed to decreasegradually to 5.50% in 2015, and remain at that level thereafter.

 

Netpostretirement benefit costs are as follows:

 
| **For the years ended December 31,** | ** ** | **2007**   | ** ** | **2006**   | ** ** | **2005**   | ** ** |
|---------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|
| ** **                                                    | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Service cost                                                  |       | $          | 7          |       | $          | 40         |       | $ | 47 |   |
| Interest cost                                                 |       | 130        |       | 143        |       | 147        |       |
| Net loss  recognition                                         |       | 36         |       | 50         |       | 47         |       |
| Amortization of  transition obligation                        |       | 29         |       | 35         |       | 35         |       |
| Amortization of  prior service cost                           |       | (9         | )          | —     |       | —     |       |
| Recognition of  gain due to strike                            |       | —     |       | (156       | )          | —     |       |
| Curtailment loss                                              |       | 140        |       | —     |       | —     |       |
| Net  postretirement benefit cost                              |       | $          | 333        |       | $          | 112        |       | $ | 276 |   |

 

Estimatedamounts to be amortized from accumulated other comprehensive income (loss) intonet postretirement benefit cost in 2008 include net actuarial losses and priorservice costs of less than $0.1 million.

 

68

----

 

Amountsrecognized in accumulated other comprehensive income (loss) as of December 31,2007 and 2006 are as follows:

 
| **December31,**        | ** ** | **2007** | ** ** | **2006** | ** ** |
|------------------------|------------|----------|------------|----------|------------|
| Net actuarial  loss    |       | $        | 527        |     | $          | 794 |   |
| Prior service  cost    |       | (602     | )          | —   |       |
| Tranistion  obligation |       | —   |       | 241      |       |
| Income taxes           |       | 30       |       | (414     | )          |
| Total                  |       | $        | (45        | )        | $          | 621 |   |

 

Assumed health care cost trend rates have a significanteffect on the amounts reported for the health care plan. A one-percentage-pointchange in assumed health care cost trend rates would have the followingeffects:

 
| ** **                                               | ** ** | **1% Increase** | ** ** | **1% Decrease** | ** ** |
|----------------------------------------------------------|------------|----------------------|------------|----------------------|------------|
| Effect on total  of service and interest cost components |       | $                    | 4          |                 | $          | (4 | ) |
| Effect on the  postretirement benefit obligation         |       | 48                   |       | (41                  | )          |
|                                                          |            |                      |            |                      |            |  |  |

 

Thedomestic postretirement health care and life insurance plan expects to paybenefits in each year from 2008 through 2017 as follows:

 
| **For the years ended December 31,** | ** ** | ** ** | ** ** |
|---------------------------------------------------------------|------------|------------|------------|
| 2008                                                          |       | $          | 131        |   |
| 2009                                                          |       | 145        |       |
| 2010                                                          |       | 138        |       |
| 2011                                                          |       | 96         |       |
| 2012                                                          |       | 99         |       |
| Thereafter                                                    |       | 619        |       |
| Total                                                         |       | $          | 1,228      |   |

 

We sponsor 401(k) retirement savings plans for eligible employees.Discretionary employer contributions, as determined annually by the Board ofDirectors, are made to two of these plans and approximated $0.7 million for2007, and $0.6 million for 2006 and 2005. Non-discretionary contributionsapproximated $0.4 million for the years ended December 31, 2007, 2006, and2005.

 

We established a supplemental executive retirement plan (“SERP”) for aselect group of our executives who constitute a “top hat” group as defined byERISA. Discretionary employer contributions made to this plan, as determinedannually by the Board of Directors, are held in a Rabbi Trust (“Trust”). Duringthe year 2006, we sold all of the securities in the SERP, which were classifiedas available-for-sale and repurchased new securities which have been classifiedas trading. The SERP assets are included in our financial statements withinother assets (see Notes 7 and 16). Contributions to the SERP approximated $0.2million in 2007, 2006, and 2005. We anticipate making contributions of $0.2million in 2008.

 

69

----

 

**15.  Foreign Currency ExchangeContracts**

 

One of our German divisions, whose functionalcurrency is the euro, secures option and forward contracts for Japanese yen,British pounds, and U.S. dollars to mitigate cash flow exposure to currencyfluctuations. At December 31, 2007, this division had forward contracts tosell £1.3 million. These instruments had various maturity dates through June 2008.At December 31, 2006, this division had forward contracts to purchase $0.6million, sell $0.8 million, and sell £2.0 million. These instruments had variousmaturity dates through December 2007. Since we do not designate theseinstruments as hedges for accounting purposes, we carry these instruments atfair value and recognize the change in fair value in earnings. Such amountswere not material during the years ended December 31, 2007, 2006, or 2005.

 

**16.  Fair Values of FinancialInstruments**

 

Estimated fair values of financial instruments havebeen developed using appropriate methodologies; however, considerable judgmentis required to develop these estimates. The estimated fair value of existinglong-term debt is based on rates currently available to us for debt withsimilar terms and remaining maturities. The estimated fair value of foreigncurrency contracts (used to mitigate cash flow exposures) has been determinedas the difference between the current forward rate and the contract rate,multiplied by the notional amount of the contract, or upon the estimated fairvalue of purchased option contracts. The estimates presented below are notnecessarily indicative of amounts that could be realized in a current marketexchange. Use of different assumptions or methodologies could have asignificant effect on these estimates.

 

The net carrying value and estimated fairvalue of certain financial instruments are as follows:

 
| ** **                  | ** ** | **2007**                     | ** ** | **2006**                 | ** ** |
|-----------------------------|------------|------------------------------|------------|--------------------------|------------|
| **December 31,**       | ** ** | **Net Carrying  Value** | ** ** | **Estimated  FairValue** | ** ** | **Net Carrying  Value** | ** ** | **Estimated  FairValue** | ** ** |
| Financial  liabilities:     |       |                         |       |                     |       |   |   |   |   |
| Debt                        |       | $                            | 177,285    |                     | $          | 162,410 |   | $ | 179,595 |   | $ | 175,658 |   |
| Foreign currency  contracts |       | 186                          |       | 186                      |       | (53 | ) | (53 | ) |
|                             |            |                              |            |                          |            |  |  |  |  |  |  |  |  |

 

The carrying value of accounts, notes and other receivables, marketableequity securities, and accounts payable approximate fair value.

 

Ourmarketable equity securities pertain to the SERP and are included as acomponent of other assets (see Notes 7 and 14). Investments in marketableequity securities are categorized as trading, available-for-sale, orheld-to-maturity. During 2006, we sold all of the securities in our SERP,recognizing $1.4 million in gross proceeds, and realized a gain of $0.2 millionon the sale. We used these funds to purchase $1.4 million of marketable equitysecurities for our SERP. As of December 31, 2007 and 2006 we held onlytrading securities. Net unrealized holding gains on these trading securitieswere included in earnings and were not material during the years ended December 31,2007 and 2006.

 

**17.****      ****SegmentInformation**

 

As discussed in Note 2, we have identified tworeportable segments: the piano segment and the band & orchestralinstrument segment. We consider these two segments reportable as they aremanaged separately and the operating results of each segment are separatelyreviewed and evaluated by our senior management on a regular basis. Informationreported under each geographic heading is based on the

 

70

----

 

location of our facility responsible for generatingsuch activity, regardless of the location of the external customer. This isconsistent with how our chief operating decision maker reviews and evaluatesperformance.

 

Intercompany transactionsare generally recorded at a small discount from comparable third-party prices.Income from operations for the reportable segments includes intercompanyprofit, as well as certain corporate costs allocated to the segments basedprimarily on revenue. Amounts reported as “Other & Elim” include thosecorporate costs that were not allocated to the reportable segments and theremaining intercompany profit elimination. It also includes corporate assets,elimination of intercompany interest, and investments in subsidiaries that donot eliminate within the segments. The following tables present informationabout our reportable segments:

 
| ** **                        | ** ** | **Piano Segment** | ** ** | **Band & Orchestral Segment** | ** ** | ** ** | ** ** | ** ** | ** ** |
|-----------------------------------|------------|------------------------|------------|--------------------------------------------------|------------|------------|------------|------------|------------|
| ** **                        | ** ** | **U.S.**               | ** ** | **Germany**                                      | ** ** | **Other**  | ** ** | **Total**  | ** ** | **U.S.** | ** ** | **Other** | ** ** | **Total** | ** ** | **Other & Elim** | ** ** | **Consolidated** | ** ** |
| **2007**                          |       |                   |       |                                             |       |       |       |       |       |   |   |   |   |   |   |   |   |   |   |
| Revenues from  external customers |       | $                      | 115,939    |                                             | $          | 69,427     |       | $          | 49,824     |   | $ | 235,190 |   | $ | 163,389 |   | $ | 7,735 |   | $ | 171,124 |   | $ | — |   | $ | 406,314 |   |
| Operating profit                  |       | 10,620                 |       | 20,733                                           |       | 4,260      |       | 35,613     |       | 2,040 |   | 582 |   | 2,622 |   | (3,033 | ) | 35,202 |   |
| Interest income                   |       | (158                   | )          | (175                                             | )          | (152       | )          | (485       | )          | (3,045 | ) | — |   | (3,045 | ) | (157 | ) | (3,687 | ) |
| Interest expense                  |       | 8,488                  |       | 54                                               |       | 278        |       | 8,820      |       | 7,518 |   | 253 |   | 7,771 |   | (3,133 | ) | 13,458 |   |
| Depreciation and  amortization    |       | 4,138                  |       | 1,593                                            |       | 383        |       | 6,114      |       | 3,567 |   | 98 |   | 3,665 |   | 698 |   | 10,477 |   |
| Income tax  provision (benefit)   |       | 3,468                  |       | 6,956                                            |       | 1,376      |       | 11,800     |       | (228 | ) | 113 |   | (115 | ) | (1,605 | ) | 10,080 |   |
| Net income (loss)                 |       | (1,044                 | )          | 13,580                                           |       | 3,333      |       | 15,869     |       | (2,688 | ) | 220 |   | (2,468 | ) | 2,009 |   | 15,410 |   |
| Capital expenditures              |       | 1,276                  |       | 1,854                                            |       | 131        |       | 3,261      |       | 1,644 |   | 40 |   | 1,684 |   | 22 |   | 4,967 |   |
| Property, plant  and equipment    |       | 52,254                 |       | 16,950                                           |       | 2,984      |       | 72,188     |       | 20,330 |   | 1,525 |   | 21,855 |   | 107 |   | 94,150 |   |
| Total assets                      |       | 140,765                |       | 94,581                                           |       | 27,208     |       | 262,554    |       | 234,501 |   | 13,306 |   | 247,807 |   | (52,683 | ) | 457,678 |   |
|                              |       |                   |       |                                             |       |       |       |       |       |   |   |   |   |   |   |   |   |   |   |
| **2006**                          |       |                   |       |                                             |       |       |       |       |       |   |   |   |   |   |   |   |   |   |   |
| Revenues from  external customers |       | $                      | 117,238    |                                             | $          | 59,549     |       | $          | 37,407     |   | $ | 214,194 |   | $ | 162,709 |   | $ | 7,717 |   | $ | 170,426 |   | $ | — |   | $ | 384,620 |   |
| Operating profit                  |       | 8,704                  |       | 16,263                                           |       | 3,126      |       | 28,093     |       | (6,801 | ) | 336 |   | (6,465 | ) | (3,250 | ) | 18,378 |   |
| Interest income                   |       | (1,520                 | )          | (232                                             | )          | (152       | )          | (1,904     | )          | (2,342 | ) | — |   | (2,342 | ) | (319 | ) | (4,565 | ) |
| Interest expense                  |       | 10,301                 |       | 36                                               |       | 283        |       | 10,620     |       | 9,339 |   | 251 |   | 9,590 |   | (4,390 | ) | 15,820 |   |
| Depreciation and  amortization    |       | 4,293                  |       | 1,368                                            |       | 399        |       | 6,060      |       | 3,838 |   | 116 |   | 3,954 |   | 645 |   | 10,659 |   |
| Income tax  provision (benefit)   |       | 430                    |       | (947                                             | )          | 1,068      |       | 551        |       | (2,070 | ) | 158 |   | (1,912 | ) | 1,648 |   | 287 |   |
| Net income (loss)                 |       | 1,352                  |       | 17,538                                           |       | 1,940      |       | 20,830     |       | (12,966 | ) | (61 | ) | (13,027 | ) | (8,471 | ) | (668 | ) |
| Capital  expenditures             |       | 2,140                  |       | 818                                              |       | 228        |       | 3,186      |       | 2,221 |   | 83 |   | 2,304 |   | 59 |   | 5,549 |   |
| Property, plant  and equipment    |       | 54,138                 |       | 15,067                                           |       | 2,404      |       | 71,609     |       | 22,287 |   | 1,544 |   | 23,831 |   | 158 |   | 95,598 |   |
| Total assets                      |       | 138,584                |       | 83,018                                           |       | 29,057     |       | 250,659    |       | 205,567 |   | 10,715 |   | 216,282 |   | (19,766 | ) | 447,175 |   |
|                              |       |                   |       |                                             |       |       |       |       |       |   |   |   |   |   |   |   |   |   |   |
| **2005**                          |       |                   |       |                                             |       |       |       |       |       |   |   |   |   |   |   |   |   |   |   |
| Revenues from  external customers |       | $                      | 114,803    |                                             | $          | 54,359     |       | $          | 34,355     |   | $ | 203,517 |   | $ | 176,514 |   | $ | 7,112 |   | $ | 183,626 |   | $ | — |   | $ | 387,143 |   |
| Operating profit                  |       | 10,915                 |       | 14,912                                           |       | 2,842      |       | 28,669     |       | 8,710 |   | (11 | ) | 8,699 |   | (2,531 | ) | 34,837 |   |
| Interest income                   |       | (1,617                 | )          | (144                                             | )          | (163       | )          | (1,924     | )          | (2,929 | ) | — |   | (2,929 | ) | 1,518 |   | (3,335 | ) |
| Interest expense                  |       | 10,788                 |       | 20                                               |       | 287        |       | 11,095     |       | 26,352 |   | — |   | 26,352 |   | (20,467 | ) | 16,980 |   |
| Depreciation and  amortization    |       | 4,313                  |       | 1,296                                            |       | 422        |       | 6,031      |       | 4,546 |   | 135 |   | 4,681 |   | 555 |   | 11,267 |   |
| Income tax  provision (benefit)   |       | 814                    |       | 5,191                                            |       | 781        |       | 6,786      |       | 1,036 |   | (251 | ) | 785 |   | 629 |   | 8,200 |   |
| Net income (loss)                 |       | 2,034                  |       | 10,187                                           |       | 1,875      |       | 14,096     |       | (15,505 | ) | (56 | ) | (15,561 | ) | 15,257 |   | 13,792 |   |
| Capital  expenditures             |       | 1,410                  |       | 761                                              |       | 312        |       | 2,483      |       | 2,429 |   | — |   | 2,429 |   | 92 |   | 5,004 |   |
| Property, plant  and equipment    |       | 55,904                 |       | 13,514                                           |       | 2,121      |       | 71,539     |       | 23,522 |   | 1,419 |   | 24,941 |   | 184 |   | 96,664 |   |
| Total assets                      |       | 181,265                |       | 72,967                                           |       | 22,199     |       | 276,431    |       | 219,219 |   | 10,249 |   | 229,468 |   | (50,244 | ) | 455,655 |   |

 

71

----

 

**18.****      ****Quarterly Financial Data(Unaudited)**

 

In 2007, results for the first quarter wereadversely impacted by the strike at our Elkhart, Indiana brass instrumentmanufacturing facility, which resulted in lost sales and an estimated $4.6million in lost profit and unabsorbed overhead. There were no other materialextraordinary, unusual, or infrequently occurring items that impactedindividual quarters.

 

In 2006, the first quarter was adversely impacted bythe net loss on extinguishment of debt of $6.6 million due to our long-termdebt restructuring. The second quarter was adversely impacted by lost sales andan estimated $3.0million in lost profit and unabsorbed overhead associated with the strike; losson extinguishment of debt of $3.1 million due to our long-term debtrestructuring; an increase of $4.4 million in our provision for doubtfulaccounts due to the bankruptcy of a large band customer; and an increase in ourinventory reserves of $2.3 million to properly reflect net realizable value.The third quarter was adversely impacted by an estimated $3.1 million in lostprofit and unabsorbed overhead associated with the aforementioned strike. Thefourth quarter was impacted by a charge of $4.4 million to provision fordoubtful accounts relating to the bankruptcy of another large band customer;and lower than expected foreign tax credit utilization due to lower domesticincome, which shifted our tax rate from 60% to (75.3%) for 2006.

 

Thefollowing is a summary of unaudited results of operations, in thousands exceptshare and per share data.

 
| ** **                                                    | ** ** | **2007**           | ** ** |
|---------------------------------------------------------------|------------|--------------------|------------|
| **For the years ended December 31,** | ** ** | **First  Quarter** | ** ** | **Second  Quarter** | ** ** | **Third  Quarter** | ** ** | **Fourth  Quarter** | ** ** |
| Net sales                                                     |       | $                  | 93,432     |   | $ | 92,257 |   | $ | 99,293 |   | $ | 121,332 |   |
| Gross profit                                                  |       | 27,240             |       | 28,565 |   | 28,091 |   | 39,590 |   |
| Net income                                                    |       | 1,430              |       | 3,153 |   | 3,008 |   | 7,819 |   |
| Basic earnings  per share                                     |       | $                  | 0.17       |   | $ | 0.37 |   | $ | 0.35 |   | $ | 0.91 |   |
| Diluted earnings  per share                                   |       | $                  | 0.17       |   | $ | 0.36 |   | $ | 0.35 |   | $ | 0.90 |   |
| Weighted average  shares:                                     |       |               |       |   |   |   |   |   |   |
| Basic                                                         |       | 8,419,148          |       | 8,520,949 |   | 8,569,253 |   | 8,577,449 |   |
| Diluted                                                       |       | 8,579,978          |       | 8,662,405 |   | 8,683,025 |   | 8,672,582 |   |

 
| ** **                  | ** ** | **2006**           | ** ** |
|-----------------------------|------------|--------------------|------------|
| ** **                  | ** ** | **First  Quarter** | ** ** | **Second  Quarter** | ** ** | **Third  Quarter** | ** ** | **Fourth  Quarter** | ** ** |
| Net sales                   |       | $                  | 95,194     |   | $ | 92,423 |   | $ | 90,876 |   | $ | 106,127 |   |
| Gross profit                |       | 25,992             |       | 23,149 |   | 26,045 |   | 32,221 |   |
| Net (loss) income           |       | (1,842             | )          | (861 | ) | 968 |   | 1,067 |   |
| Basic earnings  per share   |       | $                  | (0.23      | ) | $ | (0.10 | ) | $ | 0.12 |   | $ | 0.13 |   |
| Diluted earnings  per share |       | $                  | (0.23      | ) | $ | (0.10 | ) | $ | 0.11 |   | $ | 0.13 |   |
| Weighted average  shares:   |       |               |       |   |   |   |   |   |   |
| Basic                       |       | 8,152,369          |       | 8,331,652 |   | 8,357,153 |   | 8,373,904 |   |
| Diluted                     |       | 8,152,369          |       | 8,331,652 |   | 8,430,306 |   | 8,515,969 |   |

 

72

----

 

**Item 9.  Changes in andDisagreements With Accountants on Accounting and Financial Disclosure**

 

Notapplicable.

 

**Item 9A. Controls and Procedures**

 

### **Disclosure Controls andProcedures**

### ** **

Our principal executiveofficer and our principal financial officer, after evaluating together withmanagement the design and operation of our disclosure controls and procedureshave concluded that our disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) were effective as of December 31,2007, the end of the period covered by this report.

 

### **Internal Control OverFinancial Reporting**

### ** **

### **There were changes in our Company’s internal control overfinancial reporting that occurred during the fourth quarter of 2007 whichresulted from control improvement and remediation efforts. These changes havenot materially affected, and are not likely to materially affect, our Company’sinternal control over financial reporting.**

 

73

----

 

**MANAGEMENT’S ANNUAL REPORT ONINTERNAL CONTROL OVER FINANCIAL REPORTING**

 

The management of Steinway Musical Instruments, Inc. and itssubsidiaries (the “Company”) is responsible for establishing and maintainingadequate internal control over financial reporting as defined in Rules 13a-15(f) and15d-15(f) under the Securities Exchange Act of 1934. The Company’sinternal control over financial reporting is a process designed by, or underthe supervision of, the Company’s principal executive and principal financialofficers, and effected by the Company’s board of directors, management andother personnel, to provide reasonable assurance regarding the reliability offinancial reporting and the preparation of the Company’s financial statementsfor external purposes in accordance with generally accepted accountingprinciples. Internal control over financial reporting includes those policiesand procedures that:

 

(1)                                pertain to themaintenance of records that, in reasonable detail, accurately and fairlyreflect the transactions and dispositions of the assets of the Company;

 

(2)                                providereasonable assurance that transactions are recorded as necessary to permitpreparation of financial statements in accordance with generally acceptedaccounting principles;

 

(3)                                providereasonable assurance that receipts and expenditures of the Company are beingmade only in accordance with authorizations of management and directors of theCompany; and

 

(4)                                providereasonable assurance regarding prevention or timely detection of unauthorizedacquisition, use or disposition of the Company’s assets that could have amaterial effect on the financial statements.

 

InternalControl over financial reporting includes the controls themselves, monitoringand internal auditing practices and actions taken to correct deficiencies asidentified.

 

Becauseof its inherent limitations, internal control over financial reporting may notprevent or detect misstatements. Also, projections of any evaluation ofeffectiveness to future periods are subject to the risk that controls maybecome inadequate because of changes in conditions, or that the degree ofcompliance with the policies or procedures may deteriorate.

 

TheCompany’s management assessed the effectiveness of the Company’s internalcontrol over financial reporting as of December 31, 2007. In making thisassessment, the Company’s management used the criteria set forth by theCommittee of Sponsoring Organizations of the Treadway Commission (COSO) in *Internal Control - Integrated Framework*. Management reviewedthe results of its assessment with the Audit Committee of its Board ofDirectors.

 

Basedon its assessment, management determined that, as of December 31, 2007,the Company’s internal control over financial reporting is effective.

 

Deloitte &Touche LLP, the independent registered public accounting firm that audited thefinancial statements included in this annual report, audited the Company’sinternal control over financial reporting as stated in their report, whichappears below.

 
| By:  /s/ | Dana  D. Messina         |   |
|----------|--------------------------|--------|
|     | Dana  D. Messina         |   |
|     | Chief  Executive Officer |   |
|     | March 17,  2008     |   |
|     |                     |   |
| By:  /s/ | Dennis  M. Hanson        |   |
|     | Dennis  M. Hanson        |   |
|     | Chief  Financial Officer |   |
|     | March 17,  2008     |   |

 

74

----

 

**REPORTOF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**

 

Tothe Board of Directors and Stockholders of Steinway Musical Instruments, Inc.Waltham, Massachusetts

 

Wehave audited the internal control over financial reporting of Steinway MusicalInstruments, Inc. and subsidiaries (the “Company”) as of December 31,2007, based on criteria established in *InternalControl–Integrated Framework* issued by the Committee of SponsoringOrganizations of the Treadway Commission. The Company’s management isresponsible for maintaining effective internal control over financial reportingand for its assessment of the effectiveness of internal control over financialreporting, included in the accompanying Management’s Report on Internal ControlOver Financial Reporting. Our responsibility is to express an opinion on theCompany’s internal control over financial reporting based on our audit.

 

Weconducted our audit in accordance with the standards of the Public CompanyAccounting Oversight Board (United States). Those standards require that weplan and perform the audit to obtain reasonable assurance about whethereffective internal control over financial reporting was maintained in allmaterial respects. Our audit included obtaining an understanding of internalcontrol over financial reporting, assessing the risk that a material weaknessexists, testing and evaluating the design and operating effectiveness ofinternal control based on the assessed risk, and performing such otherprocedures as we considered necessary in the circumstances. We believe that ouraudit provides a reasonable basis for our opinion.

 

Acompany’s internal control over financial reporting is a process designed by,or under the supervision of, the company’s principal executive and principalfinancial officers, or persons performing similar functions, and effected bythe company’s board of directors, management, and other personnel to providereasonable assurance regarding the reliability of financial reporting and thepreparation of financial statements for external purposes in accordance withgenerally accepted accounting principles. A company’s internal control overfinancial reporting includes those policies and procedures that (1) pertainto the maintenance of records that, in reasonable detail, accurately and fairlyreflect the transactions and dispositions of the assets of the company; (2) providereasonable assurance that transactions are recorded as necessary to permitpreparation of financial statements in accordance with generally acceptedaccounting principles, and that receipts and expenditures of the company arebeing made only in accordance with authorizations of management and directorsof the company; and (3) provide reasonable assurance regarding preventionor timely detection of unauthorized acquisition, use, or disposition of thecompany’s assets that could have a material effect on the financial statements.

 

Becauseof the inherent limitations of internal control over financial reporting,including the possibility of collusion or improper management override ofcontrols, material misstatements due to error or fraud may not be prevented ordetected on a timely basis. Also, projections of any evaluation of theeffectiveness of the internal control over financial reporting to futureperiods are subject to the risk that the controls may become inadequate becauseof changes in conditions, or that the degree of compliance with the policies orprocedures may deteriorate.

 

Inour opinion, the Company maintained, in all material respects, effectiveinternal control over financial reporting as of December 31, 2007, basedon the criteria established in *InternalControl–Integrated Framework* issued by the Committee of SponsoringOrganizations of the Treadway Commission.

 

75

----

 

Wehave also audited, in accordance with the standards of the Public CompanyAccounting Oversight Board (United States), the consolidated financialstatements as of and for the year ended December 31, 2007 of the Companyand our report dated March 17, 2008 expressed an unqualified opinion onthose financial statements and included an explanatory paragraph relating tothe adoption of Financial Accounting Standards Board (“FASB”) Interpretation No.48, *Accounting for Uncertainty in IncomeTaxes*—*an interpretation of FASB Statement No. 109*.

 

 
| /s/  DELOITTE & TOUCHE LLP |   |
|------------------------------------------|--------|
|                                     |   |
| Boston,  Massachusetts                   |   |
| March 17,  2008                     |   |

 

76

----

 

**Item 9B. Other Information**

 

None.

 

### **PART III**

### ** **

**Item 10.  Directors, ExecutiveOfficers and Corporate Governance**

 

The information called for by this item is herebyincorporated by reference to the Registrant’s definitive Proxy Statement forthe fiscal year ended December 31, 2007, which Proxy Statement will befiled with the Securities and Exchange Commission no later than 120 days afterthe end of the fiscal year covered by this report.

 

**Item 11.  Executive Compensation**

 

The information called for by this item is herebyincorporated by reference to the Registrant’s definitive Proxy Statement forthe fiscal year ended December 31, 2007, which Proxy Statement will befiled with the Securities and Exchange Commission no later than 120 days afterthe end of the fiscal year covered by this report.

 

**Item 12.  SecurityOwnership of Certain Beneficial Owners and Management and Related StockholderMatters**

 

The information called for by this item is herebyincorporated by reference to the Registrant’s definitive Proxy Statement forthe fiscal year ended December 31, 2007, which Proxy Statement will befiled with the Securities and Exchange Commission no later than 120 days afterthe end of the fiscal year covered by this report.

 

**Item 13.  Certain Relationshipsand Related Transactions, and Director Independence**

 

The information called for by this item is herebyincorporated by reference to the Registrant’s definitive Proxy Statement forthe fiscal year ended December 31, 2007, which Proxy Statement will befiled with the Securities and Exchange Commission no later than 120 days afterthe end of the fiscal year covered by this report.

 

### **Item 14.  Principal Accounting Fees and Services**

### ** **

The information called for by this item is herebyincorporated by reference to the Registrant’s definitive Proxy Statement forthe fiscal year ended December 31, 2007, which Proxy Statement will befiled with the Securities and Exchange Commission no later than 120 days afterthe end of the fiscal year covered by this report.

 

77

----

 

### **PART IV**

### ** **

**Item 15.  Exhibits, FinancialStatement Schedules**

 

(a)           The followingdocuments are filed as a part of this report:

 
|   | ** **                                                                                                             | **Sequential  Page Number** |
|--------|------------------------------------------------------------------------------------------------------------------------|----------------------------------|
| 1.     | Financial  Statements                                                                                                  |                             |
|   |                                                                                                                   |                             |
|   | Report of  Independent Registered Public Accounting Firm                                                               | 38                               |
|   | Consolidated  Statements of Operations Years Ended December 31, 2007, 2006, and 2005                              | 39                               |
|   | Consolidated Balance  Sheets as of December 31, 2007 and 2006                                                     | 40                               |
|   | Consolidated  Statements of Cash Flows for the Years Ended December 31, 2007, 2006,  and 2005                     | 41                               |
|   | Consolidated  Statements of Stockholders’ Equity for the Years Ended December 31, 2007, 2006, and 2005       | 42                               |
|   | Notes to  Consolidated Financial Statements                                                                            | 43                               |
|   |                                                                                                                   |                             |
| 2.     | Exhibits:  The  Exhibits listed below are filed as part of, or incorporated by reference  into, this report. |                             |

 
| **Exhibit** | ** ** | ** **      |
|-------------|------------|-----------------|
| **No.**     | ** ** | **Description** |
|        |       |            |   |
|        | 3.1        |            | Restated  Certificate of Incorporation of Registrant (6) |
|        | 3.2        |            | Bylaws  of Registrant (3) |
|        | 3.3        |            | Amendment  No. 1 to Bylaws of Registrant (4) |
|        | 3.4        |            | Amendment  No. 2 to Bylaws of Registrant (16) |
|        | 4.1        |            | Indenture,  dated as of February 23, 2006, among Steinway Musical  Instruments, Inc., as Issuer; the subsidiary guarantors; and the Bank of  New York Trust Company, N.A., as Trustee (11) |
|        | 10.1       |            | Employment  Agreement, dated May 8, 1989, between Steinway Musical  Properties, Inc. and Thomas Kurrer (2) |
|        | 10.2       |            | Employment  Agreement dated as of August 29, 2007 by and between Steinway &  Sons and Thomas Kurrer (16) |
|        | 10.3       |            | Employment  Agreement dated as of May 1, 1995 between Steinway Musical  Properties, Inc. and Bruce Stevens (2) |
|        | 10.4       |            | Employment  Agreement Renewal and Amendment dated January 1, 1997 by and between  Steinway Musical Instruments, Inc. and Bruce Stevens (6) |
|        | 10.5       |            | Employment  Agreement dated as of August 29, 2007 by and between Steinway, Inc.  and Ronald Losby (16) |
|        | 10.6       |            | Employment  Agreement dated as of May 1, 1995 between Steinway Musical  Properties, Inc. and Dennis Hanson (2) |
|        | 10.7       |            | Employment  Agreement Renewal and Amendment dated January 1, 1997 by and between  Steinway Musical Instruments, Inc. and Dennis Hanson (6) |
|        | 10.8       |            | Employment  Agreement dated August 29, 2007 by and between Steinway Musical  Instruments, Inc. and Dennis Hanson (16) |
|        | 10.9       |            | Employment  Agreement dated as of January 4, 1999 between the Registrant and Dana  Messina (7) |
|        | 10.10      |            | Employment  Agreement dated August 29, 2007 by and between Steinway Musical  Instruments, Inc. and Dana Messina (16) |

 

78

----

 
|   | 10.11 |   | Employment  Agreement dated as of January 4, 1999 between the Registrant and Kyle  Kirkland (7)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
|--------|-------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   | 10.12 |   | Employment  Agreement dated August 29, 2007 by and between Steinway Musical  Instruments, Inc. and Kyle Kirkland (16)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
|   | 10.13 |   | Environmental  Indemnification and Non-Competition Agreement, dated as of August 9,  1993, between The Selmer Company, Inc. and Philips Electronics North  American Corporation (1)                                                                                                                                                                                                                                                                                                                                                                                                                                                              |
|   | 10.14 |   | Distribution  Agreement, dated November 1, 1952, by and between H. & A.  Selmer, Inc. and Henri Selmer & Cie (1)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
|   | 10.15 |   | Form of  Non-compete Agreement dated July 1996 between Steinway Musical  Instruments, Inc. and each of Thomas Burzycki, Bruce Stevens, Dennis  Hanson and Michael Vickrey (5)                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
|   | 10.16 |   | Employment  Agreement dated October 17, 2002 between Conn-Selmer, Inc. and John  M. Stoner, Jr. (8)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
|   | 10.17 |   | Third  Amended and Restated Credit Agreement, dated as of September 29, 2006,  among Conn-Selmer, Inc., f/k/a The Selmer Company, Inc., and the  surviving corporation of the merger of United Musical Instruments  USA, Inc., United Musical Instruments Holdings, Inc. and The SMI  Trust with and into Conn-Selmer, Inc., Steinway, Inc., Boston Piano  Company, Inc., and together with Conn-Selmer and Steinway, as borrowers,  those signatories identified as guarantors, the lenders, and GMAC Commercial  Finance LLC (successor by merger to GMAC Commercial Credit, LLC), as  Administrative Agent (12) |
|   | 10.18 |   | First  Amendment to the Third Amended and Restated Credit Agreement, dated as of  December 12, 2007, among Conn-Selmer, Inc., f/k/a The Selmer  Company, Inc., and the surviving corporation of the merger of United  Musical Instruments, USA, Inc., United Musical Instruments  Holdings, Inc. and The SMI Trust with and into Conn-Selmer, Inc.,  Boston Piano Company, Inc., and together with Conn-Selmer and Steinway,  as borrowers, those signatories identified as guarantors, the lenders, and  GMAC Commercial Finance LLC (successor by merger to GMAC Commercial Credit,  LLC), as Administrative Agent    |
|   | 10.19 |   | Asset Purchase Agreement dated as of  December 15, 2006, by and between Steinway Musical  Instruments, Inc. and Dennis Bamber, Inc., d/b/a The  Woodwind & The Brasswind, and its Chapter 11 Estate (13)                                                                                                                                                                                                                                                                                                                                                                                                                           |
|   | 10.20 |   | Agreement  between Conn-Selmer, Inc. and U.A.W. Local 2359                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
|   | 10.21 |   | Labor  Contract Agreement between Musser Division and Carpenter Local 1027  Mill-Cabinet-Industrial Division affiliate of Chicago Regional Council of  Carpenters of the United Brotherhood of Carpenters and Jointers of America  (17)                                                                                                                                                                                                                                                                                                                                                                                                                    |
|   | 10.22 |   | Labor  Contract Agreement between Frank Holton Company and Local No. M94 of the  International Brotherhood of Boilermakers, Iron Shipbuilders, Blacksmiths,  Forgers, & Helpers (10)                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
|   | 10.23 |   | Summary  Description of Compensation for Non-Employee Directors (14)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
|   | 10.24 |   | Steinway  Musical Instruments, Inc. 2006 Stock Compensation Plan (15)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
|   | 10.25 |   | Steinway  Musical Instruments, Inc. 2006 Employee Stock Purchase Plan (15)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
|   | 14.0  |   | Code  of Ethics and Professional Conduct (9)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
|   | 21.1  |   | List  of Subsidiaries of the Registrant                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
|   | 23.1  |   | Consent  of Independent Registered Public Accounting Firm - Deloitte & Touche  LLP                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|   | 31.1  |   | Certification  of the Chief Executive Officer Pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |
|   | 31.2  |   | Certification of the Chief Financial Officer Pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
|   | 32.1  |   | Certification  of the Principal Executive Officer pursuant to 18 U.S.C. Section 1350,  as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |

 

79

----

 
|   | 32.2 |   | Certification of the Principal Financial Officer pursuant to 18  U.S.C. Section 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002 |
|--------|------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

----

|   | (1)    |   | Previously  filed with the Commission on February 8, 1994 as an exhibit to the  Registrant’s Registration Statement on Form S-1.                          |
|--------|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |   |                                                                                                                                                                     |
|   | (2)    |   | Previously  filed with the Commission on June 7, 1995 as an exhibit to the  Registrant’s Registration Statement on Form S-4.                              |
|   |   |   |                                                                                                                                                                     |
|   | (3)    |   | Previously  filed with the Commission on May 14, 1996 as an exhibit to the  Registrant’s Registration Statement on Form S-1.                              |
|   |   |   |                                                                                                                                                                     |
|   | (4)    |   | Previously  filed with the Commission on July 5, 1996 as an Exhibit to the  Registrant’s Amendment No. 1 to Registration Statement on Form S-1. |
|   |   |   |                                                                                                                                                                     |
|   | (5)    |   | Previously  filed with the Commission on July 25, 1996 as an exhibit to the  Registrant’s Amendment No. 2 to Registration Statement on Form S-1.     |
|   |   |   |                                                                                                                                                                     |
|   | (6)    |   | Previously  filed with the Commission on March 27, 1997 as an exhibit to the  Registrant’s Annual Report on Form 10-K.                                    |
|   |   |   |                                                                                                                                                                     |
|   | (7)    |   | Previously  filed with the Commission on August 16, 1999 as an exhibit to the  Registrant’s Quarterly Report on Form 10-Q.                                |
|   |   |   |                                                                                                                                                                     |
|   | (8)    |   | Previously  filed with the Commission on March 18, 2003 as an exhibit to the  Registrant’s Annual Report on Form 10-K.                                    |
|   |   |   |                                                                                                                                                                     |
|   | (9)    |   | Previously  filed with the Commission on March 31, 2005 as an exhibit to the  Registrant’s Annual Report on Form 10-K.                                    |
|   |   |   |                                                                                                                                                                     |
|   | (10)   |   | Previously  filed with the Commission on November 9, 2005 as an exhibit to the  Registrant’s Quarterly Report on Form 10-Q.                               |
|   |   |   |                                                                                                                                                                     |
|   | (11)   |   | Previously  filed with the Commission on February 27, 2006 as an exhibit to the  Registrant’s Current Report on Form 8-K.                                 |
|   |   |   |                                                                                                                                                                     |
|   | (12)   |   | Previously  filed with the Commission on October 4, 2006 as an exhibit to the  Registrant’s Current Report on Form 8-K.                                   |
|   |   |   |                                                                                                                                                                     |
|   | (13)   |   | Previously  filed with the Commission on December 20, 2006 as an exhibit to the  Registrant’s Current Report on Form 8-K.                                 |
|   |   |   |                                                                                                                                                                     |
|   | (14)   |   | Previously  filed with the Commission on May 15, 2007 in the Registrant’s Current  Report on Form 8-K.                                                    |
|   |   |   |                                                                                                                                                                     |
|   | (15)   |   | Previously  filed with the Commission on July 17, 2007 as an exhibit to the  Registrant’s Registration Statement on Form S-8.                             |
|   |   |   |                                                                                                                                                                     |
|   | (16)   |   | Previously  filed with the Commission on August 31, 2007 as an exhibit to the  Registrant’s Current Report on Form 8-K.                                   |

 

80

----

 
|   | (17) |   | Previously  filed with the Commission on January 31, 2008 as an exhibit to the  Registrant’s Current Report on Form 8-K. |
|--------|------|--------|-----------------------------------------------------------------------------------------------------------------------------------------|

 

81

----

 

**Signatures**

 

Pursuantto the requirements of Section 13 or 15(d) of the Securities ExchangeAct of 1934, the Registrant has duly caused this report to be signed on itsbehalf by the undersigned, thereunto duly authorized.

 

SteinwayMusical Instruments, Inc.

 
| By:    | /s/  Dana D. Messina |   | March 17,  2008 |   |
|--------|----------------------|--------|----------------------|--------|
|   | Dana  D. Messina     |   | (Date)               |

 

Pursuantto the requirements of the Securities Exchange Act of 1934, this report hasbeen signed by the following persons on behalf of the registrant and in thecapacities listed below on March 17, 2008:

 
| **Signature**                | ** ** | **Title**                                                             |
|------------------------------|------------|-----------------------------------------------------------------------|
| ** **                   | ** ** | ** **                                                            |
| /s/ Dana D. Messina          |       | Director  and Chief Executive Officer (Principal Executive Officer)   |
| Dana D. Messina              |       |                                                                  |
|                         |       |                                                                  |
| /s/ Dennis M. Hanson         |       | Chief  Financial Officer (Principal Financial and Accounting Officer) |
| Dennis M. Hanson             |       |                                                                  |
|                         |       |                                                                  |
| /s/ Kyle R. Kirkland         |       | Chairman  of the Board                                                |
| Kyle R. Kirkland             |       |                                                                  |
|                         |       |                                                                  |
| /s/ John M. Stoner, Jr. |       | Director                                                              |
| John M. Stoner, Jr.     |       |                                                                  |
|                         |       |                                                                  |
| /s/ Thomas Kurrer            |       | Director                                                              |
| Thomas Kurrer                |       |                                                                  |
|                         |       |                                                                  |
| /s/ Peter McMillan           |       | Director                                                              |
| Peter McMillan               |       |                                                                  |
|                         |       |                                                                  |
| /s/ A. Clinton Allen         |       | Director                                                              |
| A. Clinton Allen             |       |                                                                  |
|                         |       |                                                                  |
| /s/ Rudolph K. Kluiber       |       | Director                                                              |
| Rudolph K. Kluiber           |       |                                                                  |
|                         |       |                                                                  |
| /s/ David Lockwood           |       | Director                                                              |
| David Lockwood               |       |                                                                  |

 

82

----