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 Hamburg. We also offer Steinway upright pianos and two mid-priced lines of pianos under the Boston and Essex brand names. We are also an online retailer of classical music recordings. Through our band division, we are 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.

Critical Accounting Policies and Estimates

The Securities and Exchange Commission ("SEC") has issued disclosure guidance for "critical accounting policies and estimates." The SEC defines "critical accounting policies and estimates" 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 condensed 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 2011 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 and estimates 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 fifteen 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, 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 expensed in the period in which they occur.

Workers' Compensation and Self-Insured Health Claims

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

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 or asset group may not be recoverable. We measure recoverability by comparing the carrying amount of the asset or asset group to the estimated future cash flows the asset or asset group 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. We determine our reporting units by first identifying our operating segments, and then assess whether any components of these segments constitute a business for which discrete financial information is available and where segment management regularly reviews the operating results of that component. We aggregate components within a reporting unit that have similar economic characteristics.

Our assessment is based on a comparison of net book value to estimated fair values primarily using an income approach. For purposes of the income approach, fair value is determined based on the present value of estimated future cash flows, discounted at an appropriate risk-adjusted rate. We make assumptions about the amount and timing of future expected cash flows, terminal value growth rates and appropriate discount rates. The amount and timing of future cash flows within our discounted cash flow analysis is based on our most recent operational budgets, long range strategic plans and other estimates. The terminal value growth rate is used to calculate the value of cash flows beyond the last projected period in our analysis and reflects our best estimates for stable, perpetual growth of our reporting units. We use estimates of market participant weighted-average costs of capital as a basis for determining the discount rates to apply to our reporting units' future expected cash flows, adjusted for the risks and uncertainty inherent in our industry generally and in our internally developed forecasts. We also use a market approach against which we benchmark the results of our income approach to ensure that the results are appropriate.

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 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 jurisdictions 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.

When appropriate, 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 statutes of limitations; availability of detailed historical data; results of audits or examinations conducted by taxing authorities or agents that vary from management's anticipated results; identification of new tax contingencies; release of applicable administrative tax guidance; management's decision to settle or appeal assessments; the rendering of court decisions affecting our estimates of tax liabilities; or other factors.

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 condensed consolidated 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; reductions in school budgets; increased competition; ability of dealers to obtain financing; exchange rate fluctuations; variations in the mix of products sold; market acceptance of new products, ability of suppliers to meet demand; concentration of credit risk; ability to maximize return on NY real estate; and fluctuations in effective tax rates resulting from shifts in sources of income. 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, 2011. 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 June 30, 2012 Compared to Three Months Ended June 30, 2011



                              Three Months Ended June 30,                     Change
                              2012                    2011                 $          %
Net sales
Band                       $    35,340              $ 34,770                 570        1.6
Piano                           50,364                54,171              (3,807 )     (7.0 )
Total sales                     85,704                88,941              (3,237 )     (3.6 )

Cost of sales
Band                            26,210                26,840                (630 )     (2.3 )
Piano                           32,129                35,626              (3,497 )     (9.8 )
Total cost of sales             58,339                62,466              (4,127 )     (6.6 )

Gross profit
Band                             9,130    25.8%        7,930   22.8%       1,200       15.1
Piano                           18,235    36.2%       18,545   34.2%        (310 )     (1.7 )
Total gross profit              27,365                26,475                 890        3.4
                                 31.9%                 29.8%

Operating expenses              21,394                23,560              (2,166 )     (9.2 )
Income from operations           5,971                 2,915               3,056      104.8

Other expense, net               1,277                   758                 519       68.5
Net loss on
extinguishment of debt               -                 2,422              (2,422 )   (100.0 )
Net interest expense               942                 1,484                (542 )    (36.5 )
Non-operating expenses           2,219                 4,664              (2,445 )    (52.4 )

Income (loss) before
income taxes                     3,752                (1,749 )             5,501     (314.5 )

Income tax provision
(benefit)                        1,355    36.1%         (702 ) 40.1%       2,057     (293.0 )

Net income (loss)          $     2,397              $ (1,047 )             3,444     (328.9 )

Overview - Piano division revenue decreased primarily as a result of decreased shipments of Steinway grand units in Europe. However, margins improved due to factory efficiencies at our piano manufacturing facility in Germany. Band division revenue increased due to strong demand for certain brass products, and gross margins improved due to factory efficiencies.

Net Sales - Piano division revenue generated by our Americas region of $24.1 million was $0.5 million less than the year-ago period, primarily due to a 3% decrease in Steinway grand unit shipments. Although sales to dealers were $1.0 million lower, this was partially offset by a $0.5 million increase in retail sales. The retail revenue improvement was due to our Chicago stores, which were acquired in mid-2011. Piano division revenue generated by Europe was $3.6 million less than the year-ago period due largely to an 11% decrease in Steinway grand unit shipments and a 25% decrease in Boston and Essex unit shipments. These decreases are primarily timing related, as a significant number of units were shipped in the first quarter of 2012. An unfavorable exchange rate impact of $1.6 million also adversely impacted revenue in this region. Piano division sales of $12.3 million related to the Asia-Pacific region were slightly better than the year-ago period, since a 3% increase in Steinway grand unit shipments offset the impact of a 14% decrease in Boston and Essex piano shipments.

Band division revenue increased $0.6 million during the period. Woodwind and band unit shipments were consistent with the year-ago period, and accessories sales increased $1.2 million, which more than offset the $0.5 million decrease in percussion instrument revenue.

Gross Profit - Gross profit was $0.9 million higher due to better sales and margins at the band division. Piano division margins generated by the Americas decreased from 33.1% to 32.7% due to higher costs at our online retail music business. Factory variances in certain departments at our New York manufacturing facility were also a factor. Piano division margins attributable to the Europe region increased from 38.2% to

47.4% as a result of factory efficiencies and better absorption of overhead costs, as well as a higher percentage of retail sales. Piano division margins from the Asia-Pacific region dropped slightly from 30.7% to 30.3% primarily as a result of shifts in product mix.

Gross margins generated by the band division improved from 22.8% to 25.8% in the current period due to increased production at most manufacturing facilities, which resulted in factory efficiencies and better absorption of overhead costs.

Operating Expenses - Operating expenses decreased $2.2 million as compared to the year-ago period. In 2011, the holders of our Class A common stock sold their shares to other shareholders. In conjunction with this transaction, we incurred $2.7 million of incremental costs related to accelerated vesting of most of our stock options and all of our restricted stock as well as $0.6 million in legal costs.

Excluding the impact of these transaction-related charges, sales and marketing costs were $0.4 million lower than the year-ago period due to timing of trade shows and lower employee expenses. Our general and administrative costs increased $1.6 million as the current period includes $2.0 million of legal and consulting costs related to activities undertaken by our Board of Directors in pursuit of strategic alternatives. These costs were partially offset by a favorable exchange rate impact of $0.4 million.

Non-operating Expenses - Non-operating expenses decreased $2.4 million as we incurred debt extinguishment costs of $2.4 million in the year-ago period. Lower net interest expense of $0.5 million was offset by higher foreign exchange rate losses, incremental costs associated with our West 57th Street building, and losses on our Supplemental Executive Retirement Plan assets of a comparable amount.

Income Taxes - We recorded income tax expense of $1.4 million, reflecting our anticipated annual effective income tax rate of 37.2% associated with current year income, as well as uncertain tax positions and discrete items. The combination of these items resulted in an effective tax rate of 36.1% for the period. The rate of 40.1% in the year-ago period reflected an anticipated annual effective income tax rate of 41.8% as well as uncertain tax positions and discrete items. The effective tax rate in the year-ago period was higher due to the greater amount of stock-based compensation expenses which were not deductible for tax purposes.

Six Months Ended June 30, 2012 Compared to Six Months Ended June 30, 2011



                              Six Months Ended June 30,                      Change
                              2012                   2011                 $          %
Net sales
Band                       $    69,150             $ 64,112               5,038        7.9
Piano                           94,507               97,760              (3,253 )     (3.3 )
Total sales                    163,657              161,872               1,785        1.1

Cost of sales
Band                            52,064               49,014               3,050        6.2
Piano                           61,081               63,986              (2,905 )     (4.5 )
Total cost of sales            113,145              113,000                 145        0.1

Gross profit
Band                            17,086    24.7%      15,098   23.5%       1,988       13.2
Piano                           33,426    35.4%      33,774   34.5%        (348 )     (1.0 )
Total gross profit              50,512               48,872               1,640        3.4
                                 30.9%                30.2%

Operating expenses              42,378               42,285                  93        0.2
Income from operations           8,134                6,587               1,547       23.5

Other expense, net               1,631                1,246                 385       30.9
Net loss on
extinguishment of debt               -                2,422              (2,422 )   (100.0 )
Net interest expense             1,792                3,840              (2,048 )    (53.3 )
Non-operating expenses           3,423                7,508              (4,085 )    (54.4 )

Income (loss) before
income taxes                     4,711                 (921 )             5,632     (611.5 )

Income tax provision
(benefit)                        1,724    36.6%        (379 ) 41.2%       2,103     (554.9 )

Net income (loss)          $     2,987             $   (542 )             3,529     (651.1 )

Overview - Piano division revenue and gross profit decreased primarily as a result of the decrease in Steinway grand unit shipments. Band division revenues and gross profit improved due to strong demand for certain brass products as well as increased production and improved efficiencies at our brass instrument manufacturing plants.

Net Sales - Piano division revenue generated by our Americas region of $44.5 million was $0.4 million lower than the year-ago period, primarily due to a 5% decrease in Steinway grand unit shipments. Although sales to dealers were $2.1 million lower, this was partially offset by a $1.3 million increase in retail sales, all of which is attributable to our Chicago stores. Revenue of $27.8 million generated by our division in Europe was $2.4 million less than the year-ago period due to an unfavorable exchange rate impact of $2.2 million. The impact of a 4% increase in Steinway grand unit shipments more than offset the 5% decrease in Boston and Essex unit shipments in this region. Sales of $22.2 million in the Asia-Pacific region of the piano division were $0.4 million lower than the year-ago period due to a 5% decrease in Steinway grand unit shipments and a 12% decrease in Boston and Essex unit shipments.

Band division revenue increased $5.0 million during the period. Although overall unit shipments were consistent with the year-ago period, strong demand for brass instruments, as well as a $1.8 million increase in accessories sales, caused revenue improvement.

Gross Profit - Gross profit was $1.6 million higher due to improved sales and margins at the band division. Piano margins generated by the Americas decreased from 33.3% to 32.3% as a result of factory variances in certain departments and a shift in mix to smaller, lower margin Steinway grands in the early part of the year. Piano margins generated by the

Europe region increased from 39.6% to 44.6% as a result of factory efficiencies. Gross margins attributable to the Asia-Pacific region went from 30.3% to 30.1% primarily as a result of shifts in product mix.

Gross margins generated by the band division went from 23.5% to 24.7% in the current period. Margins benefited from increased production and greater efficiency at our brass manufacturing facilities, which offset the adverse impact of materials, overhead, and sourced-product costs increases.

Operating Expenses - Operating expenses were consistent with the year-ago period. In 2011 the holders of our Class A common stock sold their shares to other shareholders. In conjunction with this transaction, we incurred an incremental $2.9 million in costs related to the accelerated vesting of most of our stock options and all of our restricted stock and $0.6 million in legal costs.

Excluding these transaction-related charges, sales and marketing costs were $1.5 million higher than the year-ago period. This increase was due to incremental bad debt expense of $1.0 million as well as costs associated with our retail expansion. Our general and administrative costs increased $2.4 million as 2012 includes $2.7 million of legal and consulting costs related to activities undertaken by our Board of Directors in pursuit of strategic alternatives. A favorable exchange rate impact of $0.5 million partially offset these costs.

Non-operating Expenses - Non-operating expenses were $4.1 million less than the year-ago period. In 2011, we extinguished $85.0 million of our 7.00% Senior Notes, which resulted in a loss on extinguishment of debt of $2.4 million. As a result of the debt extinguishment, our net interest expense was $2.0 million lower in the current period. However, incremental costs associated with our West 57th Street building of $0.2 million and less favorable exchange rate gains negatively impacted non-operating expenses.

Income Taxes - We recorded income tax expense of $1.7 million, reflecting our anticipated annual effective income tax rate of 37.2% associated with current year income, as well as uncertain tax positions and discrete items. The combination of these items resulted in an effective tax rate of 36.6% for the period. The rate of 41.2% in the year-ago period reflected an anticipated annual effective income tax rate of 41.8% as well as uncertain tax positions and discrete items. The effective tax rate in the year-ago period was higher due to the greater amount of stock-based compensation expenses which were not deductible for tax purposes.

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 six months ended June 30, 2012 and 2011 are summarized as follows: