Introduction

We are a world leader in the design, manufacture, marketing, and distribution of high quality musical instruments. Our piano division concentrates on the high-end grand piano segment of the industry, handcrafting Steinway pianos in New York and Germany. We also offer upright pianos and two mid-priced lines of pianos under the Boston and Essex brand names. We are also the largest domestic producer of band and orchestral instruments and offer a complete line of brass, woodwind, percussion and string instruments and related accessories with well-known brand names such as Bach, Selmer, C.G. Conn, Leblanc, King, and Ludwig. We sell our products through dealers and distributors worldwide. Our piano customer base consists of professional artists, amateur pianists, and institutions such as concert halls, universities, and music schools. Our band and orchestral instrument customer base consists primarily of middle school and high school students, but also includes adult amateur and professional musicians. In May 2008, we acquired ArkivMusic, LLC ("Arkiv"), an online retailer of classical music.

Critical Accounting Policies

The Securities and Exchange Commission ("SEC") has issued disclosure guidance for "critical accounting policies." The SEC defines "critical accounting policies" as those that require application of management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may change in subsequent periods.

Management is required to make certain estimates and assumptions during the preparation of the consolidated financial statements. These estimates and assumptions impact the reported amount of assets and liabilities and disclosures of contingent assets and liabilities as of the date of the consolidated financial statements. Estimates and assumptions are reviewed periodically and the effects of revisions are reflected in the consolidated financial statements in the period they are determined to be necessary. Actual results could differ from those estimates.

The significant accounting policies are described in Note 2 of the Notes to Consolidated Financial Statements included in the Company's 2007 Annual Report on Form 10-K. Not all of these significant accounting policies require management to make difficult, subjective or complex judgments or estimates. However, management considers the following to be critical accounting policies based on the definition above.

Accounts Receivable

We establish reserves for accounts receivable and notes receivable. We review overall collectibility trends and customer characteristics such as debt leverage, solvency, and outstanding balances in order to develop our reserve estimates. Historically, a large portion of our sales at both our piano and band divisions has been generated by our top 15 customers. As a result, we experience some inherent concentration of credit risk in our accounts receivable due to its composition and the relative proportion of large customer receivables to the total. This is especially true at our band division, which characteristically has a majority of our consolidated accounts receivable balance. We consider the credit health and solvency of our customers when developing our receivable reserve estimates.

Inventory

We establish inventory reserves for items such as lower-of-cost-or-market and obsolescence. We review inventory levels on a detailed basis, concentrating on the age and amounts of raw materials, work-in-process, and finished goods, as well as recent usage and sales dates and quantities to help develop our estimates. Ongoing changes in our business strategy, including a shift from batch processing to single piece production flow, coupled with increased offshore sourcing, could affect our ability to realize the current cost of our inventory, and are considered by management when developing our estimates. We also establish reserves for anticipated book-to-physical adjustments based upon our historical level of adjustments from our annual physical inventories. We account for our inventory using standard costs. Accordingly, variances between actual and standard costs that are not abnormal in nature are capitalized into inventory and released based on calculated inventory turns. Abnormal costs are recorded in the period in which they occur.

Workers' Compensation and Self-Insured Health Claims

We establish self-insured workers' compensation and health claims reserves based on our trend analysis of data provided by third-party administrators regarding historical claims and anticipated future claims.

Warranty

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

Long-lived Assets

We review long-lived assets, such as property, plant, and equipment, for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We measure recoverability by comparing the carrying amount of the asset to the estimated future cash flows the asset is expected to generate.

We establish long-lived intangible assets based on estimated fair values, and amortize finite-lived intangibles over their estimated useful lives. We test our goodwill and indefinite-lived trademark assets for impairment annually or on an interim basis if events or circumstances indicate that the fair value of an asset may have decreased below its carrying value. Our assessment is based on several analyses, including a comparison of estimated fair values to our market capitalization and multi-year cash flows.

Pensions and Other Postretirement Benefit Costs

We make certain assumptions when calculating our benefit obligations and expenses. We base our selection of assumptions, such as discount rates and long-term rates of return, on information provided by our actuaries, investment advisors, investment committee, current rate trends, and historical trends for our pension asset portfolio. Our benefit obligations and expenses can fluctuate significantly based on the assumptions management selects.

Income Taxes

We record valuation allowances for certain deferred tax assets related to foreign tax credit carryforwards and state net operating loss carryforwards. When assessing the realizability of deferred tax assets, we consider whether it is more likely than not that the deferred tax assets will be fully realized. The ultimate realization of these assets is dependent upon many factors, including the ratio of foreign source income to overall income and generation of sufficient future taxable income in the states for which we have loss

carryforwards. When establishing or adjusting valuation allowances, we consider these factors, as well as anticipated trends in foreign source income and tax planning strategies which may impact future realizability of these assets.

A liability has been recorded for uncertain tax positions. When analyzing these positions, we consider the probability of various outcomes which could result from examination, negotiation, or settlement with various taxing authorities. The final outcome on these positions could differ significantly from our original estimates due to the following: expiring statues of limitations; availability of detailed historical data; the results of audits or examinations conducted by taxing authorities or agents that vary from management's anticipated results; identification of new tax contingencies; the release of applicable administrative tax guidance; management's decision to settle or appeal assessments; or the rendering of court decisions affecting our estimates of tax liabilities; as well as other factors.

Stock-Based Compensation

We grant stock-based compensation awards which generally vest over a specified period. When determining the fair value of stock options and subscriptions to purchase shares under the Purchase Plan, we use the Black-Scholes option valuation model, which requires input of certain management assumptions, including dividend yield, expected volatility, risk-free interest rate, expected life of stock options granted during the period, and the life applicable to the Purchase Plan subscriptions. The estimated fair value of the options and subscriptions to purchase shares, and the resultant stock-based compensation expense, can fluctuate based on the assumptions used by management.

Environmental Liabilities

We make certain assumptions when calculating our environmental liabilities. We base our selection of assumptions, such as cost and length of time for remediation, on data provided by our environmental consultants, as well as information provided by regulatory authorities. We also make certain assumptions regarding the indemnifications we have received from others, including whether remediation costs are within the scope of the indemnification, the indemnifier's ability to perform under the agreement, and whether past claims have been successful. Our environmental obligations and expenses can fluctuate significantly based on management's assumptions.

We believe the assumptions made by management provide a reasonable basis for the estimates reflected in our financial statements.

Forward-Looking Statements

Certain statements contained in this document are "forward-looking statements" within the meaning of Section 21E of the Securities and Exchange Act of 1934, as amended. These forward-looking statements represent our present expectations or beliefs concerning future events. We caution that such statements are necessarily based on certain assumptions which are subject to risks and uncertainties which could cause actual results to differ materially from those indicated in this report. These risk factors include, but are not limited to, the following: changes in general economic conditions; recent geopolitical events; increased competition; work stoppages and slowdowns; ability to successfully consolidate band manufacturing; impact of dealer consolidations on orders; exchange rate fluctuations; variations in the mix of products sold; market acceptance of new product and distribution strategies; ability of suppliers to meet demand; concentration of credit risk; fluctuations in effective tax rates resulting from shifts in sources of income; and the ability to successfully operate acquired businesses. Further information on these risk factors is included in Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2007. We encourage you to read those descriptions carefully. We caution investors not to place undue reliance on the forward-looking statements contained in this

report. These statements, like all statements contained in this report, speak only as of the date of this report (unless another date is indicated) and we undertake no obligation to update or revise the statements except as required by law.

Results of Operations



Three Months Ended September 30, 2008 Compared to Three Months Ended
September 30, 2007



                          Three Months Ended September 30,                          Change
                           2008                        2007                     $           %

Net sales
Band                   $      44,782                $   47,308                 (2,526 )      (5.3 )
Piano                         55,706                    51,985                  3,721         7.2
Total sales                  100,488                    99,293                  1,195         1.2

Cost of sales
Band                          34,405                    38,099                 (3,694 )      (9.7 )
Piano                         36,154                    33,103                  3,051         9.2
Total cost of sales           70,559                    71,202                   (643 )      (0.9 )

Gross profit
Band                          10,377    23.2%            9,209   19.5%          1,168        12.7
Piano                         19,552    35.1%           18,882   36.3%            670         3.5
Total gross profit            29,929                    28,091                  1,838         6.5
                               29.8%                     28.3%

Operating expenses            20,787                    20,856                    (69 )      (0.3 )
Facility
rationalization and
impairment charges             8,555                         -                  8,555       100.0
Income from
operations                       587                     7,235                 (6,648 )     (91.9 )

Other (income)
expense, net                    (405 )                      37                   (442 )  (1,194.6 )
Net interest
expense                        2,378                     2,905                   (527 )     (18.1 )
Non-operating
expenses                       1,973                     2,942                   (969 )     (32.9 )

Income (loss)
before income taxes           (1,386 )                   4,293                 (5,679 )    (132.3 )

Income tax
provision (benefit)           (1,126 )  81.2%            1,285   29.9%         (2,411 )    (187.6 )

Net income (loss)      $        (260 )              $    3,008                 (3,268 )    (108.6 )

Overview - Piano division revenue improved, while margins were lower due to a shift in mix towards upright pianos and the absence of limited edition piano sales, which occurred in 2007 and generated higher margins. Band division sales decreased due to fewer unit sales across all product lines. However, gross margins improved due to lower unabsorbed overhead and production variances than in the year ago period. Scheduled plant closures under our facility rationalization project have been completed, and virtually all production has been incorporated into existing facilities.

Our fall budgeting and planning process provides multi-year cash flow projections which we use to conduct our annual impairment testing of intangible assets. Recent decreases in order volume, the adverse impact of

unavailable sourced products, delays in producing new product lines, and recent economic events, coupled with other factors, caused us to lower sales expectations. As a result, our future anticipated cash flows at the band division were reduced and our goodwill was determined to be impaired. Accordingly, we recorded an $8.6 million charge during the period to fully write off this asset. Analyses of band division trademarks and other assets indicated no other impairment, so no charges have been taken nor are they anticipated. No impairment indicators were noted during our analysis of the piano division.

Piano division results include the operations of our online music division.

Net Sales- Net sales improved due to higher piano division sales. Domestically, piano division revenues increased $0.9 million due to the incremental $1.8 million of online music sales. This more than offset the impact of the 6% decrease in Steinway grand piano shipments, which occurred primarily at the retail level. Overseas Steinway grand unit shipments decreased 3%. Despite this, overseas piano division sales increased $2.8 million, $1.6 million of which is attributable to foreign currency translation. Improved sales of larger, higher priced models by our German division also contributed to the increase. Although unit shipments decreased 15%, band division revenues were only 5% lower, as sales of intermediate and professional level woodwinds as well as certain higher priced products mitigated the deterioration in shipments.

Gross Profit - Gross profit improved due to higher piano sales and better band margins. Domestically, piano margins were adversely impacted by lower retail sales and a shift in mix towards lower margin upright pianos. This was partially offset by the shift in mix overseas towards larger, higher margin models and favorable manufacturing variances at our factory in Germany. The band division's gross profit improved, as production inefficiencies and unabsorbed overhead at our manufacturing facilities was reduced by approximately $1.2 million, and we eliminated an accessory sales program which cost $0.9 million in the prior year.

Operating Expenses - Operating expenses were consistent with the year ago period. The $0.8 million reduction in bad debt expense was offset by an increase in other operating expenses of a comparable amount.

Facility rationalization and impairment charges - Facility rationalization and impairment charges of $8.6 million are comprised entirely of $8.6 million associated with the write off of goodwill discussed above.

Non-operating Expenses - Non-operating expenses decreased $1.0 million due to $0.5 million lower net interest expense, as we did not have anything outstanding on our domestic line of credit in the current period. A $0.3 million shift from foreign exchange losses to foreign exchange gains and a decrease in legal costs also contributed to the expense reduction.

Income Taxes - Our effective tax rate is comprised of 39% associated with current year income and a $0.7 million benefit relating primarily to uncertain tax positions which were settled with state taxing authorities. As a result of the pretax loss incurred during the quarter, the combination of these items resulted in an effective rate of 81% for the quarter. The year-to-date rate discussed below is more reflective of our effective rate for the year.

Results of Operations



Nine Months Ended September 30, 2008 Compared to Nine Months Ended September 30,
2007



                          Nine months ended September 30,                          Change
                           2008                       2007                     $           %

Net sales
Band                   $     125,300                $ 125,690                   (390 )      (0.3 )
Piano                        167,895                  159,292                  8,603         5.4
Total sales                  293,195                  284,982                  8,213         2.9

Cost of sales
Band                          97,445                   99,678                 (2,233 )      (2.2 )
Piano                        109,384                  101,408                  7,976         7.9
Total cost of sales          206,829                  201,086                  5,743         2.9

Gross profit
Band                          27,855    22.2%          26,012   20.7%          1,843         7.1
Piano                         58,511    34.8%          57,884   36.3%            627         1.1
Total gross profit            86,366                   83,896                  2,470         2.9
                               29.5%                    29.4%

Operating expenses            64,531                   64,245                    286         0.4
Facility
rationalization and
impairment charges             9,617                        -                  9,617       100.0
Income from
operations                    12,218                   19,651                 (7,433 )     (37.8 )

Other income, net               (388 )                   (154 )                 (234 )     151.9
Loss on
extinguishment of
debt                            (636 )                      -                   (636 )     100.0
Net interest
expense                        6,811                    7,580                   (769 )     (10.1 )
Non-operating
expenses                       5,787                    7,426                 (1,639 )     (22.1 )

Income (loss)
before income taxes            6,431                   12,225                 (5,794 )     (47.4 )

Income tax
provision (benefit)            1,671    26.0%           4,634   37.9%         (2,963 )     (63.9 )

Net income (loss)      $       4,760                $   7,591                 (2,831 )     (37.3 )

Overview - Piano division revenue improved, though piano margin deteriorated due to fewer Steinway grand unit sales and the adverse impact of domestic manufacturing facility shutdowns, which were taken in an effort to control inventory. Band division sales deteriorated slightly, despite improved intermediate and professional level saxophone and clarinet sales, due to delivery issues for certain student level sourced instruments and decreased demand. Band division margins improved due to lower production variances and unabsorbed overhead than in the year-ago period.

Our facility rationalization project is nearing completion, as we sold our clarinet manufacturing facility in France, and closed our Elkhorn brass instrument manufacturing facility in August. We are currently in the process of incorporating the production processes from these closed facilities into our remaining factories.

We recorded an impairment charge of $8.6 million relating to the write-off of band division goodwill. Circumstances which led us to conclude that goodwill was impaired are described above.

Net Sales - Net sales increased due to improved piano division revenues. Although overseas Steinway grand unit shipments decreased 4%, overseas revenue improved $9.6 million, of which $8.1million is attributable to foreign currency translation. The remaining increase was generated by improved mid-priced piano line sales. Domestic piano division sales decreased $1.0 million despite the $2.7 million incremental online music sales, largely due to fewer sales at the wholesale level, which resulted in an 8% decrease in domestic Steinway grand piano sales. Band division unit shipments decreased 12% during the period. This was due to sourced instrument supply issues and decrease demand resulting from dealers managing working capital and using existing inventory. However, the shift in mix from lower priced student band instruments to intermediate and professional level instruments mitigated the decrease in unit shipments.

Gross Profit - Gross profit improved due to higher piano division sales and improved band division margins. Although domestic piano margins dropped (29.1% vs. 32.8%) due to fewer production days and the resulting unabsorbed overhead, overseas piano margins remained relatively stable. This coupled with higher overseas piano sales, resulted in a higher gross profit for the period. The band division's gross profit benefited from less unabsorbed overhead and production inefficiencies than in the year-ago period. This, coupled with the shift in mix towards higher margin intermediate and professional level band instruments in the first half of the year, more than offset the impact of $0.9 million in severance costs associated with plant closures.

Operating Expenses - Operating expenses increased $0.3 million as a $1.5 million decrease in bad debt expense and other reserves was offset by the adverse impact of foreign exchange translation.

Facility rationalization and impairment charges - Charges of $9.6 million are comprised of $8.6 million in write off of our band division goodwill, and $1.1 million in fixed asset impairment charges. We wrote down our Elkhorn, Wisconsin manufacturing facility by $0.2 million in conjunction with the closure of that plant. We also wrote down our clarinet manufacturing facility in France by $0.9 million in conjunction with the sale of that plant in July 2008.

Non-operating Expenses - Non-operating expenses decreased $1.6 million due to the $0.8 million reduction in net interest expense, as our domestic line of credit has gone virtually unused in the current period. The $0.6 million gain on extinguishment of $5.8 million of our Senior Notes also contributed to the improvement.

Income Taxes - Our effective tax rate is comprised of 39% associated with current year income and a benefit of 13% primarily relating to the favorable settlement of several uncertain tax positions with state taxing authorities. In the year-ago period, the impact of these positions was not material to the effective rate.

Liquidity and Capital Resources

We have relied primarily upon cash provided by operations, supplemented as necessary by seasonal borrowings under our working capital line, to finance our operations, repay long-term indebtedness and fund capital expenditures.

Our statements of cash flows for the nine months ended September 30, 2008 and 2007 are summarized as follows: