Seeing that she was intentionally getting the dog riled up, I wouldn't have corrected the dog. Afterwards, I would have said something like, "I know you wanted to play with her, but we are having a hard time with her not greeting people properly and are working very diligently on it right now. In the future, if you wouldn't mind working with me when you greet her, that woiuld be great. I appreciate having as many people as I can get helping work with me on her greeting manners."
Also, take it as a compliment that she wants to come over and play with your girl -- sounds like she is a ton of fun!
Since you are essentially repeating that level of the obedience class, I would say having a larger class might not be a bad thing -- more distractions for better proofing. My intermediate ob class was about 14 in size if I remember correctly, and only 1 instructor, no assistant. But the instructor was very good about watching everyone and giving everyone individual attention each class.