**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C.  20549**

** **

**FORM 10-K**

 

| **ý** | **ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001** |
|------------|---------------------------------------------------------------------------------------------------------------------------------------|

 

| **o** | **TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934** |
|-------|-----------------------------------------------------------------------------------------------|

 

**COMMISSIONFILE NUMBER 001-11911**

 

**STEINWAY MUSICAL INSTRUMENTS, INC.**

(Exactname of registrant as specified in its charter)

 

| **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

 

Indicate by check mark whether the registrant (1) has filed all reportsrequired to be 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 to suchfiling requirements during the past 90 days.   Yes ý    No o

 

Indicate by check mark if disclosure of delinquent filers pursuant toItem 405 of Regulation S-K is not contained herein, and will not be contained,to the best of registrant’s knowledge, in definitive proxy or informationstatements incorporated by reference in Part III of the Form 10-K or anyamendment to this Form 10-K.  ý

 

The aggregate market value of the Common Stock held by non-affiliatesof the registrant was $149,049,162 as of March 12, 2002.

 

| Number of shares of Common Stock outstanding as of  March 12, 2002: |   | Class A  |   | 477,953   |   |
|---------------------------------------------------------------------|--------|----------|--------|-----------|--------|
|                                                                |   | Ordinary |   | 8,369,696 |   |
|                                                                |   | Total    |   | 8,847,649 |   |

 

Documents incorporated by reference: Part III - Items 10-13 - Definitive Proxy Statement of the Registrant tobe filed pursuant to Regulation 14A, Parts I-IV - Final Prospectus of theRegistrant dated August 1, 1996 filed pursuant to Rule 424(b).

 

 

**PART I**

 

**ITEM 1                   BUSINESS**

 

**General**

 

The Company, through itsoperating subsidiaries, is a world leader in the design, manufacture andmarketing of high quality musical instruments. The Steinway & Sons grand piano is considered to be the highestquality piano in the world and has one of the most widely recognized andprestigious brand names.  For more thana century, the Steinway concert grand has been the piano of choice for theworld’s greatest and most popular pianists. A survey of thirty of the world’s major symphony orchestras revealedthat 98% of piano soloists chose a Steinway grand piano during the2000/2001concert season.  As the largestdomestic manufacturer of band and orchestral instruments, the Company offers acomplete line of brasswind, woodwind, percussion and stringed instruments and relatedaccessories. *Selmer Paris*saxophones, *BachStradivarius* trumpets,*C.G. Conn*French horns, *King* trombones and *Ludwig*snaredrums are considered by many to be the finest such instruments in theworld.  The Company’s net sales of $353million for the year ended December 31, 2001 were comprised of $169 million inpiano sales and $184 million in band and orchestral instrument sales.

 

The piano division concentrateson the high-end grand piano segment of the industry, hand crafting its Steinwaypianos in New York and Germany.  TheCompany also offers vertical pianos as well as two mid-priced lines of pianosunder the Boston and Essex brand names. The Company sells its pianos worldwide through approximately 200independent piano dealers and seven Company-operated retail showrooms includingthose located in New York, London, Munich and Berlin.  In 2001, approximately 59% of piano sales were in the UnitedStates, 27% in Europe and the remaining 14% primarily in Asia.

 

The band and orchestral divisionholds the leading domestic market share in virtually all of its product lines*.*  Instruments are made by a highly skilledworkforce at manufacturing facilities in Indiana, Ohio, North Carolina,Illinois and Arizona, and sold through approximately 1,800 independent dealersand distributors.  Beginner instrumentsaccounted for 75% of band and orchestral unit sales and 49% of instrumentrevenues in 2001, with advanced and professional instruments representing thebalance.  In 2001, approximately 85% ofband sales were in the United States, 7% in Europe and the remaining 8%primarily in Asia.

 

Certain statements contained throughout this annualreport are “forward-looking statements” within the meaning of Section 21E ofthe Securities Exchange Act of 1934, as amended.  These forward-looking statements represent the Company’s presentexpectations or beliefs concerning future events.  The Company cautions that such statements are necessarily basedon certain assumptions which are subject to risks and uncertainties, including,but not limited to, changes in general economic conditions, increasedcompetition, exchange rate fluctuations, variations in the mix of productssold, fluctuations in effective tax rates resulting from shifts in sources ofincome, and the ability to successfully integrate and operate acquired businessesmay cause actual results to differ materially from those indicated herein.  Further information on these factors isincluded in the Company’s Final Prospectus filed in August 1996, particularlythe section therein entitled “Risk Factors”.

 

2

----

 

**Products**

 

The Company offers pianos, band and orchestralinstruments and services through the following subsidiaries and operatingdivisions:

 

*Steinway& Sons* offers two premium-priced product lines: grand pianosand vertical pianos.  Steinway pianosdiffer from all others in design specifications, materials used and theassembly process.  All of Steinway’spatented designs and innovations provide the unique sound and quality of theSteinway piano.

 

Grand pianos historically have accounted for the bulkof Steinway’s production.  Steinwayoffers eight models of the grand piano ranging from the 5’1” baby grand to thelargest 9’ concert grand.  The smallergrands are sold to both individual and institutional customers, while theconcert grands are sold primarily to institutions.  Steinway grand pianos are premium pianos in terms of quality andprice, with retail prices generally ranging from $34,900 to $89,600 in theUnited States.  In 2001, Steinway sold3,319 grand pianos, of which 2,224 units were shipped from its New Yorkfacility to dealers in North and Latin America.  The remaining 1,095 units were shipped from its German facilityto various countries in Europe and Asia.

 

Vertical pianos offer dealers a complete line ofquality pianos to satisfy the needs of institutions and other customers who areconstrained by space limitations but unwilling to compromise on quality.  Steinway also provides services, such asrestoration, repair, replacement part sales, tuning and regulation of pianos,at locations in New York, London, Hamburg and Berlin.  Restoration services range from minor damage repairs to completerestorations of old pianos.  In the1990s Steinway expanded its restoration capacity to accommodate an increasedfocus on the procurement and resale of used Steinway pianos.

 

*BostonPiano Company* offers two complete lines of grand and verticalpianos for the mid-priced piano market. These pianos, which are designed by Steinway and produced by Asianmanufacturers, provide Steinway dealers with anopportunity to realize better margins in this price range while capturing salesthat would have otherwise gone to a competitor.  These pianos provide an alternative product for future Steinwaygrand piano customers, since Company research indicates that the vast majorityof Steinway customers have previously owned another piano.  The product lines also increase Steinway’sbusiness with its dealers, making Steinway the dealer’s primary supplier inmany instances, since these three product lines together offer a full spectrumof piano prices and styles.  The Bostonline is comprised of nine upright and grand piano models, with retail pricesranging from $6,240 to $37,420.  TheEssex line is comprised of four upright and grand piano models with retailprices ranging from $5,200 to $18,100.

 

*The Band Instrument Divisions* manufacture brasswind and woodwind instruments,including piccolos, flutes, clarinets, oboes, bassoons, saxophones, trumpets,cornets, and trombones at facilities in Elkhart, Indiana, Eastlake, Ohio andNogales, Arizona.  These divisions alsomanufacture mouthpieces and distribute accessories such as oils, lubricants,polishes, stands, batons, sax straps, mutes and reeds.  Products are manufactured under the *Armstrong,Bach, Conn, Emerson, King, Selmer* and*Signet* brand names and aresold to student, amateur and professional musicians. Suggested retail pricesgenerally range from $650 to $1,600 for student instruments and from $1,000 to$8,000 for step-up and professional instruments.  Products sold to professional musicians are often customized tomeet specific design options or sound characteristics. The Company believesthat specialization of products helps maintain a competitive edge in qualityand product design.

 

3

----

 

The Company is the exclusive U.S.distributor for *Selmer Paris* products. The *Selmer Paris* saxophone isgenerally considered to be one of the best in the world.  *Selmer Paris,* in turn, has exclusive distributionrights to certain of the Company’s woodwind and brasswind products in France.

 

*The Percussion Division* manufactures acoustical and tuned percussioninstruments, including outfit drums, marching drums, concert drums, marimbas,xylophones, vibraphones, orchestra bells, chimes, mallets and accessories.  This division manufactures its products inMonroe, North Carolina and LaGrange, Illinois under the *Ludwig* and *Musser*brand names.  *Ludwig* is considered aleading brand name in acoustical drums and timpani and *Musser* has a strong marketposition in tuned percussion products. Suggested retail prices range from $500 to $4,500 for acoustical drumoutfits and from $2,000 to $16,000 for tuned percussion instruments.

 

*The Stringed Instrument Divisions* manufacture and distribute violins, violas,cellos and basses, and accessories such as bridges, covers, mutes, pads, chinrests, rosins, strings, bows, cases and instrument care products.  Products are sold under the *Glaesel,Hermann Beyer, Otto Bruckner, Scherl & Roth*and *WilliamLewis & Son*brand names. Suggested retail prices generally range from $500 to $2,100 for studentinstruments and from $1,000 to $10,000 for intermediate and advancedinstruments. Components are primarily imported from Europe and Asia andassembled at factories in Cleveland, Ohio and Elkhart, Indiana.

 

**Customers**

 

The Company’s core piano customerbase consists of professional artists and amateur pianists, as well asinstitutions such as concert halls, conservatories, colleges, universities andmusic schools.  The majority of Steinwaygrand piano sales are to individuals. These individuals are typically over 40 years old, with household incomeranging from $150,000 to $300,000 per year and a serious interest inmusic.  The balance of sales toinstitutional customers has historically represented a larger portion ofinternational revenue.  Over the pastseveral years, the Company has introduced several unique marketing programsdesigned to increase institutional sales in the United States.  As a result, domestic shipments toinstitutions increased nearly 7% in 2000 and another 5% in 2001. The Company’slargest piano dealer accounted for approximately 4% of sales in 2001, while thetop 15 accounts represented 27% of sales.

 

The majority of band instrumentsare purchased by students enrolled in music education programs.  Traditionally, students join school bands ororchestras at age 10 or 11 and learn on beginner level instruments, progressingto an advanced or professional level instrument in high school or college.  Management estimates that 85% of itsdomestic band sales are generated through educational programs.  The remaining domestic band sales are toprofessional or amateur musicians or performing groups, including orchestrasand symphonies.  The Company’s largestband dealer accounted for approximately 7% of band sales in 2001, while the top15 accounts represented approximately 29% of sales.

 

**Salesand Marketing**

 

*Pianos.*The Company distributes its pianos primarily on a wholesale basisthrough approximately 200 select dealers around the globe.  These dealers accounted for approximately85% of pianos sold in 2001. The remaining 15% were sold directly by Steinway& Sons at one of its seven company-operated retail locations.  In 2001, Steinway Hall, the Company’s West57th Street store, one of the largest and most famous piano stores in theworld, was designated a historic landmark by the New York City Landmarks 

 

4

----

 

Preservation Commission.  The Company has a Japanese subsidiary as well as a representativeoffice in China to provide appropriate coverage to the expansive Asian pianomarket.

 

The Company employs districtsales managers, whose responsibilities include developing close working partnershipswith domestic and international piano dealers. These highly experiencedprofessionals provide sales training and technical support, as well as salesand marketing programs for consumers and institutions.  The sales managers are also responsible forpromoting the Piano Bank and Steinway Artist programs described below.

 

*The Concert and Artist Piano Bank.*  Virtuallyall major venues throughout the world own a Steinway piano.  However, to ensure all pianists, andespecially Steinway Artists, have a broad selection of instruments to meettheir individual touch and tonal preferences, Steinway maintains the famedConcert and Artist Piano Bank (the “Piano Bank”).  The Piano Bank includes approximately 360 instrumentsworldwide.  Of these instruments, approximately295 are located in the United States. In New York City, the Steinway concert department has approximately 108concert grands available for various occasions.  The balance of the domestic-based pianos are leased to dealersaround the country who actively support the Steinway Artists program.  In addition to promoting the Company’sproducts in the music industry, the Piano Bank provides continuous feedback onthe quality and performance of recently produced instruments from its mostcritical customer, the professional pianist. The Piano Bank instruments, which have an average age of four years, aregenerally sold after five years and replaced with new pianos.

 

*Steinway Artists.*  Foryears, the Company has successfully used renowned artists in its marketingprograms.  This form of marketing hashelped solidify brand-name recognition as well as clearly demonstrate thatSteinway pianos surpass all other brands in quality.  The “Steinway Artists” program, the endorsement of world-classpianists who voluntarily select the Steinway piano, is unique in that theCompany does not pay artists to endorse its instruments.  To become a Steinway Artist, a pianist mustnot only meet certain performance and professional criteria, he or she mustalso own a Steinway piano.  The SteinwayArtist roster currently includes approximately 1,300 of the world’s finestpianists who perform only on Steinway pianos. In return for their endorsements, Steinway Artists are provided withaccess to the Piano Bank described above.

 

*Distribution, Sales and Marketing of the Boston andEssex Piano Lines.*  The Boston and Essex piano lines aretargeted at the mid-priced segment of the market.  The lines provide both a broader product offering for dealers andentry-level products for future Steinway grand piano customers. With certainlimited exceptions, the Company allows only Steinway dealers to carry theBoston and Essex piano lines and thus ensures that these pianos will bemarketed as complementary product lines. Increased traffic generated by these pianos creates current and futurecustomers for Steinway.  Theavailability of a lower-priced Boston alternative has not negatively impactedthe sales of other Steinway pianos.  TheBoston piano line benefits from the “spillover” effect created by the marketingefforts supporting Steinway’s main product lines.  The Essex piano line, which was introduced in 2000, isexperiencing similar complementary benefits without negatively impacting theCompany’s Steinway line.

 

*Bandand Orchestral Instruments.* Band, orchestral and percussion instruments and relatedaccessories are distributed worldwide through approximately 1,800 independentmusical instrument dealers and distributors. These products are marketed by district sales managers and independentsales representatives who are responsible for sales within assigned geographicterritories in the United States and Canada. Each district sales manager is also responsible for developingrelationships with band and orchestral directors representing all levels ofmusic education from elementary through universities and professional players.These individuals are the primary influence in the choice of an instrumentbrand.  Band directors will generallyrefer students to designated dealers for the purchase of instruments.  Management believes that itswell-established, long-standing relationships with these influential musiceducators are an important component of its distribution strategy.

 

 

5

----

 

 

Internationally, products are sold through dealers anddistributors located in each major country. International representatives help market the Company’s products tothese dealers and distributors.

 

Dealers and distributors are supported throughincentive programs, advertising and promotional activities.  Trade shows, educator conferences, printmedia, direct mail, telemarketing, the Internet and personal sales calls arethe primary methods of reaching customers. The Company actively advertises in consumer, educator and trademagazines and publications.  Inaddition, Company representatives attend several trade shows and educatorconferences each year providing opportunities to interface directly withcustomers.

 

The Company’s educational director travels extensively,lecturing and motivating students, educators and parents on the value of musicin a child’s development.  The Companyalso provides educational materials, catalogs and product specifications tostudents, educators, dealers and distributors.

 

**MusicalInstrument Industry**

 

*Pianos.*The overall piano industry is comprised of three maincategories: high-end grand pianos, mid/low-end grand pianos, and verticalpianos.  Domestic piano sales declinedfrom the early 1970’s through the early 1990’s primarily due to a decrease invertical pianos.  During this period,verticals were impacted by the increase in competition stemming from electronicalternatives and lower-cost, smaller, mass-produced grand pianos, whichcompeted in the mid/low-end grand piano market. The vertical piano decline didnot have a material adverse effect on the Company’s operating results, sincethe majority of its piano profit is realized from high-end grand piano sales,which are more generally affected by economic cycles.  From the middle through the end of the 1990’s, the industryexperienced growth in all categories of pianos, and the introduction of theBoston line in the early 1990’s permitted the Company to compete in themid-price category without sacrificing quality.   However, the industry is currently being impacted by the recentdomestic economic downturn, and all categories of pianos are being adverselyaffected.  Management believes that therecent economic slowdown will be mitigated by favorable demographics and ageneral resurgence in music interests.

 

Market size and volume trends are difficult toquantify for international markets, as there is no single source for worldwidesales data.  Steinway’s strongestinternational markets outside the Americas are Germany, Japan, the UnitedKingdom, Switzerland and France.

 

Outside of the United States, China, Korea and Japanare the three largest piano markets in the world, with Japan representing thesecond largest grand piano market.  Withits three piano lines, Steinway currently has 6% of the grand piano marketshare in Japan, compared to an average market share of approximately 12% inother major markets.  While adverseeconomic conditions in the Asian markets have slowed expansion opportunities,the Company believes that its long-term prospects remain good and continues totarget this region in its distribution strategies.

 

*Bandand Orchestral Instruments. *TheCompany believes that the band and orchestral instrument industry hashistorically been impacted more by demographic trends and school budgeting thanby macroeconomic cycles.  The domesticband and orchestral instrument industry experienced moderate sales declinesstarting in the mid to late 1970s, which strongly correlated to a decline ineleven year-old children during the same time period.  Since 1984, the industry had experienced steady growth,consistent with the increases in both student enrollment (grades K through 12)and school expenditures.  While thedomestic market 

 

6

----

 

continued to grow through the late 1990’s, domestic supply has recentlyoutpaced the demand. Financial woes in Asia and a stronger U.S. dollar fueledan increase of units imported into the domestic market from offshore low costproducers as well as a decline in exports by domestic manufacturers.  Additionally, key dealers continue toacquire and consolidate smaller dealers, resulting in more efficient use oftheir existing instrument stock, as well as an increased effort to repair andrefurbish existing inventory instead of purchasing new inventories frommanufacturers. The combination of these factors has created a highly pricesensitive domestic market, where manufacturers have implemented aggressivemarketing programs in an attempt to maintain market share positions.

 

The Company believes the outlookfor future growth remains positive. Stable demographic trends and recent studies emphasizing the importanceof music education in a child’s development are expected to contribute to theindustry’s growth potential.  Recently,the creators of Sesame Street introduced a public service initiative entitledSesame Street Music Works, in an effort to encourage children to exploremusic.  Management believes that parentsare encouraging their children to pursue musical instruments as a response torecent studies that show participation in music programs increase a student’sability to excel in other aspects of their education (e.g., college entrancetest scores).  In addition, many schoolband directors are promoting band programs as social organizations rather thanthe first step of intensive music study.

** **

**Competition**

 

The Company is the largest domestic producer of bandand orchestral instruments.  Newentrants into the domestic market experience difficulty competing with theCompany due to the long learning curve inherent in the production of musicalinstruments, the high quality standards set by the market, cost of tooling,significant capital requirements, lack of name-brand recognition and theutilization of an effective distribution system.  Foreign musical instrument manufacturers have made significantstrides in recent years to improve their product quality.  They now offer a broad range of qualityproducts at highly competitive prices and represent a significant competitivechallenge for domestic producers.  TheCompany is focusing on raising product quality standards, investing in newtechnology to increase productivity and efficiency in the manufacturing processand developing aggressive marketing programs to maintain its market positions.

 

Few manufacturers compete directly with Steinway &Sons pianos, both in terms of quality and price.  Management believes that used Steinway pianos provide significantcompetition in its market segment. Because of the potential savings associated with buying a used Steinwaypiano, as well as the durability of the instrument, a large market exists forused Steinways.  It is difficult toestimate the significance of used piano sales, since most are conducted in theprivate aftermarket. Increased emphasis on both restoration services and theprocurement, refurbishment and sales of used Steinway pianos has generatedadditional revenue over the past few years.

 

**Patentsand Trademarks**

 

The Company has several trademarks and patents effectiveand pending in the United States and in several foreign countries for varyinglengths of time.  Steinway has pioneeredthe development of the modern piano with over 125 patents granted since itsfounding.  Piano trademarks include *Steinway,Steinway & Sons,*the Lyre symbol, *Boston, designed by Steinway &Sons,*and*Essex. *Bandand orchestral trademarks include *Selmer, Bach, Bundy, Signet, William Lewis & Son,Ludwig, Musser,**Emerson,**Conn, King, Armstrong, Artley, Benge,*and*Scherl& Roth.*  Managementconsiders its various patents and trademarks to be important and valuableassets.

 

7

----

 

**ManufacturingProcess**

 

The Company manufactures the vast majority of themusical instruments that it sells. The manufacturing process involvesessentially two main production phases: the production of component parts andinstrument assembly.  Employees performvarious forming, drilling, and cutting operations during the parts productionphase.  Investment in new equipment inthis area over the last several years has allowed the Company to increase itsproduction capacity and improve quality. Skilled craftsmen assemble component parts for the final assembly of theinstruments.  Each instrument is testedor tuned and regulated to the Company’s specifications.

 

The manufacturing process for pianos takes up to ninemonths to achieve the high quality standards expected for Steinway pianos.  Raw materials are purchased primarily in theUnited States and Europe.

 

The Company maintains a fairly constant productionschedule for band and orchestral instruments in order to minimize labordisruptions and to keep work-in-process inventories relatively stable.  Raw materials used in the production ofbrasswind and woodwind instruments are purchased primarily in the UnitedStates.  Component parts are importedfrom Europe and Asia for stringed and percussion instruments.

 

Recently the Company has implemented periodicshutdowns of selected manufacturing facilities in order to control inventorylevels while maintaining a skilled workforce.

 

**Labor**

 

As of December 31, 2001, the Company employed 2,847people, consisting of 2,144 hourly production workers and 703 salariedemployees.  Of the 2,847 employees,2,272 were employed in the United States and the remaining 575 were employedprimarily in Europe.

 

Approximately 63% of the Company’s workforce in theUnited States is represented by labor unions. Collective bargaining agreements covering these employees expire atvarious dates through 2003. Manufacturing employees in Germany are represented by the workers’council that negotiates annually on their behalf.  The Company believes that its relationship with its employees isgenerally good.

 

**ITEM 2                   PROPERTIES**

 

The Company owns most of its manufacturing andwarehousing facilities, as well as the building that includes SteinwayHall.  The remaining Steinway retailstores are leased.  Substantially all ofthe domestic real estate has been pledged to secure the Company’s debt.

 

8

----

 

The following table lists the Company’s significant owned and leasedfacilities:

 
|                |   |             |   | **Approximate  Floor space  (Square Feet)** |         |                                                                       |   |
|---------------------|--------|------------------|--------|---------------------------------------------|--------------|----------------------------------------------------------------------------|--------|
|                |   |             |   |                                        |         |                                                                       |
| **Location**        |   | **Owned/Leased** |   |                                        | **Activity** |                                                                       |
| New York, NY        |   | Owned            |   | 449,900                                     |         | Piano manufacturing; restoration  center; administrative offices; training |   |
|                |   | Owned            |   | 217,000                                     |         | Piano retail store/showroom, office rental property                        |   |
| Hamburg, Germany    |   | Owned            |   | 220,660                                     |         | Piano manufacturing; executive offices; training                           |   |
| Eastlake, OH        |   | Owned            |   | 160,000                                     |         | Brasswind manufacturing                                                    |   |
| Elkhart, IN         |   | Owned            |   | 144,000                                     |         | Brasswind manufacturing                                                    |   |
|                |   | Owned            |   | 88,000                                      |         | Woodwind manufacturing; warehouse; office                                  |   |
|                |   | Owned            |   | 77,000                                      |         | Woodwind manufacturing                                                     |   |
|                |   | Owned            |   | 75,000                                      |         | Warehouse                                                                  |   |
|                |   | Owned            |   | 25,000                                      |         | Administrative offices                                                     |   |
| Springfield, OH     |   | Owned            |   | 110,000                                     |         | Piano plate manufacturing                                                  |   |
| Nogales, AZ         |   | Owned            |   | 90,000                                      |         | Band instrument manufacturing                                              |   |
| LaGrange, IL        |   | Owned            |   | 46,000                                      |         | Percussion instrument manufacturing                                        |   |
|                |   | Leased           |   | 18,000                                      |         | Timpani production                                                         |   |
| Wilkow, Poland      |   | Owned            |   | 9,740                                       |         | Piano key manufacturing                                                    |   |
| Monroe, NC          |   | Leased           |   | 147,000                                     |         | Drum and case manufacturing                                                |   |
| Cleveland, OH       |   | Leased           |   | 52,000                                      |         | Stringed instrument manufacturing                                          |   |
| Munich, Germany     |   | Leased           |   | 29,000                                      |         | Piano retail store/showroom                                                |   |
| Wuppertal,  Germany |   | Leased           |   | 27,450                                      |         | Piano key manufacturing                                                    |   |
| London, England     |   | Leased           |   | 20,000                                      |         | Band instrument office; warehouse                                          |   |

 

The Company spent $7.1 million for capitalimprovements in 2001.  The majority ofthe expenditures were used for new machinery, building improvements, andcertain EPA compliance projects. The Company expects capital spending in 2002to be in the range of $7.0 to $8.0 million as it completes EPA complianceprojects and continues to modernize equipment and renovate facilities in orderto improve production efficiency.

 

**ITEM 3                   LEGAL PROCEEDINGS**

 

The Company is involved in certain legal proceedingsregarding environmental matters, which are described below.  Further, in the ordinary course of business,the Company is party to various legal actions that management believes areroutine in nature and incidental to the operation of its business.  While the outcome of such actions cannot bepredicted with certainty, management believes that, based on its experience indealing with these matters, their ultimate resolution will not have a materialadverse impact on the business, financial condition and results of operationsor prospects of the Company.

 

*EnvironmentalMatters -*The Company is subject to compliance with variousfederal, state, local and foreign environmental laws, including those relatingto discharges to air, water and land, the handling and disposal of solid andhazardous waste and the cleanup of properties affected by hazardoussubstances.  Certain environmental laws,such as the Comprehensive Environmental Response, Compensation, and LiabilityAct, as amended (“CERCLA”), impose strict, retroactive, joint and severalliability upon persons responsible for releases of hazardous substances, whichresponsibility is broadly construed.

 

9

----

 

As the result of an inspection in 1999, the IndianaDepartment of Environmental Management (“IDEM”) informed the Company that oneof its facilities was not in compliance with several air pollution controlrules regulating its use of volatile organic compounds (primarilytrichloroethylene).  Immediately afterthe inspection, the Company took the necessary steps to return the facility tocompliance with these rules.  The Companyreached an agreement with IDEM regarding the disposition of this matter, includingthe assessment of certain immaterial fines. In addition, the Company has agreed to permanently eliminate the use oftrichloroethylene from its manufacturing process.  The cost incurred in 2001 for this capital project and upgradesto other related processes totaled $1.6 million.  The project is scheduled for completion in early 2002 with anadditional cost of $0.4 million.

 

The Company is also continuing existing environmentalremediation programs at facilities acquired in 2000.  The estimated remaining cost of these remediation programs isapproximately $0.5 million and has been accrued by the Company.

 

On August 9, 1993, Philips Electronics North AmericaCorporation (“Philips”) agreed to continue to indemnify the Company for any andall losses, damages, liabilities and claims relating to environmental mattersresulting from certain activities of Philips occurring prior to December 29,1988 (the “Environmental Indemnity Agreement”).  To date, Philips has fully performed its obligations under theEnvironmental Indemnity Agreement.  TheEnvironmental Indemnity Agreement terminates on December 29, 2008.  Four matters covered by the EnvironmentalIndemnity Agreement are currently pending. For two of these sites, Philips has entered into Consent Orders with theEnvironmental Protection Agency (“EPA”) or the North Carolina Department ofEnvironment, Health and Natural Resources, as appropriate, whereby Philips hasagreed to pay required response costs. For the third site, the EPA has notified Selmer it intends to carry outthe final remediation remedy itself. The EPA estimates that this remedy has a present net cost ofapproximately $12.0 million.  Over 40persons or entities have been named by the EPA as potentially responsibleparties at this site.  This matter hasbeen tendered to Philips pursuant to the Environmental IndemnityAgreement.  On October 22, 1998, theCompany was joined as defendant in an action involving a site formerly occupiedby a business acquired by the Company in Illinois.  Philips has accepted the defense of this action pursuant to theterms of the Environmental Indemnity Agreement.  The potential liability of the Company at any of these sites isaffected by several factors including, but not limited to, the method ofremediation, the Company’s portion of the materials in the site relative to theother named parties, the number of parties participating and the financialcapabilities of the other potentially responsible parties once the relativeshare has been determined.  No assurancecan be given, however, that additional environmental issues will not requireadditional, currently unanticipated investigation, assessment or remediationexpenditures or that Philips will make payments that it is obligated to makeunder the Environmental Indemnity Agreement.

 

The Company operates manufacturing facilities atlocations where hazardous substances (including chlorinated solvents) wereused.  The Company believes that anentity that formerly operated one such facility may have released hazardoussubstances at such location, which was leased by the Company through July2001.  The Company has not contributedto such release.  Further, the Companyhas a contractual indemnity from certain stockholders of such entity.  Such facility is not the subject of a legalproceeding involving the Company and, to the Company’s knowledge, is notsubject to investigation.  However, noassurance can be given that legal proceedings will not arise in the future andthat such indemnitors would make the payments described in the indemnity.

 

The matters described above and the Company’s otherliabilities and compliance costs arising under environmental laws are notexpected to have a material impact on the Company’s capital expenditures,earnings or competitive position. However, some risk of environmental liability is inherent in the natureof the Company’s current and former businesses and the Company might, in thefuture, 

 

10

----

 

incur material costs to meet current or more stringent compliance,cleanup or other obligations pursuant to environmental laws.

 

**ITEM4                   SUBMISSIONOF MATTERS TO A VOTE OF SECURITY HOLDERS**

 

No matter was submitted to a vote of the Company’ssecurity holders during the fourth quarter of the fiscal year ended December31, 2001.

 

**PART II**

 

**ITEM5                   MARKETFOR REGISTRANT’S COMMON EQUITY**

**                                AND RELATEDSTOCKHOLDER MATTERS**

 

The ordinary common stock of the Company is traded onthe New York Stock Exchange (“NYSE”) under the symbol “LVB”.  The following table sets forth, for theperiod indicated, the high and low sales price per share of the ordinary commonstock as reported on the NYSE.

 
|                                 |   | **High** |   | **Low** |   |
|--------------------------------------|--------|----------|--------|---------|--------|
| Fiscal Year  Ended December 31, 2000 |   |     |   |    |   |
| First Quarter                        |   | $        | 20.94  |    | $      | 17.50 |   |
| Second Quarter                       |   | 20.00    |   | 14.50   |   |
| Third Quarter                        |   | 18.75    |   | 16.38   |   |
| Fourth Quarter                       |   | 19.63    |   | 16.81   |   |
|                                 |   |     |   |    |   |
| Fiscal Year  Ended December 31, 2001 |   |     |   |    |   |
| First Quarter                        |   | $        | 17.81  |    | $      | 16.35 |   |
| Second Quarter                       |   | 20.54    |   | 16.05   |   |
| Third Quarter                        |   | 18.28    |   | 14.40   |   |
| Fourth Quarter                       |   | 17.45    |   | 12.40   |   |

 

The Company’s common stock is comprised of twoclasses: Class A and Ordinary.  With theexception of disparate voting power, both classes are substantiallyidentical.  Each share of Class A commonstock entitles the holder to 98 votes. Holders of Ordinary common stock are entitled to one vote pershare.  Class A common stock shallautomatically convert to Ordinary common stock if, at any time, the Class Acommon stock is not owned by an original Class A holder.  As of March 18, 2002, there were 1,776holders of record of the Company’s Ordinary common stock and two holders ofrecord of the Class A common stock.

 

The Company has no plans to pay cash dividends on thecommon stock.  The Company presentlyintends to retain earnings to reduce outstanding indebtedness and to fund thegrowth of the Company’s business.  Thepayment of any future dividends will be determined by the Board of Directors inlight of conditions then existing, including the Company’s results of operations,financial condition, cash requirements, restrictions in financing agreements,business conditions and other factors.

 

The Company is restricted by the terms of itsoutstanding debt and financing agreements from paying cash dividends on itscommon stock, and may, in the future, enter into loan or other agreements thatrestrict the payment of cash dividends on the common stock.

 

11

----

 

**ITEM 6                   SELECTED CONSOLIDATEDFINANCIAL DATA**

 

The following table sets forth selected consolidatedfinancial data of the Company as of and for the six years ended December 31,2001, derived from the audited financial statements of the Company.  The table should be read in conjunction withthe audited consolidated financial statements of the Company, including thenotes thereto, and “Management’s Discussion and Analysis of Financial Conditionand Results of Operations” included elsewhere in this report.

 
|                                        |   | **Years Ended  December 31,**                                     |    |
|---------------------------------------------|--------|-------------------------------------------------------------------|---------|
|                                        |   | **1996**                                                          |    | **1997** |   | **1998** |   | **1999** |   | **2000 (1)** |   | **2001** |   |
|                                        |   | **(In  thousands except share and********per share information)** |    |
| **Income Statement Data:**                  |   |                                                              |    |   |   |   |   |   |   |   |   |   |   |
| Net sales                                   |   | $                                                                 | 257,903 |   | $ | 277,848 |   | $ | 293,251 |   | $ | 304,636 |   | $ | 331,698 |   | $ | 352,612 |   |
| Gross profit                                |   | 84,235                                                            |    | 93,281 |   | 98,479 |   | 100,748 |   | 104,958 |   | 107,498 |   |
| Income from operations                      |   | 33,124                                                            |    | 38,249 |   | 41,813 |   | 41,140 |   | 41,689 |   | 38,472 |   |
| Income before extraordinary item            |   | 7,421                                                             |    | 13,700 |   | 16,651 |   | 17,345 |   | 16,904 |   | 15,269 |   |
| Income per share before extraordinary item: |   |                                                              |    |   |   |   |   |   |   |   |   |   |   |
| Basic                                       |   | 1.00                                                              |    | 1.45 |   | 1.78 |   | 1.88 |   | 1.89 |   | 1.71 |   |
| Diluted                                     |   | 1.00                                                              |    | 1.45 |   | 1.75 |   | 1.87 |   | 1.89 |   | 1.71 |   |
|                                        |   |                                                              |    |   |   |   |   |   |   |   |   |   |   |
| **Weighted average shares:**                |   |                                                              |    |   |   |   |   |   |   |   |   |   |   |
| Basic                                       |   | 7,418,580                                                         |    | 9,426,122 |   | 9,339,896 |   | 9,213,145 |   | 8,921,091 |   | 8,928,000 |   |
| Diluted                                     |   | 7,418,580                                                         |    | 9,458,841 |   | 9,505,640 |   | 9,277,798 |   | 8,921,108 |   | 8,928,000 |   |
|                                        |   |                                                              |    |   |   |   |   |   |   |   |   |   |   |
| **Other Financial Data:**                   |   |                                                              |    |   |   |   |   |   |   |   |   |   |   |
| EBITDA (2)                                  |   | $                                                                 | 44,520  |   | $ | 50,175 |   | $ | 54,072 |   | $ | 54,822 |   | $ | 57,352 |   | $ | 54,059 |   |
| Interest expense, net                       |   | 17,107                                                            |    | 12,776 |   | 11,911 |   | 13,276 |   | 16,110 |   | 16,731 |   |
| Capital expenditures (3)                    |   | 5,199                                                             |    | 5,634 |   | 6,264 |   | 5,399 |   | 7,890 |   | 7,141 |   |
| EBITDA (2)/interest expense, net            |   | 2.6                                                               | x       | 3.9 | x | 4.5 | x | 4.1 | x | 3.6 | x | 3.2 | x |
| Cash flows from:                            |   |                                                              |    |   |   |   |   |   |   |   |   |   |   |
| Operating activities                        |   | $                                                                 | 5,927   |   | $ | 13,835 |   | $ | 14,227 |   | $ | 15,372 |   | $ | 13,265 |   | $ | 28,877 |   |
| Investing activities                        |   | (5,039                                                            | )       | (8,968 | ) | (5,289 | ) | (39,312 | ) | (93,798 | ) | (7,988 | ) |
| Financing activities                        |   | (865                                                              | )       | (3,440 | ) | (1,718 | ) | 16,304 |   | 80,584 |   | (20,411 | ) |
|                                        |   |                                                              |    |   |   |   |   |   |   |   |   |   |   |
| **Margins:**                                |   |                                                              |    |   |   |   |   |   |   |   |   |   |   |
| Gross profit                                |   | 32.7                                                              | %       | 33.6 | % | 33.6 | % | 33.1 | % | 31.6 | % | 30.5 | % |
| EBITDA (2)                                  |   | 17.3                                                              | %       | 18.1 | % | 18.4 | % | 18.0 | % | 17.3 | % | 15.3 | % |
|                                        |   |                                                              |    |   |   |   |   |   |   |   |   |   |   |
| **Balance Sheet Data (at year end):**       |   |                                                              |    |   |   |   |   |   |   |   |   |   |   |
| Cash                                        |   | $                                                                 | 3,277   |   | $ | 5,271 |   | $ | 12,460 |   | $ | 4,664 |   | $ | 4,989 |   | $ | 5,545 |   |
| Current assets                              |   | 140,353                                                           |    | 151,622 |   | 170,381 |   | 171,954 |   | 265,453 |   | 258,977 |   |
| Total assets                                |   | 265,366                                                           |    | 266,708 |   | 283,927 |   | 309,641 |   | 421,816 |   | 414,040 |   |
| Current liabilities                         |   | 37,720                                                            |    | 40,429 |   | 42,243 |   | 44,959 |   | 56,575 |   | 49,223 |   |
| Total debt                                  |   | 118,391                                                           |    | 115,457 |   | 117,028 |   | 140,080 |   | 223,410 |   | 211,203 |   |
| Stockholders’ equity                   |   | 67,878                                                            |    | 75,761 |   | 91,757 |   | 98,202 |   | 113,207 |   | 120,371 |   |

 

----

**Notes toSelected Consolidated Financial Data:**

 

(1)    TheCompany acquired UMI in September 2000.

(2)             EBITDA representsearnings before depreciation and amortization, net interest expense and incometax expense (benefit), adjusted to exclude non-recurring charges.  While EBITDA should not be construed as asubstitute for operating income or a better indicator of liquidity than cashflow from operating activities, which are determined in accordance withaccounting principles generally accepted in the United States of America, it isincluded herein to provide additional information with respect to the abilityof the Company to meet its future debt service, capital expenditure and workingcapital requirements which the Company believes certain investors finduseful.  EBITDA is not necessarily ameasure of the Company’s ability to fund its cash needs.

(3)    Capitalexpenditures for 1999 exclude $30.8 million for the purchase of Steinway Hall.

 

12

----

 
| **ITEM 7** | **MANAGEMENT’S  DISCUSSION AND ANALYSIS OF FINANCIAL** |
|------------|-------------------------------------------------------------|
|       | **CONDITION  AND RESULTS OF OPERATIONS**                    |

 

**Introduction**

 

The following discussion provides an assessment of theresults of operations and liquidity and capital resources for the Companytogether with a brief discussion of certain of our accounting policies andshould be read in conjunction with the consolidated financial statements of theCompany and the notes thereto included elsewhere in this report.

 

**Overview**

 

The Company, through its operating subsidiaries, isone of the world’s leading manufacturers of musical instruments.  The Company’s strategy is to capitalize onits strong brand names, leading market positions and quality products.  TheCompany’s net sales of $353 million for the year ended December 31, 2001 werecomprised of $169 million in piano sales and $184 million in band andorchestral instrument sales.

 

Piano sales are influenced by general economicconditions, demographic trends and general interest in music and the arts.  The operating results of this segment areprimarily affected by Steinway & Sons grand piano sales.  Given the total number of these pianos soldin any year (3,319 sold in 2001), a slight change in units sold can have amaterial impact on the Company’s business and operating results.  The operating results of the piano segmentare also influenced by sales of Boston and Essex pianos, which togetherrepresented approximately 50% of total piano units sold and approximately 20%of total piano revenues.  The Boston andEssex piano lines are manufactured in Asia, each by a single manufacturer.  The ability of these manufacturers toproduce and ship products to the Company could also materially impact theCompany’s business and operating results. Based on current economic conditions, management estimates that domesticand international piano revenues for 2002 will remain relatively consistentwith the 2001 results.  In 2001,approximately 59% of piano sales were in the United States, 27% in Europe andthe remaining 14% primarily in Asia.

 

Student band instrument sales are strongly influencedby trends in school enrollment and general attitudes toward music and the arts.Management estimates that 85% of the Company’s domestic band sales aregenerated through educational programs. The school instrument business isstrongly correlated to the number of school children in the United Stateswhich, after increasing steadily over the past several years, has stabilizedand is expected to remain relatively constant over the next few years.  Beginner instruments accounted for 75% ofband and orchestral unit shipments and 49% of instrument revenues in 2001, withadvanced and professional instruments representing the balance. In 2001, approximately85% of band sales were in the United States, 7% in Europe and the remaining 8%primarily in Asia.

 

While the school instrument business has beengenerally resistant to macroeconomic cycles, sales have been adversely affectedrecently by conservative dealer buying patterns which have been, in turn,heavily influenced by higher than expected rental instrument returns from theircustomers and high levels of available inventories from suppliers. Key dealershave recently begun to acquire and consolidate smaller dealers, resulting inmore efficient use of their existing instrument stock. Dealers are focusing onselling through current inventories, primarily rental returns and usedinstruments, before ordering new instruments. With the increase in product availability, dealers are choosing to usetheir suppliers for “just in time” inventory needs instead of makingsubstantial investments in their own inventories.  In addition, the strong U.S. dollar has fueled an increase ofunits imported into the domestic market from offshore

 

13

----

 

low cost producers as well as a decline in exports by domesticmanufacturers.  The combination of thesefactors has created a highly price sensitive domestic market with excesscapacity.  Accordingly, the Company hasrefined its pricing structure on certain instruments in order to remaincompetitive in the increasingly efficient band instrument marketplace.  Management expects these trends to continueand, although the Company does not expect to lose market share, it does expectband revenues to remain relatively flat in 2002.

 

Although the Company cannot accurately predict theprecise effect of inflation on its operations, it does not believe thatinflation has had a material effect on sales or results of operations in recentyears.  Sales to customers outside theUnited States represent approximately 28% of consolidated sales, withinternational piano sales accounting for over 72% of these international sales.  A significant portion of international pianosales originate from the Company's German manufacturing facility, resulting insales, cost of sales and related operating expenses denominated in Euros. Whilecurrency translation has affected international sales, cost of sales andrelated operating expenses, it has not had a material impact on operatingincome.  The Company utilizes financialinstruments such as forward exchange contracts and currency options to reducethe impact of exchange rate fluctuations on firm and anticipated cash flowexposures and certain assets and liabilities denominated in currencies otherthan the functional currency of the affected division.  The Company does not purchase currencyrelated financial instruments for purposes other than exchange rate riskmanagement.

 

The nature of the Company’s business - the productionand sale of musical instruments - is such that it rarely involves applicationof highly complex or subjective accounting principles.  The accounting policies that are subject tosignificant management estimates are those normally found in traditionalbusinesses and include inventory reserves, accounts receivable reserves,recourse reserves on notes receivable, and warranty reserves.  The Company has available more than acentury of experience and data on which to base these estimates.  Historical information is adjusted forspecific uncertainties, such as new product introductions, and contemporaneousinformation, such as price fluctuations. Management regularly performs assessments of the underlying assumptionsand believes that they provide a reasonable basis for the estimates containedin the Company’s financial statements.

 

The Company’s effective tax rates vary depending onthe relative proportion of foreign to U.S. income and the absorption of foreigntax credits in the U.S.  In 2000, aone-time tax benefit associated with the reduction of deferred tax balancescaused by an enacted rate reduction in Germany lowered the Company’s effectivetax rate from 42% in 1999 to 38% in 2000. This rate change was effective on January 1, 2001, resulting in areduction of the Company’s effective tax rate in Germany from 56% in 2000 to38% in 2001.  In addition, with theoverall effective German rates now on par with the U.S. rates, the shift towardsincome generated from the German divisions no longer results in excess foreigntax credits, thereby allowing the Company to better utilize its overall foreigntax credits.

 

The Company has historically grown through strategicacquisitions of complementary businesses. Recent acquisitions have included: O.S. Kelly, the largest domesticmanufacturer of piano plates, in November 1999, Pianohaus Karl Lang (“PKL”),Germany’s largest retail piano store, in January 2000, and United MusicalInstruments Holdings, Inc. (“UMI”), a domestic manufacturer of band andorchestral instruments, in September 2000. The following discussion includeseach of these businesses since its date of acquisition.

 

14

----

 

**Resultsof Operations**

 

*FiscalYear 2001 Compared to Fiscal Year 2000*

 

*NetSales–* Net sales increased $20.9 million (6.3%) to $352.6million in 2001. Piano sales declined $13.9 million (7.6%) to $169.0 million,reflecting a domestic unit shipment decrease of 20.2% as a result of the U.S.economic slowdown.  However, thedecrease in domestic piano sales of 15.2% was partially offset by the strongperformance of international piano sales, which increased $2.5 million, or 3.9%in 2001.  Band and orchestral salesincreased $34.6 million (23.2%) to $183.6 million on a corresponding increasein band shipments of 23.1%.  Thisincrease was primarily due to the $43.1 million of incremental revenue fromUMI, which more than offset the negative effect of dealer consolidation.

* *

*GrossProfit–*Gross profitincreased $2.5 million (2.4%) to $107.5 million in 2001.  Gross margins declined to 30.5% from 31.6%in 2000 as a result of declines in both the piano and band margins. Pianomargins declined slightly, from 35.6% to 35.1%, despite a favorable sales mixof higher margin concert grands reported by the Company’s international pianooperations.  This decline was a resultof additional factory shutdowns and the lower absorption of overhead costs indomestic piano operations.   Theseperiodic shutdowns were instituted by management in order to control inventorylevels, yet retain the skilled workforce, in response to the slowingeconomy.  Band instrument marginsdeclined from 26.8% to 26.3% due to production changes at one manufacturingfacility, which resulted in additional training costs and laborinefficiencies.  The incremental costsin 2001 of approximately $0.5 million related to a reengineering project atcertain band instrument manufacturing plants also adversely impacted grossmargin.

 

*OperatingExpenses –*Operating expenses increased $5.8 million (9.1%)to $69.0 million in 2001.  Operatingexpenses as a percentage of sales increased slightly from 19.1% in 2000 to19.6% in 2001.  Excluding the incrementaloperating expenses of UMI of $7.8 million in 2001 and the one-time charges of$1.5 million associated with the acquisition of UMI in 2000, operating expensesremained relatively flat.

 

*OtherExpense, Net* – Other expense increased approximately $0.7million (4.7%) to $15.0 million in 2001. This increase is the result of higher interest expense associated withhigher average outstanding debt balances incurred primarily as a result of theacquisition of UMI.

* *

*FiscalYear 2000 Compared to Fiscal Year 1999*

 

*NetSales -*Net sales increased $27.1 million (8.9%) to $331.7million in 2000.  Piano sales increased$9.3 million (5.3%), reflecting higher Steinway shipments which increased 14%overseas and more than 8% overall.  Thisstrong performance by Steinway more than offset a 12% decline in Boston units,which were negatively impacted by significant price increases necessitated bythe strengthening Japanese yen.  Bandand orchestral sales increased $17.8 million (13.6%).  The acquisition of UMI added $19.8 million of sales, which offseta decline in average selling prices attributable to a change in the volumeincentive program offered to band dealers. Rebate programs previously offered, the cost of which had been includedin operating expenses, were replaced with price discount programs.  Overall unit shipments increased 17%.

 

15

----

 

*GrossProfit -* Gross profit increased $4.2 million (4.2%) to $105.0million.  Gross margins declined from33.1% in 1999 to 31.6% in 2000.  Pianomargins increased slightly, from 35.2% to 35.6%, as a result of the higherproportion of Steinway units sold.  Bandinstrument margins declined from 30.2% to 26.8% primarily due to the change toa volume-based price discount program from a rebate program.  Manufacturing inefficiencies that occurredin the first half of 2000, as well as additional costs associated with thereengineering of two manufacturing plants, also negatively impacted grossmargins.

 

*OperatingExpenses -*Operatingexpenses increased only $3.7 million (6.1%) despite the additions of UMI andPKL in 2000.  Operating expensesdecreased as a percentage of sales from 19.6% in 1999 to 19.1% in 2000.  Operating expenses for existing operationsdeclined primarily due to the replacement of rebate programs, which generated$3.6 million of expense in 1999.  Thisreduction was offset by the addition of $5.3 million in operating expenses fromUMI and PKL, as well as $1.5 million of non-recurring charges associated withthe UMI acquisition.

 

*OtherExpense, Net -*Other expense increased $2.9 million (25.4%)to $14.3 million in 2000.  This increaseis the result of higher interest expenses associated with higher averageoutstanding debt balances throughout the year and the acquisition of UMI.

 

**Liquidityand Capital Resources**

 

The Company has relied primarily upon cash provided byoperations, supplemented as necessary by seasonal borrowings under its workingcapital line, to finance its operations, repay long-term indebtedness and fundcapital expenditures.

 

Cash provided by operations was $15.4 million in 1999,$13.3 million in 2000, and $28.9 million in 2001.  The significant increase in 2001 is the result of management’seffective control of inventory in response to the economic downturn andexcessive availability of certain band instruments.  In 2000, the Company embarked on a major initiative to effectfundamental changes in its band instrument manufacturing operations.  Approximately $1.8 million and $2.1 millionof expenses related to the project were incurred during 2000 and 2001,respectively.  The long-term benefits ofthe project, which will be completed by mid-2002, are expected to be improvedproduction flow, efficiency and quality.

 

Cash used for the acquisitions of O.S. Kelly, PKL andUMI was $2.6 million in 1999 and $86.6 million in 2000, respectively.  The Company acquired the building thatincludes the Steinway Hall retail showroom in New York City in March 1999 for$30.8 million.  Funds for theacquisition were provided from cash on hand and a $22.5 million real estate termloan provided by the Company’s existing lender.

 

Capital expenditures of $5.4 million, $7.9 million and$7.1 million in 1999, 2000, and 2001, respectively, were primarily used forpurchasing new machinery, building improvements, and certain EPA complianceprojects.  The Company expects capitalspending in 2002 to be in the range of $7-8 million as it completes EPAcompliance projects and continues to modernize equipment and renovatefacilities in order to improve production efficiency.

 

Consistent with industry practice, the Company sellsband instruments almost entirely on credit utilizing the two financing programsdescribed below.  These programs createlarge working capital requirements during the year when band instrumentreceivable balances reach highs of approximately $95-100 million in August andSeptember, and lows of approximately $70-75 million in January andFebruary.  The financing options,intended to assist dealers with the seasonality inherent in the industry 

 

16

----

 

and to facilitate the rent-to-own programs offered to students by manyretailers, also allow the Company to match its production and deliveryschedules.  The following forms offinancing are offered to qualified band instrument dealers:

 

a)        *Rec**eivable dating:* Payments on purchases madefrom January through August are due in October.  Payments on purchases made from September to December are due inJanuary.  Dealers are offered discountsfor early payment.

 

b)       *Notereceivable financing:* Qualified dealers may convert open accounts toa note payable to the Company.  The noteprogram is offered in January and October and coincides with the receivabledating program.  In most instances, thenote receivable is secured by dealer inventories and receivables.  A portion of the Company’s notes receivableare purchased by a third-party financing company on a full recourse basis.  The Company’s current arrangement, whichallows the financing company to purchase, at its option, up to an aggregate amountoutstanding at any time of $18.0 million of notes receivable, expires in August2002.  Net notes receivable salesgenerated approximately $10.1 million and $12.7 million in cash in 2000 and2001, respectively.  Outstandingbalances on these notes were $6.3 million and $6.7 million as of December 31,2000 and 2001, respectively.

 

Unlike many of its competitors in the piano industry,with limited exceptions, the Company does not provide extended financingarrangements to its dealers.  Tofacilitate long-term financing required by some dealers, financing has beenarranged through a third-party provider which generally involves no guaranteeby the Company.

 

The Company’s real estate term loan, acquisition termloan, and domestic, seasonal borrowing requirements are accommodated through acommitted credit facility with a syndicate of domestic lenders (the “CreditFacility”).  The Credit Facility, whichwas amended and restated to accommodate the $150.0 million bond offeringcompleted on April 19, 2001, provides the Company with a potential borrowingcapacity of $85.0 million in revolving credit loans, and expires on September14, 2008. The real estate term loan portion of the Credit Facility is payablein monthly installments of $0.2 million, based on a twenty-five yearamortization, and includes interest at average 30-day LIBOR plus 1.5%.  This term loan is secured by all of theCompany’s interests in the Steinway Hall property.  The acquisition term loan portion of the Credit Facility isrepayable in monthly installments of $0.4 million for the first five years andmonthly installments of $0.6 million in years six through eight.  The acquisition term loan and revolvingcredit loans bear interest at average 30-day LIBOR plus 1.75%.  All of the Company’s borrowings under theCredit Facility are secured by a first lien on the Company’s domesticinventory, receivables, and fixed assets. As of December 31, 2001, there were no revolving credit loansoutstanding and availability based on eligible accounts receivable andinventory balances was approximately $85.0 million. Open account loans withforeign banks also provide for borrowings of up to €19.9 million ($17.8 millionat December 31, 2001) by Steinway’s foreign subsidiaries.

 

On April 19, 2001, the Company completed a $150.0million 8.75% Senior Note offering.  Theproceeds of this offering were used to redeem $110.0 million of previouslyoutstanding Senior Subordinated Notes, with the balance used to pay down theCredit Facility.  The early retirementof the Senior Subordinated Notes, which were redeemed on June 1, 2001 at102.75% of the principal amount, generated an extraordinary charge ofapproximately $4.0 million, net of tax of $2.7 million.

 

At December 31, 2001, the Company’s total outstandingindebtedness amounted to $211.2 million, consisting of $150.0 million of 8.75%Senior Notes, $21.1 million on the real estate term loan, $38.9 million on theacquisition term loan, and $1.2 million of notes payable to foreign banks.  Cash 

 

17

----

 

interest paid was $17.2 million and $19.1 million in 2000 and 2001,respectively.  All of the Company’s debtagreements contain covenants that place certain restrictions on the Company,including its ability to incur additional indebtedness, to make investments inother entities and to pay cash dividends. The Company was in compliance withall such covenants as of December 31, 2001.

 

The Company’s share repurchase program authorizesmanagement to make discretionary repurchases of its ordinary common stock up toa limit of $25.0 million.  Repurchasedshares are being held as treasury shares to be used for corporatepurposes.  The Company repurchased26,700 shares at a cost of $0.5 million in 2000 and 114,600 shares at a cost of$1.9 million in 2001.

 

The Company experiences long production and inventoryturnover cycles which are constantly monitored by management, sincefluctuations in demand can have a significant impact on these cycles.  In 2001, the Company successfully focused onmanaging its inventory levels and accounts receivable in order to maximize cashflow from operations.  The Company wastherefore able to eliminate the outstanding debt on the revolving portion ofthe Credit Facility as of December 31, 2001. Looking forward to 2002, the Company anticipates revenues and resultsfrom operations to remain essentially flat. Management expects to continue its focus on maintaining sufficient, butnot excessive, inventory levels, repaying debt, maintaining and expandingmarket share, and improving production efficiency.   The Company is not aware of any trends, demands, commitments, orcosts of resources that are expected to materially impact liquidity or capitalresources.  Accordingly, managementbelieves that cash on hand, together with cash flows anticipated from operationsand available borrowings under the Credit Facility, will be adequate to meetdebt service requirements, fund continuing capital requirements and satisfyworking capital and general corporate needs through 2002.

 

**NewAccounting Pronouncements**

 

In June 1998, the Financial Accounting StandardsBoard  (“FASB”) released Statement ofFinancial Accounting Standard (“SFAS”) No. 133, “Accounting for DerivativeInstruments and Hedging Activities,” which was amended by SFAS No. 138,“Accounting for Certain Derivative Instruments and Hedging Activities” in2000.  These statements require that allderivatives be recognized at fair value in the balance sheet, and that thecorresponding gains or losses be reported either in the statement of income oras a component of comprehensive income, depending on the type of hedgingrelationship that exists.  The Companyadopted the amended standard January 1, 2001. The adoption of the amended standard had no material effect on theCompany’s results of operations or financial position.

 

In July 2001 the FASB issued SFAS No. 141, “BusinessCombinations,” which supersedes Accounting Principles Board (“APB”) Opinion No.16, “Business Combinations,” and SFAS No. 142, “Goodwill and IntangibleAssets,” which supersedes APB Opinion No. 17, “Intangible Assets.”  SFAS No. 141 eliminates thepooling-of-interests method of accounting for business combinations andmodifies the application of the purchase accounting method.  The provisions of SFAS No. 141 wereeffective for transactions initiated after June 30, 2001.  SFAS No. 142 eliminates the requirement toamortize goodwill and indefinite-lived assets. This standard will be adopted bythe Company in fiscal year 2002.  Uponadoption the Company will cease to record amortization expense on its goodwilland trademark assets.  At December 31,2001, the Company had $27.9 million of net goodwill and $9.1 million of nettrademarks included in the financial statements.  Upon adoption the Company will avoid approximately $3.0 millionof annual amortization before any impairments, which would have the pro-formaeffect of increasing net income by approximately $2.3 million.  The Company has not yet completed thetransitional assessment of the recoverability of its goodwill and trademarkassets. However, it does not 

 

18

----

 

expect that any impairment adjustments will be required based on factsand circumstances in existence at December 31, 2001.

 

In June 2001, the FASB issued SFAS No. 143,“Accounting for Asset Retirement Obligations.” SFAS No. 143 addresses financial accounting and reporting forobligations associated with the retirement of tangible long-lived assets andthe associated asset retirement costs. SFAS No. 143 is effective for fiscal years beginning after June 15,2002.  The Company does not expect theadoption of SFAS No. 143 to have a material impact on its financial position orresults of operations.

 

In October 2001, the FASB issued SFAS No. 144,“Accounting for the Impairment or Disposal of Long-Lived Assets,” whichaddresses the financial accounting and reporting for the impairment or disposalof long-lived assets.  SFAS No. 144supersedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assetsand for Long-Lived Assets to Be Disposed Of,” and also supersedes theaccounting and certain reporting provisions of APB Opinion No. 30, “Reportingthe Results of Operations-Reporting the Effects of Disposal of a Segment of aBusiness, and Extraordinary, Unusual and Infrequently Occurring Events andTransactions,” for the disposal of a segment of a business.  SFAS No. 144 will be adopted on January 1,2002.  The Company does not expect theadoption of SFAS No. 144 to have a material impact on its financial position orresults of operations.

 

**ITEM 7A****                               QUANTITATIVE AND QUALITATIVEDISCLOSURES ABOUT**

**                                MARKET RISK**

 

The Company is subject to market risk associated withchanges in foreign currency exchange rates and interest rates.  The Company mitigates its foreign currencyexchange rate risk by holding forward foreign currency contracts.  These contracts are used as a hedge againstintercompany transactions and are not used for trading or speculativepurposes.  The fair value of the forwardforeign currency exchange contracts is sensitive to changes in foreign currencyexchange rates.  As of December 31,2001, a 10% positive change in foreign currency exchange rates from marketrates would decrease the fair value of the contracts by approximately $0.4 million.  Gains and losses on the foreign currencyexchange contracts are defined as the difference between the contract rate atits inception date and the current exchange rate.  However, any such gains and losses would generally be offset bycorresponding losses and gains, respectively, on the related hedged asset orliability.

 

The Company’s interest rate exposure is limitedprimarily to interest rate changes on its variable rate debt.  The Credit Facility and term loans bearinterest at rates that fluctuate with changes in LIBOR.  For the year ended December 31, 2001, ahypothetical 10% increase in interest rates would have increased the Company’sinterest expense by approximately $0.6 million.  The Company uses interest rate caps to manage interest rate riskon foreign debt.  The carrying value ofthe caps is not material and a 10% change in interest rates would not have amaterial effect on the fair value of the caps.

 

The Company’s long-term debt includes $150.0 millionof Senior Notes with a fixed interest rate. Accordingly, there would be no immediate impact on the Company’sinterest expense associated with these Notes due to fluctuations in marketinterest rates.  However, based on ahypothetical 10% immediate decrease in market interest rates, the fair value ofthe Company’s Senior Notes, which would be sensitive to such interest ratechanges, would be increased by approximately $4.0 million as of December 31,2001.  Such fair value changes mayaffect the Company’s determination whether to retain, replace or retire theseNotes.

 

19

----

 

**ITEM 8                   FINANCIAL STATEMENTS ANDSUPPLEMENTARY DATA**

 
| INDEPENDENT AUDITORS’ REPORT                                                                           |
|-------------------------------------------------------------------------------------------------------------|
|                                                                                                        |
| CONSOLIDATED FINANCIAL STATEMENTS:                                                                          |
|                                                                                                        |
| Consolidated Statements  of Income for the Years Ended December 31, 1999, 2000 and 2001                     |
| Consolidated Balance Sheets  as of December 31, 2000 and 2001                                               |
| Consolidated  Statements of Cash Flows for the Years Ended December 31, 1999, 2000 and 2001                 |
| Consolidated  Statements of Stockholders’ Equity for the Years Ended December 31, 1999, 2000  and 2001 |
| Notes to  Consolidated Financial Statements                                                                 |
| Schedule  II - Valuation and Qualifying Accounts                                                            |

 

20

----

 

**INDEPENDENTAUDITORS’ REPORT**

 

 

To the Board of Directors and Stockholders of

Steinway Musical Instruments, Inc.:

 

 

We have audited the accompanying consolidated balance sheets ofSteinway Musical Instruments, Inc. and subsidiaries as of December 31, 2000 and2001, and the related consolidated statements of income, stockholders’ equity,and cash flows for each of the three years in the period ended December 31,2001.  Our audits also included thefinancial statement schedule listed in the Index at Item 14(a)(1).  These financial statements and financialstatement schedule are the responsibility of the Company’s management.  Our responsibility is to express an opinionon the financial statements and financial statement schedule based on ouraudits.

 

We conducted our audits in accordance with auditing standards generallyaccepted in the United States of America. Those standards require that we plan and perform the audit to obtainreasonable assurance about whether the financial statements are free ofmaterial misstatement.  An auditincludes examining, on a test basis, evidence supporting the amounts anddisclosures in the financial statements. An audit also includes assessing the accounting principles used andsignificant estimates made by management, as well as evaluating the overallfinancial statement presentation.  Webelieve that our audits 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, 2000 and 2001, and theresults of their operations and their cash flows for each of the three years inthe period ended December 31, 2001, in conformity with accounting principlesgenerally accepted in the United States of America.  Also, in our opinion, such financial statement schedule, whenconsidered in relation to the basic consolidated financial statements taken asa whole, presents fairly, in all material respects, the information set forththerein.

 

 
| /s/  DELOITTE  & TOUCHE LLP |
|--------------------------------------|
|                                 |
| Boston, Massachusetts                |
| February 22, 2002                    |

 

21

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF INCOME**

**YEARS ENDED DECEMBER 31, 1999, 2000 AND 2001**

 
|                                                                               |   | **1999**                                               |    | **2000**  |   | **2001**  |   |
|------------------------------------------------------------------------------------|--------|--------------------------------------------------------|---------|-----------|--------|-----------|--------|
|                                                                               |   | **(In  Thousands Except Share and Per Share Amounts)** |    |
| Net sales                                                                          |   | $                                                      | 304,636 |      | $      | 331,698   |   | $ | 352,612 |   |
| Cost of sales                                                                      |   | 203,888                                                |    | 226,740   |   | 245,114   |   |
|                                                                               |   |                                                   |    |      |   |      |   |
| Gross profit                                                                       |   | 100,748                                                |    | 104,958   |   | 107,498   |   |
|                                                                               |   |                                                   |    |      |   |      |   |
| Operating  expenses:                                                               |   |                                                   |    |      |   |      |   |
| Sales and  marketing                                                               |   | 37,527                                                 |    | 37,342    |   | 42,251    |   |
| General and  administrative                                                        |   | 17,790                                                 |    | 19,694    |   | 21,909    |   |
| Amortization                                                                       |   | 3,928                                                  |    | 3,856     |   | 4,255     |   |
| Other operating  expenses                                                          |   | 363                                                    |    | 887       |   | 611       |   |
| Non-recurring  charges                                                             |   | —                                                 |    | 1,490     |   | —    |   |
| Total operating  expenses                                                          |   | 59,608                                                 |    | 63,269    |   | 69,026    |   |
|                                                                               |   |                                                   |    |      |   |      |   |
| Income from  operations                                                            |   | 41,140                                                 |    | 41,689    |   | 38,472    |   |
|                                                                               |   |                                                   |    |      |   |      |   |
| Other (income)  expense:                                                           |   |                                                   |    |      |   |      |   |
| Other income,  net                                                                 |   | (1,881                                                 | )       | (1,825    | )      | (1,778    | )      |
| Interest income                                                                    |   | (907                                                   | )       | (1,291    | )      | (2,306    | )      |
| Interest expense                                                                   |   | 14,183                                                 |    | 17,401    |   | 19,037    |   |
| Other expense,  net                                                                |   | 11,395                                                 |    | 14,285    |   | 14,953    |   |
|                                                                               |   |                                                   |    |      |   |      |   |
| Income before  income taxes                                                        |   | 29,745                                                 |    | 27,404    |   | 23,519    |   |
|                                                                               |   |                                                   |    |      |   |      |   |
| Provision for  income taxes                                                        |   | 12,400                                                 |    | 10,500    |   | 8,250     |   |
|                                                                               |   |                                                   |    |      |   |      |   |
| Net income  before extraordinary loss                                              |   | 17,345                                                 |    | 16,904    |   | 15,269    |   |
|                                                                               |   |                                                   |    |      |   |      |   |
|                                                                               |   |                                                   |    |      |   |      |   |
| Extraordinary  loss on early extinguishment of debt (net of tax benefit of $2,662) |   | —                                                 |    | —    |   | 3,950     |   |
|                                                                               |   |                                                   |    |      |   |      |   |
| Net income                                                                         |   | $                                                      | 17,345  |      | $      | 16,904    |   | $ | 11,319 |   |
|                                                                               |   |                                                   |    |      |   |      |   |
| Earnings per  share:                                                               |   |                                                   |    |      |   |      |   |
| Basic earnings  per share before extraordinary loss                                |   | $                                                      | 1.88    |      | $      | 1.89      |   | $ | 1.71 |   |
| Extraordinary  loss on early extinguishment of debt                                |   | —                                                 |    | —    |   | (0.44     | )      |
| Basic earnings  per share                                                          |   | $                                                      | 1.88    |      | $      | 1.89      |   | $ | 1.27 |   |
|                                                                               |   |                                                   |    |      |   |      |   |
| Diluted earnings  per share before extraordinary loss                              |   | $                                                      | 1.87    |      | $      | 1.89      |   | $ | 1.71 |   |
| Extraordinary  loss on early extinguishment of debt                                |   | —                                                 |    | —    |   | (0.44     | )      |
| Diluted earnings  per share                                                        |   | $                                                      | 1.87    |      | $      | 1.89      |   | $ | 1.27 |   |
|                                                                               |   |                                                   |    |      |   |      |   |
| Weighted average  shares:                                                          |   |                                                   |    |      |   |      |   |
| Basic                                                                              |   | 9,213,145                                              |    | 8,921,091 |   | 8,928,000 |   |
| Diluted                                                                            |   | 9,277,798                                              |    | 8,921,108 |   | 8,928,000 |   |

 

See notes to consolidated financial statements.

 

22

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**CONSOLIDATEDBALANCE SHEETS**

**DECEMBER 31, 2000 AND 2001**

 
|                                                                                                                                      |   | **December  31,  2000**                   |    | **December  31,  2001** |   |
|-------------------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------------------------|---------|-------------------------|--------|
|                                                                                                                                      |   | **(In  Thousands Except Share Data****)** |    |
| ASSETS                                                                                                                                    |   |                                      |    |                    |   |
| Current assets:                                                                                                                           |   |                                      |    |                    |   |
| Cash                                                                                                                                      |   | $                                         | 4,989   |                    | $      | 5,545 |   |
| Accounts, notes  and leases receivable, net of allowance for  bad debts of $11,377 and $10,909 in 2000 and 2001, respectively             |   | 93,042                                    |    | 82,188                  |   |
| Inventories                                                                                                                               |   | 160,296                                   |    | 161,124                 |   |
| Prepaid expenses  and other current assets                                                                                                |   | 3,005                                     |    | 4,484                   |   |
| Deferred tax  assets                                                                                                                      |   | 4,121                                     |    | 5,636                   |   |
| Total current  assets                                                                                                                     |   | 265,453                                   |    | 258,977                 |   |
|                                                                                                                                      |   |                                      |    |                    |   |
| Property, plant  and equipment, net                                                                                                       |   | 106,415                                   |    | 104,011                 |   |
| Other assets,  net                                                                                                                        |   | 20,645                                    |    | 23,135                  |   |
| Cost in excess  of fair value of net assets acquired, net of accumulated  amortization of $5,231and $5,999 in 2000 and 2001, respectively |   | 29,303                                    |    | 27,917                  |   |
|                                                                                                                                      |   |                                      |    |                    |   |
| TOTAL ASSETS                                                                                                                              |   | $                                         | 421,816 |                    | $      | 414,040 |   |
|                                                                                                                                      |   |                                      |    |                    |   |
| LIABILITIES AND  STOCKHOLDERS’ EQUITY                                                                                                |   |                                      |    |                    |   |
| Current  liabilities:                                                                                                                     |   |                                      |    |                    |   |
| Current portion  of long-term debt                                                                                                        |   | $                                         | 9,516   |                    | $      | 7,446 |   |
| Accounts payable                                                                                                                          |   | 11,206                                    |    | 7,682                   |   |
| Other current  liabilities                                                                                                                |   | 35,853                                    |    | 34,095                  |   |
| Total current  liabilities                                                                                                                |   | 56,575                                    |    | 49,223                  |   |
|                                                                                                                                      |   |                                      |    |                    |   |
| Long-term debt                                                                                                                            |   | 213,894                                   |    | 203,757                 |   |
| Deferred tax  liabilities                                                                                                                 |   | 26,316                                    |    | 27,118                  |   |
| Other  non-current liabilities                                                                                                            |   | 11,824                                    |    | 13,571                  |   |
| Total  liabilities                                                                                                                        |   | 308,609                                   |    | 293,669                 |   |
|                                                                                                                                      |   |                                      |    |                    |   |
| Commitments and  contingent liabilities                                                                                                   |   |                                      |    |                    |   |
|                                                                                                                                      |   |                                      |    |                    |   |
| Stockholders’  equity:                                                                                                               |   |                                      |    |                    |   |
| Class A Common  Stock, $.001 par value, 5,000,000 shares authorized,  477,953 shares issued and outstanding                               |   | —                                    |    | —                  |   |
| Common stock,  $.001 par value, 90,000,000 shares authorized, 8,453,547 and 8,368,496 shares  outstanding in 2000 and 2001, respectively  |   | 9                                         |    | 9                       |   |
| Additional  paid-in capital                                                                                                               |   | 71,724                                    |    | 72,178                  |   |
| Retained  earnings                                                                                                                        |   | 65,392                                    |    | 76,711                  |   |
| Accumulated  other comprehensive loss                                                                                                     |   | (9,966                                    | )       | (12,674                 | )      |
| Treasury stock,  at cost (659,400 and 774,000 shares in 2000 and 2001, respectively)                                                      |   | (13,952                                   | )       | (15,853                 | )      |
| Total  stockholders’ equity                                                                                                          |   | 113,207                                   |    | 120,371                 |   |
|                                                                                                                                      |   |                                      |    |                    |   |
| TOTAL  LIABILITIES AND STOCKHOLDERS’ EQUITY                                                                                          |   | $                                         | 421,816 |                    | $      | 414,040 |   |

 

See notes to consolidated financial statements.

 

23

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

**YEARS ENDED DECEMBER 31, 1999, 2000 AND 2001**

 
|                                              |   | **1999**            |   | **2000** |   | **2001** |   |
|---------------------------------------------------|--------|---------------------|--------|----------|--------|----------|--------|
|                                              |   | **(In  Thousands)** |   |
| Cash flows from  operating activities:            |   |                |   |     |   |     |   |
| Net income                                        |   | $                   | 17,345 |     | $      | 16,904   |   | $ | 11,319 |   |
| Adjustments to  reconcile net income to cash      |   |                |   |     |   |     |   |
| flows from  operating activities:                 |   |                |   |     |   |     |   |
| Depreciation and  amortization                    |   | 11,618              |   | 12,342   |   | 13,803   |   |
| Early  extinguishment of debt                     |   | —              |   | —   |   | 6,612    |   |
| Deferred tax  expense (benefit)                   |   | (2,079              | )      | (2,349   | )      | (1,421   | )      |
| Other                                             |   | 274                 |   | 240      |   | 431      |   |
| Changes in  operating assets and liabilities:     |   |                |   |     |   |     |   |
| Accounts, notes  and leases receivable            |   | (5,028              | )      | 4,739    |   | 9,864    |   |
| Inventories                                       |   | (8,883              | )      | (20,242  | )      | (3,520   | )      |
| Prepaid expense  and other current assets         |   | (251                | )      | 365      |   | (2,533   | )      |
| Accounts payable                                  |   | 104                 |   | 2,161    |   | (3,440   | )      |
| Other current  liabilities                        |   | 2,272               |   | (895     | )      | (2,238   | )      |
| Cash flows from  operating activities:            |   | 15,372              |   | 13,265   |   | 28,877   |   |
|                                              |   |                |   |     |   |     |   |
| Cash flows from  investing activities:            |   |                |   |     |   |     |   |
| Capital  expenditures                             |   | (36,192             | )      | (7,890   | )      | (7,141   | )      |
| Proceeds from  disposals of fixed assets          |   | 138                 |   | 511      |   | 243      |   |
| Business  acquisitions (net of cash acquired)     |   | (2,643              | )      | (86,567  | )      | —   |   |
| Changes in other  assets                          |   | (615                | )      | 148      |   | (1,090   | )      |
| Cash flows from  investing activities             |   | (39,312             | )      | (93,798  | )      | (7,988   | )      |
|                                              |   |                |   |     |   |     |   |
| Cash flows from  financing activities:            |   |                |   |     |   |     |   |
| Borrowing under  lines of credit                  |   | 289,715             |   | 328,486  |   | 300,469  |   |
| Repayments under  lines of credit                 |   | (287,846            | )      | (287,189 | )      | (346,070 | )      |
| Proceeds from  long-term debt                     |   | 22,500              |   | 45,000   |   | 150,000  |   |
| Repayments of  long-term debt                     |   | (1,046              | )      | (1,981   | )      | (118,847 | )      |
| Debt issuance  costs                              |   | —              |   | (3,942   | )      | (4,516   | )      |
| Proceeeds from  issuance of stock                 |   | 786                 |   | 693      |   | 454      |   |
| Purchase of  treasury stock                       |   | (7,805              | )      | (483     | )      | (1,901   | )      |
| Cash flows from  financing activities             |   | 16,304              |   | 80,584   |   | (20,411  | )      |
|                                              |   |                |   |     |   |     |   |
| Effects of foreign  exchange rate changes on cash |   | (160                | )      | 274      |   | 78       |   |
|                                              |   |                |   |     |   |     |   |
| Increase  (decrease) in cash                      |   | (7,796              | )      | 325      |   | 556      |   |
| Cash, beginning  of year                          |   | 12,460              |   | 4,664    |   | 4,989    |   |
|                                              |   |                |   |     |   |     |   |
| Cash, end of  year                                |   | $                   | 4,664  |     | $      | 4,989    |   | $ | 5,545 |   |
|                                              |   |                |   |     |   |     |   |
| Supplemental  Cash Flow Information               |   |                |   |     |   |     |   |
| Interest paid                                     |   | $                   | 14,173 |     | $      | 17,238   |   | $ | 19,120 |   |
| Income taxes  paid                                |   | $                   | 13,709 |     | $      | 14,990   |   | $ | 10,337 |   |

 

See notes to consolidated financial statements.

 

24

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY**

**FOR THE YEARS ENDED DECEMBER 31, 1999, 2000 AND 2001**

 
|                                          |   | **Common  Stock**                     |   | **Additional  Paid-In  Capital** |   | **Retained  Earnings** |   | **Accumulated  Other  Comprehensive  Loss** |   | **Treasury  Stock** |    | **Total  Stockholders'  Equity** |   |
|-----------------------------------------------|--------|---------------------------------------|--------|----------------------------------|--------|------------------------|--------|---------------------------------------------|--------|---------------------|---------|----------------------------------|--------|
|                                          |   | **(In  Thousands Except Share Data)** |   |
| Balance, January 1, 1999                      |   | $                                     | 9      |                             | $      | 70,245                 |   | $                                           | 31,143 |                | $       | (3,976                           | )      | $ | (5,664 | ) | $ | 91,757 |   |
|                                          |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Comprehensive income:                         |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Net income                                    |   |                                  |   |                             |   | 17,345                 |   |                                        |   |                |    | 17,345                           |   |
| Foreign currency  translation adjustment      |   |                                  |   |                             |   |                   |   | (3,881                                      | )      |                |    | (3,881                           | )      |
| Total  comprehensive income                   |   |                                  |   |                             |   |                   |   |                                        |   |                |    | 13,464                           |   |
|                                          |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Issuance of  40,002 shares of common stock    |   |                                  |   | 786                              |   |                   |   |                                        |   |                |    | 786                              |   |
|                                          |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Purchase of  395,300 shares of common stock   |   |                                  |   |                             |   |                   |   |                                        |   | (7,805              | )  | (7,805                           | )      |
|                                          |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Balance,  December 31, 1999                   |   | 9                                     |   | 71,031                           |   | 48,488                 |   | (7,857                                      | )      | (13,469             | )       | 98,202                           |   |
|                                          |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Comprehensive  income:                        |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Net income                                    |   |                                  |   |                             |   | 16,904                 |   |                                        |   |                |    | 16,904                           |   |
| Foreign currency  translation adjustment      |   |                                  |   |                             |   |                   |   | (1,988                                      | )      |                |    | (1,988                           | )      |
| Additional  minimum pension liability         |   |                                  |   |                             |   |                   |   | (121                                        | )      |                |    | (121                             | )      |
| Total  comprehensive income                   |   |                                  |   |                             |   |                   |   |                                        |   |                |    | 14,795                           |   |
|                                          |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Issuance of  42,173 shares of common stock    |   |                                  |   | 693                              |   |                   |   |                                        |   |                |    | 693                              |   |
|                                          |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Purchase of  26,700 shares of common stock    |   |                                  |   |                             |   |                   |   |                                        |   | (483                | )       | (483                             | )      |
|                                          |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Balance,  December 31, 2000                   |   | 9                                     |   | 71,724                           |   | 65,392                 |   | (9,966                                      | )      | (13,952             | )       | 113,207                          |   |
|                                          |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Comprehensive  income:                        |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Net income                                    |   |                                  |   |                             |   | 11,319                 |   |                                        |   |                |    | 11,319                           |   |
| Foreign currency  translation adjustment      |   |                                  |   |                             |   |                   |   | (1,731                                      | )      |                |    | (1,731                           | )      |
| Additional  minimum pension liability         |   |                                  |   |                             |   |                   |   | (972                                        | )      |                |    | (972                             | )      |
| Unrealized loss  on certain long-term  assets |   |                                  |   |                             |   |                   |   | (5                                          | )      |                |    | (5                               | )      |
| Total comprehensive  income                   |   |                                  |   |                             |   |                   |   |                                        |   |                |    | 8,611                            |   |
|                                          |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Issuance of  29,549 shares of common stock    |   |                                  |   | 454                              |   |                   |   |                                        |   |                |    | 454                              |   |
|                                          |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Purchase of  114,600 shares of common stock   |   |                                  |   |                             |   |                   |   |                                        |   | (1,901              | )       | (1,901                           | )      |
|                                          |   |                                  |   |                             |   |                   |   |                                        |   |                |    |                             |   |
| Balance, December  31, 2001                   |   | $                                     | 9      |                             | $      | 72,178                 |   | $                                           | 76,711 |                | $       | (12,674                          | )      | $ | (15,853 | ) | $ | 120,371 |   |

 

See notes to consolidated financial statements.

 

25

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIAL STATEMENTS**

**YEARS ENDED DECEMBER 31, 1999, 2000, AND 2001**

**(In Thousands Except Share and Per Share Data)**

 

**(1)    Nature ofBusiness**

 

Steinway Musical Instruments, Inc. and subsidiaries(the “Company”) is one of the world’s leading manufacturers of musicalinstruments.  The Company, through itswholly-owned subsidiaries, The Steinway Piano Company, Inc. (“Steinway”), TheSelmer Company, Inc. (“Selmer”) and United Musical Instruments Holdings, Inc.(“UMI”), manufactures and distributes products within the musical instrumentindustry.  Steinway produces the highestquality piano in the world and has one of the most highly recognized andprestigious brand names.  Selmer and UMIare the leading domestic manufacturers of band and orchestral instruments andrelated accessories, including complete lines of brasswind, woodwind,percussion and stringed instruments. Selmer Paris saxophones, Bach Stradivarius trumpets, C.G. Conn Frenchhorns, King trombones and Ludwig snare drums are considered by many to be thefinest such instruments in the world.

 

**(2)    Summary ofSignificant Accounting Policies**

 

*Principlesof Consolidation -*The consolidated financial statements ofthe Company include the accounts of all of its direct and indirect wholly-ownedsubsidiaries.  Significant intercompanybalances have been eliminated in consolidation.

 

*Useof Estimates* - The preparation of financial statements inconformity with accounting principles generally accepted in the United Statesof America necessarily requires management to make estimates and assumptionsthat affect the reported amounts of assets and liabilities and the reportedamounts of revenues and expenses during the reporting period.  Actual results could differ from thoseestimates.

 

*RevenueRecognition* - Revenue is generally recognized upon shipmentfollowing receipt of a valid customer order.  The Company provides for the estimated costs of warranties, discountsand returns at the time of sale.

 

*Inventories*- Inventories are stated at the lower of cost or market.  Cost has been determined using the first-in,first-out (“FIFO”) method for approximately 76% and 74% of the Company’sinventories at December 31, 2000 and 2001, respectively.  The cost of the remaining inventories has beendetermined by the last-in, first-out (“LIFO”) method.

 

*Depreciationand Amortization* - Property, plant and equipment are recordedat cost or at fair value in the case of assets acquired through businessacquisitions.  Depreciation is providedusing the straight-line method over the estimated useful lives of therespective assets.  Leaseholdimprovements are amortized using the straight-line method over the estimateduseful lives of the improvements or the remaining term of the respective lease,whichever is shorter.  Estimated usefullives are as follows:

 
| Building 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    |   |

 

26

----

 

Cost in excess of fair value acquired has beenamortized on a straight-line basis over 40 years.  Trademarks acquired are recorded at appraised value and have beenamortized on a straight-line basis over 10 years.  Deferred financing costs are amortized on a straight-line basisover the repayment periods of the underlying debt, which approximates theeffective interest method.

 

When conditions indicate a need to evaluaterecoverability, the Company evaluates the recoverability of its long-livedassets by comparison of the estimated future undiscounted cash flows expectedto be generated by those assets to their carrying value.  To date, no impairment losses have beennoted or recorded as a result of this evaluation process.

 

*Advertising*- Advertising costs are expensed as incurred.  Advertising expense was $6,676, $7,684, and$8,344 for the years ended December 31, 1999, 2000 and 2001, respectively.

 

*IncomeTaxes* - Income taxes are provided using an asset andliability approach to financial accounting and reporting for income taxes.  Deferred income tax assets and liabilitiesare computed annually for differences between the financial statement and taxbases of assets and liabilities that will result in taxable or deductible amountsin the future based on enacted tax laws and rates applicable to the periods inwhich the differences are expected to affect taxable income.  Valuation allowances are established whennecessary to reduce deferred tax assets to the amount expected to be realized.  Income tax expense is the tax payable orrefundable for the period plus or minus the change during the period indeferred tax assets and liabilities.

 

*ForeignCurrency Translation* - Assets and liabilities of non-U.S.operations are translated into U.S. dollars at year-end rates, and revenues andexpenses at average rates of exchange prevailing during the year.  The resulting translation adjustments arereported as a separate component of comprehensive income.  Foreign currency transaction gains andlosses are recognized in the consolidated statements of income as incurred.

 

*ForeignExchange Contracts* - The Company enters into foreign exchangecontracts as a hedge against foreign currency transactions.  These contracts are not used for trading orspeculative purposes.  Gains and lossesarising from fluctuations in exchange rates are recognized at the end of eachreporting period.  Such gains and lossesdirectly offset the foreign exchange gains or losses associated with the hedgedreceivable or payable.  Gains and losseson foreign exchange contracts which exceed the related balance sheet or firmpurchase commitment exposure are included in foreign currency gain or loss inthe consolidated statements of income. The Company does have credit risk to the extent the counterparties areunable to fulfill their obligations on the foreign exchange contracts.  However, the Company enters into thesecontracts with reputable institutions and the Company believes there is not asignificant risk of loss.

 

*Stock-basedCompensation*- The Company accounts for stock-based awards toemployees using the intrinsic value method in accordance with AccountingPrinciples Board (“APB”) Opinion No. 25, “Accounting for Stock Issued toEmployees”.

 

*Incomeper Common Share* - Basic income per common share is computedusing the weighted average number of common shares outstanding during eachyear.  Diluted income per common sharereflects the effect of the Company’s outstanding options (using the treasurystock method), except when such items would be antidilutive.

 

27

----

 

A reconciliation of the weighted average shares used for the basic anddiluted computations is as follows for the years ended December 31:

 
|                                                  |   | **1999**  |   | **2000**  |   | **2001**  |   |
|-------------------------------------------------------|--------|-----------|--------|-----------|--------|-----------|--------|
| Weighted average  shares for basic income per share   |   | 9,213,145 |   | 8,921,091 |   | 8,928,000 |   |
| Dilutive effect  of stock options                     |   | 64,653    |   | 17        |   | —    |   |
| Weighted average  shares for diluted income per share |   | 9,277,798 |   | 8,921,108 |   | 8,928,000 |   |

 

Options to purchase 30,500, 618,800, and 612,400shares of common stock at prices ranging from $18.84 to $21.94 per share wereoutstanding during the years ended December 31, 1999, 2000 and 2001,respectively, but were not included in the computation of diluted net incomeper share because the options’ exercise prices were greater than the averagemarket price of the common shares.

 

*EnvironmentalMatters*- Potential environmental liabilities are recordedwhen it is probable that a loss has been incurred and its amount can reasonablybe estimated (see Note 12).

 

*SegmentReporting*- The Company has determined that it has twodistinct reportable segments: the piano segment and the band and orchestralinstrument segment.  The Companyconsiders these two segments reportable as they are managed separately and theoperating results of each segment are regularly reviewed and evaluatedseparately by the Company’s senior management.

 

C*omprehensive Income -*Comprehensive incomeis comprised of net income, foreign currency translation adjustments, additionalminimum pension liabilities, and unrealized gains and losses on certainlong-term assets and is reported in the consolidated statements ofstockholders’ equity for all periods presented.

 

*NewAccounting Pronouncements - *InJune 1998, the Financial Accounting Standards Board (“FASB”) released Statementof Financial Accounting Standard (“SFAS”) No. 133, “Accounting for DerivativeInstruments and Hedging Activities,” which was amended by SFAS No. 138,“Accounting for Certain Derivative Instruments and Hedging Activities” in2000.  These statements require that allderivatives be recognized at fair value in the balance sheet, and that thecorresponding gains or losses be reported either in the statement of income oras a component of comprehensive income, depending on the type of hedgingrelationship that exists.  The Companyadopted the amended standard on January 1, 2001.  The adoption of the amended standard had no material effect onthe Company’s results of operations or financial position.

 

In July 2001 the FASB issued SFAS No. 141, “BusinessCombinations,” which supersedes APB Opinion No. 16, “Business Combinations,”and SFAS No. 142, “Goodwill and Intangible Assets,” which supersedes APBOpinion No. 17, “Intangible Assets.” SFAS No. 141 eliminates the pooling-of-interests method of accountingfor business combinations and modifies the application of the purchaseaccounting method.  The provisions ofSFAS No. 141 were effective for transactions initiated after June 30,2001.  SFAS No. 142 eliminates therequirement to amortize goodwill and indefinite-lived assets.  This standard will be adopted by the Companyin fiscal year 2002.  Upon adoption theCompany will cease to record amortization expense on its goodwill and trademarkassets.  At December 31, 2001 theCompany had $27,917 of net goodwill and $9,142 of net trademarks included inthe financial statements. Upon adoption the Company will avoid approximately$3,007 of annual amortization before any impairments, which would have thepro-forma effect of increasing net income by approximately $2,253.  The 

 

28

----

 

Company has not yet completed the transitional assessment of therecoverability of its goodwill and trademark assets. However, it does not expectthat any impairment adjustments will be required based on facts andcircumstances in existence at December 31, 2001.

 

In June 2001, the FASB issued SFAS No. 143,“Accounting for Asset Retirement Obligations.” SFAS No. 143 addresses financial accounting and reporting forobligations associated with the retirement of tangible long-lived assets andthe associated asset retirement costs. SFAS No.143 is effective for fiscal years beginning after June 15, 2002.  The Company does not expect the adoption ofSFAS No. 143 to have a material impact on its financial position or results ofoperations.

 

In October 2001, the FASB issued SFAS No. 144,“Accounting for the Impairment or Disposal of Long-Lived Assets,” whichaddresses the financial accounting and reporting for the impairment or disposalof long-lived assets.  SFAS No. 144supersedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assetsand for Long-Lived Assets to Be Disposed Of,” and also supersedes theaccounting and certain reporting provisions of APB Opinion No. 30, “Reportingthe Results of Operations-Reporting the Effects of Disposal of a Segment of aBusiness, and Extraordinary, Unusual and Infrequently Occurring Events andTransactions,” for the disposal of a segment of a business.  SFAS No. 144 will be adopted on January 1,2002.  The Company does not expect theadoption of SFAS No. 144 to have a material impact on its financial position orresults of operations.

 

*Reclassifications–*Certain prior year amounts have been reclassified to conformto the current year presentation.

 

**(3)    Acquisitions**

 

During the year ended December 31, 2000, the Companycompleted the following acquisitions, both of which were accounted for aspurchases.  The results of the acquiredbusinesses have been included with those of the Company from the date ofacquisition.  The purchase price paidwas allocated to the assets acquired and liabilities assumed based upon theirestimated fair values.

 

In January 2000, the Company acquired Pianohaus KarlLang, located in Munich, Germany, for approximately $2.3 million.  The purchase price was allocated primarilyto fixed assets.

 

In September 2000, the Company completed theacquisition of UMI pursuant to a stock purchase agreement dated as of July 20,2000.  The purchase price aggregated$27.0 million in cash.  In addition, theCompany assumed approximately $57.0 million of debt.

 

In connection with the acquisition of UMI, inventorieswere written up by $11.0 million to net realizable value.  Prior to the acquisition, UMI had utilizedthe LIFO method of determining cost; the Company has continued to utilize thismethod for UMI inventories.  The Companyrecorded approximately $300 of trademark amortization in 2001 relating to theUMI acquisition.

 

29

----

 

Had the acquisition of UMI been consummated on January 1, 2000, it isestimated that the pro-forma results of operations would have been as followsfor the year ended December 31, 2000:

 

|                |   | **2000** |    |
|---------------------|--------|----------|---------|
| Revenues            |   | $        | 379,369 |   |
| Net income          |   | 18,522   |    |
| Earnings per share: |   |     |    |
| Basic               |   | $        | 2.08    |   |
| Diluted             |   | $        | 2.08    |   |

 

**(4)    Inventories**

 
|            |   | **December  31,** |    |
|-----------------|--------|-------------------|---------|
|            |   | **2000**          |    | **2001** |   |
| Raw materials   |   | $                 | 20,961  |   | $ | 20,948 |   |
| Work in process |   | 53,711            |    | 52,967 |   |
| Finished goods  |   | 85,624            |    | 87,209 |   |
| Total           |   | $                 | 160,296 |   | $ | 161,124 |   |

 

Inventories held by UMI (see Note 3) are accounted forusing the LIFO method.  If the FIFOmethod of inventory valuation had been used to value all inventories, inventorywould have been $3,270 and $7,247 lower than reported at December 31, 2000 and2001, respectively.  As a result ofusing the LIFO valuation method, net earnings were $2,017 and $2,581 higher in2000 and 2001, respectively.  Forfinancial reporting purposes, the fair value of UMI inventories as of theacquisition date constitutes the base layer for purposes of applying the LIFOmethod.  This layer includes the $11.0million allocated to state opening inventories at their net realizable value.

 

**(5)    Property, Plant and Equipment, Net**

 
|                                           |   | **December  31,** |    |
|------------------------------------------------|--------|-------------------|---------|
|                                           |   | **2000**          |    | **2001** |   |
| Land                                           |   | $                 | 18,378  |   | $ | 18,101 |   |
| Buildings and improvements                     |   | 62,930            |    | 63,628 |   |
| Leasehold improvements                         |   | 1,864             |    | 2,132 |   |
| Machinery, equipment and tooling               |   | 40,381            |    | 43,281 |   |
| Office furniture and fixtures                  |   | 7,786             |    | 8,185 |   |
| Concert and artist and rental pianos           |   | 11,327            |    | 11,903 |   |
| Construction in progress                       |   | 509               |    | 1,886 |   |
|                                           |   | 143,175           |    | 149,116 |   |
| Less accumulated depreciation and amortization |   | 36,760            |    | 45,105 |   |
| Total                                          |   | $                 | 106,415 |   | $ | 104,011 |   |

 

30

----

 

**(6)    Other Assets, Net**

 
|                           |   | **December  31,** |   |
|--------------------------------|--------|-------------------|--------|
|                           |   | **2000**          |   | **2001** |   |
| Trademarks                     |   | $                 | 22,213 |   | $ | 21,741 |   |
| Deferred  financing costs      |   | 13,234            |   | 10,319 |   |
| Other assets                   |   | 2,235             |   | 6,675 |   |
|                           |   | 37,682            |   | 38,735 |   |
| Less accumulated  amortization |   | 17,037            |   | 15,600 |   |
| Total                          |   | $                 | 20,645 |   | $ | 23,135 |   |

 

**(7)    Other CurrentLiabilities**

 
|                                 |   | **December  31,** |   |
|--------------------------------------|--------|-------------------|--------|
|                                 |   | **2000**          |   | **2001** |   |
| Accrued payroll and related benefits |   | $                 | 15,266 |   | $ | 14,516 |   |
| Current portion of pension liability |   | 685               |   | 3,051 |   |
| Accrued warranty expense             |   | 2,355             |   | 2,221 |   |
| Accrued interest                     |   | 1,675             |   | 2,811 |   |
| Other accrued expenses               |   | 15,872            |   | 11,496 |   |
| Total                                |   | $                 | 35,853 |   | $ | 34,095 |   |

 

**(8)   ****Other (Income) Expense, Net**

 
|                              |   | **Years  Ended December 31,** |   |
|-----------------------------------|--------|-------------------------------|--------|
|                              |   | **1999**                      |   | **2000** |   | **2001** |   |
| West 57th Building income         |   | $                             | (3,516 | ) | $ | (4,653 | ) | $ | (4,653 | ) |
| West 57th Building expenses       |   | 2,452                         |   | 3,254 |   | 3,254 |   |
| Foreign exchange (gain) loss, net |   | (116                          | )      | 462 |   | 791 |   |
| Miscellaneous                     |   | (701                          | )      | (888 | ) | (1,170 | ) |
| Total                             |   | $                             | (1,881 | ) | $ | (1,825 | ) | $ | (1,778 | ) |

 

31

----

 

**(9)    Income Taxes**

 

The components of the provision for incometaxes are as follows:

 
|                  |   | **Years  Ended December 31,** |   |
|-----------------------|--------|-------------------------------|--------|
|                  |   | **1999**                      |   | **2000** |   | **2001** |   |
| U.S. Federal:         |   |                          |   |   |   |   |   |
| Current               |   | $                             | 8,067  |   | $ | 7,097 |   | $ | 4,318 |   |
| Deferred              |   | (276                          | )      | (780 | ) | (535 | ) |
| U.S. State and local: |   |                          |   |   |   |   |   |
| Current               |   | 1,533                         |   | 1,310 |   | 674 |   |
| Deferred              |   | (54                           | )      | (65 | ) | (45 | ) |
| Foreign:              |   |                          |   |   |   |   |   |
| Current               |   | 4,092                         |   | 4,442 |   | 4,679 |   |
| Deferred              |   | (962                          | )      | (1,504 | ) | (841 | ) |
| Total                 |   | $                             | 12,400 |   | $ | 10,500 |   | $ | 8,250 |   |

 

The components of income before income taxes are as follows:

 
|                 |   | **Years  Ended December 31,** |   |
|----------------------|--------|-------------------------------|--------|
|                 |   | **1999**                      |   | **2000** |   | **2001** |   |
| U.S. operations      |   | $                             | 23,062 |   | $ | 20,075 |   | $ | 13,116 |   |
| Non-U.S.  operations |   | 6,683                         |   | 7,329 |   | 10,403 |   |
| Total                |   | $                             | 29,745 |   | $ | 27,404 |   | $ | 23,519 |   |

 

The Company’s provision for income taxes differed from that using thestatutory U.S. federal rate as follows:

 
|                                                           |   | **Years  Ended December 31,** |   |
|----------------------------------------------------------------|--------|-------------------------------|--------|
|                                                           |   | **1999**                      |   | **2000** |   | **2001** |   |
| Statutory federal rate applied to earnings before income taxes |   | $                             | 10,412 |   | $ | 9,591 |   | $ | 8,231 |   |
| Increase (decrease) in income taxes resulting from:            |   |                          |   |   |   |   |   |
| Foreign income taxes (net of federal benefit)                  |   | 1,278                         |   | 1,280 |   | (590 | ) |
| State income taxes (net of federal benefit)                    |   | 996                           |   | 802 |   | 325 |   |
| Changes in tax rate in Germany                                 |   | —                        |   | (570 | ) | — |   |
| Other                                                          |   | (286                          | )      | (603 | ) | 284 |   |
| Provision for income taxes                                     |   | $                             | 12,400 |   | $ | 10,500 |   | $ | 8,250 |   |

 

32

----

 

In 2000, Germany passed legislation that reduced therate at which certain of the Company’s operations pay tax.  Upon passage of the legislation, the Companyrecognized a reduction of $570 in its deferred tax liabilities based on changesin the rates. This legislation was effective in 2001 and impacts taxescurrently payable.

 

At December 31, 2001, accumulated retained earnings ofnon-U.S. subsidiaries totaled $3,241. No provision for U.S. income and foreign withholding taxes has been madefor these subsidiaries because it is currently expected that such earnings willbe reinvested indefinitely.

 

The components of net deferred tax assets are as follows:

 
|                                                      |   | **December  31,** |    |
|-----------------------------------------------------------|--------|-------------------|---------|
|                                                      |   | **2000**          |    | **2001** |   |
| Deferred tax assets:                                      |   |              |    |   |   |
| Uniform capitalization adjustment to inventory            |   | $                 | 2,488   |   | $ | 2,992 |   |
| Allowance for doubtful accounts                           |   | 3,037             |    | 2,952 |   |
| Book tax differences in LIFO reserves on inventory        |   | (6,007            | )       | (6,306 | ) |
| Accrued expenses and other current assets and liabilities |   | 4,085             |    | 5,813 |   |
| Foreign tax credits                                       |   | 12,955            |    | 10,955 |   |
| Valuation allowances                                      |   | (12,366           | )       | (10,770 | ) |
| Total deferred tax assets                                 |   | 4,192             |    | 5,636 |   |
|                                                      |   |              |    |   |   |
| Deferred tax liabilities:                                 |   |              |    |   |   |
| Pension contributions                                     |   | 175               |    | (457 | ) |
| Fixed assets                                              |   | (19,764           | )       | (20,243 | ) |
| Intangibles                                               |   | (6,798            | )       | (6,418 | ) |
| Total deferred tax liabilities                            |   | (26,387           | )       | (27,118 | ) |
|                                                      |   |              |    |   |   |
| Net deferred taxes                                        |   | $                 | (22,195 | ) | $ | (21,482 | ) |

 

Valuation allowances provided relate to excess foreigntax credits generated over expected credit absorption.  Of these valuation allowances, $4,051 and$3,301 relate to the acquisition of Steinway as of December 31, 2000 and 2001,respectively.  Should the related taxbenefits be recognized in the future, the effect of removing the valuationallowances associated with the acquisition of Steinway would generally be adecrease in goodwill. During 2000, the valuation allowance decreased by $1,867primarily due to expiration of foreign tax credits that were written offagainst the related reserves.  During2001, the valuation allowance decreased by $1,596 in connection with the useand reduction of the Company’s foreign tax credits.  Foreign tax credit carryforwards expire in varying amountsthrough 2005.

 

33

----

 

**(10)  Long-Term Debt**

 

Long-term debt consists of the following:

 
|                                                     |   | **December  31,** |    |
|----------------------------------------------------------|--------|-------------------|---------|
|                                                     |   | **2000**          |    | **2001** |   |
| Senior debt                                              |   | $                 | 43,087  |   | $ | — |   |
| Term loans                                               |   | 66,025            |    | 60,042 |   |
| 11% Senior  Subordinated Notes                           |   | 110,000           |    | — |   |
| 8.75% Senior  Notes                                      |   | —            |    | 150,000 |   |
| Note payable to  a foreign bank                          |   | 367               |    | — |   |
| Open account  loans, payable on demand to a foreign bank |   | 3,931             |    | 1,161 |   |
| Total                                                    |   | 223,410           |    | 211,203 |   |
| Less current  portion                                    |   | 9,516             |    | 7,446 |   |
| Long-term debt                                           |   | $                 | 213,894 |   | $ | 203,757 |   |

 

Scheduled maturities of long-term debt as of December 31, 2001 are asfollows:

 

|       |   | **Amount** |    |
|------------|--------|------------|---------|
| 2002       |   | $          | 7,446   |   |
| 2003       |   | 6,393      |    |
| 2004       |   | 6,441      |    |
| 2005       |   | 6,491      |    |
| 2006       |   | 6,542      |    |
| Thereafter |   | 177,890    |    |
| Total      |   | $          | 211,203 |   |

 

The Company’s real estate term loan, acquisition termloan, and domestic, seasonal borrowing requirements are accommodated through acommitted credit facility with a syndicate of domestic lenders (the “CreditFacility”).  The Credit Facility, whichwas amended and restated to accommodate the $150.0 million bond offeringcompleted on April 19, 2001, provides the Company with a potential borrowingcapacity of $85.0 million in revolving credit loans, and expires on September14, 2008. Borrowings are collateralized by the Company’s domestic accountsreceivable, inventory and fixed assets. As of December 31, 2001, there were no revolving credit loansoutstanding, and availability based on eligible accounts receivable andinventory balances was approximately $85.0 million. The real estate term loanportion of the Credit Facility ($21.1 million at December 31, 2001) is payablein monthly installments of $170, based on a twenty-five year amortization, andincludes interest at average 30-day LIBOR plus 1.5%.  This term loan is secured by all of the Company’s interests inthe Steinway Hall property.  Theacquisition term loan portion of the Credit Facility ($39.0 million at December31, 2001) is repayable in monthly installments of $416 for the first five yearsand monthly installments of $556 in years six through eight.  The acquisition term loan and revolvingcredit loans bear interest at average 30-day LIBOR plus 1.75%.

 

On April 19, 2001, the Company completed a $150.0million 8.75% Senior Note offering.  Theproceeds of this offering were used to redeem $110.0 million of previouslyoutstanding Senior

 

34

----

 

Subordinated Notes, with the balances used to pay down the CreditFacility.  The early retirement of theSenior Subordinated Notes, which were redeemed on June 1, 2001 at 102.75% ofthe principal amount, generated an extraordinary charge of approximately $4.0million, net of tax of $2.7 million. The Company’s current long-term financing includes the $150.0 SeniorNotes and $60.0 million of term loans outstanding under the Credit Facility.

 

The open account loans provide for borrowings byforeign subsidiaries of up to €19,940 ($17,777 at the December 31, 2001 exchange rate) payable on demand.  A portion of the open account loan can beconverted into a maximum of £1,017 ($1,481 at the December 31, 2001 exchangerate) for use by the Company’s UK branch and ¥432,725 ($3,286 at the December31, 2001 exchange rate) for use by the Company’s Japanese subsidiary.  Demand borrowings bear interest at rates of6.95—7.60% for the Euro loans, 4.25% for Euromoney-market short-term loans(Euro based) and 1.35% for Japanese yen loans. The Company has also purchased two interest rate caps.  One cap limits the base interest rate to 5%on   €2,556 ($2,279 at the December 31,2001 exchange rate) declining to €511 ($456 at the December 31, 2001 exchangerate) in 2004.  The other cap limits thebase interest rate to 6.25% on €1,534 ($1,376 at the December 31, 2001 exchangerate) and expires in 2005.  Theunrealized gains or losses and carrying value of the caps are not material inany period presented.

 

All of the Company’s debt agreements contain certainfinancial covenants which, among other things, require the maintenance ofcertain financial ratios and net worth, place certain limitations on additionalborrowings and capital expenditures, and prohibit the payment of cashdividends.  The Company is in compliancewith all such covenants.

 

**(11)  Stockholders’Equity**

 

The Company’s common stock is comprised of twoclasses: Class A and Ordinary.  With theexception of disparate voting power, both classes are substantiallyidentical.  Each share of Class A commonstock entitles the holder to 98 votes. Holders of Ordinary common stock are entitled to one vote pershare.  Class A common stock shallautomatically convert to Ordinary common stock if, at any time, the Class Acommon stock is not owned by an original Class A holder.

 

*EmployeeStock Purchase Plan* - The Company has an employee stockpurchase plan (the “Purchase Plan”) under which substantially all employees maypurchase common stock through payroll deductions at a purchase price equal to85% of the lower of the fair market values as of the beginning or end of eachtwelve-month offering period.  Stockpurchases under the Purchase Plan are limited to 5% of an employee’s annualbase earnings.  During 1999, 2000 and2001, 29,502, 31,773 and 29,549 shares, respectively, were issued under thePurchase Plan.  Of the 500,000 sharesoriginally reserved for issuance under the Purchase Plan, 349,188 shares remainreserved for future issuance as of December 31, 2001.

 

*StockPlan* - The 1996 stock plan (the “Stock Plan”) provides forthe granting of 778,250 stock options (including incentive stock options andnon-qualified stock options), stock appreciation rights and other stock awardsto certain key employees, consultants and advisors of the Company and its subsidiaries.  Common stock reserved for issuance under theStock Plan was 731,550 shares as of December 31, 2001.

 

35

----

 

The following table sets forth information regarding both the PurchasePlan and the Stock Plan:

 
|                              |   | **1999**                |   | **2000**                               |   | **2001**                |    |
|-----------------------------------|--------|-------------------------|--------|----------------------------------------|--------|-------------------------|---------|
|                              |   | **Number  of  Options** |   | **Weighted  Average  Exercise  Price** |   | **Number  of  Options** |    | **Weighted  Average  Exercise  Price** |   | **Number  of  Options** |   | **Weighted  Average  Exercise  Price** |   |
| Outstanding at beginning  of year |   | 562,344                 |   | $                                      | 19.31  |                    | 536,020 |   | $ | 19.26 |   | 632,398 |   | $ | 19.09 |   |
| Granted                           |   | 36,078                  |   | 22.19                                  |   | 152,851                 |    | 18.13 |   | 31,813 |   | 15.30 |   |
| Exercised                         |   | (40,002                 | )      | 22.80                                  |   | (42,173                 | )       | 16.43 |   | (29,549 | ) | 15.38 |   |
| Canceled,  forfeited or expired   |   | (22,400                 | )      | 18.97                                  |   | (14,300                 | )       | 19.21 |   | (6,400 | ) | 19.00 |   |
| Outstanding at  end of year       |   | 536,020                 |   | 19.26                                  |   | 632,398                 |    | 19.09 |   | 628,262 |   | 19.07 |   |
|                              |   |                    |   |                                   |   |                    |    |   |   |   |   |   |   |
| Exercisable at  end of year       |   | 300,800                 |   | $                                      | 19.14  |                    | 382,700 |   | $ | 19.17 |   | 502,300 |   | $ | 19.17 |   |

 

The following table sets forth information regarding outstanding andexercisable options at December 31, 2001:

 
|                          |   | **Options  Outstanding** |   | **Options  Exercisable**               |   |
|-------------------------------|--------|--------------------------|--------|----------------------------------------|--------|
| **Range of  Exercise Prices** |   | **Number  of  Options**  |   | **Weighted  Average  Remaining  Life** |   | **Weighted  Average  Exercise  Price** |   | **Number  of  Options** |   | **Weighted  Average  Exercise  Price** |   |
| $ 15.22                       |   | 15,862                   |   | .6                                     | years  |   | $ | 15.22 |   | — |   | $ | — |   |
| $ 18.84 – $21.94         |   | 612,400                  |   | 5.4                                    |   |   | $ | 19.17 |   | 502,300 |   | $ | 19.17 |   |
|                          |   | 628,262                  |   | 5.3                                    |   |   | $ | 19.07 |   | 502,300 |   | $ | 19.17 |   |

 

*Stock-basedCompensation Expense* - As described in Note 2, the Companyuses the intrinsic value method to measure compensation expense associated withgrants of stock options to employees. Had the Company used the fair value method to measure compensation, asset forth in SFAS No. 123, “Accounting for Stock-Based Compensation,” reportednet income and net income per share would have been as follows for the yearsended December 31:

 
|                      |   | **1999** |   | **2000** |   | **2001** |   |
|---------------------------|--------|----------|--------|----------|--------|----------|--------|
| Net income                |   | $        | 16,465 |     | $      | 15,933   |   | $ | 14,554 |   |
| Basic income per  share   |   | $        | 1.79   |     | $      | 1.79     |   | $ | 1.63 |   |
| Diluted income  per share |   | $        | 1.77   |     | $      | 1.79     |   | $ | 1.63 |   |

 

The fair value of options on their grant date,including the valuation of the option feature implicit in the Purchase Plan,was measured using the Black-Scholes option-pricing model.  Key assumptions used to apply this pricingmodel are as follows:

 
|                                                |   | **1999**    |   | **2000**    |   | **2001** |   |
|-----------------------------------------------------|--------|-------------|--------|-------------|--------|----------|--------|
| Range of  risk-free interest rates                  |   | 4.99 - 5.10 | %      | 6.05 - 6.41 | %      | 3.57     | %      |
| Range of  expected life of option grants (in years) |   | 1 to 6      |   | 1 to 6      |   | 1 to 6   |   |
| Expected  volatility of underlying stock            |   | 26.8        | %      | 26.0        | %      | 25.5     | %      |

 

36

----

 

The weighted average fair value of options on their grant date is asfollows:

 
|          |   | **1999** |   | **2000** |   | **2001** |   |
|---------------|--------|----------|--------|----------|--------|----------|--------|
| Stock Plan    |   | $        | 7.79   |     | $      | 7.64     |   | $ | — |   |
| Purchase Plan |   | $        | 6.10   |     | $      | 4.79     |   | $ | 4.48 |   |

 

It should be noted that the Black-Scholes option-pricingmodel was designed to value readily tradable options with relatively shortlives and no vesting restrictions.  Inaddition, option valuation models require the input of highly subjectiveassumptions including the expected price volatility.  Because the options granted are not tradable and have contractuallives of up to ten years, and because changes in the subjective inputassumptions can materially affect the fair value estimate, in management’sopinion, the existing models do not provide a reliable measure of the fairvalue of the options issued under the Stock Plan or Purchase Plan.

 

**(12)  Commitments and Contingent Liabilities**

 

*LeaseCommitments* - The Company leases various facilities andequipment under non-cancelable operating lease arrangements.  These leases expire at various times through2008 with various renewal options.  Rentexpense was $3,921, $3,979, and $4,013 for the years ended December 31, 1999,2000 and 2001, respectively.

 

In March 1999, the Company acquired the building thatincludes the Steinway Hall retail store on West 57th Street in NewYork City for approximately $30.8 million. The Company entered into a ninety-nine year land lease as part of thetransaction.  Annual rent payable underthe land lease is $2,170 in the first ten years, $2,790 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.  The Company alsoentered into a ten-year master lease whereby all of the Company’s interest inthe land and building was leased back to the owner of the land.  Rental expense and rental income associatedwith these leases was $1,874 and $3,516, respectively, for the year endedDecember 31, 1999 and $2,480 and $4,653, respectively, for the years endedDecember 31, 2000 and December 31, 2001. These amounts are included, along with other real estate costs, in otherincome/expense (see Note 8).

 

Future minimum lease payments for the Company’snon-cancelable operating leases, excluding the land lease discussed above, andfuture rental income under the master lease for the years ending December 31are as follows:

 
|          |   | **Lease  Payments** |   | **Rental  Income** |   |
|---------------|--------|---------------------|--------|--------------------|--------|
| 2002          |   | $                   | 3,809  |               | 4,653  |   |
| 2003          |   | 3,722               |   | 4,653              |   |
| 2004          |   | 3,388               |   | 4,653              |   |
| 2005          |   | 3,141               |   | 4,653              |   |
| 2006          |   | 2,755               |   | 4,653              |   |
| Thereafter    |   | 4,919               |   | 9,306              |   |
| Minimum Total |   | $                   | 21,734 |               | $      | 32,571 |   |
|               |        |                     |        |                    |        |  |  |

 

37

----

 

*NotesReceivable Sold with Recourse* - The Company sells notesreceivable on a recourse basis to a financing company under a facility thatexpires in August 2002.  Pursuant to theterms of the facility, the financing company may, at its option, purchase up toan aggregate principal amount outstanding at any time of $18.0 million of theCompany’s notes receivable.  The Companyreceived proceeds of approximately $10.1 million and $12.7 million from thesales of such notes during the years ended December 31, 2000 and 2001,respectively.  Other current liabilitiesinclude a recourse obligation of $1.1 million and $849 as of December 31, 2000and 2001 respectively, for the notes sold with recourse.  Outstanding balances on these notes were$6.3 million and $6.7 million as of December 31, 2000 and 2001, respectively.

 

*EnvironmentalMatters* - The Company is continuing environmental remediationprojects at facilities acquired in 2000. Management believes that established reserves, which approximated $500at December 31, 2001 and are included in other current liabilities, areadequate to cover the remaining cost of these remediation projects.  Other environmental matters are pendingagainst the Company which might result in monetary damages, the amount ofwhich, if any, cannot be determined at the present time.  Philips Electronics, a previous owner of theCompany, has agreed to hold the Company harmless from any financial liabilityarising from these environmental matters which were pending as of December 29,1988.  Management believes that thesematters will not have a material adverse impact on the Company’s consolidatedresults of operations or financial condition.

 

*Litigation*- In the ordinary course of its business, the Company is party to various legalactions that management believes are routine in nature and incidental to theoperation of its business.  While theoutcome of such actions cannot be predicted with certainty, management believesthat, based on the experience of the Company in dealing with these matters, theultimate resolution of these matters will not have a material adverse impact onthe financial condition or consolidated results of operations of the Company.

 

**(13)  Retirement Plans**

 

The Company has defined benefit pension plans coveringthe majority of its employees, including certain employees in foreigncountries.  Plan assets are investedprimarily in common stocks and fixed income securities.  The Company makes contributions generallyequal to the minimum amounts required by federal laws and regulations.  Foreign plans are funded in accordance withthe requirements of regulatory bodies governing each plan.

 

The following table sets forth the funded status and amounts recognizedas of December 31, 2000 and 2001 for the Company’s defined benefit pensionplans:

 

38

----

 
|                                                 |   | **Domestic  Plans** |   | **Foreign  Plans** |   |
|------------------------------------------------------|--------|---------------------|--------|--------------------|--------|
|                                                 |   | **2000**            |   | **2001**           |   | **2000** |   | **2001** |   |
| Change in  benefit obligation:                       |   |                |   |               |   |   |   |   |   |
| Benefit  obligation, beginning of year               |   | $                   | 22,049 |               | $      | 30,968 |   | $ | 16,304 |   | $ | 15,923 |   |
| Service cost                                         |   | 1,133               |   | 1,284              |   | 517 |   | 534 |   |
| Interest cost                                        |   | 1,883               |   | 2,342              |   | 916 |   | 930 |   |
| Plan  participants’ contributions               |   | 23                  |   | 25                 |   | — |   | — |   |
| Amendments                                           |   | 1,978               |   | 30                 |   | — |   | — |   |
| Actuarial (gain)  loss                               |   | 46                  |   | 951                |   | (143 | ) | 438 |   |
| Foreign currency  exchange rate changes              |   | —              |   | —             |   | (1,040 | ) | (732 | ) |
| Acquisition                                          |   | 4,886               |   | —             |   | 123 |   | — |   |
| Benefits paid                                        |   | (1,030              | )      | (1,411             | )      | (754 | ) | (841 | ) |
| Benefit  obligation, end of year                     |   | 30,968              |   | 34,189             |   | 15,923 |   | 16,252 |   |
|                                                 |   |                |   |               |   |   |   |   |   |
| Change in plan  assets:                              |   |                |   |               |   |   |   |   |   |
| Fair value of  plan assets, beginning of year        |   | 27,084              |   | 30,915             |   | 3,996 |   | 3,384 |   |
| Return on plan  assets                               |   | (785                | )      | (1,741             | )      | (336 | ) | (229 | ) |
| Acquisition                                          |   | 3,938               |   | —             |   | — |   | — |   |
| Employer  contribution                               |   | 1,685               |   | 2,199              |   | 731 |   | 733 |   |
| Employee  contributions                              |   | 23                  |   | 25                 |   | 47 |   | 54 |   |
| Foreign currency  exchange rate changes              |   | —              |   | —             |   | (300 | ) | (88 | ) |
| Benefits paid                                        |   | (1,030              | )      | (1,411             | )      | (754 | ) | (841 | ) |
| Fair value of  plan assets, end of year              |   | 30,915              |   | 29,987             |   | 3,384 |   | 3,013 |   |
|                                                 |   |                |   |               |   |   |   |   |   |
| Funded status                                        |   | (53                 | )      | (4,202             | )      | (12,539 | ) | (13,239 | ) |
|                                                 |   |                |   |               |   |   |   |   |   |
| Unrecognized net  actuarial (gain) loss              |   | (3,292              | )      | 2,439              |   | 173 |   | 1,044 |   |
| Unrecognized  prior service cost                     |   | 3,323               |   | 2,946              |   | — |   | — |   |
| Net amount  recognized                               |   | $                   | (22    | )                  | $      | 1,183 |   | $ | (12,366 | ) | $ | (12,195 | ) |
|                                                 |   |                |   |               |   |   |   |   |   |
| Amounts  recognized in the balance sheet consist of: |   |                |   |               |   |   |   |   |   |
| Accrued benefit  cost                                |   | $                   | (143   | )                  | $      | (3,373 | ) | $ | (12,366 | ) | $ | (12,195 | ) |
| Intangible asset                                     |   | —              |   | 2,936              |   | — |   | — |   |
| Additional  minimum pension liability                |   | 121                 |   | 1,620              |   | — |   |   |   |
| Net amount  recognized                               |   | $                   | (22    | )                  | $      | 1,183 |   | $ | (12,366 | ) | $ | (12,195 | ) |

 

 
|                                              |   | **Domestic  Plans** |   | **Foreign  Plans** |   |
|---------------------------------------------------|--------|---------------------|--------|--------------------|--------|
|                                              |   | **1999**            |   | **2000**           |   | **2001** |   | **1999** |   | **2000** |   | **2001** |   |
| Weighted average  assumptions  as of December 31: |   |                |   |               |   |   |   |   |   |   |   |   |   |
| Discount rate                                     |   | 7.75                | %      | 7.75               | %      | 7.50 | % | 5.75-6.5 | % | 5.75-6.5 | % | 5.75-6.5 | % |
| Expected return  on assets                        |   | 8.5                 |   | 9.0                |   | 9.0 |   | 6.75 |   | 6.75 |   | 6.75 |   |
| Rate of  compensation increase                    |   | 4.0                 |   | 4.0                |   | 4.0 |   | 2.5-4.5 |   | 2.5-4.5 |   | 2.5-4.5 |   |

 

39

----

 

The components of net pension expense for the years ended December 31are as follows:

 
|                                |   | **1999** |   | **2000** |   | **2001** |   |
|-------------------------------------|--------|----------|--------|----------|--------|----------|--------|
| Domestic Plans:                     |   |     |   |     |   |     |   |
| Service cost                        |   | $        | 1,256  |     | $      | 1,133    |   | $ | 1,284 |   |
| Interest cost                       |   | 1,528    |   | 1,883    |   | 2,342    |   |
| Expected return  on plan assets     |   | (1,778   | )      | (2,323   | )      | (2,897   | )      |
| Amortization of  prior service cost |   | 216      |   | 362      |   | 407      |   |
| Recognized  actuarial (gain) loss   |   | 14       |   | (122     | )      | (142     | )      |
| Net pension  expense                |   | $        | 1,236  |     | $      | 933      |   | $ | 994 |   |
|                                |   |     |   |     |   |     |   |
| Foreign Plans:                      |   |     |   |     |   |     |   |
| Service cost                        |   | $        | 528    |     | $      | 517      |   | $ | 534 |   |
| Interest cost                       |   | 1,006    |   | 916      |   | 930      |   |
| Expected return  on plan assets     |   | (225     | )      | (232     | )      | (177     | )      |
| Net pension  expense                |   | $        | 1,309  |     | $      | 1,201    |   | $ | 1,287 |   |

 

The projected benefit obligation, accumulated benefitobligation, and fair value of plan assets for pension plans with accumulatedbenefit obligations in excess of plan assets were $16,467, $15,974 and $3,912,respectively, as of December 31, 2000 and $50,441, $47,104 and $29,987,respectively, as of December 31, 2001.

 

The Company provides postretirement health care andlife insurance benefits to eligible hourly retirees and their dependents.  The health care plan is contributory, withretiree contributions adjusted every three years as part of a union contractagreement.  The plans are unfunded andthe Company pays part of the health care premium and the full amount of thelife insurance cost.

 

The following table sets forth the funded status of the Company’spostretirement benefit plans and accrued postretirement benefit cost reflectedin the Company’s consolidated balance sheet at year-end:

 
|                                   |   | **December  31,** |       |
|----------------------------------------|--------|-------------------|------------|
|                                   |   | **2000**          | ** ** | **2001** |   |
| Change in  benefit obligation:         |   |              |       |   |   |
| Benefit  obligation, beginning of year |   | $                 | 1,233      |   | $ | 1,488 |   |
| Service cost                           |   | 47                |       | 57 |   |
| Interest cost                          |   | 106               |       | 124 |   |
| Plan  participants’ contribution  |   | —            |       | 44 |   |
| Amendments                             |   | —            |       | (58 | ) |
| Actuarial loss                         |   | 165               |       | 242 |   |
| Benefits paid                          |   | (63               | )          | (127 | ) |
| Benefit  obligation, end of year       |   | 1,488             |       | 1,770 |   |
|                                   |   |              |       |   |   |
| Fair value of  plan assets             |   | —            |       | — |   |
|                                   |   |              |       |   |   |
| Funded status                          |   | (1,488            | )          | (1,770 | ) |
| Unrecognized net  actuarial gain       |   | (28               | )          | 214 |   |
| Unrecognized  prior service cost       |   | 652               |       | 548 |   |
| Accrued  postretirement benefit cost   |   | $                 | (864       | ) | $ | (1,008 | ) |

 

40

----

 

The assumed weighted average discount rate as ofDecember 31 was 7.75% in 1999 and 2000 and 7.50% in 2001.  The annual assumed rate of increase in theper capita cost of covered health care benefits is 8.0% for retirees under age 65in 2001 and is assumed to decrease gradually to 5.5% in 2006, and remain atthat level thereafter.

 

Net postretirement benefit costs are as follows:

 
|                                   |   | **Years  Ended December 31,** |       |
|----------------------------------------|--------|-------------------------------|------------|
|                                   |   | **1999**                      | ** ** | **2000** | ** ** | **2001** |   |
| Service cost                           |   | $                             | 42         |   | $ | 47 |   | $ | 57 |   |
| Interest cost                          |   | 88                            |       | 107 |   | 124 |   |
| Net loss  recognition                  |   | —                        |       | — |   | 1 |   |
| Amortization of  transition obligation |   | 50                            |       | 50 |   | 45 |   |
| Net  postretirement benefit cost       |   | $                             | 180        |   | $ | 204 |   | $ | 227 |   |

 

Assumed health care cost trend rates have asignificant effect on the amounts reported for the health care plan.  A one-percentage-point change in assumedhealth care cost trend rates would have the following effects:

 
|                                                     |   | **1%  Increase** |   | **1%  Decrease** |   |
|----------------------------------------------------------|--------|------------------|--------|------------------|--------|
| Effect on total  of service and interest cost components |   | $                | 11     |             | $      | (10 | ) |
| Effect on the  postretirement benefit obligation         |   | 87               |   | (78              | )      |
|                                                          |        |                  |        |                  |        |  |  |

 

The Company sponsors 401(k) retirement savings plansfor eligible employees.  Discretionaryemployer contributions, as determined annually by the Board of Directors, aremade to two of these plans.  The 1999,2000 and 2001 contributions approximated $477, $590 and $550, respectively.

 

In January 2001, the Company established asupplemental executive retirement plan (“SERP”) for a select group ofexecutives of the Company, who constitute a “top hat” group as defined byERISA.  Discretionary employercontributions made to this plan, as determined annually by the Board ofDirectors, are held in a Rabbi Trust. The SERP assets are included in the Company’s financial statements asother long-term assets since the Trust permits accessibility of the SERP assetsby the Company’s creditors in the event of the Company’s insolvency (see Notes6 and 15).  The Company has no otherclaims to the assets contained in the Trust. The 2000 and 2001 contributions approximated $203 and $283,respectively.

 

**(14)  Foreign Exchange Contracts**

 

The Company’s German divisions, whose functionalcurrency is the Euro, secure options and forwards contracts for Japanese yenand British pounds solely to manage currency fluctuations.  These divisions had options and forwardcontracts to sell ¥37,252 and £1,600 at December 31, 2000.  These instruments had various maturity datesthrough April 2002.

 

At December 31, 2001, these divisions had options andforward contracts to sell ¥230,000 and £2,150. These instruments have variousmaturity dates through May 2003.

 

41

----

 

**(15)  Fair Values of Financial Instruments**

 

Estimated fair values of financial instruments havebeen developed using appropriate methodologies; however, considerable judgmentis required to develop these estimates. Accordingly, the estimates presented herein are not necessarilyindicative of amounts that could be realized in a current market exchange.  Use of different assumptions ormethodologies could have a significant effect on these estimates.  The net carrying value and estimated fairvalue of the Company’s financial instruments are as follows at December 31:

 
|                        |   | **2000**                 |    | **2001**                  |   |
|-----------------------------|--------|--------------------------|---------|---------------------------|--------|
|                        |   | **Net  Carrying  Value** |    | **Estimated  Fair Value** |   | **Net  Carrying   Value** |   | **Estimated  Fair Value** |   |
| Financial  liabilities:     |   |                     |    |                      |   |   |   |   |   |
| Long-term debt              |   | $                        | 223,410 |                      | $      | 226,554 |   | $ | 211,203 |   | $ | 209,703 |   |
| Foreign currency  contracts |   | —                   |    | (228                      | )      | — |   | (73 | ) |
| Interest rate  caps         |   | —                   |    | 16                        |   | — |   | (7 | ) |
|                             |        |                          |         |                           |        |  |  |  |  |  |  |  |  |

 

The estimated fair value of existing long-term debt isbased on rates currently available to the Company for debt with similar termsand remaining maturities.

 

The estimated fair value of foreign currency contracts(used for hedging purposes) has been determined as the difference between thecurrent spot rate and the contract rate multiplied by the notional amount ofthe contract or upon the estimated fair value of purchased optioncontracts.  The net carrying value ofthese contracts approximates zero as any gains or losses on the contracts aregenerally offset by losses or gains on the related hedged asset or liability.

 

The carrying amount of cash, marketable equitysecurities, accounts, notes and leases receivable, and accounts payableapproximate fair value because of the short maturity of these instruments.

 

Investments in marketable equity securities arecategorized as trading, available-for-sale, or held-to-maturity.  On December 31, 2000 the Company had nomarketable equity securities.  OnDecember 31, 2001 the Company had only available-for-sale securities which arestated at fair value, with unrealized gains and losses, net of deferred taxes,reported in stockholders’ equity.  AtDecember 31, 2001, unrealized net losses of $5 were included in accumulatedother comprehensive loss.  The Company’smarketable equity securities pertain to the SERP and are included as acomponent of other assets (see Notes 6 and 13).

 

**(16)  Extraordinary Items**

 

On April 19, 2001, the Company completed a $150.0million 8.75% Senior Note offering.  Theproceeds of this offering were primarily used to redeem $110.0 million ofpreviously outstanding Senior Subordinated Notes and accrued interest (seeNotes 10 and 19).  This redemptionresulted in an extraordinary charge of approximately $4.0 million, net of taxbenefit of $2.7 million.

 

42

----

 

**(17)  Segment Information**

 

As discussed in Note 2, the Company has identified twodistinct and reportable segments: the piano segment and the band and orchestralinstrument segment.  The Companyconsiders these two segments reportable as they are managed separately and theoperating results of each segment are regularly reviewed and evaluatedseparately by the Company’s senior management.

 

The accounting policies of each segment are the sameas those described in Note 2.  Intercompanytransactions are generally recorded at cost plus a negotiated markup.

 

The following tables present information about the Company’s operatingsegments:

** **
| **1999**                         |     | **Piano  Segment** |        | **Band and  Orchestral Segment** |      | **Other  &  Elim** |      | **Consol  Total** |     |
|----------------------------------|----------|--------------------|-------------|----------------------------------|-----------|------------------------|-----------|-------------------|----------|
|                             | **U.S.** | ** **         | **Germany** | ** **                       | **Other** | ** **             | **Total** | ** **        | **U.S.** | ** ** | **Other** | ** ** | **Total** | ** ** | ** ** |   |
| Revenues from external customers |     | 117,428            |        | 39,115                           |      | 17,041                 |      | 173,584           |     | 126,781 |   | 4,271 |   | 131,052 |   | — |   | 304,636 |   |
| Interest income                  |     | —             |        | 15                               |      | 18                     |      | 33                |     | 820 |   | — |   | 820 |   | 54 |   | 907 |   |
| Interest expense                 |     | 10,247             |        | 358                              |      | 215                    |      | 10,820            |     | 20,035 |   | — |   | 20,035 |   | (16,672 | ) | 14,183 |   |
| Depreciation and amortization    |     | 5,435              |        | 2,568                            |      | 187                    |      | 8,190             |     | 3,383 |   | — |   | 3,383 |   | 45 |   | 11,618 |   |
| Income tax expense (benefit)     |     | 4,305              |        | 2,455                            |      | 731                    |      | 7,491             |     | (510 | ) | 12 |   | (498 | ) | 5,407 |   | 12,400 |   |
| Net income (loss)                |     | 4,332              |        | 2,287                            |      | 1,175                  |      | 7,794             |     | (1,124 | ) | 23 |   | (1,101 | ) | 10,652 |   | 17,345 |   |
| Capital expenditures             |     | 34,064             |        | 861                              |      | 209                    |      | 35,134            |     | 1,012 |   | — |   | 1,012 |   | 46 |   | 36,192 |   |
| Total assets                     |     | 128,466            |        | 55,902                           |      | 11,964                 |      | 196,332           |     | 278,712 |   | 3,444 |   | 282,156 |   | (168,847 | ) | 309,641 |   |

 
| **2000**                         |     | **Piano  Segment** | ** **  | **Band and  Orchestral Segment** | ** ** | **Other  &  Elim** | ** ** | **Consol  Total** |     |
|----------------------------------|----------|--------------------|-------------|----------------------------------|------------|------------------------|------------|-------------------|----------|
|                             | **U.S.** | ** **         | **Germany** | ** **                       | **Other**  | ** **             | **Total**  | ** **        | **U.S.** | ** ** | **Other** | ** ** | **Total** | ** ** | ** ** | ** ** |
| Revenues from external customers |     | 123,528            |        | 38,630                           |       | 20,686                 |       | 182,844           |     | 143,904 |   | 4,950 |   | 148,854 |   | — |   | 331,698 |   |
| Interest income                  |     | —             |        | 16                               |       | 25                     |       | 41                |     | 1,250 |   | — |   | 1,250 |   | — |   | 1,291 |   |
| Interest expense                 |     | 11,372             |        | 454                              |       | 219                    |       | 12,045            |     | 23,020 |   | — |   | 23,020 |   | (17,664 | ) | 17,401 |   |
| Depreciation and amortization    |     | 6,074              |        | 2,343                            |       | 218                    |       | 8,635             |     | 3,659 |   | — |   | 3,659 |   | 48 |   | 12,342 |   |
| Income tax expense (benefit)     |     | 3,972              |        | 1,735                            |       | 1,192                  |       | 6,899             |     | (671 | ) | (132 | ) | (803 | ) | 4,404 |   | 10,500 |   |
| Net income (loss)                |     | 4,723              |        | 2,837                            |       | 1,514                  |       | 9,074             |     | (3,076 | ) | (266 | ) | (3,342 | ) | 11,172 |   | 16,904 |   |
| Capital expenditures             |     | 4,524              |        | 1,053                            |       | 39                     |       | 5,616             |     | 2,184 |   | 55 |   | 2,239 |   | 35 |   | 7,890 |   |
| Total assets                     |     | 144,014            |        | 54,008                           |       | 11,444                 |       | 209,466           |     | 407,958 |   | 3,868 |   | 411,826 |   | (199,476 | ) | 421,816 |   |

 
| **2001**                                    |     | **Piano  Segment** | ** **  | **Band and  Orchestral Segment** | ** ** | **Other  &  Elim** | ** ** | **Consol  Total** |     |
|---------------------------------------------|----------|--------------------|-------------|----------------------------------|------------|------------------------|------------|-------------------|----------|
|                                        | **U.S.** | ** **         | **Germany** | ** **                       | **Other**  | ** **             | **Total**  | ** **        | **U.S.** | ** ** | **Other** | ** ** | **Total** | ** ** | ** ** |   |
| Revenues from external customers            |     | 105,726            |        | 41,144                           |       | 22,096                 |       | 168,966           |     | 179,067 |   | 4,579 |   | 183,646 |   | — |   | 352,612 |   |
| Interest income                             |     | 38                 |        | 44                               |       | 37                     |       | 119               |     | 2,187 |   | — |   | 2,187 |   | — |   | 2,306 |   |
| Interest expense                            |     | 10,767             |        | 273                              |       | 189                    |       | 11,229            |     | 27,654 |   | — |   | 27,654 |   | (19,846 | ) | 19,037 |   |
| Depreciation and amortization               |     | 5,872              |        | 2,366                            |       | 205                    |       | 8,443             |     | 4,968 |   | 17 |   | 4,985 |   | 375 |   | 13,803 |   |
| Income tax expense (benefit)                |     | 704                |        | 2,246                            |       | 1,588                  |       | 4,538             |     | (1,725 | ) | 3 |   | (1,722 | ) | 5,434 |   | 8,250 |   |
| Net income (loss) before extraordinary item |     | 266                |        | 4,068                            |       | 2,435                  |       | 6,769             |     | (4,669 | ) | 63 |   | (4,606 | ) | 13,106 |   | 15,269 |   |
| Net income (loss)                           |     | (1,434             | )           | 4,068                            |       | 2,435                  |       | 5,069             |     | (6,177 | ) | 63 |   | (6,114 | ) | 12,364 |   | 11,319 |   |
| Capital expenditures                        |     | 2,566              |        | 651                              |       | 107                    |       | 3,324             |     | 3,629 |   | 1 |   | 3,630 |   | 187 |   | 7,141 |   |
| Total assets                                |     | 138,336            |        | 54,785                           |       | 10,499                 |       | 203,620           |     | 399,817 |   | 3,214 |   | 403,031 |   | (192,611 | ) | 414,040 |   |

 

**(18)  Summarized Financial Information**

 

The Company is a holding company whose only materialasset consists of its investment in its wholly owned subsidiary, The SelmerCompany, Inc.  Summarized financialinformation for The Selmer Company, Inc. and subsidiaries, for the years inwhich Selmer, as the Issuer, had Senior Subordinated

 

43

----

 

Notes outstanding is as follows:

** **

|                       |   | **1999** |    | **2000** |   |
|----------------------------|--------|----------|---------|----------|--------|
| Current assets             |   | $        | 169,295 |     | $      | 264,198 |   |
| Total assets               |   | 306,516  |    | 420,150  |   |
| Current  liabilities       |   | 58,569   |    | 73,550   |   |
| Stockholder’s  equity |   | 110,811  |    | 126,820  |   |
| Net sales                  |   | 301,765  |    | 329,004  |   |
| Gross profit               |   | 100,051  |    | 104,372  |   |
| Net income                 |   | 17,612   |    | 18,118   |   |
|                            |        |          |         |          |        |  |  |

 

**(19)  Summary of Merger and Guarantees**

 

On May 25, 1995, Selmer acquired Steinway pursuant toan Agreement and Plan of Merger dated as of April 11, 1995.  The total purchase price of approximately$104.0 million, including fees and expenses, was funded by Selmer’s issuance of$105.0 million of 11% Senior Subordinated Notes (the “Notes”) due 2005 andavailable cash balances of the Company.

 

Selmer’s payment obligations under the Notes werefully and unconditionally guaranteed on a joint and several basis by theCompany as Parent (the “Guarantor Parent”), and by Steinway, UMI and certaindirect and indirect wholly-owned subsidiaries of the Company, each a“Guarantor” (the “Guarantor Subsidiaries”). These subsidiaries, together with the operating divisions of Selmer,represent all of the operations of the Company conducted in the UnitedStates.  The remaining subsidiaries,which did not guarantee the Notes, represent foreign operations (the “NonGuarantor Subsidiaries”).

 

On April 19, 2001, the Company completed a $150.0million 8.75% Senior Note offering.  Theproceeds of the offering were used to redeem all of the existing 11% SeniorSubordinated Notes with the balance paying down the revolving credit facility.

 

The Company’s payment obligations under the 8.75%Senior Notes are fully and conditionally guaranteed on a joint and severalbasis by Selmer, Steinway, UMI and other certain direct and indirectwholly-owned subsidiaries of the Company, each a “Guarantor” (the “GuarantorSubsidiaries”).  These subsidiariesrepresent all of the operations of the Company (the “Issuer”) conducted in theUnited States.

 

The following condensed consolidating supplementarydata illustrates the composition of the combined Guarantors.  Separate complete financial statements ofthe respective Guarantors would not provide additional material informationthat would be useful in assessing the financial composition of theGuarantors.  No single Guarantor has anysignificant legal restrictions on the ability of investors or creditors toobtain access to its assets in event of default on the Guarantee other than itssubordination to senior indebtedness.

 

Investments in subsidiaries are recorded by theCompany using the cost method for purposes of the supplemental consolidatingpresentation.  Earnings of subsidiariesare therefore not reflected in the Company’s investment accounts and earnings.  The principal elimination entries eliminateinvestments in subsidiaries and intercompany balances and transactions.

 

44

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**CONDENSED CONSOLIDATING STATEMENTS OF INCOME**

**YEAR ENDED DECEMBER 31, 1999**

 
|                                     |   | **Guarantor  Parent** |   | **Issuer  of  Notes** |   | **Guarantor  Subsidiaries** |   | **Non  Guarantor  Subsidiaries** |    | **Reclass/  Eliminations** |   | **Consolidated** |   |
|------------------------------------------|--------|-----------------------|--------|-----------------------|--------|-----------------------------|--------|----------------------------------|---------|----------------------------|--------|------------------|--------|
|                                     |   | **(In  Thousands)**   |   |
| Net sales                                |   | $                     | — |                  | $      | 125,482                     |   | $                                | 125,646 |                       | $      | 62,783           |   | $ | (9,275 | ) | $ | 304,636 |   |
| Cost of sales                            |   | —                |   | 87,536                |   | 84,303                      |   | 41,236                           |    | (9,187                     | )      | 203,888          |   |
|                                     |   |                  |   |                  |   |                        |   |                             |    |                       |   |             |   |
| Gross profit                             |   | —                |   | 37,946                |   | 41,343                      |   | 21,547                           |    | (88                        | )      | 100,748          |   |
|                                     |   |                  |   |                  |   |                        |   |                             |    |                       |   |             |   |
| Operating  expenses:                     |   |                  |   |                  |   |                        |   |                             |    |                       |   |             |   |
| Sales and  marketing                     |   | —                |   | 14,492                |   | 15,030                      |   | 8,152                            |    | (147                       | )      | 37,527           |   |
| General and  administrative              |   | 3,137                 |   | 5,706                 |   | 4,540                       |   | 4,407                            |    | —                     |   | 17,790           |   |
| Amortization                             |   | —                |   | 459                   |   | 2,187                       |   | 1,282                            |    | —                     |   | 3,928            |   |
| Other operating  (income) expense        |   | (2,552                | )      | (302                  | )      | 2,147                       |   | 923                              |    | 147                        |   | 363              |   |
| Total operating  expense                 |   | 585                   |   | 20,355                |   | 23,904                      |   | 14,764                           |    | —                     |   | 59,608           |   |
|                                     |   |                  |   |                  |   |                        |   |                             |    |                       |   |             |   |
| Income (loss)  from operations           |   | (585                  | )      | 17,591                |   | 17,439                      |   | 6,783                            |    | (88                        | )      | 41,140           |   |
|                                     |   |                  |   |                  |   |                        |   |                             |    |                       |   |             |   |
| Other (income)  expense:                 |   |                  |   |                  |   |                        |   |                             |    |                       |   |             |   |
| Other income                             |   | (50                   | )      | —                |   | (1,194                      | )      | (637                             | )       | —                     |   | (1,881           | )      |
| Interest income                          |   | —                |   | (803                  | )      | (16,743                     | )      | (33                              | )       | 16,672                     |   | (907             | )      |
| Interest expense                         |   | —                |   | 20,035                |   | 10,247                      |   | 573                              |    | (16,672                    | )      | 14,183           |   |
| Other (income)  expense, net:            |   | (50                   | )      | 19,232                |   | (7,690                      | )      | (97                              | )       | —                     |   | 11,395           |   |
|                                     |   |                  |   |                  |   |                        |   |                             |    |                       |   |             |   |
| Income (loss)  before income taxes       |   | (535                  | )      | (1,641                | )      | 25,129                      |   | 6,880                            |    | (88                        | )      | 29,745           |   |
|                                     |   |                  |   |                  |   |                        |   |                             |    |                       |   |             |   |
| Provision for  (benefit of) income taxes |   | (249                  | )      | (522                  | )      | 9,911                       |   | 3,290                            |    | (30                        | )      | 12,400           |   |
|                                     |   |                  |   |                  |   |                        |   |                             |    |                       |   |             |   |
| Net income  (loss)                       |   | $                     | (286   | )                     | $      | (1,119                      | )      | $                                | 15,218  |                       | $      | 3,590            |   | $ | (58 | ) | $ | 17,345 |   |

 

45

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**CONDENSED CONSOLIDATING STATEMENTS OF INCOME**

**YEAR ENDED DECEMBER 31, 2000**

 
|                                     |   | **Guarantor  Parent** |   | **Issuer  of Notes** |   | **Guarantor  Subsidiaries** |   | **Non  Guarantor  Subsidiaries** |    | **Reclass/  Eliminations** |   | **Consolidated** |    |
|------------------------------------------|--------|-----------------------|--------|----------------------|--------|-----------------------------|--------|----------------------------------|---------|----------------------------|--------|------------------|---------|
|                                     |   | **(In  Thousands)**   |   |
| Net sales                                |   | $                     | — |                 | $      | 122,848                     |   | $                                | 152,976 |                       | $      | 68,545           |    | $ | (12,671 | ) | $ | 331,698 |   |
| Cost of sales                            |   | —                |   | 89,758               |   | 104,911                     |   | 44,453                           |    | (12,382                    | )      | $                | 226,740 |   |
|                                     |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |    |
| Gross profit                             |   | —                |   | 33,090               |   | 48,065                      |   | 24,092                           |    | (289                       | )      | 104,958          |    |
|                                     |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |    |
| Operating  expenses:                     |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |    |
| Sales and  marketing                     |   | —                |   | 10,790               |   | 16,873                      |   | 9,795                            |    | (116                       | )      | 37,342           |    |
| General and  administrative              |   | 3,409                 |   | 5,336                |   | 6,628                       |   | 4,321                            |    | —                     |   | 19,694           |    |
| Amortization                             |   | —                |   | 274                  |   | 2,470                       |   | 1,112                            |    | —                     |   | 3,856            |    |
| Other operating  (income) expense        |   | (2,717                | )      | 90                   |   | 2,352                       |   | 1,046                            |    | 116                        |   | 887              |    |
| Non-recurring  charges                   |   | 1,290                 |   | —               |   | 200                         |   | —                           |    | —                     |   | 1,490            |    |
| Total operating  expense                 |   | 1,982                 |   | 16,490               |   | 28,523                      |   | 16,274                           |    | —                     |   | 63,269           |    |
|                                     |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |    |
| Income (loss)  from operations           |   | (1,982                | )      | 16,600               |   | 19,542                      |   | 7,818                            |    | (289                       | )      | 41,689           |    |
|                                     |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |    |
| Other (income)  expense:                 |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |    |
| Other income                             |   | —                |   | —               |   | (1,418                      | )      | (407                             | )       | —                     |   | (1,825           | )       |
| Interest income                          |   | —                |   | (764                 | )      | (18,150                     | )      | (41                              | )       | 17,664                     |   | (1,291           | )       |
| Interest expense                         |   | —                |   | 21,635               |   | 12,757                      |   | 673                              |    | (17,664                    | )      | 17,401           |    |
| Other (income)  expense, net:            |   | —                |   | 20,871               |   | (6,811                      | )      | 225                              |    | —                     |   | 14,285           |    |
|                                     |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |    |
| Income (loss)  before income taxes       |   | (1,982                | )      | (4,271               | )      | 26,353                      |   | 7,593                            |    | (289                       | )      | 27,404           |    |
|                                     |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |    |
| Provision for  (benefit of) income taxes |   | (931                  | )      | (833                 | )      | 9,521                       |   | 2,917                            |    | (174                       | )      | 10,500           |    |
|                                     |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |    |
| Net income  (loss)                       |   | $                     | (1,051 | )                    | $      | (3,438                      | )      | $                                | 16,832  |                       | $      | 4,676            |    | $ | (115 | ) | $ | 16,904 |   |

 

46

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**CONDENSED CONSOLIDATING STATEMENTS OF INCOME**

**YEAR ENDED DECEMBER 31, 2001**

 
|                                                                               |   | **Issuer  of Notes** |   | **Guarantor  Subsidiaries** |   | **Non  Guarantor  Subsidiaries** |   | **Reclass/  Eliminations** |   | **Consolidated** |    |
|------------------------------------------------------------------------------------|--------|----------------------|--------|-----------------------------|--------|----------------------------------|--------|----------------------------|--------|------------------|---------|
|                                                                               |   | **(In  Thousands)**  |   |
| Net sales                                                                          |   | $                    | — |                        | $      | 292,168                          |   | $                          | 70,670 |             | $       | (10,226 | ) | $ | 352,612 |   |
| Cost of sales                                                                      |   | —               |   | 212,028                     |   | 43,724                           |   | (10,638                    | )      | $                | 245,114 |   |
|                                                                               |   |                 |   |                        |   |                             |   |                       |   |             |    |   |
| Gross profit                                                                       |   | —               |   | 80,140                      |   | 26,946                           |   | 412                        |   | 107,498          |    |
|                                                                               |   |                 |   |                        |   |                             |   |                       |   |             |    |
| Operating  expenses:                                                               |   |                 |   |                        |   |                             |   |                       |   |             |    |
| Sales and  marketing                                                               |   | —               |   | 32,186                      |   | 10,185                           |   | (120                       | )      | 42,251           |    |
| General and  administrative                                                        |   | 4,299                |   | 13,210                      |   | 4,660                            |   | (260                       | )      | 21,909           |    |
| Amortization                                                                       |   | 315                  |   | 2,862                       |   | 1,078                            |   | —                     |   | 4,255            |    |
| Other operating  (income) expense                                                  |   | (3,163               | )      | 2,556                       |   | 838                              |   | 380                        |   | 611              |    |
| Total operating  expense                                                           |   | 1,451                |   | 50,814                      |   | 16,761                           |   | —                     |   | 69,026           |    |
|                                                                               |   |                 |   |                        |   |                             |   |                       |   |             |    |
| Income (loss)  from operations                                                     |   | (1,451               | )      | 29,326                      |   | 10,185                           |   | 412                        |   | 38,472           |    |
|                                                                               |   |                 |   |                        |   |                             |   |                       |   |             |    |
| Other (income)  expense:                                                           |   |                 |   |                        |   |                             |   |                       |   |             |    |
| Other income                                                                       |   | (229                 | )      | (1,184                      | )      | (365                             | )      | —                     |   | (1,778           | )       |
| Interest income                                                                    |   | (9,929               | )      | (20,089                     | )      | (81                              | )      | 27,793                     |   | (2,306           | )       |
| Interest expense                                                                   |   | 7,947                |   | 38,421                      |   | 462                              |   | (27,793                    | )      | 19,037           |    |
| Other (income)  expense, net                                                       |   | (2,211               | )      | 17,148                      |   | 16                               |   | —                     |   | 14,953           |    |
|                                                                               |   |                 |   |                        |   |                             |   |                       |   |             |    |
| Income before  income taxes                                                        |   | 760                  |   | 12,178                      |   | 10,169                           |   | 412                        |   | 23,519           |    |
|                                                                               |   |                 |   |                        |   |                             |   |                       |   |             |    |
| Provision for  income taxes                                                        |   | 224                  |   | 4,061                       |   | 3,822                            |   | 143                        |   | 8,250            |    |
|                                                                               |   |                 |   |                        |   |                             |   |                       |   |             |    |
| Net income  before extraordinary loss                                              |   | 536                  |   | 8,117                       |   | 6,347                            |   | 269                        |   | 15,269           |    |
|                                                                               |   |                 |   |                        |   |                             |   |                       |   |             |    |
| Extraordinary  loss on early extinguishment of debt (net of tax benefit of $2,662) |   | 742                  |   | 3,208                       |   | —                           |   | —                     |   | 3,950            |    |
|                                                                               |   |                 |   |                        |   |                             |   |                       |   |             |    |
| Net income  (loss)                                                                 |   | $                    | (206   | )                           | $      | 4,909                            |   | $                          | 6,347  |             | $       | 269 |   | $ | 11,319 |   |

 

47

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**CONDENSED CONSOLIDATING BALANCE SHEETS**

**DECEMBER 31, 2000**

 
|                                                      |   | **Guarantor  Parent** |   | **Issuer  Of Notes** |   | **Guarantor  Subsidiaries** |   | **Non  Guarantor  Subsidiaries** |    | **Reclass/  Eliminations** |   | **Consolidated** |   |
|-----------------------------------------------------------|--------|-----------------------|--------|----------------------|--------|-----------------------------|--------|----------------------------------|---------|----------------------------|--------|------------------|--------|
|                                                      |   | **(In  Thousands)**   |   |
| ASSETS                                                    |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |   |
| Current assets:                                           |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |   |
| Cash                                                      |   | $                     | — |                 | $      | 264                         |   | $                                | 2,398   |                       | $      | 2,327            |   | $ | — |   | $ | 4,989 |   |
| Accounts, notes  and leases receivable, net               |   | —                |   | 38,185               |   | 44,391                      |   | 10,466                           |    | —                     |   | 93,042           |   |
| Inventories                                               |   | —                |   | 48,479               |   | 87,748                      |   | 25,368                           |    | (1,299                     | )      | 160,296          |   |
| Prepaid expenses  and other current assets                |   | 217                   |   | 1,740                |   | 734                         |   | 314                              |    | —                     |   | 3,005            |   |
| Deferred tax  assets                                      |   | —                |   | 2,398                |   | 2,916                       |   | 3,500                            |    | (4,693                     | )      | 4,121            |   |
| Total current  assets                                     |   | 217                   |   | 91,066               |   | 138,187                     |   | 41,975                           |    | (5,992                     | )      | 265,453          |   |
|                                                      |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |   |
| Property, plant  and equipment, net                       |   | 91                    |   | 12,450               |   | 79,668                      |   | 14,206                           |    | —                     |   | 106,415          |   |
| Investment in  subsidiaries                               |   | 71,143                |   | 195,906              |   | 25,449                      |   | —                           |    | (292,498                   | )      | —           |   |
| Other assets,  net                                        |   | 613                   |   | 720                  |   | 16,432                      |   | 4,314                            |    | (1,434                     | )      | 20,645           |   |
| Cost in excess  of fair value of net assets acquired, net |   | —                |   | 8,826                |   | 10,547                      |   | 9,930                            |    | —                     |   | 29,303           |   |
|                                                      |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |   |
| TOTAL ASSETS                                              |   | $                     | 72,064 |                 | $      | 308,968                     |   | $                                | 270,283 |                       | $      | 70,425           |   | $ | (299,924 | ) | $ | 421,816 |   |
|                                                      |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |   |
| LIABILITIES AND  STOCKHOLDERS’ EQUITY                |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |   |
| Current  liabilities:                                     |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |   |
| Current portion  of long-term debt                        |   | $                     | — |                 | $      | —                      |   | $                                | 5,218   |                       | $      | 4,298            |   | $ | — |   | $ | 9,516 |   |
| Accounts payable                                          |   | 142                   |   | 2,598                |   | 6,699                       |   | 1,767                            |    | —                     |   | 11,206           |   |
| Other current  liabilities                                |   | (17,185               | )      | 1,946                |   | 45,871                      |   | 11,017                           |    | (5,796                     | )      | 35,853           |   |
| Total current  liabilities                                |   | (17,043               | )      | 4,544                |   | 57,788                      |   | 17,082                           |    | (5,796                     | )      | 56,575           |   |
|                                                      |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |   |
| Long-term debt                                            |   | 185                   |   | 138,619              |   | 75,090                      |   | —                           |    | —                     |   | 213,894          |   |
| Intercompany                                              |   | 32,776                |   | 80,721               |   | (118,788                    | )      | 5,291                            |    | —                     |   | —           |   |
| Deferred tax  liabilities                                 |   | —                |   | 4,805                |   | 14,473                      |   | 7,038                            |    | —                     |   | 26,316           |   |
| Other non-current  liabilities                            |   | —                |   | —               |   | 682                         |   | 11,824                           |    | (682                       | )      | 11,824           |   |
| Total  liabilities                                        |   | 15,918                |   | 228,689              |   | 29,245                      |   | 41,235                           |    | (6,478                     | )      | 308,609          |   |
|                                                      |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |   |
| Stockholders’  equity                                |   | 56,146                |   | 80,279               |   | 241,038                     |   | 29,190                           |    | (293,446                   | )      | 113,207          |   |
|                                                      |   |                  |   |                 |   |                        |   |                             |    |                       |   |             |   |
| TOTAL  LIABILITIES AND STOCKHOLDERS’ EQUITY          |   | $                     | 72,064 |                 | $      | 308,968                     |   | $                                | 270,283 |                       | $      | 70,425           |   | $ | (299,924 | ) | $ | 421,816 |   |

 

48

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**CONDENSED CONSOLIDATING BALANCE SHEETS**

**DECEMBER 31, 2001**

 
|                                                      |   | **Issuer  Of Notes** |   | **Guarantor  Subsidiaries** |   | **Non  Guarantor  Subsidiaries** |   | **Reclass/  Eliminations** |   | **Consolidated** |   |
|-----------------------------------------------------------|--------|----------------------|--------|-----------------------------|--------|----------------------------------|--------|----------------------------|--------|------------------|--------|
|                                                      |   | **(In  Thousands)**  |   |
| ASSETS                                                    |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Current assets:                                           |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Cash                                                      |   | $                    | — |                        | $      | 1,672                            |   | $                          | 3,229  |             | $      | 644 |   | $ | 5,545 |   |
| Accounts, notes  and leases receivable, net               |   | —               |   | 72,339                      |   | 9,971                            |   | (122                       | )      | 82,188           |   |
| Inventories                                               |   | —               |   | 136,832                     |   | 25,179                           |   | (887                       | )      | 161,124          |   |
| Prepaid expenses  and other current assets                |   | 391                  |   | 3,393                       |   | 700                              |   | —                     |   | 4,484            |   |
| Deferred tax  assets                                      |   | —               |   | 5,539                       |   | 4,639                            |   | (4,542                     | )      | 5,636            |   |
| Total current  assets                                     |   | 391                  |   | 219,775                     |   | 43,718                           |   | (4,907                     | )      | 258,977          |   |
|                                                      |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Property, plant  and equipment, net                       |   | 216                  |   | 90,844                      |   | 12,951                           |   | —                     |   | 104,011          |   |
| Investment in  subsidiaries                               |   | 71,143               |   | 254,961                     |   | —                           |   | (326,104                   | )      | —           |   |
| Other assets,  net                                        |   | 4,938                |   | 14,990                      |   | 3,207                            |   | —                     |   | 23,135           |   |
| Cost in excess  of fair value of net assets acquired, net |   |                 |   | 18,795                      |   | 9,122                            |   | —                     |   | 27,917           |   |
|                                                      |   |                 |   |                        |   |                             |   |                       |   |             |   |
| TOTAL ASSETS                                              |   | $                    | 76,688 |                        | $      | 599,365                          |   | $                          | 68,998 |             | $      | (331,011 | ) | $ | 414,040 |   |
|                                                      |   |                 |   |                        |   |                             |   |                       |   |             |   |
| LIABILITIES AND  STOCKHOLDERS’ EQUITY                |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Current  liabilities:                                     |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Current portion  of long-term debt                        |   | $                    | — |                        | $      | 6,285                            |   | $                          | 1,161  |             | $      | — |   | $ | 7,446 |   |
| Accounts payable                                          |   | 84                   |   | 6,080                       |   | 1,640                            |   | (122                       | )      | 7,682            |   |
| Other current  liabilities                                |   | (15,592              | )      | 41,463                      |   | 13,625                           |   | (5,401                     | )      | 34,095           |   |
| Total current  liabilities                                |   | (15,508              | )      | 53,828                      |   | 16,426                           |   | (5,523                     | )      | 49,223           |   |
|                                                      |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Long-term debt                                            |   | 150,020              |   | 53,093                      |   | —                           |   | 644                        |   | 203,757          |   |
| Intercompany                                              |   | (112,437             | )      | 108,035                     |   | 4,402                            |   | —                     |   | —           |   |
| Deferred tax  liabilities                                 |   | —               |   | 20,882                      |   | 6,236                            |   | —                     |   | 27,118           |   |
| Other  non-current liabilities                            |   | 125                  |   | 1,896                       |   | 11,550                           |   | —                     |   | 13,571           |   |
| Total  liabilities                                        |   | 22,200               |   | 237,734                     |   | 38,614                           |   | (4,879                     | )      | 293,669          |   |
|                                                      |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Stockholders’  equity                                |   | 54,488               |   | 361,631                     |   | 30,384                           |   | (326,132                   | )      | 120,371          |   |
|                                                      |   |                 |   |                        |   |                             |   |                       |   |             |   |
| TOTAL  LIABILITIES AND STOCKHOLDERS’ EQUITY          |   | $                    | 76,688 |                        | $      | 599,365                          |   | $                          | 68,998 |             | $      | (331,011 | ) | $ | 414,040 |   |

 

49

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS**

**YEAR ENDED DECEMBER 31, 1999**

 
|                                                                                     | **Guarantor  Parent** |   | **Issuer  Of Notes** |   | **Guarantor  Subsidiaries** |   | **Non  Guarantor  Subsidiaries** |   | **Reclass/  Eliminations** |   | **Consolidated** |   |
|------------------------------------------------------------------------------------------|-----------------------|--------|----------------------|--------|-----------------------------|--------|----------------------------------|--------|----------------------------|--------|------------------|--------|
|                                                                                     | **(In  Thousands)**   |   |
| Cash flows from  operating   activities:                                                 |                  |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Net income  (loss)                                                                       | $                     | (286   | )                    | $      | (1,119                      | )      | $                                | 15,218 |                       | $      | 3,590            |   | $ | (58 | ) | $ | 17,345 |   |
| Adjustments to  reconcile net   income (loss) to cash flows   from operating activities: |                  |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Depreciation and  amortization                                                           | 42                    |   | 3,303                |   | 5,518                       |   | 2,755                            |   | —                     |   | 11,618           |   |
| Deferred tax  expense (benefit)                                                          | —                |   | 769                  |   | (776                        | )      | (2,072                           | )      | —                     |   | (2,079           | )      |
| Other                                                                                    | —                |   | 112                  |   | 47                          |   | 115                              |   | —                     |   | 274              |   |
| Changes in  operating assets and   liabilities:                                          |                  |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Accounts, notes  and leases   receivable                                                 | —                |   | (4,053               | )      | 240                         |   | (1,215                           | )      | —                     |   | (5,028           | )      |
| Inventories                                                                              | —                |   | (2,945               | )      | (4,148                      | )      | (1,878                           | )      | 88                         |   | (8,883           | )      |
| Prepaid expenses  and other   current assets                                             | (363                  | )      | 22                   |   | 147                         |   | (57                              | )      | —                     |   | (251             | )      |
| Accounts payable                                                                         | 188                   |   | 845                  |   | (821                        | )      | (108                             | )      | —                     |   | 104              |   |
| Other current  liabilities                                                               | (2,347                | )      | (3,011               | )      | 6,511                       |   | 1,149                            |   | (30                        | )      | 2,272            |   |
| Cash flows from  operating   activities                                                  | (2,766                | )      | (6,077               | )      | 21,936                      |   | 2,279                            |   | —                     |   | 15,372           |   |
|                                                                                     |                  |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Cash flows from  investing   activities:                                                 |                  |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Capital  expenditures                                                                    | (46                   | )      | (963                 | )      | (34,113                     | )      | (1,070                           | )      | —                     |   | (36,192          | )      |
| Proceeds from  disposals of   fixed assets                                               | —                |   | —               |   | —                      |   | 138                              |   | —                     |   | 138              |   |
| Business  acquisition, net of   cash acquired                                            | —                |   | —               |   | (2,643                      | )      | —                           |   | —                     |   | (2,643           | )      |
| Changes in other  assets                                                                 | —                |   | 174                  |   | (789                        | )      | —                           |   | —                     |   | (615             | )      |
| Cash flows from  investing   activities                                                  | (46                   | )      | (789                 | )      | (37,545                     | )      | (932                             | )      | —                     |   | (39,312          | )      |
|                                                                                     |                  |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Cash flows from  financing   activities:                                                 |                  |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Borrowing under  lines of credit                                                         | —                |   | 122,393              |   | 165,893                     |   | 1,429                            |   | —                     |   | 289,715          |   |
| Repayment under  lines of credit                                                         | (31                   | )      | (122,393             | )      | (164,468                    | )      | —                           |   | (954                       | )      | (287,846         | )      |
| Proceeds from  issuance of   long-term debt                                              | —                |   | —               |   | 22,500                      |   | —                           |   | —                     |   | 22,500           |   |
| Repayment of  long-term debt                                                             | —                |   | —               |   | (214                        | )      | (832                             | )      | —                     |   | (1,046           | )      |
| Proceeds from  issuance of   stock                                                       | 786                   |   | —               |   | —                      |   | —                           |   | —                     |   | 786              |   |
| Purchase of  treasury stock                                                              | (7,805                | )      | —               |   | —                      |   | —                           |   | —                     |   | (7,805           | )      |
| Intercompany  dividends                                                                  | —                |   | 1,095                |   | 4,800                       |   | (5,895                           | )      | —                     |   | —           |   |
| Intercompany  transactions                                                               | 9,862                 |   | 4,648                |   | (18,359                     | )      | 3,849                            |   | —                     |   | —           |   |
| Cash flows from  financing   activities:                                                 | 2,812                 |   | 5,743                |   | 10,152                      |   | (1,449                           | )      | (954                       | )      | 16,304           |   |
|                                                                                     |                  |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Effect of  exchange rate changes   on cash                                               | —                |   | —               |   | —                      |   | (160                             | )      | —                     |   | (160             | )      |
|                                                                                     |                  |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Decrease in cash                                                                         | —                |   | (1,123               | )      | (5,457                      | )      | (262                             | )      | (954                       | )      | (7,796           | )      |
| Cash, beginning  of period                                                               | —                |   | 2,998                |   | 8,048                       |   | 1,414                            |   | —                     |   | 12,460           |   |
|                                                                                     |                  |   |                 |   |                        |   |                             |   |                       |   |             |   |
| Cash, end of  period                                                                     | $                     | — |                 | $      | 1,875                       |   | $                                | 2,591  |                       | $      | 1,152            |   | $ | (954 | ) | $ | 4,664 |   |

 

50

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS**

**YEAR ENDED DECEMBER 31, 2000**

 

** **
|                                                                                     | **Guarantor  Parent** |   | **Issuer  Of Notes** |    | **Guarantor  Subsidiaries** |   | **Non  Guarantor  Subsidiaries** |   | **Reclass/  Eliminations** |   | **Consolidated** |   |   |
|------------------------------------------------------------------------------------------|-----------------------|--------|----------------------|---------|-----------------------------|--------|----------------------------------|--------|----------------------------|--------|------------------|--------|--------|
|                                                                                     | **(In  Thousands)**   |   |                 |
| Cash flows from  operating   activities:                                                 |                  |   |                 |    |                        |   |                             |   |                       |   |             |   |   |
| Net income  (loss)                                                                       | $                     | (1,051 | )                    | $       | (3,438                      | )      | $                                | 16,832 |                       | $      | 4,676            |   | $      | (115 | ) | $ | 16,904 |   |
| Adjustments to  reconcile net   income (loss) to cash flows   from operating activities: |                  |   |                 |    |                        |   |                             |   |                       |   |             |   |   |
| Depreciation and  amortization                                                           | 46                    |   | 2,742                |    | 6,993                       |   | 2,561                            |   | —                     |   | 12,342           |   |   |
| Deferred tax  expense (benefit)                                                          | —                |   | 527                  |    | (443                        | )      | (2,433                           | )      | —                     |   | (2,349           | )      |   |
| Other                                                                                    | 1                     |   | 251                  |    | 14                          |   | (26                              | )      | —                     |   | 240              |   |   |
| Changes in  operating assets and   liabilities:                                          |                  |   |                 |    |                        |   |                             |   |                       |   |             |   |   |
| Accounts, notes  and leases   receivable                                                 | —                |   | 2,702                |    | 2,453                       |   | (416                             | )      | —                     |   | 4,739            |   |   |
| Inventories                                                                              | —                |   | (6,936               | )       | (12,257                     | )      | (1,338                           | )      | 289                        |   | (20,242          | )      |   |
| Prepaid expenses  and other   current assets                                             | 270                   |   | (275                 | )       | 326                         |   | 44                               |   | —                     |   | 365              |   |   |
| Accounts payable                                                                         | (46                   | )      | 48                   |    | 1,532                       |   | 627                              |   | —                     |   | 2,161            |   |   |
| Other current  liabilities                                                               | (3,884                | )      | (5,932               | )       | 6,544                       |   | 2,551                            |   | (174                       | )      | (895             | )      |   |
| Cash flows from  operating   activities                                                  | $                     | (4,664 | )                    | (10,311 | )                           | 21,994 |                             | 6,246  |                       | — |             | 13,265 |   |   |
|                                                                                     |                  |   |                 |    |                        |   |                             |   |                       |   |             |   |   |
| Cash flows from  investing   activities:                                                 |                  |   |                 |    |                        |   |                             |   |                       |   |             |   |   |
| Capital  expenditures                                                                    | (35                   | )      | (2,107               | )       | (4,601                      | )      | (1,147                           | )      | —                     |   | (7,890           | )      |   |
| Proceeds from  disposals of   fixed assets                                               | —                |   | 14                   |    | 376                         |   | 121                              |   | —                     |   | 511              |   |   |
| Business  acquisition, net of   cash acquired                                            | —                |   | (26,519              | )       | (57,708                     | )      | (2,340                           | )      | —                     |   | (86,567          | )      |   |
| Changes in other  assets                                                                 | —                |   | 148                  |    | —                      |   | —                           |   | —                     |   | 148              |   |   |
| Cash flows from  investing   activities                                                  | (35                   | )      | (28,464              | )       | (61,933                     | )      | (3,366                           | )      | —                     |   | (93,798          | )      |   |
|                                                                                     |                  |   |                 |    |                        |   |                             |   |                       |   |             |   |   |
| Cash flows from  financing   activities:                                                 |                  |   |                 |    |                        |   |                             |   |                       |   |             |   |   |
| Borrowing under  lines of credit                                                         | —                |   | 159,828              |    | 167,704                     |   | —                           |   | 954                        |   | 328,486          |   |   |
| Repayment under  lines of credit                                                         | (19                   | )      | (131,208             | )       | (154,863                    | )      | (1,099                           | )      | —                     |   | (287,189         | )      |   |
| Proceeds from  issuance of   long-term debt                                              | —                |   | —               |    | 45,000                      |   | —                           |   | —                     |   | 45,000           |   |   |
| Repayment of  long-term debt                                                             | —                |   | —               |    | (1,261                      | )      | (720                             | )      | —                     |   | (1,981           | )      |   |
| Debt issuance  costs                                                                     | —                |   | —               |    | (3,920                      | )      | (22                              | )      | —                     |   | (3,942           | )      |   |
| Proceeds from  issuance of   stock                                                       | 693                   |   | —               |    | —                      |   | —                           |   | —                     |   | 693              |   |   |
| Purchase of  treasury stock                                                              | (483                  | )      | —               |    | —                      |   | —                           |   | —                     |   | (483             | )      |   |
| Intercompany  dividends                                                                  | —                |   | —               |    | 450                         |   | (450                             | )      | —                     |   | —           |   |   |
| Intercompany  transactions                                                               | 4,508                 |   | 8,544                |    | (13,364                     | )      | 312                              |   | —                     |   | —           |   |   |
| Cash flows from  financing   activities:                                                 | 4,699                 |   | 37,164               |    | 39,746                      |   | (1,979                           | )      | 954                        |   | 80,584           |   |   |
|                                                                                     |                  |   |                 |    |                        |   |                             |   |                       |   |             |   |   |
| Effect of  exchange rate changes   on cash                                               | —                |   | —               |    | —                      |   | 274                              |   | —                     |   | 274              |   |   |
|                                                                                     |                  |   |                 |    |                        |   |                             |   |                       |   |             |   |   |
| Increase  (decrease) in cash                                                             | —                |   | (1,611               | )       | (193                        | )      | 1,175                            |   | 954                        |   | 325              |   |   |
| Cash, beginning  of period                                                               | —                |   | 1,875                |    | 2,591                       |   | 1,152                            |   | (954                       | )      | 4,664            |   |   |
|                                                                                     |                  |   |                 |    |                        |   |                             |   |                       |   |             |   |   |
| Cash, end of  period                                                                     | $                     | — |                 | $       | 264                         |   | $                                | 2,398  |                       | $      | 2,327            |   | $      | — |   | $ | 4,989 |   |   |
|                                                                                          |                       |        |                      |         |                             |        |                                  |        |                            |        |                  |        |        |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

51

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS**

**YEAR ENDED DECEMBER 31, 2001**

** **
|                                                                                     | **Issuer  Of Notes** |   | **Guarantor  Subsidiaries** |   | **Non  Guarantor  Subsidiaries** |   | **Reclass/  Eliminations** |   | **Consolidated** |   |
|------------------------------------------------------------------------------------------|----------------------|--------|-----------------------------|--------|----------------------------------|--------|----------------------------|--------|------------------|--------|
|                                                                                     | **(In  Thousands)**  |   |
| Cash flows from  operating   activities:                                                 |                 |   |                        |   |                             |   |                       |   |             |   |
| Net income  (loss)                                                                       | $                    | (206   | )                           | $      | 4,828                            |   | $                          | 6,428  |             | $      | 269 |   | $ | 11,319 |   |
| Adjustments to  reconcile net   income (loss) to cash flows   from operating activities: |                 |   |                        |   |                             |   |                       |   |             |   |
| Depreciation and  amortization                                                           | 373                  |   | 10,842                      |   | 2,588                            |   | —                     |   | 13,803           |   |
| Deferred tax  expense (benefit)                                                          | —               |   | 1,879                       |   | (1,682                           | )      | (1,618                     | )      | (1,421           | )      |
| Other                                                                                    | 4                    |   | 216                         |   | 211                              |   | —                     |   | 431              |   |
| Changes in  operating assets   and liabilities:                                          |                 |   |                        |   |                             |   |                       |   |             |   |
| Accounts, notes  and leases   receivable                                                 | —               |   | 10,077                      |   | (335                             | )      | 122                        |   | 9,864            |   |
| Inventories                                                                              | —               |   | (1,415                      | )      | (1,693                           | )      | (412                       | )      | (3,520           | )      |
| Prepaid expenses  and other   current assets                                             | (298                 | )      | (1,214                      | )      | (370                             | )      | (651                       | )      | (2,533           | )      |
| Accounts payable                                                                         | (58                  | )      | (3,217                      | )      | (43                              | )      | (122                       | )      | (3,440           | )      |
| Other current  liabilities                                                               | 502                  |   | (8,763                      | )      | 3,614                            |   | 2,409                      |   | (2,238           | )      |
| Cash flows from  operating   activities                                                  | 1,533                |   | 18,629                      |   | 8,718                            |   | (3                         | )      | 28,877           |   |
|                                                                                     |                 |   |                        |   |                             |   |                       |   |             |   |
| Cash flows from  investing   activities:                                                 |                 |   |                        |   |                             |   |                       |   |             |   |
| Capital  expenditures                                                                    | (187                 | )      | (6,195                      | )      | (759                             | )      | —                     |   | (7,141           | )      |
| Proceeds from  disposals of   fixed assets                                               | —               |   | 243                         |   | —                           |   | —                     |   | 243              |   |
| Changes in other  assets                                                                 | (5                   | )      | (1,088                      | )      | —                           |   | 3                          |   | (1,090           | )      |
| Capital  contribution to subsidiary                                                      | —               |   | (419                        | )      | 419                              |   | —                     |   | —           |   |
| Cash flows from  investing   activities                                                  | (192                 | )      | (7,459                      | )      | (340                             | )      | 3                          |   | (7,988           | )      |
|                                                                                     |                 |   |                        |   |                             |   |                       |   |             |   |
| Cash flows from  financing   activities:                                                 |                 |   |                        |   |                             |   |                       |   |             |   |
| Borrowing under  lines of credit                                                         | —               |   | 299,825                     |   | —                           |   | 644                        |   | 300,469          |   |
| Repayment under  lines of credit                                                         | (165                 | )      | (343,391                    | )      | (2,514                           | )      | —                     |   | (346,070         | )      |
| Proceeds from  issuance of   long-term debt                                              | 150,000              |   | —                      |   | —                           |   | —                     |   | 150,000          |   |
| Repayment of  long-term debt                                                             | —               |   | (118,497                    | )      | (350                             | )      | —                     |   | (118,847         | )      |
| Debt issuance  costs                                                                     | (4,516               | )      | —                      |   | —                           |   | —                     |   | (4,516           | )      |
| Proceeds from  issuance   of stock                                                       | 454                  |   | —                      |   | —                           |   | —                     |   | 454              |   |
| Purchase of  treasury stock                                                              | (1,901               | )      | —                      |   | —                           |   | —                     |   | (1,901           | )      |
| Intercompany  dividends                                                                  | —               |   | 3,801                       |   | (3,801                           | )      | —                     |   | —           |   |
| Intercompany  transactions                                                               | (145,213             | )      | 146,102                     |   | (889                             | )      | —                     |   | —           |   |
| Cash flows from   financing activities:                                                  | (1,341               | )      | (12,160                     | )      | (7,554                           | )      | 644                        |   | (20,411          | )      |
|                                                                                     |                 |   |                        |   |                             |   |                       |   |             |   |
| Effect of  exchange rate changes   on cash                                               | —               |   | —                      |   | 78                               |   | —                     |   | 78               |   |
|                                                                                     |                 |   |                        |   |                             |   |                       |   |             |   |
| Increase  (decrease) in cash                                                             | —               |   | (990                        | )      | 902                              |   | 644                        |   | 556              |   |
| Cash, beginning  of period                                                               | —               |   | 2,662                       |   | 2,327                            |   | —                     |   | 4,989            |   |
|                                                                                     |                 |   |                        |   |                             |   |                       |   |             |   |
| Cash, end of  period                                                                     | $                    | — |                        | $      | 1,672                            |   | $                          | 3,229  |             | $      | 644 |   | $ | 5,545 |   |

 

52

----

**(20)   Quarterly Financial Data (Unaudited)**

 

The following is asummary of unaudited results of operations for the years ended December 31,2000 and 2001.

 
|                      |   | **Year Ended  December 31, 2000**                  |   |
|---------------------------|--------|----------------------------------------------------|--------|
|                      |   | **First  Quarter**                                 |   | **Second Quarter** |   | **Third Quarter** |   | **Fourth Quarter** |   |
|                      |   | **(in thousands except share and per share data)** |   |
| Net sales                 |   | $                                                  | 87,775 |   | $ | 77,824 |   | $ | 75,702 |   | $ | 90,397 |   |
| Gross profit              |   | 26,604                                             |   | 24,934 |   | 23,442 |   | 29,978 |   |
| Net income                |   | 5,207                                              |   | 4,513 |   | 2,800 |   | 4,384 |   |
|                      |   |                                               |   |   |   |   |   |   |   |
| Basic income per  share   |   | $                                                  | 0.58   |   | $ | 0.51 |   | $ | 0.31 |   | $ | 0.49 |   |
| Diluted income  per share |   | 0.58                                               |   | 0.51 |   | 0.31 |   | 0.49 |   |
|                      |   |                                               |   |   |   |   |   |   |   |
| Weighted average  shares: |   |                                               |   |   |   |   |   |   |   |
| Basic                     |   | 8,924,535                                          |   | 8,906,604 |   | 8,921,724 |   | 8,931,500 |   |
| Diluted                   |   | 8,934,965                                          |   | 8,906,606 |   | 8,921,724 |   | 8,931,500 |   |

 
|                                                |   | **Year Ended December 31, 2001** |    |
|-----------------------------------------------------|--------|----------------------------------|---------|
| Net sales                                           |   | $                                | 101,581 |   | $ | 83,661 |   | $ | 82,885 |   | $ | 84,485 |   |
| Gross profit                                        |   | 31,709                           |    | 27,064 |   | 24,309 |   | 24,416 |   |
| Net income  before extraordinary item               |   | 5,200                            |    | 3,701 |   | 2,514 |   | 3,854 |   |
| Extraordinary  loss on early extinguishment of debt |   | —                           |    | 3,950 |   | — |   | — |   |
| Net income                                          |   | 5,200                            |    | (249 | ) | 2,514 |   | 3,854 |   |
|                                                |   |                             |    |   |   |   |   |   |   |
| Basic income per  share before extraordinary item   |   | $                                | 0.58    |   | $ | 0.41 |   | $ | 0.28 |   | $ | 0.43 |   |
| Extraordinary  loss on early extinguishment of debt |   | —                           |    | $ | (0.44 | ) | $ | — |   | $ | — |   |
| Basic income per  share                             |   | $                                | 0.58    |   | $ | (0.03 | ) | $ | 0.28 |   | $ | 0.43 |   |
|                                                |   |                             |    |   |   |   |   |   |   |
| Diluted income  per share before extraordinary item |   | $                                | 0.58    |   | $ | 0.41 |   | $ | 0.28 |   | $ | 0.43 |   |
| Extraordinary  loss on early extinguishment of debt |   | —                           |    | $ | (0.44 | ) | $ | — |   | $ | — |   |
| Diluted income  per share                           |   | $                                | 0.58    |   | $ | (0.03 | ) | $ | 0.28 |   | $ | 0.43 |   |
|                                                |   |                             |    |   |   |   |   |   |   |
| Weighted average  shares:                           |   |                             |    |   |   |   |   |   |   |
| Basic                                               |   | 8,931,500                        |    | 8,931,500 |   | 8,947,342 |   | 8,901,657 |   |
| Diluted                                             |   | 8,931,500                        |    | 8,931,500 |   | 8,947,342 |   | 8,901,657 |   |

 

53

----

 

**STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES**

**SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS**

 
|                                                |   | **Balance at  Beginning of  Year** |   | **Additions  Charged to  Costs and Expenses** |   | **Deductions  and Other  (see Note 1)** |      | **Balance at  End of Year** |   |
|-----------------------------------------------------|--------|------------------------------------|--------|-----------------------------------------------|--------|-----------------------------------------|-----------|-----------------------------|--------|
|                                                |   | **(In  Thousands)**                |   |
| Reserves  deducted from assets to which they apply: |   |                               |   |                                          |   |                                    |      |                        |   |
| Allowance for  doubtful accounts:                   |   |                               |   |                                          |   |                                    |      |                        |   |
| Year ended December  31, 1999                       |   | $                                  | 7,512  |                                          | $      | 209                                     |      | $                           | (956   | )(2) | $ | 6,765 |   |
| Year ended  December 31, 2000                       |   | 6,765                              |   | 4,394                                         | (3)    | 218                                     |  (2) | 11,377                      |   |
| Year ended  December 31, 2001                       |   | 11,377                             |   | 362                                           |   | (830                                    | )(2)      | 10,909                      |   |
|                                                |   |                               |   |                                          |   |                                    |      |                        |   |
| Inventory  obsolescence:                            |   |                               |   |                                          |   |                                    |      |                        |   |
| Year ended  December 31, 1999                       |   | 3,912                              |   | 450                                           |   | (531                                    | )         | 3,831                       |   |
| Year ended  December 31, 2000                       |   | 3,831                              |   | 171                                           |   | (259                                    | )         | 3,743                       |   |
| Year ended  December 31, 2001                       |   | 3,743                              |   | 1,086                                         |   | (301                                    | )         | 4,528                       |   |
|                                                |   |                               |   |                                          |   |                                    |      |                        |   |
| Reserves  included in other current liabilities:    |   |                               |   |                                          |   |                                    |      |                        |   |
| Accrued warranty  expense:                          |   |                               |   |                                          |   |                                    |      |                        |   |
| Year ended  December 31, 1999                       |   | 2,347                              |   | 805                                           |   | (822                                    | )         | 2,330                       |   |
| Year ended  December 31, 2000                       |   | 2,330                              |   | 841                                           | (4)    | (816                                    | )         | 2,355                       |   |
| Year ended  December 31, 2001                       |   | 2,355                              |   | 932                                           |   | (1,066                                  | )         | 2,221                       |   |
|                                                |   |                               |   |                                          |   |                                    |      |                        |   |
| Reserves for  notes sold with recourse:             |   |                               |   |                                          |   |                                    |      |                        |   |
| Year ended  December 31, 1999                       |   | 1,435                              |   | —                                        |   | 8                                       |      | 1,443                       |   |
| Year ended  December 31, 2000                       |   | 1,443                              |   | —                                        |   | (340                                    | )         | 1,103                       |   |
| Year ended  December 31, 2001                       |   | 1,103                              |   | —                                        |   | (254                                    | )         | 849                         |   |
|                                                     |        |                                    |        |                                               |        |                                         |           |                             |        |  |  |  |  |  |  |  |  |

 

----

Note:      (1)  Includes foreign currency translation adjustments

(2)  Represents accounts written off, net ofrecoveries; and reclassifications to and from other accounts

(3)  Includes$4,200 related to acquisitions during the year

(4)  Includes$40 related to acquisitions during the year

 

54

----

 
| **ITEM 9** | **CHANGES  IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND** |
|------------|----------------------------------------------------------------------|
|       | **FINANCIAL****DISCLOSURE**                                          |

 

Not applicable.

 

**PART III**

 

**ITEM 10****                         DIRECTORSAND EXECUTIVE OFFICERS OF THE REGISTRANT**

 

The information called for by this item is herebyincorporated by reference to the Registrant’s definitive Proxy Statement forthe fiscal year ended December 31, 2001, which Proxy Statement will be filedwith the Securities and Exchange Commission no later than 120 days after theend of the fiscal year covered by this report.

 

**ITEM 11****                         EXECUTIVECOMPENSATION**

 

The information called for by this item is herebyincorporated by reference to the Registrant’s definitive Proxy Statement forthe fiscal year ended December 31, 2001, which Proxy Statement will be filedwith the Securities and Exchange Commission no later than 120 days after theend of the fiscal year covered by this report.

 

**ITEM 12****                         SECURITYOWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT**

 

The information called for by this item is hereby incorporatedby reference to the Registrant’s definitive Proxy Statement for the fiscal yearended December 31, 2001, which Proxy Statement will be filed with theSecurities and Exchange Commission no later than 120 days after the end of thefiscal year covered by this report.

 

**ITEM 13****                         CERTAINRELATIONSHIPS AND RELATED TRANSACTIONS**

 

The information called for by this item is herebyincorporated by reference to the Registrant’s definitive Proxy Statement forthe fiscal year ended December 31, 2001, which Proxy Statement will be filedwith the Securities and Exchange Commission no later than 120 days after theend of the fiscal year covered by this report.

 

55

----

 

**PART IV**

 

**ITEM 14****                         EXHIBITS,FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K**

 

(a)                                  Thefollowing documents are filed as a part of this report:

 
| (1)    | Financial  Statements                                                                                       |
|--------|-------------------------------------------------------------------------------------------------------------|
|   |                                                                                                        |
|   | Independent Auditors’ Report                                                                           |
|   | Consolidated Statements  of Income Years Ended December 31, 1999, 2000 and 2001                             |
|   | Consolidated Balance Sheets  as of December 31, 2000 and 2001                                               |
|   | Consolidated  Statements of Cash Flows for the Years Ended December 31, 1999, 2000 and 2001                 |
|   | Consolidated  Statements of Stockholders’ Equity for the Years Ended December 31, 1999,  2000 and 2001 |
|   | Notes to  Consolidated Financial Statements                                                                 |
|   | Schedule  II - Valuation and Qualifying Accounts                                                            |

 

(3)                                  Exhibits:   The Exhibits listed below are filed as partof, or incorporated by reference into, this Report.

 
| **Exhibit  No.** |            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |
|------------------|-----------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|
|             | **Description** |                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 2.1              |            | Stock Purchase  Agreement dated as of July 20, 2000, by and among Steinway Musical  Instruments, Inc. and BIM Holding AG with respect to all the capital stock of  United Musical Instruments Holdings, Inc.   (8)                                                                                                                                                                                                                                                     |   |
| 3.1              |            | Restated Certificate of Incorporation of  Registrant  (6)                                                                                                                                                                                                                                                                                                                                                                                                              |   |
| 3.2              |            | Bylaws of Registrant  (4)                                                                                                                                                                                                                                                                                                                                                                                                                                              |   |
| 3.3              |            | Amendment No. 1 to Bylaws of Registrant  (4)                                                                                                                                                                                                                                                                                                                                                                                                                           |   |
| 4.1              |            | Second Amended and Restated Credit Agreement, dated  as of September 14, 2000, among The Selmer Company, Inc., Steinway, Inc., and  United Musical Instruments USA, Inc., as borrowers; certain wholly owned  subsidiaries of the borrowers (as may be amended from time to time), as  guarantors; the several lenders from time to time parties thereto; and GMAC  Commercial Credit LLC, as Administrative Agent  (9)                                                |   |
| 4.2              |            | First Amendment to Second Amended and Restated  Credit Agreement, dated as of March 2, 2001, to the Existing Credit  Agreement, by and among The Selmer Company, Inc., Steinway, Inc., United  Musical Instruments USA, Inc., as borrowers; certain wholly owned  subsidiaries of the borrowers (as may be amended from time to time), as  guarantors; the several lenders from time to time parties thereto; and GMAC  Commercial Credit LLC, as Administrative Agent (13) |   |

 

56

----

 
| 4.3  |   | Second Amendment to the Second Amended and Restated  Credit Agreement dated as of April 19, 2001 among Selmer Company, Inc.,  Steinway, Inc. and United Musical Instruments USA, Inc., as borrowers:  certain wholly owned subsidiaries of the borrowers (as may be amended from  time to time), as guarantors; the several lenders from time to time parties  thereto; and GMAC Commercial Credit LLC, as Administrative Agent (10) |   |   |
|------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------|
| 4.4  |   | Third Amendment to the Second Amended and Restated  Credit Agreement dated as of August 31, 2001 among Selmer Company, Inc.,  Steinway, Inc. and United Musical Instruments USA, Inc., as borrowers:  certain wholly owned subsidiaries of the borrowers (as may be amended from  time to time), as guarantors; the several lenders from time to time parties  thereto; and GMAC Commercial Credit LLC, as Administrative Agent (11) |   |   |
| 4.5  |   | Registration Rights Agreement, dated as of August 9,  1993, among Selmer Industries, Inc. and the purchasers of certain equity  securities  (1)                                                                                                                                                                                                                                                                                 |   |   |
| 4.6  |   | Indenture, dated as of May 25, 1995, among The  Selmer Company, Inc., Selmer Industries, Inc., Steinway Musical Properties,  Inc., Steinway, Inc., Boston Piano Company, Inc. and American Bank National  Association, as trustee, including the forms of Notes and the Guarantee  thereon  (2)                                                                                                                                 |   |   |
| 4.7  |   | Supplemental Indenture dated as of September 14,  2000, by and among United Musical Instruments Holdings, Inc., United Musical  Instruments USA, Inc. and Firstar Bank of Minnesota, N.A., as successor  trustee  (9)                                                                                                                                                                                                           |   |   |
| 4.8  |   | Indenture, dated as of April 19, 2001, among  Steinway Musical Instruments, Inc., the subsidiary guarantors named therein  and UBS Warburg, LLC, as the initial purchaser  (12)                                                                                                                                                                                                                                                 |   |   |
| 4.9  |   | Exchange Registration Rights agreement, dated as of  May 25, 1995, by and among The Selmer Company, Inc., Selmer Industries, Inc.,  Steinway Musical Properties, Inc., Steinway, Inc., Boston Piano Company, Inc.  and Donaldson, Lufkin  & Jenrette  Corporation  (2)                                                                                                                                                 |   |   |
| 10.1 |   | Employment Agreement, dated as of June 22, 1993,  between The Selmer Company, Inc. and Thomas Burzycki  (1)                                                                                                                                                                                                                                                                                                                     |   |   |
| 10.2 |   | Employment Agreement, dated May 8, 1989, between  Steinway Musical Properties, Inc. and Thomas Kurrer  (3)                                                                                                                                                                                                                                                                                                                      |   |   |
| 10.3 |   | Employment Agreement, dated as of May 1, 1995,  between Steinway Musical Properties, Inc. and Bruce Stevens  (3)                                                                                                                                                                                                                                                                                                                |   |   |
| 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 May 1, 1995,  between Steinway Musical Properties, Inc. and Dennis Hanson  (3)                                                                                                                                                                                                                                                                                                                |   |   |
| 10.6 |   | Employment Agreement Renewal and Amendment dated  January 1, 1997 by and between Steinway Musical Instruments, Inc. and Dennis  Hanson  (6)                                                                                                                                                                                                                                                                                     |   |   |
| 10.7 |   | Employment Agreement, dated as of January 4, 1999,  between the Registrant and Dana Messina   (7)                                                                                                                                                                                                                                                                                                                               |   |   |
| 10.8 |   | Employment Agreement, dated as of January 4, 1999,  between the Registrant and Kyle Kirkland   (7)                                                                                                                                                                                                                                                                                                                              |   |   |

 

57

----

 
| 10.9  |   | Environmental Indemnification and Non-Competition  Agreement, dated as of August 9, 1993, between The Selmer Company, Inc. and  Philips Electronics North American Corporation  (1) |   |   |
|-------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------|
| 10.10 |   | Master Note Purchase and Repurchase Agreement dated  August 1, 2001, by and between Textron Financial Corporation and The Selmer  Company, Inc.                                          |   |   |
| 10.11 |   | Distribution Agreement, dated November 1, 1952, by  and between H. & A. Selmer, Inc. and Henri Selmer & Cie  (1)                                                            |   |   |
| 10.12 |   | 1996 Stock Plan of the Registrant  (4)                                                                                                                                              |   |   |
| 10.13 |   | 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)      |   |   |
| 10.14 |   | The Deferred  Compensation Incentive Plan for Steinway Musical Instruments, Inc. effective  January 1, 2001  (13)                                                                   |   |   |
| 21.1  |   | List of Subsidiaries of the Registrants                                                                                                                                                  |   |   |
| 23.1  |   | Independent Auditors’ Consent - Deloitte &  Touche LLP                                                                                                                          |   |   |

 

----

(1)                                  Previouslyfiled with the Commission on February 8, 1994 as an exhibit to the Registrant’sRegistration Statement on 

                Form S-1.

 

(2)                                  Previouslyfiled with the Commission on June 7, 1995 as an exhibit to the Registrant’sCurrent Report on Form 8-K.

 

(3)                                  Previouslyfiled with the Commission on June 7, 1995 as an exhibit to the Registrant’sRegistration Statement on Form S-4.

 

(4)                                  Previouslyfiled with the Commission on May 14, 1996 as an exhibit to the Registrant’sRegistration Statement on Form S-1.

 

(5)                                  Previouslyfiled with the Commission on July 25, 1996 as an exhibit to the Registrant’sAmendment No. 2 to Registration                 Statementon Form S-1.

 

(6)                                  Previouslyfiled with the Commission on March 27, 1997 as an exhibit to the Registrant’sAnnual Report on Form 10-K.

 

(7)                                  Previouslyfiled with the Commission on August 16, 1999 as an exhibit to the Registrant’sQuarterly Report on Form 10-Q.

 

(8)                                  Previouslyfiled with the Commission on July 27, 2000 as an exhibit to the Registrant’sCurrent Report on Form 8-K.

 

(9)                                  Previouslyfiled with the Commission on September 29, 2000 as an exhibit to theRegistrant’s Current Report on Form 8-K.

 

(10)                            Previouslyfiled with the Commission on August 14, 2001 as an exhibit to the Registrant’sQuarterly Report on Form 10-Q.

 

(11)                            Previouslyfiled with the Commission on November 13, 2001 as an exhibit to theRegistrant’s Quarterly Report on

                 Form 10-Q.

 

58

----

(12)                            Previouslyfiled with the Commission on June 12, 2001 as an exhibit to the Registrant’sRegistration Statement on Form S-4.

 

(13)                            Previouslyfiled with the Commission on March 28, 2001 as an exhibit to the Registrant'sAnnual Report on Form 10-K.

 

(b)           Reports on Form 8-K

 

                The Company didnot file any reports on Form 8-K during the quarter ended December 31, 2001.

 

59

----

 

 

SIGNATURES

 

Pursuant to the requirements of Section 13 or 15(d) ofthe Securities Exchange Act of 1934, the Registrant has duly caused this reportto be signed on its behalf by the undersigned, thereunto duly authorized.

 

 
|           |   |   | STEINWAY MUSICAL INSTRUMENTS, INC. |
|----------------|--------|--------|------------------------------------|
|           |   |   |                               |   |   |
|           |   |   |                               |   |   |
| March 28, 2002 |   |   | By                                 | /s/  Dana D.  Messina |   |
| (Date)         |   |   | Dana D. Messina                    |   |   |
|                |        |        |                                    |  |  |  |

 

Pursuant to the requirements of the SecuritiesExchange Act of 1934, this report has been signed by the following persons onbehalf of the registrant and in the capacities and on the dates indicated:

 
| **Signature**                 |   | **Title**                             |   |           |
|-------------------------------|--------|---------------------------------------|--------|----------------|
|                          |   |                                  |   |           |
| /s/  Dana D.  Messina    |   | Director and Chief  Executive Officer |   | March 28, 2002 |
| Dana D. Messina               |   | (Principal Executive  Officer)        |   |           |
|  

                 |   |                                  |   |           |
| /s/  Dennis  M. Hanson   |   | Chief Financial Officer               |   | March 28, 2002 |
| Dennis M. Hanson              |   | (Principal Financial  Officer)        |   |           |
|  

                 |   |                                  |   |           |
| /s/  Michael  R. Vickrey |   | Executive Vice  President             |   | March 28, 2002 |
| Michael R. Vickrey            |   | (Principal Accounting  Officer)       |   |           |
|  

                 |   |                                  |   |           |
| /s/  Kyle R.  Kirkland   |   | Chairman of the Board                 |   | March 28, 2002 |
| Kyle R. Kirkland              |   |                                  |   |           |
|  

                 |   |                                  |   |           |
| /s/  Thomas  T. Burzycki |   | Director                              |   | March 28, 2002 |
| Thomas T. Burzycki            |   |                                  |   |           |
|  

                 |   |                                  |   |           |
| /s/  Bruce A.  Stevens   |   | Director                              |   | March 28, 2002 |
| Bruce A. Stevens              |   |                                  |   |           |
|  

                 |   |                                  |   |           |
| /s/  Peter  McMillan     |   | Director                              |   | March 28, 2002 |
| Peter McMillan                |   |                                  |   |           |

 

60

----

 
| /s/  A.  Clinton Allen   |   | Director |   | March 28, 2002 |
|-------------------------------|--------|----------|--------|----------------|
| A. Clinton Allen              |   |     |   |           |
|                          |   |     |   |           |
|                          |   |     |   |           |
| /s/  Rudolph  K. Kluiber |   | Director |   | March 28, 2002 |
| Rudolph K. Kluiber            |   |     |   |           |

 

61

----