**U.
      S. SECURITIES AND EXCHANGE COMMISSION**


WASHINGTON,
      D.C. 20549


_________________________________





**FORM
      10 - Q**


(Mark
      One)


**x
      QUARTERLY REPORT PURSUANT TO SECTION 13
      OR 15(d) OF**


**THE
      SECURITIES EXCHANGE ACT OF 1934**





**For
      the Quarterly Period Ended June 30, 2006**





**OR**





**o
      TRANSITION REPORT PURSUANT TO SECTION 13
      OR 15(d) OF**


**THE
      SECURITIES EXCHANGE ACT OF 1934**





**Commission
      File Number 0-21743**





**NEOMEDIA
      TECHNOLOGIES, INC.**


(Exact
      Name of Issuer as Specified In Its Charter)


**Delaware**
            **36-3680347**(State
                or Other Jurisdiction of
            (I.R.S.
                EmployerIncorporation
                or Organization)
            Identification
                No.)**2201
                Second Street, Suite 600, Fort Myers, Florida**
            **33901**(Address
                of Principal Executive Offices)
            (Zip
                Code)








**239-337-3434** Issuer's
      Telephone Number (Including Area Code)








Check
      whether the issuer (1) filed all reports required to be filed by Section 13
      or
      15(d) of the Exchange Act during the past 12 months (or for such shorter period
      that the registrant was required to file such reports), and (2) has been subject
      to such filing requirements for the past 90 days. Yes x Noo





Indicate
      by check mark whether the registrant is a large accelerated filer, an
      accelerated filer, or a non-accelerated filer. See definition of “accelerated
      filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check
      one): Large Accelerated Filer o
      Accelerated Filer x Non-accelerated Filer o








Indicate
      by check mark whether the registrant is a shell company (as defined in Rule
      12b-2 of the Exchange Act). YesoNox








As
      of
      July 21, 2006, there were 638,307,278 outstanding shares of the issuer's Common
      Stock, and 22,000 outstanding shares of the issuer’s Series C convertible
      preferred stock.










**TABLE
      OF CONTENTS**











PART
              I -- FINANCIAL INFORMATION
            1ITEM 1.
            FINANCIAL
                STATEMENTS
            1CONDENSED
                CONSOLIDATED BALANCE SHEETS AS OF JUNE 30, 2006 (UNAUDITED) AND DECEMBER
                31, 2005
            1CONDENSED
                CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS FOR
                THE THREE
                AND SIX MONTHS ENDED JUNE 30, 2006 AND 2005 (UNAUDITED)
            2CONDENSED
                CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE SIX MONTHS ENDED JUNE
                30,
                2006 AND 2005 (UNAUDITED)
            6NOTES
                TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
            8ITEM 2.
            MANAGEMENT'S
                DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
                OPERATIONS
            45ITEM 3.
            QUANTITATIVE
                AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
            61ITEM 4.
            CONTROLS
                AND PROCEDURES
            61PART
              II -- OTHER INFORMATION
            62ITEM 1.
            LEGAL
                PROCEEDINGS
            62ITEM 3.
            DEFAULT
                UPON SENIOR SECURITIES
            74ITEM 4.
            SUBMISSION
                OF MATTERS TO A VOTE OF SECURITY HOLDERS
            74ITEM 5.
            OTHER
                INFORMATION
            74ITEM 6.
            EXHIBITS
                AND REPORTS ON FORM 8-K
            75SIGNATURES
            77











**PART
      I -- FINANCIAL INFORMATION**


**ITEM
      1. FINANCIAL STATEMENTS**


**NeoMedia
      Technologies, Inc. and Subsidiaries**


**Condensed
      Consolidated Balance Sheet** **s**


**(In
      Thousands, Except Share Data)**





**June
                30**
            
            **December
                31****2006**
            
            **2005****ASSETS**
            
            (unaudited)
            
            *****Current
                assets:Cash
                and cash equivalents
            
            $
            2,550
            
            $
            2,291Trade
                accounts receivable, net of allowance for doubtful accounts of $96
                and
                $203, respectively
            
            
            6,376
            
            
            341Inventories,
                net of allowance for obsolete & slow-moving inventory of
                $0
            
            
            345
            
            
            423Investment
                in marketable securities
            
            
            567
            
            
            104Prepaid
                expenses and other current assets
            
            
            1,576
            
            
            151Total
                current assets
            
            
            11,414
            
            
            3,310Leasehold
                improvements & property and equipment, net
            
            
            781
            
            
            236Goodwill
            
            
            50,943
            
            
            1,099Intangible
                assets, net
            
            
            23,550
            
            
            4,830Cash
                surrender value of life insurance policy
            
            
            778
            
            
            769Loan
                to Mobot (2005) and HipCricket (2006)
            
            
            500
            
            
            1,500Other
                long-term assets
            
            
            1,125
            
            
            667**Total
                assets**
            
            $
            89,091
            
            $
            12,411**LIABILITIES
                AND SHAREHOLDERS’ EQUITY**Current
                liabilities:Accounts
                payable
            
            $
            5,695
            
            $
            1,574Amounts
                payable under settlement agreements
            
            
            97
            
            
            97Liabilities
                of discontinued business unit
            
            
            676
            
            
            676Taxes
                payable
            
            
            1,187
            
            
            80Accrued
                expenses
            
            
            3,918
            
            
            1,844Deferred
                revenues and other
            
            
            3,894
            
            
            898Notes
                payable
            
            
            2,417
            
            
            3,015Derivative
                financial instruments
            
            
            12,407
            
            
            ---Total
                current liabilities
            
            
            30,291
            
            
            8,184Preferred
                stock, $0.01 par value, 25,000,000 shares authorized, 22,000
                issuedand
                outstanding, liquidation value of $22,000 and accreted dividends
                of
                $616.
            
            
            2,327
            
            
            ---Shareholders’
                equity:Common
                stock, $0.01 par value, 5,000,000,000 shares authorized, 637,708,704
                and475,387,910
                shares issued and 636,107,278 and 467,601,717 outstanding,
                respectively
            
            
            6,361
            
            
            4,676Additional
                paid-in capital
            
            
            153,410
            
            
            106,456Deferred
                stock-based compensation
            
            
            (98
            )
            
            (169
            )Deferred
                equity financing costs
            
            
            (13,256
            )
            
            (13,256
            )Accumulated
                deficit
            
            
            (88,709
            )
            
            (92,524
            )Accumulated
                other comprehensive loss
            
            
            (456
            )
            
            (177
            )Treasury
                stock, at cost, 201,230 shares of common stock
            
            
            (779
            )
            
            (779
            )Total
                shareholders’ equity
            
            
            56,473
            
            
            4,227**Total
                liabilities and shareholders’ equity**
            
            $
            89,091
            
            $
            12,411





The
      accompanying notes are an integral part of these condensed consolidated
      financial statements.





*
      -
      Derived from NeoMedia’s audited financial statements for the year ended December
      31, 2005.






1


**NeoMedia
      Technologies, Inc. and Subsidiaries**


**Condensed
      Consolidated Statements of Operations** ****


**and
      Comprehensive Income (Loss) (Unaudited)**


**(In
      Thousands, Except Share and per Share Data)**








**Three
                Months Ended June 30****2006**
            
            **2005**NET
                SALES:Technology
                license, service and products
            
            $
            6,205
            
            $
            277Micro
                paint repair products and services
            
            
            401
            
            
            261Total
                net sales
            
            
            6,606
            
            
            538COST
                OF SALES:Technology
                license, service and products
            
            
            3,948
            
            
            213Micro
                paint repair products and services
            
            
            569
            
            
            237Total
                cost of sales
            
            
            4,517
            
            
            450GROSS
                PROFIT
            
            
            2,089
            
            
            88Sales
                and marketing expenses
            
            
            3,337
            
            
            1,230General
                and administrative expenses
            
            
            2,697
            
            
            444Research
                and development costs
            
            
            896
            
            
            160Stock
                based compensation expense
            
            
            1,072
            
            
            418Loss
                from operations
            
            
            (5,913
            )
            
            (2,164
            )Gain
                (loss) on extinguishment of debt
            
            
            106
            
            
            33Interest
                (expense), net
            
            
            (85
            )
            
            (169
            )Gain
                on derivative financial instruments
            
            
            11,025
            
            
            ---**NET
                INCOME (LOSS)**
            
            
            **5,133**
            
            
            **(2,300**
            **)**Accretion
                of dividends on convertible preferred stock
            
            
            **(479**
            **)**
            
            ---**NET
                INCOME (LOSS) ATTRIBUTABLE TO COMMON SHAREHOLDERS**
            
            
            **4,653**
            
            
            **(2,300**
            **)**Comprehensive
                Income (Loss)Net
                income (loss)
            
            
            5,133
            
            
            (2,300
            )Other
                comprehensive income (loss):Unrealized
                gain (loss) on marketable securities
            
            
            114
            
            
            (87
            )Foreign
                currency translation adjustment
            
            
            (320
            )
            
            (2
            )**COMPREHENSIVE
                INCOME (LOSS)**
            
            **$**
            **4,927**
            
            **$**
            **(2,389**
            **)****INCOME
                (LOSS) PER SHARE ATTRIBUTABLE TO COMMON SHAREHOLDERS -
                BASIC**
            
            **$**
            **0.01**
            
            **$**
            **(0.01**
            **)****INCOME
                (LOSS) PER SHARE ATTRIBUTABLE TO COMMON SHAREHOLDERS -
                DILUTED**
            
            **$**
            **0.01**
            
            **$**
            **(0.01**
            **)****Weighted
                average number of common shares--basic**
            
            
            **632,402,254**
            
            
            **448,777,048****Weighted
                average number of common shares--diluted**
            
            
            **799,536,925**
            
            
            **448,777,048**





The
      accompanying notes are an integral part of these condensed consolidated
      financial statements.





2


**NeoMedia
      Technologies, Inc. and Subsidiaries**


**Condensed
      Consolidated Statements of Operations**


**and
      Comprehensive Income (Loss) (Unaudited)**


**(In
      Thousands, Except Share and per Share Data)**





**Six
                Months Ended June 30****2006**
            
            **2005**NET
                SALES:Technology
                license, service and products
            
            $
            7,880
            
            $
            569Micro
                paint repair products and services
            
            
            778
            
            
            716Total
                net sales
            
            
            8,658
            
            
            1,285COST
                OF SALES:Technology
                license, service and products
            
            
            4,775
            
            
            389Micro
                paint repair products and services
            
            
            988
            
            
            510Total
                cost of sales
            
            
            5,763
            
            
            899GROSS
                PROFIT
            
            
            2,895
            
            
            386Sales
                and marketing expenses
            
            
            4,879
            
            
            2,025General
                and administrative expenses
            
            
            4,023
            
            
            1,047Research
                and development costs
            
            
            1,446
            
            
            344Stock
                based compensation expense
            
            
            2,589
            
            
            514Loss
                from operations
            
            
            (10,042
            )
            
            (3,544
            )Gain
                (loss) on extinguishment of debt
            
            
            (1,858
            )
            
            171Interest
                (expense), net
            
            
            (79
            )
            
            (146
            )Gain
                on derivative financial instruments
            
            
            15,794
            
            
            ---**NET
                INCOME (LOSS)**
            
            
            **3,815**
            
            
            **(3,519**
            **)**Accretion
                of dividends on convertible preferred stock
            
            
            **(616**
            **)**
            
            **0****NET
                INCOME (LOSS) ATTRIBUTABLE TO COMMON SHAREHOLDERS**
            
            
            **3,199**
            
            
            **(3,519**
            **)**Comprehensive
                Income (Loss)Net
                income (loss)
            
            
            3,815
            
            
            (3,519
            )Other
                comprehensive income (loss):Unrealized
                gain (loss) on marketable securities
            
            
            263
            
            
            (129
            )Foreign
                currency translation adjustment
            
            
            (542
            )
            
            9**COMPREHENSIVE
                INCOME (LOSS)**
            
            **$**
            **3,536**
            
            **$**
            **(3,639**
            **)****INCOME
                (LOSS) PER SHARE ATTRIBUTABLE TO COMMON SHAREHOLDERS -
                BASIC**
            
            **$**
            **0.01**
            
            **$**
            **(0.01**
            **)****INCOME
                (LOSS) PER SHARE ATTRIBUTABLE TO COMMON SHAREHOLDERS
                - DILUTED**
            
            **$**
            **0.01**
            
            **$**
            **(0.01**
            **)****Weighted
                average number of common shares--basic**
            
            
            **580,485,463**
            
            
            **443,301,430****Weighted
                average number of common shares--diluted**
            
            
            **757,912,587**
            
            
            **443,301,430**





The
      accompanying notes are an integral part of these condensed consolidated
      financial statements.







3





**NeoMedia
      Technologies, Inc. and Subsidiaries**


**Condensed
      Consolidated Statements of Cash Flows (Unaudited)**


**(In
      Thousands)**





**Six
                Months Ended****June
                30,****2006**
            
            **2005**CASH
                FLOWS FROM OPERATING ACTIVITIES:Net
                income (loss)
            
            $
            3,815
            
            
            ($3,519
            )Adjustments
                to reconcile net income (loss) to net cash used in operating
                activities:Depreciation
                and amortization
            
            
            1,431
            
            
            354Loss
                on early extinguishment of debt
            
            
            1,858
            
            
            —Gain
                on derivative financial instruments
            
            
            (15,794
            )
            
            —Stock-based
                compensation expense
            
            
            2,724
            
            
            514(Increase)
                decrease in value of life insurance policies
            
            
            (9
            )
            
            9Changes
                in operating assets and liabilitiesTrade
                accounts receivable, net
            
            
            (727
            )
            
            (504
            )Inventory
            
            
            184
            
            
            (21
            )Other
                current assets
            
            
            (1,013
            )
            
            65Accounts
                payable, amounts due under settlement agreements, liabilities in
                excessof
                assets of discontinued business unit, and accrued expenses
            
            
            (226
            )
            
            (292
            )Deferred
                revenue other current liabilities
            
            
            1,328
            
            
            (61
            )Net
                cash used in operating activities
            
            
            (6,429
            )
            
            (3,455
            )CASH
                FLOWS FROM INVESTING ACTIVITIES:Cash
                paid to acquire Mobot, Inc., Sponge Ltd., Gavitec AG, and 12Snap
                AG, net
                of cash acquired
            
            
            (11,891
            )
            
            —Amounts
                issued under notes receivable
            
            
            (500
            )
            
            —Investments
            
            
            —
            
            
            (500
            )Acquisition
                related costs
            
            
            (164
            )
            
            —Capitalization
                of software development and purchased intangible assets
            
            
            (11
            )
            
            (1,549
            )Acquisition
                of property and equipment
            
            
            (383
            )
            
            (162
            )Net
                cash used in investing activities
            
            
            (12,949
            )
            
            (2,211
            )CASH
                FLOWS FROM FINANCING ACTIVITIES:Net
                proceeds from issuance of Series C convertible preferred stock, net
                of
                issuance costs of $2,725 in 2006
            
            
            14,066
            
            
            —Net
                proceeds from issuance of common stock, net of issuance costs of
                $24 in
                2006 and $105 in 2005
            
            
            210
            
            
            4,302Net
                proceeds from exercise of stock options and warrants
            
            
            8,316
            
            
            701Borrowings
                under notes payable and long-term debt
            
            
            —
            
            
            9,932Repayments
                on notes payable and long-term debt
            
            
            (2,428
            )
            
            (3,837
            )Cash
                commitment fee for $100 million Standby Equity Distribution
                Agreement
            
            
            —
            
            
            (1,000
            )Net
                cash provided by financing activities
            
            
            20,164
            
            
            10,098**EFFECT
                OF EXCHANGE RATE CHANGES ON CASH**
            
            
            (527
            )
            
            9**NET
                INCREASE IN CASH AND CASH EQUIVALENTS**
            
            
            **259**
            
            
            **4,441**CASH
                AND CASH EQUIVALENTS, BEGINNING OF PERIOD
            
            
            2,291
            
            
            2,634**CASH
                AND CASH EQUIVALENTS, END OF PERIOD**
            
            **$**
            **2,550**
            
            **$**
            **7,075**SUPPLEMENTAL
                CASH FLOW INFORMATION:Interest
                paid (received) during the period
            
            $
            48
            
            $
            47Income
                taxes paid
            
            
            —
            
            
            —Non-cash
                investing and financing activities:Unrealized
                gain (loss) on marketable securities
            
            
            263
            
            
            —Prepaid
                acquisition costs applied to purchase price
            
            
            168
            
            
            —Fair
                value of shares and notes receivable from Pickups Plus, Inc. acquired
                in
                exchange for Series C convertible preferred stock
            
            
            594
            
            
            —Carrying
                value of promissory note and accrued interest paid in exchange for
                Series
                C convertible preferred stock
            
            
            (3,208
            )
            
            —Fair
                value of shares issued to acquire Mobot, Inc., Sponge Ltd., Gavitec
                AG,
                12Snap AG, and BSD Software, Inc.
            
            
            46,964
            
            
            —Change
                in net assets resulting from acquisitions of Mobot, Inc., Sponge
                Ltd.,
                Gavitec AG, 12Snap AG, and BSD Software, Inc.
            
            
            62,656
            
            
            —Accretion
                of dividends on Series C convertible preferred stock
            
            
            616
            
            
            —Fair
                value of outstanding warrants converted to liabilities
            
            
            13,884
            
            
            —Portion
                of change in fair value of outstanding warrants converted to liabilities
                recorded to paid-in capital
            
            
            3,790
            
            
            —Fair
                value of Series C convertible preferred stock (host instrument
                only)
            
            
            4,908
            
            
            —Deferred
                stock-based financing costs associaed with Series C convertible preferred
                stock
            
            
            3,198
            
            
            —Difference
                between net proceeds and recorded fair value of Series C convertible
                preferred stock
            
            
            4,041
            
            
            —Advance
                receivable from Mobot, Inc. forgiven upon acquisition
            
            
            1,500
            
            
            —Gain
                (loss) on extinguishment of debt paid in common stock
            
            
            (106
            )
            
            138Fair
                value of stock issued for services and deferred to future
                periods
            
            
            —
            
            
            239Direct
                costs associated with Standby Equity Distribution Agreement and Equity
                Line of Credit
            
            
            —
            
            
            1,204Fair
                value of warrants issued as fees related to the $100 million Standby
                Equity Distribution Agreement
            
            
            —
            
            
            12,256





The
      accompanying notes are an integral part of these condensed consolidated
      financial statements.




4


**NEOMEDIA
      TECHNOLOGIES, INC. AND SUBSIDIARIES**


**UNAUDITED
      NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**








**1.**  **BASIS
      OF PRESENTATION AND NATURE OF BUSINESS OPERATIONS**





**Basis
      of Presentation**





The
      condensed consolidated financial statements include the financial statements
      of
      NeoMedia Technologies, Inc. and its wholly-owned subsidiaries (“NeoMedia” or the
“Company”). The accompanying unaudited condensed consolidated financial
      statements have been prepared in accordance with the instructions to Form 10-Q
      and do not include all of the information and footnotes required by accounting
      principles generally accepted in the United States of America for complete
      consolidated financial statements. These condensed consolidated financial
      statements and related notes should be read in conjunction with the Company’s
      Form 10-KSB for the fiscal year ended December 31, 2005. In the opinion of
      management, these condensed consolidated financial statements reflect all
      adjustments which are of a normal recurring nature and which are necessary
      to
      present fairly the consolidated financial position of NeoMedia as of June 30,
      2006, the results of operations for the three and six month periods ended June
      30, 2006 and 2005, and cash flows for the six month periods ended June 30,
      2006
      and 2005. The results of operations for the three and six month periods ended
      June 30, 2006 are not necessarily indicative of the results which may be
      expected for the entire fiscal year. All significant intercompany accounts
      and
      transactions have been eliminated in preparation of the condensed consolidated
      financial statements.





**Going
      Concern**





The
      accompanying condensed consolidated financial statements have been prepared
      in
      conformity with accounting principles generally accepted in the United States
      of
      America, which contemplate continuation of the Company as a going concern. 
Net income for the six months ended June 30, 2006 was $3,815,000 which includes
      a gain on Derivative F inancial
      Instruments of $15,794,000. NeoMedia also reported net losses of $9,147,000
      and
      $7,230,000 for the years ended December 31, 2005 and 2004, respectively, and
      has
      an accumulated deficit of $88,709,000 and a working capital deficit of
      $18,377,000 as of June 30, 2006.


In
        addition, NeoMedia has material liquidity events that could adversely affect
        its
        ability to continue as a going concern, primarily:
 
 ·
            in
                the event that NeoMedia’s stock price at the time the consideration shares
                issued in connection with the acquisitions of Mobot, Sponge, Gavitec,
                and
                12Snap become saleable is less than the contractual price (between
                $0.3839
                and $0.3956), NeoMedia is obligated to compensate the sellers in
                cash for
                the difference between the price at the time the shares become saleable
                and the relevant contractual price. Assuming a stock price at the
                time the
                shares become saleable of $0.165, which was the last sale price on
                July
                21, 2006, NeoMedia would have a cash liability of $25.5 million relating
                to the guarantees. 
 ·
            during
                the six months ended June 30, 2006, NeoMedia made cash payments totaling
                $2.1 million to silent partners of 12Snap, as partial payment under
                silent
                partner agreements put in place prior to the acquisition of 12Snap
                by
                NeoMedia. The agreements call for additional cash payments of $2.1million
                on or before December 31, 2006.




If
      the
      Company’s financial resources are insufficient, the Company may require
      additional financing in order to execute its operating plan and continue as
      a
      going concern. The Company cannot predict whether this additional financing
      will
      be in the form of equity, debt, or another form. The Company may not be able
      to
      obtain the necessary additional capital on a timely basis, on acceptable terms,
      or at all. In any of these events, the Company may be unable to implement its
      current plans for expansion, repay its debt obligations as they become due
      or
      respond to competitive pressures, any of which circumstances would have a
      material adverse effect on its business, prospects, financial condition and
      results of operations. The financial statements do not include any adjustments
      relating to the recoverability and reclassification of recorded asset amounts
      or
      amounts and reclassification of liabilities that might be necessary, should
      the
      Company be unable to continue as a going concern.





Should
      these financing sources fail to materialize, management would seek alternate
      funding sources through sale of common and/or preferred stock. Management’s plan
      is to secure adequate funding to bridge the profitability from the NeoMedia
      Mobile, NeoMedia Micro Paint Repair, and NeoMedia Telecom Services businesses.




5





**Nature
      of Business Operations**





During
      2005, NeoMedia was structured and evaluated by its Board of Directors and
      management as three distinct business units: NeoMedia Internet Switching
      Software (NISS), NeoMedia Micro Paint Repair (NMPR), and NeoMedia Consulting
      and
      Integration Services (NCIS).





NCIS
      is
      the original business line upon which the Company was founded. This unit resells
      client-server equipment and related software, and general and specialized
      consulting services. Because of decreased demand for systems integration
      products, and increased consolidation and competition in the industry in
      general, during 2005 resources allocated to the NCIS business unit were
      increasingly used in sales and business development efforts associated with
      the
      NISS business unit. During
      February 2006, NeoMedia’s Board of Directors elected to formally wind down the
      NCIS business unit. As a result, during February 2006, NeoMedia closed its
      Lisle, Illinois facility out of which the NCIS business unit was based. NeoMedia
      does, however, plan to continue servicing existing contracts and
      customers .





During
      the first quarter of 2006, following the completion of the acquisitions of
      12Snap AG (“12Snap”), Sponge Ltd. (“Sponge”), Gavitec AG (“Gavitec”), Mobot,
      Inc. (“Mobot”), and BSD Software, Inc. (“BSD”), as well as the winding down of
      the NCIS business unit, NeoMedia restructured into the following three business
      units:





-
              NeoMedia
                  Mobile (NMM) - encompassing NeoMedia’s physical-world-to-internet and
                  mobile marketing technologies branded under Qode®, 12Snap, Sponge, Gavitec
                  and Mobot. During the second quarter of 2006, NeoMedia rebranded
                  its
                  PaperClick suite of products under the brand name Qode®.




-
            NeoMedia
                Micro Paint Repair (NMPR) - encompassing the micro paint and auto
                aftermarket accessories manufactured and distributed by
                NeoMedia





-
            NeoMedia
                Telecom Services (NTS) - encompassing the billing, clearinghouse
                and
                information management services of recently-acquired
                BSD








**Reclassifications**





Certain
      amounts in the 2005 condensed consolidated financial statements have been
      reclassified to conform to the 2006 presentation, most notably, “License
      revenue” and “Resales of software and technology equipment and service fees”,
      which were formerly reported as separate line items on NeoMedia’s consolidated
      statement of operations, are now condensed into the category entitled,
“Technology license, service & products.” This is primarily due to the
      winding down of the former NCIS business unit and consolidation of revenues
      relating to the NCIS unit into the NMM unit, as well as the addition of new
      revenue streams from Mobot, Sponge, Gavitec, 12Snap, and BSD that fall into
      the
      same general category.




6


**2.**  **SUMMARY
      OF SIGNIFICANT ACCOUNTING POLICIES**





A s
      a
      result of the addition of the operations of Mobot, Sponge, Gavitec, 12Snap
      and
      BSD, and the issuance of the Series C convertible preferred stock during the
      six
      months ended June 30, 2006, NeoMedia is presenting certain significant
      accounting policies that were not applicable as of the filing of its last annual
      report for the year ended December 31, 2005.





**Stock-based
      Compensation**





Beginning
      January 1, 2006, NeoMedia began to account for stock-based compensation in
      accordance with SFAS No. 123(R), *Share-Based
      Payment* .
      Under
      the fair value recognition provisions of this statement, share-based
      compensation cost is measured at the grant date based on the value of the award
      and is recognized as expense over the vesting period. Determining the fair
      value
      of share-based awards at the grant date requires judgment, including estimating
      expected dividends. In addition, judgment is also required in estimating the
      amount of share-based awards that are expected to be forfeited. If actual
      results differ significantly from these estimates, stock-based compensation
      expense and our results of operations could be materially impacted. Stock-based
      compensation expense is calculated using the Black-Scholes-Merton option pricing
      model on the date of grant. This option valuation model requires input of highly
      subjective assumptions. Because NeoMedia’s employee stock options have
      characteristics significantly different from those of traded options, and
      because changes in the subjective input assumptions can materially affect the
      fair value estimate, in management's opinion, the existing model does not
      necessarily provide a reliable single measure of fair value of its employee
      stock options.





**Fair
      Value of Derivatives**





The
      Company generally does not use derivative financial instruments to hedge
      exposures to cash-flow risks or market-risks that may affect the fair values
      of
      its financial instruments. However, certain other financial instruments, such
      as
      warrants and embedded conversion features that are indexed to the Company’s
      common stock, are classified as liabilities when either (a) the holder possesses
      rights to net-cash settlement or (b) physical or net-share settlement is not
      within the control of the Company. In such instances, net-cash settlement is
      assumed for financial accounting and reporting, even when the terms of the
      underlying contracts do not provide for net-cash settlement. Such financial
      instruments are initially recorded at fair value and subsequently adjusted
      to
      fair value at the close of each reporting period.





The
      caption “Derivative Financial Instruments” consists of (i) the fair values
      associated with derivative features embedded in the Series C convertible
      preferred stock, (ii) the fair values of the detachable warrants that were
      issued in connection with the preferred stock financing arrangement, and (iii)
      the fair value of detachable warrants that were outstanding prior to the
      issuance of the Series C Preferred Shares. **





**Sales
      Taxes Payable**





Sales
      taxes payable represents amounts collected on behalf of specific regulatory
      agencies that require remittance on a specified date. These amounts are
      collected at the time of sales and are detailed on invoices provided to
      customers. At June 30, 2006 sales taxes payable were $1,187,000, of which
      $838,000 were delinquent sales taxes assumed by NeoMedia in connection with
      its
      acquisitions, certain of which are subject to payment plans. In compliance
      with
      the Emerging Issues Task Force consensus on issue number 06-03, NeoMedia
      accounts for sales taxes on a net basis.





**Revenue
      Recognition**





NeoMedia
      derives  revenues from the following  sources:  (1) license
      revenues relating to patents and internally-developed software, (2) hardware,
      software, and service revenues related to mobile marketing campaign design
      and
      implementation, and (3) sale of its proprietary Micro Paint Repair
      solution.





7


(1)
            Technology
                license fees, including Intellectual Property licenses, represent
                revenue
                from the licensing of NeoMedia’s proprietary  software  tools
                and  applications products.  NeoMedia licenses its 
                development  tools and  application  products pursuant to
                non-exclusive and  non-transferable  license agreements. 
                The basis for license fee revenue recognition is substantially governed
                by
                American  Institute  of  Certified  Public 
                Accountants  ("AICPA")  Statement of Position 97-2 "Software
                Revenue  Recognition" ("SOP 97-2"), as amended, and Statement of
                Position 98-9, Modification of SOP 97-2, “Software Revenue Recognition,
                With Respect to Certain Transactions.”.  License revenue is
                recognized if persuasive  evidence of an agreement 
                exists,  delivery has occurred, pricing is fixed and determinable,
                and collectibility is probable.





(2)
            Technology
                service & product revenue, which includes sales of software and
                technology equipment, service fee and telecom revenue attributed
                primarily
                fees for processing Canadian and U.S. terminated call records for
                telecommunication companies.  These revenue generating items are
                recognized  based on guidance  provided in  SEC Staff 
                Accounting  Bulletin  (“SAB”) No. 104,  "Revenue 
                Recognition  in Financial Statements,"  as amended (SAB
                104).  Software and technology equipment resale
                revenue is recognized when persuasive evidence of an arrangement
                exists, the price to the customer is fixed and determinable, delivery
                of
                the service has occurred and collectibility is reasonably assured. 
                Service revenues including maintenance fees for
                providing system updates for software products, user documentation
                and
                technical support are recognized over the life of
                the contract.  Software  license revenue  from 
                long-term  contracts  has  been  recognized  on
                a  percentage  of completion  basis,  along with the
                 associated  services being  provided.  Telecom
                revenues are recognized at the time that calls are accepted by the
                clearing house for billing to customers.  The Company’s recently
                acquired subsidiaries BSD, Mobot and Gavitec follow this
                policy.





(3)
            Technology
                service also includes mobile marketing services to its customers
                which
                mobile marketing projects are recognized after the completion of
                the
                project and accepted by the customer.  All response and messaging
                based revenues are recognized at the time such responses are received
                and
                processed and the Company recognizes its premium messaging revenues
                on a
                gross basis based on guidance provided in Emerging Issues Task Force
                Issues No. 99-19 (EITF 99-19), “Reporting Revenue Gross as Principal or
                Net as an Agent” and No. 01-19 (EITF 01-09) "Accounting for Consideration
                Given by Vendor to a Customer."  However, pursuant to EITF 01-09, the
                Company offsets any consideration given to its customers against
                revenue.
                Consulting and management revenues and revenues for periodic services
                are
                recognized as services are performed.  NeoMedia uses 
                stand-alone  pricing to determine an element's  vendor 
                specific  objective  evidence  (“VSOE”) in order to
                allocate an arrangement  fee amongst various pieces of a 
                multi-element  contract.  The Company’s recently acquired
                subsidiaries 12Snap and Sponge follow this
                policy.





(4)
            Revenue
                for training and certification on NeoMedia’s Micro Paint Repair systems is
                recognized equally over the term of the contract, which is currently
                one
                year.  A portion of the initial fee paid by the customer is allocated
                to training costs and initial products sold with the system, and
                is
                recognized upon completion of training and shipment of the products,
                provided there is VSOE in a multiple element arrangement.  Ongoing
                product and service revenue is recognized as products are shipped
                and
                services performed.





In
      December 2003, the SEC issued SAB 104, “Revenue Recognition.” SAB 104
      supersedes SAB 101, “Revenue Recognition in Financial Statements.”
SAB 104’s primary purpose is to rescind accounting guidance contained in
      SAB 101 related to multiple element revenue arrangements, superseded as a
      result of the issuance of EITF 00-21, “Accounting for Revenue Arrangements
      with Multiple Deliverables.” Additionally, SAB 104 rescinds the SEC’s
      Revenue Recognition in Financial Statements Frequently Asked Questions and
      Answers (the “FAQ”) issued with SAB 101 that had been codified in SEC Topic
      13, Revenue Recognition. Selected portions of the FAQ have been incorporated
      into SAB 104. While the wording of SAB 104 has changed to reflect the
      issuance of EITF 00-21, the revenue recognition principles of SAB 101
      remain largely unchanged by the issuance of SAB 104, which was effective
      upon issuance. The adoption of SAB 104 did not impact NeoMedia’s
      consolidated financial statements.





8





**3.
      ACQUISITIONS**





During
      the six months ended June 30, 2006, NeoMedia completed acquisitions of Mobot,
      Sponge, Gavitec, 12Snap, and BSD.





**Acquisition
      of Mobot**





On
      February 9, 2006, NeoMedia and Mobot. ( www.mobot.com )
      signed
      a definitive merger agreement, subject to closing conditions, under which
      NeoMedia acquired all of the outstanding shares of Mobot in exchange for
      $3,500,000 cash and 16,931,493 shares of NeoMedia common stock (2,604,845 of
      which are being held in escrow for a period of one year from the closing date
      for the purpose of securing the indemnification obligations outlined in the
      purchase agreement). On February 17, 2006, NeoMedia and Mobot completed the
      closing requirements and the acquisition became effective. Pursuant to the
      terms
      of the merger agreement, the number of shares of NeoMedia common stock to be
      issued as stock consideration was calculated using a share price of $0.3839,
      which was the volume-weighted average closing price of NeoMedia common stock
      for
      the ten days up to and including February 8, 2006. In the event that NeoMedia’s
      stock price (at the time the consideration shares are saleable) is less than
      $0.3839, NeoMedia is obligated to compensate Mobot shareholders in cash for
      the
      difference between the price at the time the shares become saleable and $0.3839.
      Assuming a stock price at the time the shares become saleable of $0.165, which
      was the last sale price on July 21, 2006, NeoMedia would have a cash liability
      of $3.7 million resulting from this clause. In addition to cash and stock,
      at
      closing NeoMedia forgave notes payable totaling $1,500,000 due from Mobot.
      This
      amount is considered other additional consideration in the purchase price
      allocation.





Mobot
      is
      a pioneer in visual search and recognition technology designed to make marketing
      effective and innovative using mobile devices. Launched in 2004 to help
      companies cultivate rewarding relationships with mobile phone users, Mobot
      gives
      marketers, content providers and carriers the tools to make it easy for any
      consumer with a camera phone to interact with their offerings. Mobot’s customers
      include, amongst others, ELLEgirl magazine, for which Mobot “turned on”
advertisements throughout the magazine that linked to content and customer
      loyalty promotions on the mobile Internet; The Light Agency, who distributes
      Mobot’s visual search and recognition technology to the U.K. grocery sector
      through its award-winning mobile phone-based loyalty program with the
      Sainsburys-owned convenience store chain Jackson’s; and Warner Music Group’s
      U.S. sales and retail marketing company WEA Corp., running a snap-and-enter
      contest in music stores for music fans to win tailored offers, samples and
      discounts.





NeoMedia
      completed the acquisitions of Mobot, Sponge, Gavitec, and 12Snap in an effort
      to
      gain entry into the rapidly evolving global mobile marketing industry.




9


The
      actual purchase price was based on cash paid, the fair value of NeoMedia stock
      around the date of the acquisition, and direct costs associated with the
      combination. The purchase price has been allocated as follows:





(Dollars
                inThousands)Value
                of 16,931,493 shares issued at $0.395 per share (1)
            
            $
            6,688Cash
                paid
            
            
            3,500Direct
                costs of acquisition
            
            
            8Advances
                to Mobot forgiven at acquisition
            
            
            1,500Total
                Fair Value of Purchase Price
            
            
            11,696Assets
                Purchased:Cash
                and cash equivalents
            
            $
            328Accounts
                receivable
            
            
            68Other
                current assets
            
            
            49Property,
                plant & equipment
            
            
            30Intangible
                assets
            
            
            13Customer
                contracts and relationships
            
            
            440Capitalized
                software platform
            
            
            4,200Copyrighted
                materials
            
            
            90Goodwill
            
            
            6,778Total
                Assets Purchased
            
            
            11,996Less
                Liabilities Assumed:Accounts
                payable
            
            
            51Accrued
                liabilities
            
            
            132Deferred
                revenue
            
            
            117Total
                Liabilities Assumed
            
            
            300





(1)
      -
      Shares were valued using the average stock price for two days before and two
      days after the measurement date, as defined in SFAS 141 and EITF
      99-12





The
      combination is being accounted for as a purchase business combination as defined
      by Statement of Financial Accounting Standards No. 141, Business Combinations.
      The allocation of the purchase price to the assets acquired and liabilities
      assumed is based on an independent valuation report obtained by the Company.
      The
      allocation is subject to change resulting from the purchase price guarantee
      contingency described above.





The
      values assigned to intangible assets, aside from goodwill, are subject to
      amortization. The intangible assets were assigned the following lives for
      amortization purposes:





Estimated
                UsefulIntangible
                asset
            Life
                (in years)Customer
                contracts and relationships
            5Copyrighted
                materials
            5Capitalized
                software platform
            7






10


Goodwill
      was not assigned a life and will be tested for impairment as defined by
      Statement of Financial Accounting Standards No. 144, Accounting for the
      Impairment or Disposal of Long-Lived Assets.





The
      accompanying consolidated statement of operations presented herein for the
      six
      months ended June 30, 2006, contains the results of operations for Mobot for
      the
      period from February 18, 2006, through June 30, 2006. The accompanying
      consolidated statement of operations presented herein for the three months
      ended
      June 30, 2006, contains the results of operations for Mobot for the entire
      three
      month period. Pro-forma results of operations for the three and six months
      ended
      June 30, 2006 and 2005 are presented at the end of this Note 3.





**Acquisition
      of Sponge**





On
      February 20, 2006, NeoMedia and Sponge signed a definitive share purchase
      agreement, subject to closing conditions, under which NeoMedia acquired all
      of
      the outstanding shares of Sponge in exchange for $6,141,000 cash and 33,097,135
      shares of NeoMedia common stock (3,400,490 of which are being held in escrow
      for
      a period of one year from the closing date for the
      purpose of securing the indemnification obligations outlined in the purchase
      agreement ).
      The
      agreement also calls for Sponge to earn an additional £2,500,000 (approximately
      $4.4 million) in the form of NeoMedia common stock if, during the two-year
      period beginning at closing, the Sponge business earns in excess of £1,300,000
      (approximately $2.3 million) in net profits. On February 23, 2006, NeoMedia
      and
      Sponge completed the closing requirements and the acquisition became effective.
      Pursuant to the terms of the merger agreement, the number of shares of NeoMedia
      common stock to be issued as consideration was calculated using a share price
      of
      $0.384, which
      was
      the volume-weighted average closing price of NeoMedia common stock for the
      ten
      days up to and including February 8, 2006 .
      In the
      event that NeoMedia’s stock price (at the time the consideration shares are
      saleable) is less than $0.384, NeoMedia is obligated to compensate Sponge
      shareholders in cash for the difference between the price at the time the shares
      become saleable and $0.384. Assuming
      a stock price at the time the shares become saleable of $0.165, which was the
      last sale price on July 21, 2006, NeoMedia would have a cash liability of $7.2
      million resulting from this clause .





Founded
      in 2001, Sponge has grown to become a U.K. market leader in providing mobile
      applications to agencies and media groups, and gain recognition as one of
      Europe’s top independent developers of mobile applications and content. Today,
      Sponge counts more than 40 agencies, including WPP, Aegis and BBH, as clients,
      and supplies services for over 100 world-class brands, including Coca
      Cola ® ,
      Heineken ® and
      Diageo. Sponge also supplies a range of mobile services to media groups,
      including News International, Trinity Mirror, Endemol and IPC. For
      Walker’s (Frito-Lay) potato chips, Sponge enabled a promotion that offered
      consumers of Walker’s -- the U.K.’s largest snack brand -- to win an iPod every
      5 minutes for 4 weeks, by texting a unique code found on-pack into the Sponge
      platform. More than 5% of the total U.K. population participated in the
      campaign, which has been expanded to Belgium and the Netherlands on the basis
      of
      its success in the U.K. A total of 23% of the U.K. population interacted with
      Sponge applications in 2005.





NeoMedia
      completed the acquisitions of Mobot, Sponge, Gavitec, and 12Snap in an effort
      to
      gain entry into the rapidly evolving global mobile marketing industry.




11


The
      actual purchase price was based on cash paid, the fair value of NeoMedia stock
      around the date of the acquisition, and direct costs associated with the
      combination. The purchase price has been allocated as follows:





(Dollars
                inThousands)Value
                of 33,097,135 shares issued at $0.395 per share (1)
            
            $
            13,073Cash
                paid
            
            
            6,141Direct
                costs of acquisition
            
            
            194Total
                Fair Value of Purchase Price
            
            
            19,408Assets
                Purchased:Cash
                and cash equivalents
            
            $
            177Accounts
                receivable
            
            
            617Other
                current assets
            
            
            35Property,
                plant & equipment
            
            
            53Customer
                contracts and relationships
            
            
            400Capitalized
                software platform
            
            
            1,300Brand
                name
            
            
            800Copyrighted
                materials
            
            
            50Goodwill
            
            
            16,692Total
                Assets Purchased
            
            
            20,124Less
                Liabilities Assumed:Accounts
                payable
            
            
            190Accrued
                liabilities
            
            
            322Other
                current liabilities
            
            
            204Total
                Liabilities Assumed
            
            
            716





(1)
      -
      Shares were valued using the average stock price for two days before and two
      days after the measurement date, as defined in SFAS 141 and EITF
      99-12





The
      combination is being accounted for as a purchase business combination as defined
      by Statement of Financial Accounting Standards No. 141, Business Combinations.
      The allocation of the purchase price to the assets acquired and liabilities
      assumed is based on an independent valuation report obtained by the Company.
      The
      allocation is subject to change resulting from the purchase price guarantee
      contingency described above.





The
      values assigned to intangible assets, aside from goodwill, are subject to
      amortization. The intangible assets were assigned the following lives for
      amortization purposes:





Estimated
                UsefulIntangible
                asset
            Life
                (in years)Customer
                contracts and relationships
            5Copyrighted
                materials
            5Capitalized
                software platform
            7Brand
                name
            10





Goodwill
      was not assigned a life and will be tested for impairment as defined by
      Statement of Financial Accounting Standards No. 144, Accounting for the
      Impairment or Disposal of Long-Lived Assets.





12


The
      purchase agreement calls for the management of Sponge to earn an additional
      £2,500,000 (approximately $4.4 million) in the form of NeoMedia common stock
      if,
      during the two-year period beginning on February 23, 2006, the Sponge business
      earns in excess of £1,300,000 (approximately $2.3 million) in net profits, plus
£1 of NeoMedia common stock for each £1 that earnings exceed £1,300,000 during
      the two-year period. No shares are to be issued pro rata if the earnings target
      is not met.





At
      the
      end of the two-year measurement period (February 22, 2008), if the earnings
      target is met, the financial impact on NeoMedia of the issuance of additional
      shares would be a proportionate increase of approximately $4.4 million in the
      long-term assets acquired from Sponge, with a corresponding increase in
      depreciation expense from the point of issuance forward. If the earnings target
      is not met, no additional shares would be issued and there would be no financial
      impact to NeoMedia. Pursuant to SFAS 141, NeoMedia has not allocated a value
      to
      the contingent consideration in the initial purchase price. Accordingly the
      final purchase price will not be determined until the conclusion of this
      contingency.





The
      accompanying consolidated statement of operations presented herein for the
      six
      months ended June 30, 2006, contains the results of operations for Sponge for
      the period from February 24, 2006, through June 30, 2006. The accompanying
      consolidated statement of operations presented herein for the three months
      ended
      June 30, 2006, contains the results of operations for Sponge for the entire
      three month period. Pro-forma results of operations for the three and six months
      ended June 30, 2006 and 2005 are presented at the end of this Note
      3.





**Acquisition
      of Gavitec**





On
      February 17, 2006, NeoMedia and Gavitec signed a definitive sale and purchase
      agreement, subject to closing conditions, under which NeoMedia acquired all
      of
      the outstanding shares of Gavitec in exchange for $1,800,000 cash and 13,660,511
      shares of NeoMedia common stock (1,366,051 of which are being held in escrow
      until December 31, 2006 for the
      purpose of securing the indemnification obligations outlined in the purchase
      agreement ).
      Pursuant to the terms of the merger agreement, the number of shares of NeoMedia
      common stock to be issued as consideration was calculated using a share price
      of
      $0.389, which
      was
      the volume-weighted average closing price of NeoMedia common stock for the
      ten
      days up to and including February 16, 2006. On
      February 23, 2006, NeoMedia and Gavitec completed the closing requirements
      and
      the acquisition became effective. In the event that NeoMedia’s stock price (at
      the time the consideration shares are saleable) is less than $0.389, NeoMedia
      is
      obligated to compensate Gavitec shareholders in cash for the difference between
      the price at the time the shares become saleable and $0.389. Assuming
      a stock price at the time the shares become saleable of $0.165, which was the
      last sale price on July 21, 2006, NeoMedia would have a cash liability of $3.1
      million resulting from this clause .





Gavitec
      was founded in 1997 as a specialized provider and manufacturer of products
      and
      solutions for mobile marketing and mobile information technology. As a
      technology leader in code-reading systems and software for mobile applications,
      Gavitec offers its clients standardized or individual solutions in the areas
      of
      mobile marketing, mobile ticketing, mobile couponing, and mobile payment
      systems. Gavitec has
      run
      an in-market pilot program in Switzerland for its mobile macro-payment system
      with the leading Swiss retail bank PostFinance, Unisys, seven selected retailers
      including Migros, CoOp and McDonald’s and approximately a thousand consumers.
      Participants receive a personal Data Matrix code via text message to their
      mobile phone. Then to complete a purchase, participants hold their cell phone
      over Gavitec’s EXIO code reader and enter their PIN code to debit their
      PostFinance account. Gavitec has also run trials with “Coast Mobile” in
      conjunction with the British Broadcasting Corporation (BBC) and News
      International’s The Times newspaper, along with a number of other interactive
      mobile campaigns.





NeoMedia
      completed the acquisitions of Mobot, Sponge, Gavitec, and 12Snap in an effort
      to
      gain entry into the rapidly evolving global mobile marketing industry.




13


The
      actual purchase price was based on cash paid, the fair value of NeoMedia stock
      around the date of the acquisition, and direct costs associated with the
      combination. The purchase price has been allocated as follows:





(Dollars
                inThousands)Value
                of 13,660,511 shares issued at $0.386 per share (1)
            
            $
            5,273Cash
                paid
            
            
            1,800Direct
                costs of acquisition
            
            
            114Total
                Fair Value of Purchase Price
            
            
            7,187Assets
                Purchased:Cash
                and cash equivalents
            
            $
            74Accounts
                receivable
            
            
            173Inventory
            
            
            106Other
                current assets
            
            
            53Property,
                plant & equipment
            
            
            15Intangible
                assets
            
            
            3Capitalized
                software platform
            
            
            4,600Copyrighted
                materials
            
            
            50Goodwill
            
            
            2,611Total
                Assets Purchased
            
            
            7,685Less
                Liabilities Assumed:Accounts
                payable
            
            
            113Accrued
                liabilities
            
            
            24Deferred
                revenue
            
            
            117Other
                current liabilities
            
            
            244Total
                Liabilities Assumed
            
            
            498





(1)
      -
      Shares were valued using the average stock price for two days before and two
      days after the measurement date, as defined in SFAS 141 and EITF
      99-12





The
      combination is being accounted for as a purchase business combination as defined
      by Statement of Financial Accounting Standards No. 141, Business Combinations.
      The allocation of the purchase price to the assets acquired and liabilities
      assumed is based on an independent report obtained by the Company. The
      allocation is subject to change resulting from the purchase price guarantee
      contingency described above.


The
      values assigned to intangible assets, aside from goodwill, are subject to
      amortization. The intangible assets were assigned the following lives for
      amortization purposes:





Estimated
                UsefulIntangible
                asset
            Life
                (in years)Copyrighted
                materials
            5Capitalized
                software platform
            7Brand
                name
            10





Goodwill
      was not assigned a life and will be tested for impairment as defined by
      Statement of Financial Accounting Standards No. 144, Accounting for the
      Impairment or Disposal of Long-Lived Assets.





14


The
      accompanying consolidated statement of operations presented herein for the
      six
      months ended June 30, 2006, contains the results of operations for Gavitec
      for
      the period from February 24, 2006, through June 30, 2006. The accompanying
      consolidated statement of operations presented herein for the three months
      ended
      June 30, 2006, contains the results of operations for Gavitec for the entire
      three month period. Pro-forma results of operations for the three and six months
      ended June 30, 2006 and 2005 are presented at the end of this Note
      3.








**Acquisition
      of 12Snap**





On
      February 10, 2006, NeoMedia and 12Snap signed a definitive sale and purchase
      agreement, subject to closing conditions, under which NeoMedia acquired all
      of
      the outstanding shares of 12Snap in exchange for $2,500,000 cash and 49,294,581
      shares of NeoMedia common stock (6,319,818 of which are being held in escrow
      until June 30, 2006 for the
      purpose of securing the indemnification obligations outlined in the purchase
      agreement ).
      On
      February 28, 2006, NeoMedia and 12Snap completed the closing requirements and
      the acquisition became effective. Pursuant to the terms of the merger agreement,
      the number of shares of NeoMedia common stock to be issued as consideration
      was
      calculated using a share price of $0.3956, which
      was
      the volume-weighted average closing price of NeoMedia common stock for the
      ten
      days up to and including February 9, 2006 .
      In the
      event that NeoMedia’s stock price (at the time the consideration shares are
      saleable) is less than $0. 3956, NeoMedia is obligated to compensate 12Snap
      shareholders in cash for the difference between the price at the time the shares
      become saleable and $0.3956. Assuming
      a stock price at the time the shares become saleable of $0.165, which was the
      last sale price on July 21, 2006, NeoMedia would have a cash liability of $11.4
      million resulting from this clause .





12snap
      AG
      is headquartered in Munich with branches in Düsseldorf, New York, London, Milan,
      Stockholm and Vienna. As an expert in innovative marketing and entertainment
      for
      mobile phones, 12snap combines know-how in mobile applications, mobile loyalty
      and mobile marketing. In the mobile marketing space, 12snap creates and
      implements national and pan-European mobile marketing campaigns for
      international brands; its mobile loyalty business unit offers customer loyalty
      programs for companies and brands, and its mobile applications business unit
      is
      the center for development and software. 12snap sells and licenses a wide
      spectrum of mobile solutions to satisfy the demands of the current growing
      market and the new uses of the third mobile phone generation from dynamic video
      services and multiplayer games to personalized messaging applications. 12snap
      has 75 employees, and services to companies including McDonald's,
      MTV ® ,
      Coca-Cola, Ferrero, Wella, adidas, Unilever and Gillette ® .





NeoMedia
      completed the acquisitions of Mobot, Sponge, Gavitec, and 12Snap in an effort
      to
      gain entry into the rapidly evolving global mobile marketing industry.




15


The
      actual purchase price was based on cash paid, the fair value of NeoMedia stock
      around the date of the acquisition, and direct costs associated with the
      combination. The purchase price has initially allocated as follows:





(Dollars
                inThousands)Value
                of 49,294,581 shares issued at $0.394 per share (1)
            
            $
            19,422Cash
                paid
            
            
            2,500Direct
                costs of acquisition
            
            
            114Total
                Fair Value of Purchase Price
            
            
            22,036Assets
                Purchased:Cash
                and cash equivalents
            
            $
            465Investment
                in marketable securities
            
            
            951Accounts
                receivable
            
            
            2,683Other
                current assets
            
            
            554Property,
                plant & equipment
            
            
            224Intangible
                assets
            
            
            93Customer
                contracts and relationships
            
            
            400Capitalized
                software platform
            
            
            4,400Brand
                name
            
            
            1,600Copyrighted
                materials
            
            
            50Goodwill
            
            
            19,391Total
                Assets Purchased
            
            
            30,811Less
                Liabilities Assumed:Accounts
                payable
            
            
            977Accrued
                liabilities
            
            
            1,990Deferred
                revenue
            
            
            1,434Other
                current liabilities
            
            
            225Notes
                payable
            
            
            4,149Total
                Liabilities Assumed
            
            
            8,775





(1)
      -
      Shares were valued using the average stock price for two days before and two
      days after the measurement date, as defined in SFAS 141 and EITF
      99-12




The
      combination is being accounted for as a purchase business combination as defined
      by Statement of Financial Accounting Standards No. 141, Business Combinations.
      The allocation of the purchase price to the assets acquired and liabilities
      assumed is based on an independent valuation report obtained by the Company.
      The
      allocation is subject to change resulting from the purchase price guarantee
      contingency described above.





The
      values assigned to intangible assets, aside from goodwill, are subject to
      amortization. The intangible assets were assigned the following lives for
      amortization purposes:


Estimated
                UsefulIntangible
                asset
            Life
                (in years)Customer
                contracts and relationships
            5Copyrighted
                materials
            5Capitalized
                software platform
            7Brand
                name
            10





16


Goodwill
      was not assigned a life and will be tested for impairment as defined by
      Statement of Financial Accounting Standards No. 144, Accounting for the
      Impairment or Disposal of Long-Lived Assets.





The
      accompanying consolidated statement of operations presented herein for the
      six
      months ended June 30, 2006, contains the results of operations for 12Snap for
      the period from March 1, 2006, through June 30, 2006. The accompanying
      consolidated statement of operations presented herein for the three months
      ended
      June 30, 2006, contains the results of operations for 12Snap for the entire
      three month period. Pro-forma results of operations for the three and six months
      ended June 30, 2006 and 2005 are presented at the end of this Note
      3.








**Acquisition
      of BSD**





On
      March
      21, 2006, NeoMedia completed its acquisition of BSD Software, Inc. of Calgary,
      Alberta, Canada for 7,123,698 shares of NeoMedia common stock. Pursuant to
      the
      terms of the merger agreement, the number of shares of NeoMedia common stock
      to
      be issued as consideration was calculated using a share price of $0.3467, which
      was
      the volume-weighted average closing price of NeoMedia common stock for the
      five
      days preceding March 21, 2006 .
      BSD
      owns 90% of the outstanding shares of Triton Global Business Services, Inc.,
      a
      provider of live and automated operator calling services and e-business support,
      including billing, clearinghouse and information management services, to
      companies in the telecommunications industry.





NeoMedia
      completed the acquisitions of BSD for the purpose of increasing its revenue
      and
      profit through establishment of a Telecom Services business unit, as well as
      gaining access to the Canadian telecom industry in order to penetrate that
      market with the products of the NeoMedia Mobile division.




17


The
      actual purchase price was based on cash paid, the fair value of NeoMedia stock
      around the date of the acquisition, and direct costs associated with the
      combination. The purchase price has been allocated as follows:




(Dollars
                inThousands)Value
                of 7,123,698 shares issued at $0.352 per share (1)
            
            $
            2,508Direct
                costs of acquisition
            
            
            7Total
                Fair Value of Purchase Price
            
            
            2,515Assets
                Purchased:Cash
                and cash equivalents
            
            $
            55Accounts
                receivable
            
            
            1,733Other
                current assets
            
            
            13Property,
                plant & equipment
            
            
            61Customer
                contracts and relationships
            
            
            1,300Copyrighted
                materials
            
            
            130Goodwill
            
            
            4,402Total
                Assets Purchased
            
            
            7,694Less
                Liabilities Assumed:Accounts
                payable
            
            
            2,424Accrued
                liabilities
            
            
            1,224Notes
                payable
            
            
            1,531Total
                Liabilities Assumed
            
            
            5,179





(1)
      -
      Shares were valued using the average stock price for two days before and two
      days after the measurement date, as defined in SFAS 141 and EITF
      99-12





The
      combination is being accounted for as a purchase business combination as defined
      by Statement of Financial Accounting Standards No. 141, Business Combinations.
      The allocation of the purchase price to the assets acquired and liabilities
      assumed is based on an independent valuation report obtained by the Company.





The
      values assigned to intangible assets, aside from goodwill, are subject to
      amortization. The intangible assets were assigned the following lives for
      amortization purposes:





Estimated
                UsefulIntangible
                asset
            Life
                (in years)Customer
                contracts and relationships
            5Copyrighted
                materials
            5


Goodwill
      was not assigned a life and will be tested for impairment as defined by
      Statement of Financial Accounting Standards No. 144, Accounting for the
      Impairment or Disposal of Long-Lived Assets.





The
      accompanying consolidated statement of operations presented herein for the
      six
      months ended June 30, 2006, contains the results of operations for BSD for
      the
      period from March 22, 2006, through June 30, 2006. The accompanying consolidated
      statement of operations presented herein for the three months ended June 30,
      2006, contains the results of operations for BSD for the entire three month
      period. Pro-forma results of operations for the three and six months ended
      June
      30, 2006 and 2005 are presented at the end
      of
      this Note 3 .





18





**Pro
      Forma Financial Information**





Pro-forma
      results of operations as if NeoMedia was combined with Mobot, Sponge, Gavitec,
      12Snap and BSD as of January 1, 2006 are as follows:


**Three
                Months Ended June 30, 2006****Pro-forma****Adjust-**
            
            
            
            **Pro-forma****NeoMedia**
            
            **Mobot**
            
            **Sponge**
            
            **Gavitec**
            
            **12Snap**
            
            **BSD**
            
            **ments**
            
            
            
            **Combined**Total
                net sales
            
            $
            6,606
            
            $
            134
            
            $
            420
            
            $
            364
            
            $
            2,225
            
            $
            2,422
            
            
            ($5,565
            )
            
            (A)
            
            $
            6,606Net
                income (loss)
            
            $
            5,133
            
            
            ($236
            )
            
            ($156
            )
            
            ($138
            )
            
            ($428
            )
            $
            231
            
            $
            727
            
            
            (A)
            
            $
            5,133Net
                income (loss) per shareBasic
            
            $
            0.01
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            $
            ---
            
            
            
            
            $
            0.01Fully
                diluted
            
            $
            0.01
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            $
            ---
            
            
            
            
            $
            0.01Weighted
                average commonshares
                outstandingBasic
            
            
            632,402,254
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            ---
            
            
            
            
            
            632,402,254Diluted
            
            
            799,536,925
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            ---
            
            
            
            
            
            799,536,925




**Six
                Months Ended June 30, 2006****Pro-forma****Adjust-**
            
            
            
            **Pro-forma****NeoMedia**
            
            **Mobot**
            
            **Sponge**
            
            **Gavitec**
            
            **12Snap**
            
            **BSD**
            
            **ments**
            
            
            
            **Combined**Total
                net sales
            
            $
            8,658
            
            $
            219
            
            $
            1,224
            
            $
            486
            
            $
            6,231
            
            $
            5,274
            
            
            ($7,589
            )
            
            (B)
            
            $
            14,503Net
                income (loss)
            
            $
            3,815
            
            
            ($619
            )
            
            ($38
            )
            
            ($290
            )
            $
            115
            
            $
            247
            
            $
            420
            
            
            (B)
            
            $
            3,650Net
                income (loss) per shareBasic
            
            $
            0.01
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            $
            ---
            
            
            (C)
            
            $
            0.01Diluted
            
            $
            0.01
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            $
            (0.01
            )
            
            (C)
            
            $
            0.00Weighted
                average commonshares
                outstandingBasic
            
            
            580,485,463
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            71,521,146
            
            
            (C)
            
            
            652,006,609Diluted
            
            
            757,912,587
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            71,521,146
            
            
            (C)
            
            
            829,433,733




(A)
      Operations of each subsidiary were included in NeoMedia's consolidated
      operations for the entire three month period ended June 30,
      2006.


(B)
      -
      Adjustments are to reflect operations of each acquisition from the closing
      date
      through June 30, 2006 and amortization of intangible assets for the period
      January 1, 2006 through the respective closing dates. Results of operations
      for
      each acquisition from its respective closing date through June 30, 2006 are
      included in NeoMedia's operations for the six months ended June 30, 2006.
      Closing dates for each acquisition were: Mobot (February 17, 2006); Sponge
      and
      Gavitec (February 23, 2006); 12Snap (February 28, 2006); and BSD (March 21,
      2006).





(C)
      -
      Adjustment for shares that would have been issued in connection with
      acquisitions if they had occurred on January 1, 2006. Using the stock price
      around January 1, 2006, the pro forma number of shares that would have been
      issued was:


**Mobot**
            
            **Sponge**
            
            **Gavitec**
            
            **12Snap**
            
            **BSD**
            
            **Total**Total
                stock consideration
            
            $
            6,500,000
            
            $
            11,400,000
            
            $
            5,400,000
            
            $
            19,500,000
            
            $
            2,279,263
            
            $
            45,079,263NeoMedia
                stock price around January 1, 2006 (measurement date)
            
            $
            0.290
            
            $
            0.290
            
            $
            0.290
            
            $
            0.290
            
            $
            0.290Pro
                forma number of shares of
              NeoMedia
                to be issued as purchase price consideration
            
            
            22,413,793
            
            
            39,310,345
            
            
            18,620,690
            
            
            67,241,379
            
            
            7,859,527
            
            
            155,445,734


The
        adjustment between the reported and the pro forma number of weighted average
        shares outstanding is caused by (1) the weighting of the pro forma shares
        for
        the entire six month period ended June 30, 2006, whereas in the reported
        number
        the shares were only outstanding from the closing date through June 30, 2006,
        and (2) the number of pro forma shares being higher than the actual shares
        issued due to a lower stock price on the pro forma date of
        issuance.


19


Pro-forma
      results of operations as if NeoMedia was combined with Mobot, Sponge, Gavitec,
      12Snap and BSD as of January 1, 2005 are as follows:





**Three
                Months Ended June 30, 2005****Pro-forma****(B)**
            
            **Adjust-**
            
            
            
            **Pro-forma****NeoMedia**
            
            **Mobot**
            
            **Sponge**
            
            **Gavitec**
            
            **12Snap**
            
            **BSD**
            
            **ments**
            
            
            
            **Combined**Total
                net sales
            
            $
            538
            
            $
            66
            
            $
            451
            
            $
            140
            
            $
            2,050
            
            $
            4,114
            
            
            ---
            
            
            
            
            $
            7,359Net
                income (loss)
            
            
            ($2,300
            )
            
            ($189
            )
            
            ($18
            )
            
            ($207
            )
            
            ($94
            )
            $
            261
            
            
            ($724
            )
            
            (A)
            
            
            ($3,271
            )Net
                income (loss) per share-basic and diluted
            
            
            ($0.01
            )
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            $
            ---
            
            
            (B)
            
            
            ($0.01
            )Weighted
                average common shares outstanding
            
            
            448,777,048
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            172,717,482
            
            
            (B)
            
            
            621,494,530




**Six
                Months Ended June 30, 2005****Pro-forma****(B)**
            
            **Adjust-**
            
            
            
            **Pro-forma****NeoMedia**
            
            **Mobot**
            
            **Sponge**
            
            **Gavitec**
            
            **12Snap**
            
            **BSD**
            
            **ments**
            
            
            
            **Combined**Total
                net sales
            
            $
            1,285
            
            $
            165
            
            $
            935
            
            $
            392
            
            $
            3,486
            
            $
            4,114
            
            
            ---
            
            
            
            
            $
            10,377Net
                income (loss)
            
            
            ($3,519
            )
            
            ($382
            )
            $
            119
            
            
            ($255
            )
            
            ($676
            )
            $
            261
            
            
            ($1,447
            )
            
            
            
            
            ($5,899
            )Net
                income (loss) per share-basic and diluted
            
            
            ($0.01
            )
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            $
            ---
            
            
            (B)
            
            
            ($0.01
            )Weighted
                average common shares outstanding
            
            
            443,301,430
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            172,717,482
            
            
            (B)
            
            
            616,018,912





(A)
      -
      Adjustment for amortization of intangible assets for the periods presented.


(B)
      -
      Adjustment for shares that would have been issued in connection with
      acquisitions if they had occurred on January 1, 2006. Using the stock price
      around January 1, 2006, the pro forma number of shares that would have been
      issued was:


**Mobot**
            
            **Sponge**
            
            **Gavitec**
            
            **12Snap**
            
            **BSD**
            
            **Total**Total
                stock consideration
            
            $
            6,500,000
            
            $
            11,400,000
            
            $
            5,400,000
            
            $
            19,500,000
            
            $
            2,279,263
            
            $
            45,079,263NeoMedia
                stock price around January 1, 2005 (measurement date)
            
            $
            0.261
            
            $
            0.261
            
            $
            0.261
            
            $
            0.261
            
            $
            0.261Pro
                forma number of shares of
              NeoMedia
                to be issued as purchase price consideration
            
            
            24,904,215
            
            
            43,678,161
            
            
            20,689,655
            
            
            74,712,644
            
            
            8,732,808
            
            
            172,717,482




**Tax
      Implications of Acquisitions**





For
      income tax purposes, amounts assigned to particular assets acquired and
      liabilities assumed in the business combinations are different than amounts
      used
      for financial reporting. The differences in assigned values for financial
      reporting and tax purposes result in temporary differences. In applying SFAS
      109, “Accounting for Income Taxes”, the Company is required to recognize the tax
      effect of these temporary differences and, accordingly, a deferred tax liability
      has been recognized. The Company determined that its pre-existing and
      acquired deferred tax assets, and those acquired, including those subject to
      limitations, were more likely than not to be realized to the extent of the
      deferred tax liability. The reduction in the valuation allowance resulting
      in an
      asset was used to offset the deferred tax liability arising from the
      business combinations, pursuant to SFAS 109.





In
      addition, the acquisitions of Sponge, Gavitec, 12Snap, and BSD involve a change
      of control of foreign entities, and as a result any net operating loss
      carryforward in existence prior to the acquisition may have limited or no use
      for NeoMedia.





20


**Intangible
      Assets**




As
        of
        June 30, 2006, NeoMedia had intangible assets with a cost as
        follows:
  As
                    of June 30, 2006, NeoMedia had intangible assets with a cost
                    as
                    follows:(in
                    thousands)12
                    Snap
                
                Sponge
                
                Gavitec
                
                Mobot
                
                BSD
                
                Other
                
                TotalCustomer
                    Contracts
                
                $
                400
                
                $
                400
                
                $
                0
                
                $
                440
                
                $
                1,300
                
                $
                113
                
                $
                2,653Proprietary
                    Software
                
                
                4,400
                
                
                1,300
                
                
                4,600
                
                
                4,200
                
                
                0
                
                
                817
                
                
                15,317Brand
                    Name
                
                
                1,600
                
                
                800
                
                
                0
                
                
                5
                
                
                0
                
                
                0
                
                
                2,405Copyrighted
                    Materials
                
                
                177
                
                
                50
                
                
                50
                
                
                90
                
                
                130
                
                
                49
                
                
                546Patents
                    & Formulations
                
                
                0
                
                
                0
                
                
                0
                
                
                10
                
                
                0
                
                
                6,683
                
                
                6,693Goodwill
                
                
                19,391
                
                
                16,692
                
                
                2,611
                
                
                6,778
                
                
                4,402
                
                
                1,069
                
                
                50,943Total
                
                $
                25,968
                
                $
                19,242
                
                $
                7,261
                
                $
                11,523
                
                $
                5,832
                
                $
                8,731
                
                $
                78,557
  Accumulated
                    amortization on NeoMedia's intangible assets as of June 30, 2006,
                    was:
  (in
                    thousands)12
                    Snap
                
                Sponge
                
                Gavitec
                
                Mobot
                
                BSD
                
                Other
                
                TotalCustomer
                    Contracts
                
                $
                27
                
                $
                28
                
                $
                0
                
                $
                32
                
                $
                87
                
                $
                55
                
                $
                229Proprietary
                    Software
                
                
                210
                
                
                65
                
                
                232
                
                
                220
                
                
                0
                
                
                640
                
                
                1,367Brand
                    Name
                
                
                53
                
                
                28
                
                
                0
                
                
                2
                
                
                0
                
                
                0
                
                
                83Copyrighted
                    Materials
                
                
                3
                
                
                4
                
                
                3
                
                
                7
                
                
                9
                
                
                24
                
                
                50Patents
                    & Formulations
                
                
                0
                
                
                0
                
                
                0
                
                
                1
                
                
                0
                
                
                2,334
                
                
                2,335Goodwill
                
                
                0
                
                
                0
                
                
                0
                
                
                0
                
                
                0
                
                
                0
                
                
                0Total
                
                $
                293
                
                $
                125
                
                $
                235
                
                $
                262
                
                $
                96
                
                $
                3,053
                
                $
                4,064
  The
                    carrying value of NeoMedia's intangible assets as of June 30,
                    2006
                    was:
  (in
                    thousands)12
                    Snap
                
                Sponge
                
                Gavitec
                
                Mobot
                
                BSD
                
                Other
                
                TotalCustomer
                    Contracts
                
                $
                373
                
                $
                372
                
                $
                0
                
                $
                408
                
                $
                1,213
                
                $
                58
                
                $
                2,424Proprietary
                    Software
                
                
                4,190
                
                
                1,235
                
                
                4,368
                
                
                3,980
                
                
                0
                
                
                177
                
                
                13,950Brand
                    Name
                
                
                1,547
                
                
                772
                
                
                0
                
                
                3
                
                
                0
                
                
                0
                
                
                2,322Copyrighted
                    Materials
                
                
                174
                
                
                46
                
                
                47
                
                
                83
                
                
                121
                
                
                25
                
                
                496Patents
                    & Formulations
                
                
                0
                
                
                0
                
                
                0
                
                
                9
                
                
                0
                
                
                4,349
                
                
                4,358Goodwill
                
                
                19,391
                
                
                16,692
                
                
                2,611
                
                
                6,778
                
                
                4,402
                
                
                1,069
                
                
                50,943Total
                
                $
                25,675
                
                $
                19,117
                
                $
                7,026
                
                $
                11,261
                
                $
                5,736
                
                $
                5,678
                
                $
                74,493
  Estimated
                    future amortization expense on NeoMedia's intangible assets is
                    expected to
                    be:
  (in
                    thousands)Customer
                    Contracts
                
                
                Proprietary
                    Software
                
                
                Brand
                    Name
                
                
                Copyrighted
                    Materials
                
                
                Patents
                    & Formulations
                
                
                Goodwill
                
                
                Total2006
                
                $
                268
                
                $
                1,065
                
                $
                120
                
                $
                43
                
                $
                264
                
                $
                0
                
                $
                1,7602007
                
                
                535
                
                
                2,130
                
                
                241
                
                
                86
                
                
                528
                
                
                0
                
                
                3,5202008
                
                
                535
                
                
                2,130
                
                
                241
                
                
                86
                
                
                528
                
                
                0
                
                
                3,5202009
                
                
                535
                
                
                2,098
                
                
                241
                
                
                86
                
                
                528
                
                
                0
                
                
                3,4882010
                
                
                471
                
                
                2,071
                
                
                240
                
                
                86
                
                
                528
                
                
                0
                
                
                3,396Thereafter
                
                
                80
                
                
                4,456
                
                
                1,239
                
                
                109
                
                
                1,982
                
                
                0
                
                
                7,866Total
                
                $
                2,424
                
                $
                13,950
                
                $
                2,322
                
                $
                496
                
                $
                4,358
                
                $
                0
                
                $
                23,550
  It
                    is important to note that actual amortization expense could differ
                    materially from the table due to subjective factors such as changes
                    in
                    assumptions of useful lives or impairment charges.The
                    weighted average remaining life for the intangible assets was
                    approximately 6.9 years as of June 30, 2006.





21


**Letter
      of Intent to Acquire Hip Cricket**





On
      February 16, 2006, NeoMedia signed a non-binding letter of intent to acquire
      HipCricket, Inc. (“HipCricket”) of Essex, CT ( www.hipcricket.com )
      in
      exchange for $500,000 cash and $4,000,000 of NeoMedia common stock. The number
      of shares to be issued as stock consideration is to be determined using the
      volume-weighted average closing price of NeoMedia stock for the ten days prior
      to the signing of a definitive purchase agreement. The letter of intent is
      subject to due diligence and signing of a mutually agreeable definitive purchase
      agreement by both parties.





In
      addition to signing the LOI, NeoMedia loaned HipCricket the principal amount
      of
      $500,000 in the form of two unsecured promissory notes. The notes accrue
      interest at a rate of 8% per annum. The notes will be applied toward the cash
      portion of the purchase price upon signing of a definitive purchase agreement
      for the acquisition of all of the outstanding shares of HipCricket by NeoMedia,
      as contemplated in the LOI. In the event the acquisition is not consummated,
      the
      notes will become due 90 days after termination of the LOI. In the event the
      LOI
      is terminated and the notes are not repaid within 90 days of such cancellation,
      the notes will convert into shares of HipCricket common stock.





HipCricket
      is a leading mobile marketing firm that provides innovative, custom solutions
      to
      broadcasters and brand marketers. Today, HipCricket works with radio groups
      across the U.S. as well as with some 40 major brand marketers. HipCricket
      combines senior marketing expertise with state-of-the-art mobile and event
      marketing technologies to offer clients unprecedented interactivity with their
      consumers, viewers, listeners or customers on a one-to-one personal level.





22


**4.
      FINANCING**





**Securities
      Purchase Agreement - Series C Convertible Preferred Stock**





The
      Company entered into a Securities Purchase Agreement, dated February 17, 2006
      (the “Agreement”) with Cornell Capital Partners LP, an accredited investor (the
“Purchasers”). Pursuant to the Agreement, the Purchasers agreed to purchase 8%
      cumulative Series C convertible preferred stock to be fully converted three
      (3)
      years from the date of issuance in the aggregate amount of $22,000,000. Net
      consideration from this arrangement amounted to $17,854,000, comprised of cash
      of $14,066,000, marketable securities with a calculated fair value of $579,000
      and a purchase value of $2,000,000, and the extinguishment of $3,209,000 of
      preexisting indebtedness. In addition, the Purchaser withheld $2,725,000
      commitment and structuring fees from the gross proceeds. The Agreement also
      provides for the issuance to the Purchasers, at no additional cost to the
      purchasers, warrants to purchase shares of the Company's common stock. The
      Agreement also calls for the purchasers to acquire an additional $5,000,000
      of
      Series C convertible preferred stock on the date a registration statement filed
      by the Company is declared effective by the U.S. Securities and Exchange
      Commission. In connection with the Agreement, the Company also entered into
      a
      registration rights agreement with the Purchasers that requires the Company
      to
      (i) file a registration statement with the SEC registering the resale of the
      shares of common stock issuable upon conversion of the preferred stock and
      the
      exercise of the warrants, (ii) achieve effectiveness within a stated period
      and
      (iii) maintain effectiveness of the registration statement. Failure to meet
      these requirements will require the Company to incur liquidating damages
      amounting to 1% of the principal per month, but in no event shall consideration
      paid as liquidating damages exceed $1,200,000.





On
      February 17, 2006, the Company issued the Purchasers $22,000,000 in aggregate
      principal amount of such 8% cumulative Series C convertible preferred stock.
      At
      any time from the closing date until February 17, 2009, the Purchasers have
      the
      right to convert the preferred stock, in whole or in part, into common stock
      of
      the Company at the then effective conversion price, which varies relative to
      the
      Company’s trading stock price, as follows: $0.50 per share, or 97% of the lowest
      closing bid prices (as reported by Bloomberg) of the common stock for the 30
      trading days immediately preceding the conversion date. The conversions are
      limited such that the holder cannot exceed 4.99% ownership, unless the holders
      waive their right to such limitation. The limitation will terminate under any
      event of default.





The
      series 8%
      cumulative Series C
      convertible preferred stock also afford the Purchasers anti-dilution protection
      should, at any time while the Series C preferred stock instruments are
      outstanding, the Company offer, sell or grant any option to purchase or offer,
      sell or grant any right to re-price its securities, or otherwise dispose of
      or
      issue any common stock or common stock equivalents, entitle any person to
      acquire shares of common stock at an effective price per share less than the
      then effective conversion price (excluding employee stock options), as
      calculated by the formula described above; then, in such instance, the
      conversion price for the convertible preferred stock shares shall be reduced
      to
      the lower price. In case of any such adjustment in the effective conversion
      price for the convertible preferred shares, this could significantly dilute
      existing investors.





Under
      the
      Agreement, the Purchasers also received “A” warrants, “B” warrants and “C”
warrants to purchase an aggregate of up to 75,000,000 shares of common stock.
      The warrants are exercisable in three separate traunches at a price of $0.50,
      $0.40 and $0.35 respectively per share, subject to adjustment, included under
      anti-dilution protection similar to that described above .
      The
      warrants have a five-year contractual life. NeoMedia can force exercise of
      the
      warrants if the closing bid price of NeoMedia stock is more than $0.10 greater
      than the exercise price of any of the warrants for 15 consecutive days.





23


The
      8%
      cumulative Series C convertible preferred stock contains consequences in case
      of
      default. Events of default which could subject the Company to penalties and
      liabilities as specified in the Agreement include:





·
            Any
                case or action of bankruptcy or insolvency commenced by the Company
                or any
                subsidiary, against the Company or adjudicated by a court against
                the
                Company for the benefit of
                creditors;





·
            Any
                default in its obligations under a mortgage or debt in excess of
                $100,000;





·
            Any
                cessation in the eligibility of the Company’s stock to be quoted on a
                trading market;





·
            Any
                lapse in the effectiveness of the registration statement covering
                the
                shares related to the conversion option, the warrants as described
                and
                transacted in the securities purchase agreement and accompanying
                documents;





·
            Any
                failure to deliver certificates within the specified time;
                and





·
            Any
                failure, by the Company, to pay in full the amount of cash due pursuant
                to
                a buy-in or failure to pay any amounts owed on account on account
                of an
                event of default within 10 days of the date
                due.





Other
      provisions included in the Agreement include the following:





·
            The
                8% cumulative Series C convertible preferred stock is convertible
                into
                common stock, at the option of the Purchaser, at any time after the
                effective date.





·
            Conversions
                can be made in increments and from time to
                time.





·
            The
                8% cumulative Series C convertible preferred stock has voting rights
                on an
                “as converted” basis, meaning the Purchaser is entitled to vote the number
                of shares of common stock into which the 8% cumulative Series C
                convertible preferred stock was convertible as of the record date
                for a
                meeting of shareholders





·
            As
                promptly as practicable after any conversion date, the Company shall
                cause
                its transfer agent to deliver a certificate representing the converted
                shares, free of any legends and trading restrictions for the number
                of
                shares converted;





·
            The
                Company will reserve and keep available authorized and unissued registered
                shares available to be issued upon
                conversion;





·
            Purchaser
                will not be responsible for any transfer taxes relative to issuance
                of
                shares;





·
            If
                the Company offers, sells or grants stock at an effective per share
                price
                less than the then Conversion Price, then the Conversion Price shall
                be
                reduced to equal the effective conversion, exchange or purchase price
                for
                such common stock or common stock
                equivalents;





24


At
      February 17, 2006, a summary of the transaction is as follows:





**Instrument:**Convertible
                Preferred Stock(1)
            
            $
            1,711,000Common
                stock warrants(2)
            
            
            16,172,000Embedded
                conversion feature
            
            
            1,935,000Debt
                extinguishment loss(3)
            
            
            (1,964,000
            )Total
                gross proceeds
            
            $
            17,854,000





(1)
            The
                discount to the face value of the 8% cumulative Series C convertible
                preferred stock that resulted from the allocation along with deferred
                costs is being accreted through periodic charges to additional paid-in
                capital using the effective interest method. Accretion of the deferred
                costs amounted to $480,000 and $0 during the three months ended June
                30,
                2006 and 2005, respectively, and $617,000 and $0 during the six months
                ended June 30, 2006 and 2005,
                respectively.





(2)
            The
                Company issued additional warrants to purchase aggregate 75,000,000
                shares
                of common stock in connection with the 8% cumulative Series C convertible
                preferred stock. The Company also issued 2,000,000 warrants (valued
                at
                $447,000) as financing fees.





(3)
            The
                financing arrangement settled face value $3,209,000 of preexisting
                indebtedness. The debt extinguishment loss was calculated as the
                amount
                that the fair value of securities issued (using a relative fair value
                basis) exceeded the Company’s carrying
                value.





The
      carrying value of the 8% cumulative Series C convertible preferred stock
      amounted to $2,327,000, net of unaccreted deferred cost of $24,953,000, at
      June
      30, 2006. Face value of Series C convertible preferred stock at June 30, 2006
      is
      $22,000,000. Derivative financial instruments arising from the issuance of
      Series C convertible preferred stock are initially recorded and continuously
      carried at fair values. Upon conversion of any derivative financial instrument,
      the change in fair value from the previous reporting date to the date of
      conversion is recorded to income (loss), and then the carrying value is recorded
      to paid-in capital, provided all other criteria for equity classification are
      met. The following tabular presentation reflects the components of derivative
      financial instruments on the Company’s balance sheet at June 30,
      2006:




**(Assets)
                Liabilities:**
            
            **June
                30, 2006**Cornell
                warrants
            
            $
            6,480,000Embedded
                conversion feature
            
            
            1,031,000Other
                warrants(1)
            
            
            4,896,000$
            12,407,000





(1)
            The
                fair values of certain other derivative financial instruments (warrants)
                that existed at the time of the issuance of Series C convertible
                preferred
                stock were reclassified from stockholders’ equity to liabilities when, in
                connection with the issuance of Series C convertible preferred stock,
                the
                Company no longer controlled its ability to share-settle these
                instruments. These derivative financial instruments had fair values
                of
                $13,883,000 and $4,702,000 on February 17, 2006 and June 30, 2006,
                respectively. The decrease in fair value of these other derivative
                financial instruments resulted from a decrease in NeoMedia’s share price
                between February 17, 2006 and June 30, 2006. The change in fair value
                is
                reported as “Gain on Derivative Financial Instruments” in the accompanying
                condensed consolidated statement of operations. These warrants will
                be
                reclassified to stockholders’ equity when the Company reacquires the
                ability to share-settle the instruments.





The
      following tabular presentation reflects the number of common shares into which
      the aforementioned derivative financial instruments are indexed at June 30,
      2006:




**Shares
                of**
              **common
                stock**Cornell
                warrants
            
            
            75,000,000Embedded
                conversion feature (1)
            
            
            116,804,124Other
                warrants
            
            
            33,325,000225,129,124





(1)
            The
                terms of the embedded conversion features (ECF) in the Series C
                convertible preferred stock provide for variable conversion rates
                that are
                indexed to the Company’s trading common stock price. As a result, the
                number of indexed shares is subject to continuous fluctuation. For
                presentation purposes, the number of shares of common stock into
                which the
                ECF was convertible as of June 30, 2006 was calculated as the face
                value
                of $22,000,000 plus assumed dividends of $660,000 if declared, divided
                by
                97% of the lowest closing bid price for the 30 trading days preceding
                June
                30, 2006.





25


Derivative
      income for the six months ended June 30, 2006 and 2005 associated with
      adjustments recorded to reflect the aforementioned derivatives at fair value
      amounted to $15,794,000 and $0, respectively, and is reported as “Gain on
      Derivative Financial Instruments” in the accompanying condensed consolidated
      statement of operations.








Fair
      value considerations for derivative financial instruments :





Freestanding
      derivative instruments, consisting of warrants that arose from the Cornell
      financing and those reclassified as described above are valued using the
      Black-Scholes-Merton valuation methodology because that model embodies all
      of
      the relevant assumptions that address the features underlying these instruments.
      Significant assumptions included in this model as of June 30, 2006 are as
      follows:





Holder
            Cornell
                Capital Partners
            OtherInstrument
            Warrants
            WarrantsExercise
                price
            $0.35
                - $0.50
            $0.01
                - $3.45Term
                (years)
            5.0
            1.0
                - 5.0Volatility
            70.80%
            52.56%
                -70.80%Risk-free
                rate
            3.65%
            3.65%





Embedded
      derivative financial instruments, arising from the Series C convertible
      preferred stock, consist of multiple individual features that were embedded
      in
      the instrument. The Company evaluated all significant features of the hybrid
      instruments and, where required under current accounting standards, bifurcated
      features for separate report classification. These features were aggregated
      into
      one compound derivative financial instrument for financial reporting purposes.
      The compound embedded derivative instruments are valued using the Flexible
      Monte
      Carlo methodology because that model embodies certain relevant assumptions
      (including, but not limited to, interest rate risk, credit risk, and
      conversion/redemption privileges) that are necessary to value these complex
      derivatives.





Assumptions
      included exercise estimates/behaviors and the following other significant
      estimates:





**Instrument**
            **Features**Conversion
                prices
            $0.95
                - $1.29Remaining
                terms (years)
            1
                -
                5Equivalent
                volatility
            52.56%
                - 56.47%Equivalent
                interest-risk adjusted rate
            8.17%
                - 8.58%Equivalent
                credit-risk adjusted yield rate
            14.50%





Equivalent
      amounts reflect the net results of multiple modeling simulations that the Monte
      Carlo Simulation methodology applies to underlying assumptions. The assumptions
      included in the Monte Carlo Simulation calculation are highly subjective and
      subject to interpretation.




26


**Standby
      Equity Distribution Agreements with Cornell**





On
      October 27, 2003, NeoMedia and Cornell entered into a $20 million Standby Equity
      Distribution Agreement (the “2003 SEDA”). The agreement provided for a maximum
“draw” of $280,000 per week, not to exceed $840,000 in any 30-day period, and
      Cornell will purchase up to $20 million of the Company’s common stock over a
      two-year period. The SEDA became effective during January 2004, and expired
      after a two-year term in January 2006. During the six months ended June 30,
      2006
      and 2005, NeoMedia sold 751,880 and 14,257,025 shares of its common stock to
      Cornell pursuant to the 2003 SEDA. The following table summarizes funding
      received from Cornell during the six months ended June 30, 2006 and
      2005:





**2006**
            
            **2005****Six**
            
            
            
            
            
            **Six****Months**
            
            
            
            
            
            **Months****First**
            
            **Second**
            
            **Ended**
            
            **First**
            
            **Second**
            
            **Ended****Quarter**
            
            **Quarter**
            
            **June
                30**
            
            **Quarter**
            
            **Quarter**
            
            **June
                30**Number
                of shares sold to Cornell
            
            
            751,880
            
            
            ---
            
            
            751,880
            
            
            6,998,931
            
            
            7,258,094
            
            
            14,257,025Gross
                Proceeds from sale of shares
            
            $
            234,000
            
            $
            ---
            
            $
            234,000
            
            $
            1,709,000
            
            $
            3,219,000
            
            $
            4,928,000Less:
                discounts and fees*
            
            
            (24,000
            )
            
            ---
            
            
            (24,000
            )
            
            (204,000
            )
            
            (489,000
            )
            
            (693,000
            )Net
                Proceeds from sale of shares
            
            $
            210,000
            
            $
            ---
            
            $
            210,000
            
            $
            1,505,000
            
            $
            2,730,000
            
            $
            4,235,000





*
      Pursuant
      to the terms of the 2003 SEDA , stock is valued at 98% of the lowest closing
      bid
      price during the week it was sold.








On
      March
      30, 2005, NeoMedia and Cornell entered into a Standby Equity Distribution
      Agreement (the “2005 SEDA”) under which Cornell agreed to purchase up to $100
      million of NeoMedia common stock over a two-year period, with the timing and
      amount of the purchase at NeoMedia’s discretion. The maximum amount of each
      purchase would be $2,000,000 with a minimum of five business days between
      advances. The shares would be valued at 98% of the lowest closing bid price
      during the five-day period following the delivery of a notice of purchase by
      NeoMedia, and NeoMedia would pay 5% of the gross proceeds of each purchase
      to
      Cornell. Concurrent with the SEDA, NeoMedia entered into an escrow agreement
      with Cornell and an escrow agent, under which the escrow agent holds in an
      escrow account shares of NeoMedia common stock, and the cash paid by Cornell
      for
      such shares, issued pursuant to an advance under the SEDA. The shares and funds
      can only be released upon receipt by the escrow agent of a joint disbursement
      instruction signed by NeoMedia and Cornell. NeoMedia expects to file a
      registration statement with the SEC to register the shares underlying the 2005
      SEDA. The 2005 SEDA would become available at the time the SEC declares
      effective a registration statement containing such shares.





As
      a
      commitment fee for Cornell to enter into the 2005 SEDA, NeoMedia issued 50
      million warrants to Cornell with an exercise price of $0.20 per share, and
      a
      term of three years, and also paid a cash commitment fee of $1 million. During
      the six months ended June 30, 2006, Cornell exercised 40 million of the
      warrants, generating cash proceeds of $8 million to NeoMedia. NeoMedia also
      issued 4 million warrants with an exercise price of $0.227 to a consultant
      as a
      fee in connection with the 2005 SEDA, which have not been exercised. As of
      June
      30, 2005, NeoMedia recorded the $12.3 million fair value of the warrants to
      “Deferred equity financing costs” and, upon effectiveness of the 2005 SEDA, will
      amortize this amount to additional paid-in capital straight-line over the
      two-year life of the 2005 SEDA.





27


**Promissory
      Note Payable to Cornell**





On
      March
      30, 2005, NeoMedia borrowed from Cornell the principal amount of $10,000,000
      before discounts and fees in the form of a secured promissory note. Cornell
      withheld structuring and escrow fees of $68,000 related to the note. The note
      was originally scheduled to be repaid at a rate of $1,120,000 per month
      commencing May 1, 2005, which was subsequently changed to $840,000 per month,
      continuing until principal and interest were paid in full. The note accrued
      interest at a rate of 8% per annum on any unpaid principal. In connection with
      the note, NeoMedia and Cornell entered into a Security Agreement under which
      the
      note was secured by all of NeoMedia's assets other than its patents and patent
      applications. NeoMedia also escrowed 25,000,000 shares of its restricted common
      stock as security for the note. During the period from March 30, 2005 through
      January 9, 2006, NeoMedia made payments against the principal totaling
      $7,210,000. On February 17, 2006, NeoMedia retired the balance of the principal
      in the amount of $2,790,000, plus accrued interest of $419,000, from the
      proceeds of the Series C convertible preferred financing arrangement with
      Cornell. In connection with the payment and issuance of the Series C convertible
      preferred stock, NeoMedia recognized a loss on extinguishment of debt of
      $1,964,000 during the six months ended June 30, 2006.








**5.** **INVESTMENT
      IN MARKETABLE SECURITIES**





On
      February 25, 2005, NeoMedia invested $250,000 in exchange for 8,333,333 shares
      of PUPS restricted common stock. On February 17, 2006, as a component of net
      proceeds from the issuance of 8% Series C convertible preferred stock, NeoMedia
      received marketable securities with a fair value of $579,000, of which, $200,000
      represented 20,000,000 shares of PUPS common stock and $379,000 in notes
      designated as held to maturity. NeoMedia acquired an additional 20,000,000
      shares of PUPS common stock for a purchase price equal to $389,000. PUPS is
      a
      retail operator and franchiser of retail automotive parts and accessories stores
      catering to the light truck market, and also provides new vehicle preparation,
      environmental protection packages, detailing and reconditioning products and
      services. In accordance with Statements
      of Financial Accounting Standards No. 115, “Accounting for Certain Investments
      in Debt and Equity Securities,” the investment in PUPS is being recorded as
      available-for-sale securities and reported at fair value. Accordingly,
      unrealized gains and losses on the equity securities are reflected in the
      condensed consolidated statement of operations and comprehensive income (loss).





The
      investments in marketable securities are summarized as follows:





**As
                of June 30, 2006**Unrealized
            
            Unrealized
            
            FairCost
            
            Holding
                Gain
            
            Holding
                Losses
            
            ValueAvailable-for-sale
            
            $
            639,000
            
            $
            -
            
            
            ($72,000
            )
            $
            566,667Held
                to maturity
            
            $
            379,000
            
            $
            -
            
            $
            -
            
            $
            379,000





Held
      to
      maturity securities consist of four notes receivable from PUPS with a face
      value
      of $1,365,000 and a fair value of $379,000. The fair value of $379,000 is
      recorded in other long-term assets on the consolidated balance sheet as of
      June
      30, 2006. The notes are delinquent and accrue interest at rates between 12
      -
      24%. NeoMedia has not recorded any interest since the Company is using the
      cost
      recovery method.




28


**6.** **FINANCIAL
      INSTRUMENTS**




The
      carrying amount of the Company's cash equivalents, accounts receivable, prepaid
      expenses, other current assets, cash surrender value of life insurance policy,
      accounts payable and accrued expenses, accrued salaries and benefits, and
      payable to merchants approximates their estimated fair values due to the
      short-term maturities of those financial instruments.





Rates
      currently available to the Company for debt with similar terms and remaining
      maturities are used to estimate fair value of existing debt.




It
      is not
      practicable to estimate the fair value of the Company’s 17% investment in the
      common stock of i-Point Media Ltd. and its investments of 250,000 shares of
      preferred stock of Intactis Software, Inc ., because
      of the lack of quoted market prices and the inability to estimate fair value
      without incurring excessive costs. During the year ended December 31, 2005
      NeoMedia took an impairment of the carrying values of its investments in
      iPoint-media and Intactis of $530,000 and $250,000, respectively. No impairment
      charge was taken during the six months ended June 30, 2006. The net carrying
      value of these investments were $470,000 as of June 30, 2006.




For
      all
      available-for-sale investment securities, the carrying values represents fair
      value of the securities and unrealized gain (losses) that are other than
      temporary are recognized as other comprehensive income (loss). NeoMedia does
      not
      hold these securities for speculative or trading purposes. Also see Note
      5.








**7.** **COMPUTATION
      OF NET INCOME (LOSS) PER SHARE**


Basic
        net
        income (loss) per share is computed by dividing net loss attributable to
        the
        stockholders by the weighted average number of shares of common stock
        outstanding during the period. Diluted earnings per share is computed on
        the
        basis of the weighted average number of shares of common stock plus the effect
        of dilutive potential common shares outstanding during the period using the
        treasury stock method. Dilutive potential common shares include in-the-money
        stock options and warrants, and convertible preferred stock instruments.
        The
        effect on weighted average shares outstanding of dilutive potential shares
        during the three and six months ended June 30, 2006 is as follows:
 
 **Three**
              
              **Six****Months**
              
              **Months****Ended**
              
              **Ended****June
                  30,**
              
              **June
                  30,****2006**
              
              **2006**In-the-money
                  options and warrants
              
              
              66,695,100
              
              
              75,508,850Convertible
                  Preferred Stock (on an as converted basis - June 30, 2006)(1)
              
              
              116,579,361
              
              
              116,579,361183,274,461
              
              
              192,088,211
  (1)
        - The
        terms of the embedded conversion features (ECF) in the Series C convertible
        preferred stock provide for variable conversion rates that are indexed to
        the
        Company’s trading common stock price. As a result, the number of indexed shares
        is subject to continuous fluctuation. For presentation purposes, the number
        of
        shares of common stock into which the ECF was convertible as of June 30,
        2006
        was calculated as the face value of $22,000,000 plus assumed dividends of
        $660,000 if declared, divided by 97% of the lowest closing bid price for
        the 30
        trading days preceding June 30, 2006.
  During
        the three and six months ended June 30, 2005, the Company reported net loss
        per
        share, and as such basic and diluted loss per share were equivalent. The
        number
        of outstanding options and warrants excluded from the computation of loss
        per
        share, because of the anti-dilutive effect is as follows:
 
 **June
                  30, 2005**Outstanding
                  Stock Options
              
              
              78,847,971Outstanding
                  Warrants
              
              
              72,775,000


29


**8.
      STOCK BASED COMPENSATION**





At
      June
      30, 2006, NeoMedia has four employee stock option plans (the 1996 Stock Option
      Plan, the 1998 Stock Option Plan, the 2003 Stock Option Plan, and the 2005
      Stock
      Option Plan) and one employee stock compensation plan (the 2003 Stock Incentive
      Plan) (collectively, the “Plans”). Prior to January 1, 2006, NeoMedia accounted
      for those plans under the recognition and measurement provisions of APB Opinion
      No. 25, Accounting for Stock Issued to Employees, and related Interpretations,
      as permitted by FASB Statement No. 123, Accounting for Stock-Based Compensation
      (“Statement 123(R)”). No stock-based employee compensation cost was recognized
      in the statement of operations for the fiscal years or interim periods ended
      prior to December 31, 2005, as all options granted under those plans had an
      exercise price equal to the market value of the underlying common stock on
      the
      date of grant. Effective January 1, 2006, NeoMedia adopted the fair value
      recognition provisions of Statement 123(R), using the
      modified-prospective-transition method. Under that transition method,
      compensation cost recognized in the first quarter of 2006 includes: (a)
      compensation cost for all share-based payments granted prior to, but not yet
      vested as of January 1, 2006, based on the grant date fair value estimated
      in
      accordance with the original provisions of Statement 123, and (b) compensation
      cost for all share-based payments granted subsequent to January 1, 2006, based
      on the grant-date fair value estimated in accordance with the provisions of
      Statement 123(R). Results for prior periods have not been restated.





As
      a
      result of adopting Statement 123(R) on January 1, 2006, NeoMedia’s net income
      for the three and six months ended June 30, 2006 is $1,111,000 and
      $2,589,000  lower respectively, than if it had continued to account for
      share-based compensation under Opinion 25. Basic and diluted earnings per share
      for the three and six months ended June 30, 2006 is lower by less than $0.01
      per
      share period than it would have been if NeoMedia had not adopted Statement
      123(R). Earnings per share attributable to common shareholders for the three
      and
      six months ended June 30, 2006 is lower by less than $0.01 per share in each
      period than it would have been if NeoMedia had not adopted Statement 123(R).
      Estimated income tax benefits recognized during the three and six months ended
      June 30, 2006 were offset by a valuation allowance since realization was not
      reasonably assured.





Prior
      to
      the adoption of Statement 123(R), it was NeoMedia’s policy to present all tax
      benefits of deductions resulting from the exercise of stock options as operating
      cash flows in its statement of cash flows, however, due to NeoMedia’s tax loss
      carryforward, any such benefits were always fully offset by a valuation
      allowance. Statement 123(R) requires the cash flows resulting from the tax
      benefits resulting from tax deductions in excess of the compensation cost
      recognized for those options (excess tax benefits) to be classified as financing
      cash flows. NeoMedia will use this presentation if and when it has exhausted
      its
      tax loss carryforward.




30


The
      following table illustrates the effect on net loss and loss per share if
      NeoMedia had applied the fair value recognition provisions of Statement
      123(R) to
      options granted under NeoMedia’s stock option plans in 2005. For purposes of
      this pro forma disclosure, the value of the options is estimated using a
      Black-Scholes option-pricing formula and amortized to expense over the options’
vesting periods.





**Three
                Months**
            
            **Six
                Months****Ended
                June 30,**
            
            **Ended
                June 30,****2005**
            
            **2005**Net
                Loss, as reported
            
            
            ($2,300
            )
            
            ($3,519
            )Add:
                stock-based employee compensationexpense
                included in reported net income,net
                of related tax effects
            
            
            ---
            
            
            ---Deduct:
                Total stock-based employeecompensation
                expense determined underfair
                value method for all awards, net ofrelated
                tax effects
            
            
            (1,051
            )
            
            (1,404
            )Pro-forma
                net loss
            
            
            ($3,351
            )
            
            ($4,923
            )Net
                Loss per share:Basic
                and diluted - as reported
            
            
            ($0.01
            )
            
            ($0.01
            )Basic
                and diluted - pro-forma
            
            
            ($0.01
            )
            
            ($0.01
            )





Note
      that
      the above pro forma disclosures are provided for the three and six months ended
      June 30, 2005 because employee stock options were not accounted for using the
      fair-value method during those periods.





The
      Plans
      permit the grant of share options and shares to NeoMedia’s employees, board of
      directors, and outside consultants. NeoMedia believes that such awards better
      align the interests of its employees with those of its shareholders. Option
      awards are generally granted with an exercise price equal to the market price
      of
      NeoMedia’s stock at the date of grant; those option awards generally vest over a
      period of 3 years and have 10-year contractual terms. Shares granted upon the
      exercise of stock options are newly issued shares. The fair value of each option
      award is estimated on the date of grant using the Black-Scholes valuation
      model that uses the assumptions noted in the following table. Because Black-Scholes valuation
      model incorporates ranges of assumptions for inputs, those ranges are disclosed.
      Expected volatilities are based on the expected impact on future stock price
      of
      expected future revenue and earnings, historical volatility of NeoMedia’s stock,
      and other factors. NeoMedia uses historical data to estimate option exercise
      and
      employee termination within the valuation model. The expected term of options
      granted represents the period of time that options granted are expected to
      be
      outstanding.





**Three
                and Six months ended June 30,****2006**
            
            **2005**Volatility
            56%
            
            431%
                - 446%Expected
                dividends
            ---
            
            ---Expected
                term (in years)
            3
            
            3Risk-free
                rate
            4.35%
            
            4.50%





31


As
      of
      January 1, 2006, NeoMedia reevaluated its volatility calculation to take into
      consideration the guidance outlined in Statement 123(R). Prior to January 1,
      2006, NeoMedia calculated volatility using only historical share price data.
      Under the provisions of Statement 123(R), from January 1, 2006 onward NeoMedia
      has considered historical volatility, as well expected future volatility. As
      a
      result, NeoMedia’s volatility decreased significantly for stock based
      compensation granted during the six months ended June 30, 2006 as compared
      with
      stock based compensation granted prior to January 1, 2006. NeoMedia will
      evaluate its volatility on an ongoing basis using the most current information
      available. NeoMedia expects that, under the guidelines of Statement 123(R),
      future volatility will more closely resemble 2006 levels than previous years.





A
      summary
      of option activity under the Plans as of June 30, 2006, and changes during
      the
      six months then ended is presented below:


**Weighted****Weighted**
            
            **Average****Average**
            
            **Remaining**
            
            **Aggregate****Exercise**
            
            **Contractual**
            
            **Intrinsic****Shares**
            
            **Price**
            
            **Term**
            
            **Value**(In
                thousands)
            
            
            
            (in
                years)
            
            (In
                thousands)Outstanding
                at January 1, 2006
            
            
            100,041
            
            $
            0.18Granted
            
            
            25,300
            
            $
            0.37Exercised
            
            
            (2,231
            )
            $
            0.14Forfeited
            
            
            (4,113
            )
            $
            0.21Outstanding
                at June 30, 2006
            
            
            118,997
            
            $
            0.22
            
            
            8.6
            
            $
            7,793Vested
                or expected to vest at June 30, 2006
            
            
            73,362
            
            $
            0.16
            
            
            8.2
            
            $
            7,329





The
      weighted-average grant-date fair value of options granted during the six months
      ended June 30, 2006 was $0.11. The total intrinsic value of options exercised
      during the six months ended June 30, 2006 was $411,000. Total cash received
      from
      options exercised was $316,000 and $695,000 for the six months ended June 30,
      2006 and 2005, respectively.





A
      summary
      of the status of NeoMedia’s nonvested shares as of June 30, 2006, and changes
      during the six months ended June 30, 2006, is presented below:


**Weighted****Average****Grant
                Date****Nonvested
                Shares**
            
            **Shares**
            
            **Fair
                Value**(in
                thousands)Nonvested
                at January 1, 2006
            
            44,215
            
            $0.18Granted
            
            15,600
            
            $0.12Vested
            
            (11,606)
            
            $0.19Forfeited
            
            (2,574)
            
            $0.21Nonvested
                at June 30, 2006
            
            45,635
            
            $0.24





As
      of
      June 30, 2006, there was $9,065,000 of total unrecognized compensation cost
      related to nonvested share-based compensation arrangements granted under the
      Plans. That cost is expected to be recognized over a weighted-average period of
      1.4 years.




32


**9.** **SEGMENT
      REPORTING**


As
      of
      June 30, 2006, NeoMedia was structured and evaluated by its Board of Directors
      and Management as three distinct business units:





-
            NeoMedia
                Mobile (NMM) - encompassing NeoMedia’s physical-world-to-internet and
                mobile marketing technologies branded under Qode, 12Snap, Sponge,
                Gavitec
                and Mobot




-
            NeoMedia
                Micro Paint Repair (NMPR) - encompassing the micro paint and auto
                aftermarket accessories manufactured and distributed by
                NeoMedia





-
            NeoMedia
                Telecom Services (NTS) - encompassing the billing, clearinghouse
                and
                information management services of recently-acquired
                BSD





NeoMedia’s
      reportable segments are strategic business units that offer different technology
      and marketing strategies. NMM is headquartered in Ft. Myers, Florida, and
      operates principally in the United States and in Europe through the recent
      acquisitions of Sponge (United Kingdom), 12Snap (Germany) and Gavitec (Germany).
      NMPR is headquartered in Ft. Myers, Florida, and currently sells into Canada,
      the United States, Australia, New Zealand, Scandinavia, Mexico and China. NTS
      is
      headquartered in Calgary, Alberta, Canada and presently primarily operates
      within Canada.




33


Consolidated
      net sales and net income (loss) for the three and six month periods ended June
      30, 2006 and 2005, and identifiable assets as of June 30, 2005 and 2006 by
      geographic area were as follows:


(in
                thousands)
            
            (in
                thousands)**Three
                Months Ended**
            
            **Six
                Months Ended****June
                30,**
            
            **June
                30,****2006**
            
            **2005**
            
            **2006**
            
            **2005****Net
                Sales:**United
                States
            
            $
            501
            
            $
            358
            
            $
            943
            
            $
            968Germany
            
            
            4,572
            
            
            ---
            
            
            4,789
            
            
            ---United
                Kingdom
            
            
            1,038
            
            
            ---
            
            
            1,338
            
            
            ---Canada
            
            
            190
            
            
            180
            
            
            583
            
            
            317Italy
            
            
            118
            
            
            ---
            
            
            805
            
            
            ---Other
            
            
            187
            
            
            ---
            
            
            200
            
            
            ---$
            6,606
            
            $
            538
            
            $
            8,658
            
            $
            1,285**Net
                Income (Loss):**United
                States
            
            $
            5,731
            
            
            ($2,133
            )
            $
            4,760
            
            
            ($3,133
            )Germany
            
            
            (48
            )
            
            ---
            
            
            (538
            )
            
            ---United
                Kingdom
            
            
            (239
            )
            
            ---
            
            
            (170
            )
            
            ---Canada
            
            
            (151
            )
            
            (167
            )
            
            (555
            )
            
            (386
            )Italy
            
            
            (39
            )
            
            ---
            
            
            499
            
            
            ---Other
            
            
            (121
            )
            
            ---
            
            
            (181
            )
            
            ---$
            5,133
            
            $
            (2,300
            )
            $
            3,815
            
            $
            (3,519
            )**Identifiable
                Assets**United
                States (1)
            
            $
            80,212Germany
            
            
            2,671United
                Kingdom
            
            
            516Canada
            
            
            5,692$
            89,091




(1)
      - For
      segment reporting purposes, goodwill and intangible assets of acquired
      subsidiaries are assumed to be located at NeoMedia headquarters in the United
      States.





34


Consolidated
      net sales, net operating losses for the three and six month periods ended June
      30, 2006 and 2005, and identifiable assets as of June 30, 2006, by business
      unit
      were as follows:





(in
                thousands)
            
            (in
                thousands)**Three
                Months Ended**
            
            **Six
                Months Ended****June
                30,**
            
            **June
                30,****2006**
            
            **2005**
            
            **2006**
            
            **2005****Net
                Sales:**NeoMedia
                Mobile (1)
            
            $
            3,268
            
            $
            153
            
            $
            4,711
            
            $
            173NeoMedia
                Telecom Services (2)
            
            
            2,937
            
            
            ---
            
            
            3,169
            
            
            ---NeoMedia
                Micro Paint Repair
            
            
            401
            
            
            261
            
            
            778
            
            
            716NeoMedia
                Consulting & Integration Services (3)
            
            
            ---
            
            
            124
            
            
            ---
            
            
            396$
            6,606
            
            $
            538
            
            $
            8,658
            
            $
            1,285**Net
                Income (Loss:)**NeoMedia
                Mobile (1)
            
            
            ($3,083
            )
            
            ($543
            )
            
            ($4,847
            )
            
            ($865
            )NeoMedia
                Telecom Services (2)
            
            
            217
            
            
            ---
            
            
            (183
            )
            
            ---NeoMedia
                Micro Paint Repair
            
            
            (755
            )
            
            (275
            )
            
            (1,206
            )
            
            (347
            )NeoMedia
                Consulting & Integration Services (3)
            
            
            ---
            
            
            (583
            )
            
            -
            
            
            (925
            )Corporate
                overhead
            
            
            (2,271
            )
            
            (899
            )
            
            (5,743
            )
            
            (1,382
            )Charges
                related to convertible preferred stock sale
            
            
            11,025
            
            
            ---
            
            
            15,794
            
            
            ---$
            5,133
            
            
            ($2,300
            )
            $
            3,815
            
            
            ($3,519
            )**Identifiable
                Assets**NeoMedia
                Mobile (1)
            
            $
            77,653NeoMedia
                Telecom Services (2)
            
            
            2,847NeoMedia
                Micro Paint Repair
            
            
            4,690NeoMedia
                Consulting & Integration Services (3)
            
            
            ---Corporate
            
            $
            3,901$
            89,091




(1)
      -
      NeoMedia Mobile consists of NeoMedia's qode® and patent business, Mobot, Sponge,
      Gavitec, and 12Snap. Mobot operations are included in NeoMedia's consolidated
      financial results for the period February 18, 2006 through June 30, 2006.
      Gavitec and Sponge operations are included in NeoMedia's consolidated financial
      results for the period February 24, 2006 through June 30, 2006. 12Snap
      operations are included in NeoMedia's consolidated financial results for the
      period March 1, 2006 through June 30, 2006.





(2)
      -
      NeoMedia Telecom Services consists of the operations of BSD Software, Inc.,
      acquired March 21, 2006, and included in NeoMedia's consolidated financial
      results for the period March 22, 2006 through June 30, 2006.




(3)
      -
      NeoMedia Consulting & Integration Services business unit was wound down
      during the first quarter of 2006 and combined with the NeoMedia Mobile business
      unit. Results from operations previously included in this business unit are
      now
      included in the NeoMedia Mobile business unit




Operating
      costs included in one segment may benefit other segments, and therefore these
      segments are not designed to measure operating income or loss directly related
      to the products included in each segment.




35


**11.** **INVENTORY**





Inventories,
      consisting of material, material overhead, labor and processing costs, are
      stated at the lower of cost (first-in, first-out) or market and consist of
      the
      following at June 30, 2006:





(dollars
                in thousands)June
                30, 2006Raw
                materials
            
            $
            97Work-in-process
            
            
            9Finished
                goods
            
            
            239Total
            
            $
            345





**12.** **ACCRUED
      LIABILITIES**





Accrued
      liabilities consist of the following as of June 30, 2006:





(dollars
                inthousands)Accruals
                related to silent partner agreements
            
            $
            1,436Accrued
                legal and accounting costs
            
            
            311Accruals
                for disputed services
            
            
            794Accrued
                operating expenses
            
            
            945Payroll
                related accruals
            
            
            432Total
            
            $
            3,918






36


**13.** **COMMITMENTS
      AND CONTINGENCIES**





NeoMedia
      and its subsidiaries lease office facilities and certain office and computer
      equipment under various operating leases. NeoMedia is party to various payment
      arrangements with its vendors that call for fixed payments on past due
      liabilities. NeoMedia is also party to various consulting agreements that carry
      payment obligations into future years. Additionally, NeoMedia issued Series
      C
      convertible preferred shares with face value of $22,000,000 (and a commitment
      for an additional $5,000,000 purchase by the purchasers under the same terms)
      that are subject to conversion no later than February 17, 2009. NeoMedia holds
      notes payable to certain vendors and silent partners of an acquired subsidiary
      that mature at various dates in the future.





The
      following table sets forth NeoMedia’s future minimum payments due under
      operating leases, vendor and consulting agreements, convertible stock
      agreements, and debt agreements:





(dollars
                in thousands)**Series
                C****Vendor
                &**
            
            
            
            **Convertible****Operating**
            
            **Consulting**
            
            **Notes**
            
            **Preferred****Leases**
            
            **Agreements**
            
            **Payable**
            
            **Stock**
            
            **Total**2006
                (remaining six months)
            
            $
            473
            
            $
            271
            
            $
            2,386
            
            $
            ---
            
            $
            3,1302007
            
            
            783
            
            
            340
            
            
            31
            
            
            ---
            
            
            1,1542008
            
            
            501
            
            
            156
            
            
            ---
            
            
            ---
            
            
            6572009
            
            
            190
            
            
            39
            
            
            ---
            
            
            27,000
            
            
            27,2292010
            
            
            58
            
            
            ---
            
            
            ---
            
            
            ---
            
            
            58Thereafter
            
            
            42
            
            
            ---
            
            
            ---
            
            
            ---
            
            
            42Total
            
            $
            2,047
            
            $
            806
            
            $
            2,417
            
            $
            27,000
            
            $
            32,270





It
      is not
      possible to predict the maximum potential amount of future payments under these
      or similar agreements due to the conditional nature of the Company’s obligations
      and the facts and circumstances involved in each particular agreement. The
      Company does not record a liability for claims related to indemnification unless
      the Company concludes that the likelihood of a material claim is probable and
      estimable. Historically, payments pursuant to these indemnifications have been
      immaterial. See Item 1 of Part II of this Form 10-Q for discussion of legal
      proceedings.


In
        the
        event that NeoMedia’s stock price at the time the consideration shares issued in
        connection with the acquisitions of Mobot, Sponge, Gavitec, and 12Snap become
        saleable is less than the contractual price (between $0.3839 and $0.3956),
        NeoMedia is obligated to compensate the sellers in cash for the difference
        between the price at the time the shares become saleable and the relevant
        contractual price. Assuming a stock price at the time the shares become saleable
        of $0.165, which was the last sale price on July 21, 2006, NeoMedia would
        have a
        cash liability of $25.5 million relating to the guarantees. On June 21, 2006,
        NeoMedia filed a registration statement on Form S-3 which included the
        consideration shares issued to acquire Mobot, Sponge, Gavitec, and 12Snap,
        among
        others, which was subsequently withdrawn. NeoMedia intends to file a new
        registration statement on form S-3 to cover these areas. At current stock
        prices, NeoMedia does not believe that it will be able to generate enough
        cash
        to satisfy the purchase price guarantees if and when they become due, which
        is
        expected to occur upon effectiveness of the registration statement. As a
        result,
        NeoMedia is attempting to negotiate for payment of the purchase price guarantees
        in another form, including additional shares of common stock. There is no
        guarantee that NeoMedia will be successful in negotiating such an agreement
        with
        any or all of the parties involved.


**14.** **OTHER**





**Liabilities
      related to silent partnership arrangements**





12Snap,
      a
      wholly-owned subsidiary of NeoMedia, entered into three silent partnership
      arrangements in 2000 with principal borrowing amounts, totaling
      EUR 3,500,000 (approximately $4.2 million). Silent partnerships are a
      common form of investment in Germany. The purpose of a silent partnership is
      to
      financially support the Company in its efforts to research, design and develop
      its product and services, while allowing the lenders not to become a legal
      owner
      of the company and thus not become liable for the obligation of the company.
      The
      lenders are not involved in the management of 12Snap, but significant business
      decisions such as changes in the articles of incorporation, mergers and
      acquisitions or significant contractual matters are subject to their
      approval.





The
      partnership agreements regularly terminate on December 31, 2008 and 2009.
      However, due to the acquisition of all shares of 12Snap by NeoMedia, an early
      termination has been agreed on for all silent partnership agreements. Those
      silent partnerships have thus terminated as of February 28, 2006. According
      to
      the termination agreements EUR 1,750,000 (approximately $2.1 million) were
      repaid to the silent partners in March 2006. Another installment amounting
      to
      EUR 1,750,000 (approximately $2.1 million) plus interest will be due as of
      December 31, 2006.





37





**Debt
      of NeoMedia Telecom Services**





The
      NeoMedia Telecom Services business unit was formed in March 2006 with the
      acquisition of BSD Software, Inc. BSD was party to certain debt agreements
      prior
      to the acquisition which became obligations of NeoMedia upon completion of
      the
      acquisition, as follows:





Wayside
      Solutions, Inc., a corporation affiliated with BSD, provided financing services
      to BSD prior to the acquisition. Prior to the acquisition, NeoMedia reached
      an
      agreement with Wayside to pay the outstanding debt due to Wayside subsequent
      to
      completion of the acquisition. During June 2006, NeoMedia issued 3,721,698
      shares of its common stock in satisfaction of the debt and accrued interest.
      NeoMedia valued the stock at $0.227 per
      share, which was the last sale price on the date of issuance.




During
      June 2006, NeoMedia issued 1,512,093 shares of its common stock in satisfaction
      of the debt and accrued interest due to Guy Fietz, CEO, President and a
      shareholder of BSD, and now Vice President and General Manager of NeoMedia
      Telecom Services. NeoMedia valued the stock at $0.24 per share, which was the
      last sale price on the date of issuance.




NeoMedia
      also assumed amounts due to former BSD shareholders which bear interest at
      rates
      varying from 0%-10% per annum, are unsecured and due on demand and are subject
      to cash payment plans. Amounts due under such arrangements were $60,000
      as of June 30, 2006.




**Micro
      Paint Developments in China**





On
      February 28, 2006, NeoMedia signed a 10-year exclusive supplier agreement with
      Automart, a Beijing-based joint venture operating under the laws of the People's
      Republic of China specializing in automobile sales, financing, insurance and
      repair. Automart is the brand name of Jinche Yingang Auto Technological Services
      Limited, with which NeoMedia signed a distribution agreement in August 2005.
      The
      new agreement expands on the previous agreement, giving Automart the exclusive
      rights to distribute NeoMedia’s micro paint repair products to their own stores
      and others throughout China, Hong Kong, Macao, and Taiwan, and also guaranteeing
      that Automart will purchase at least 70% of its non-micro paint products through
      NeoMedia as its distributor. NeoMedia has signed distribution agreements with
      DuPont and PPG, and intends to become a distributor of other automotive
      aftermarket products to Automart.





During
      the fourth quarter of 2005 and first quarter of 2006, NeoMedia shipped and
      invoiced $757,000 of Micro Paint Repair products to Automart that has not yet
      been recognized in revenue as of June 30, 2006. If and when collectibility
      is
      reasonably assured, NeoMedia expects to recognize revenue for these shipments.
      The amount of $571,000 is included in deferred costs as of June 30, 2006.








**Pick
      Ups Plus and Automotive Preservation**





On
      February 25, 2005, NeoMedia invested $250,000 in exchange for 8,333,333 shares
      of Pickups Plus, Inc. (“PUPS”)(OTCBB:PUPS) restricted common stock. PUPS is
      a
      retail operator and franchiser of retail automotive parts and accessories stores
      catering to the light truck market, and also provides new vehicle preparation,
      environmental protection packages, detailing and reconditioning products and
      services. In addition, on February 17, 2006, NeoMedia acquired an additional
      20,000,000 shares of PUPS common stock from Cornell Capital Partners acquired
      from the proceeds of the Series C convertible preferred stock sale. The total
      of
      28,333,333 shares owned represent approximately 19.75% of PUPS outstanding
      shares (based on 143,482,281 PUPS shares outstanding as of March 15, 2006).
      Because the investment represents less than 20% of PUPS outstanding shares,
      and
      because NeoMedia does not exercise significant influence over PUPS operations
      or
      decision making, NeoMedia has recorded the investment as available for sale
      securities and reported at fair value. As of June 30, 2006, NeoMedia has
      recorded an unrealized holding loss of $72,000 due to the decrease in the quoted
      market price of PUPS common stock.





38


Also
      on
      February 25, 2005, NeoMedia signed two non-binding Letters of Intent to acquire
      up to 100% of Automotive Preservation, Inc. (“AP”), a distributor of automotive
      paint and accessory products, from AP’s parent company, PUPS. The first Letter
      of Intent calls for NeoMedia to initially acquire 30% of AP for $1,600,000,
      to
      be paid $600,000 in cash, $554,000 in shares of NeoMedia restricted common
      stock, and $446,000 through the assumption of AP debt by NeoMedia. Under the
      second Letter of Intent, upon completion of the acquisition of the initial
      30%
      of AP by NeoMedia, NeoMedia would have the option to acquire an additional
      30%
      of AP for $1,650,000, payable in shares of NeoMedia restricted common stock.
      The
      second Letter of Intent also gives NeoMedia the option to purchase the final
      40%
      of AP for either: (i) $2,200,000, payable in shares of NeoMedia restricted
      common stock, if NeoMedia exercises this right within 12 months of acquiring
      the
      second 30% of AP, or (ii) a price equivalent to AP’s previous quarter EBITDA
      multiplied by 8, payable in shares of NeoMedia restricted common stock. Both
      Letters of Intent are non-binding and subject to due diligence by NeoMedia
      and
      AP. On September 21, 2005, the BOD approved to change the deal structure for
      the
      acquisition of AP, so that the Company would acquire only 30% of AP for a total
      purchase price of $1.6 million of which $600,000 would be paid in cash and
      $446,000 would be paid through the assumption of debt, and $554,000 through
      the
      issuance of restricted NeoMedia stock. NeoMedia will not acquire the remaining
      70% of AP under the new structure.





During
      April 2006 ,
      NeoMedia announced its intention to issue a stock dividend with the distribution
      of common shares of Pickups Plus, Inc. as a property dividend. NeoMedia will
      distribute 8,333,333 shares of Pickups Plus common stock, which it acquired
      in
      February 2005, to NeoMedia shareholders of record as of April 28, 2006. The
      shares will be distributed at such time as Pickups Plus files and makes
      effective a registration statement registering the shares.








**Patent
      Issuance**





During
      April 2006 ,
      the
      Instituto Mexicano de la Propiedad Industrial, the patent office in Mexico,
      awarded patent No. 233529 to NeoMedia, which corresponds to patents issued
      to
      the company by the U.S. Patent Office and the Canadian Intellectual Property
      Office, for a "Method and System for Accessing Electronic Resources via
      Machine-Readable Data on Intelligent Documents." Dr. Kevin Hunter, NeoMedia’s
      chief scientist, is the inventor of record. NeoMedia has also filed for patents
      for the process in Europe, Japan and Brazil. The patent deals with improved
      methods of storing information placed directly on physical objects as
      PC-readable data utilizing 2-dimensional bar codes and various data compression
      techniques.




39


**15.** **SUBSEQUENT
      EVENTS**





On
      July
      26, 2006, NeoMedia signed a an operating agreement with Shang Fang Wei Ye
      Technology Development Limited Company (“Shang
      Fang”) ,
      a
      subsidiary of Beijing Sino-U.S. Jinche Yingyang Auto Technological Services
      Ltd., to introduce and market NeoMedia’s patented qode d irect-to-Web
      technology in key
      markets in  Asia .
      Under
      the operating agreement, NeoMedia’s primary role will be as the main interface
      to mobile operators, with the company primarily responsible for demonstrating
      environments as well as developing demonstration products for mobile systems,
      service network environment enablers, and mobile application solutions and
      services. Shang Fang’s primary role will be to provide an interface with various
      Asian governments as well as to identify and help negotiate with potential
      commercial partners of qode ® in that
      part of the world .





40


**ITEM
      2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
      OF
      OPERATIONS**





During
      2006, NeoMedia has continued its efforts to commercialize its NeoMedia Mobile
      and NeoMedia Micro Paint Repair business units, both in North America and
      overseas. As part of the commercialization efforts, NeoMedia began to implement
      an aggressive growth campaign focusing on expansion through three major avenues:
      acquisition and globalization.





To
      this
      end, during the second half of 2005 and the first half of 2006, NeoMedia made
      the following strategic maneuvers:





August
              2005:
            signed
                agreement to distribute Micro Paint products to China via Jinche
                Automotive Group





September
              2005:
            signed
                agreement to distribute Micro Paint products to Mexico and Latin
                America
                via Micropaint de Mexico





October
              2005:
            signed
                agreement to distribute Micro Paint products to Scandinavia via
                WITHO-AS





December
              2005:
            signed
                agreements to distribute DuPont and PPG automotive aftermarket products
                to
                Jinche in China





February
              2006:
            completed
                acquisitions of Mobot (US), 12Snap (Europe), Gavitec (Europe), and
                Sponge
                (Europe); signed letter of intent to acquire Hip Cricket; completed
                $22
                million funding to finance acquisitions and future
                growth





March
              2006:
            completed
                acquisition of BSD Software, creating the NeoMedia Telecom Services
                (NTS)
                business unit





July
              2006:
            Signed
                agreement to work to introduce Qode technology into China through
                partner
                agreement








**Acquisitions**





During
      2005 and the first quarter of 2006, NeoMedia has aggressively pursued
      acquisitions that will confirm its presence in the global mobile marketing
      space. To this end, during the three months ended March 31, 2006, NeoMedia
      completed, or agreed to complete, acquisitions of Mobot, Sponge, Gavitec,
      12Snap, BSD, and Hip Cricket. It is the intention of NeoMedia’s board of
      directors and management to continue to pursue strategic acquisitions in both
      its mobile marketing and the micro paint repair business units.




41


**2006
      Developments for New Acquisitions**





**Mobot**





Mobot
      continued to build on its pioneering leadership of the mobile image recognition
      industry. Mobot announced an expanded relationship with Hachette Filipacchi
      Media and delivered a first-of-its-kind nationwide (U.S. & Can.) campaign
      for Starbucks.





ELLE
      Magazine, published by Hachette, is launching an interactive shopping program
      called *EWish* ,
      based
      on Mobot technology and services. EWish allows readers to add products to their
      personalized web page by taking pictures of magazine advertisements and product
      images, and sending these to Mobot. Mobot servers catalog the requests and
      image
      recognition is used to link the correct products and content to the user’s web
      page at elle.com. The premiere issue for EWish is October, 2006.





Starbucks
      Summer Pursuit is a mobile scavenger hunt that combines the use of text
      messaging and picture messaging to create a uniquely creative consumer
      experience. Users answer questions by using their camera phone to take and
      send
      a picture to Mobot. Mobot image recognition servers are then used to determine
      if the answer is correct. The solution also supports text based answers for
      non-camera phone users. The Mobot platform is used to deliver the entire mobile
      experience and game play. Consumers are playing for the chance to win a trip
      to
      Costa Rica, among other incentives and prizes.





**Sponge**





Sponge
      has continued to broaden its client base in the second quarter with an
      increasing range of products aimed at media groups, agencies and carriers.
      Media
      successes included increased activity for IPC magazines and News International.
      On the TV front Sponge ran its first promotions in Sweden and Norway for Big
      Brother. Sponge has also worked on a number of brand promotions, including:
      a
      major specialist motorcycle magazine; on-pack text-to-win mechanics for a major
      soft drinks brand to coincide with the World Cup as well as other drinks and
      confectionary brands.





Also
      launched was a pan-European, eight-country trade promotion for
      TaylorMade®-adidas® Golf incorporating a customized mobile phone solution to
      drive sales by incentivizing retail sales personnel. The Sales Incentive
      Text-to-Win application recognizes in-store staff by their account number and
      name included in an inbound SMS message, and automatically submits valid
      entrants into the next of a number of prize draws. In June, Sponge also reached
      agreement to supply marketing solutions to Vodafone for their customers.





At
      the
      recent Promotional Marketing Awards in the U.K., Sponge saw its agency partners
      win all but two of the awards for campaigns incorporating mobile marketing
      --
      including the Best of Show 'Grand Prix' prize.





**Gavitec**





Gavitec
      continues to successfully market its  Products in ScanCommerce (Exio /
      MD-20) and Enterprise Solutions (Lavasphere - the award winning
      technology turning cellular phones into code-readers) through mobile
      solutions partners to clients including McDonald’s Portugal,  Amnesty
      International, Malaysian Railways, World Soccer Games 2006,  EMT
      (Empresa Malagueña de Transportes),  a Spanish public transport
      company  and Ströer, an OOH (Out-Of-Home) Media Company. TopSolutions,
      a leading software development and systems integration house, is Gavitec’s
      mobile solutions partner for McDonald’s Portugal, which is running a large scale
      mobile-couponing program. EMT continued to run a pilot that gave EMT the
      distinction of being the first Spanish public transport company effectively
      and
      successfully using mobile ticketing. Through the use of Gavitec technology,
      EMT
      passengers are now able to pay for and receive bus tickets using their own
      mobile phones.  Omniprime together with the Government of Malysia
      implemented Gavitec technology in the public transportation railways. In
      Kaiserslautern, Germany - one of the 2006 World Cup arenas - consumers could
      call for Beer (Bieralarm) while using a Gavitec-enabled solution provided by
      REA
      and Bitburger Beer. Gavitec optimized Ströer sales-force and services using
      its Lavasphere product.





42


On
      the
      technological front, Gavitec furthered the development of its code-reading
      capabilities adding QR-Engine on JAVA to augment its existing DataMatrix
      technology on JAVA. Now, the engine  will  be downloadable 
via Internet or telephone connection to a considerable number of mobile phones,
      providing the opportunity to distribute the innovative software to a broader
      audience through business-to-consumer, mass market to incubate new
      applications.





**12Snap**





In
      the
      second quarter of 2006, *12snap* again
      reached consumers far beyond its headquarters in Germany and offices in the
      UK,
      Italy and Sweden.  Through campaigns for such high profile brand names as
      Adidas, Coca-Cola, Ferrero, and McDonald’s, 12snap enabled millions of consumers
      throughout the EMEA (Europe, Middle East & Africa) region to participate in
      high-quality and entertaining mobile marketing campaigns. This scale and
      geographic reach also allowed 12snap to strengthen its technology to be
      compatible with the different carriers and handsets available in the EMEA.
      Additionally, new client wins such as Lufthansa helped to further strengthen
      12snap’s strong position among marketers who want to use the mobile phone as an
      effective and interactive marketing tool.





**NeoMedia
      Telecom**





NeoMedia
      Telecom is currently in the final stages of completing the successful transition
      of some of its key customers to a new Canadian Interchange (IXC) carrier
      network, which provides both 1010 dial-around and 900 service nationally. The
      company is already experiencing a positive impact from this transition
      in two ways: (1) several customers who were regional are expanding to a national
      billing strategy, and (2) NeoMedia Telecom has been able to reduce costs by
      moving from local exchange carriers (LEC’s) to the new IXC, which is a
      non-tariffed (regulated rates) national network.








**Consulting
      & Integration Services Business Unit**





As
      part
      of the acceleration of global expansion in the Mobile and Micro Paint business
      units, as well as the creation of the NeoMedia Telecom Services (NTS) business
      unit through the BSD acquisition, NeoMedia also decided in February 2006 to
      wind
      down its legacy NeoMedia Consulting & Integration Services (NCIS) business
      unit. The NCIS unit consisted of client-server equipment and related software
      resales. The resale market has been commoditized over the past several years,
      and NeoMedia believes its resources are better spent on the development and
      commercialization of its NMM, NMPR and NTS business units. Certain of the
      proprietary products associated with the NCIS business, such as PDF-417 and
      Maxicode print encoder software and WISP migration tools, will be retained
      by
      NeoMedia and consolidated with the NMM unit. NeoMedia does not intend to pursue
      additional resales of hardware and software or integration services not directly
      related to its other business units.





**Accounting
      Treatment of Series C Convertible Preferred Stock**





In
      connection with the accounting treatment of the Series C convertible preferred
      stock sale, NeoMedia recognized a gain on derivative financial instruments
      of
      $11,025,000 and $15,794,000 during the three and six month periods ended June
      30, 2006, respectively. The gain is due to the change in fair value of
      derivative financial instruments resulting from a decrease in NeoMedia’s stock
      price from $0.389 per share on the date of the Series C convertible preferred
      stock sale (February 17, 2006) to $0.231 per share on June 30, 2006. The fair
      value of the derivative financial instruments at each measurement date
      correlates to NeoMedia’s stock price at the same date. As a result, NeoMedia’s
      net income varies significantly from its cash flow from operations during the
      three and isx months ended June 30, 2006. In future periods, NeoMedia’s earnings
      could fluctuate dramatically from quarter to quarter if its stock price is
      significantly different from the stock price at the end of the previous
      measurement period. Because NeoMedia cannot guarantee that it has enough
      authorized shares to net share settle the Series C convertible preferred stock,
      the change in fair value of derivative instruments will be recorded to
      NeoMedia’s statement of operations each reporting period until the Series C
      convertible preferred stock is fully converted.





43


**Critical
      Accounting Policies**





The
      United States Securities and Exchange Commission (the “SEC”) issued Financial
      Reporting Release No. 60, “ *Cautionary
      Advice Regarding Disclosure About Critical Accounting Policies* ”
(“FRR
      60”), suggesting companies provide additional disclosure and commentary on their
      most critical accounting policies. In FRR 60, the SEC defined the most critical
      accounting policies as the ones that are most important to the portrayal of
      a
      company’s financial condition and operating results, and require management to
      make its most difficult and subjective judgments, often as a result of the
      need
      to make estimates of matters that are inherently uncertain. Based on this
      definition, NeoMedia’s most critical accounting policies include: intangible
      asset valuation, which affects amortization and impairment of goodwill and
      other
      intangibles; financial instruments and concentrations of credit risk, which
      affects gains and losses from derivative financial instruments; allowance for
      doubtful accounts; inventory valuation, which affects cost of sales and gross
      margin; stock based compensation; estimate of litigation-based liability; and
      revenue recognition . NeoMedia also has other key accounting policies, such
      as
      policies for revenue recognition, including the deferral of a portion of
      revenues on sales to distributors, allowance for doubtful accounts, and
      stock-based compensation. The methods, estimates and judgments NeoMedia uses
      in
      applying these most critical accounting policies have a significant impact
      on
      the results it reports in its consolidated financial statements.





*Intangible
      Asset Valuation.* The
      determination of the fair value of certain acquired assets and liabilities
      is
      subjective in nature and often involves the use of significant estimates and
      assumptions. Determining the fair values and useful lives of intangible assets
      especially requires the exercise of judgment. While there are a number of
      different generally accepted valuation methods to estimate the value of
      intangible assets acquired, NeoMedia primarily uses the weighted-average
      probability method outlined in SFAS 144. This method requires significant
      management judgment to forecast the future operating results used in the
      analysis. In addition, other significant estimates are required such as residual
      growth rates and discount factors. The estimates NeoMedia has used are
      consistent with the plans and estimates that NeoMedia uses to manage its
      business, based on available historical information and industry averages.
      The
      judgments made in determining the estimated useful lives assigned to each class
      of assets acquired can also significantly affect NeoMedia’s net operating
      results.





According
      to SFAS 144, a long-lived asset should be tested for recoverability whenever
      events or changes in circumstances indicate that its carrying amount may not
      be
      recoverable. The following are examples of such events or changes in
      circumstances:




­-
            A
                significant decrease in the market price of the
                asset


­-
            A
                significant adverse change in the extent or manner in which the asset
                is
                being used, or in its physical
                condition


­-
            A
                significant adverse change in legal factors or in the business climate
                that could affect the value of the asset, including an adverse action
                or
                assessment by a regulator


­-
            An
                accumulation of costs significantly in excess of the amount originally
                expected


­-
            A
                current-period operating or cash flow loss combined with a history
                of
                operating or cash flow losses or a projection or forecast that
                demonstrates continuing losses associated with the use of the
                asset


­-
            A
                current expectation that, more likely than not,****the
                asset will be sold or otherwise disposed of significantly before
                the end
                of its previously estimated useful life.





NeoMedia
      follows the two-step process outlined in SFAS 144 for determining if an
      impairment charge should be taken: (1) the expected undiscounted cashflows
      from
      a particular asset or asset group are compared to the carrying value; if the
      expected undiscounted cashflows are greater than the carrying value, no
      impairment is taken, but if the expected undiscounted cashflows are less than
      the carrying value, then (2) an impairment charge is taken for the difference
      between the carrying value and the expected discounted cashflows. The
      assumptions used in developing expected cashflow estimates are similar to those
      used in developing other information used by NeoMedia for budgeting and other
      forecasting purposes. In instances where a range of potential future cashflows
      is possible, NeoMedia uses a probability-weighted approach to weigh the
      likelihood of those possible outcomes. NeoMedia used a rate of 10% for purposes
      of discounting cashflows in 2006 and 2005.





44


*Financial
      Instruments and Concentrations of Credit Risk.* The
      Company’s financial instruments consist of cash and cash equivalents, accounts
      receivable, accounts payable, and accrued expenses, notes payable, derivative
      financial instruments, other current liabilities and convertible preferred
      stock. Management believes the carrying values of cash and cash equivalents,
      accounts payable, accounts payable and accrued expenses, notes payable, and
      other current liabilities approximate their fair values due to their short-term
      nature. The fair value of convertible preferred stock is estimated on June
      30,
      2006 to be approximately $17,937,000.





The
      Company generally does not use derivative financial instruments to hedge
      exposures to cash-flow risks or market-risks that may affect the fair values
      of
      its financial instruments. However, certain other financial instruments, such
      as
      warrants and embedded conversion features that are indexed to the Company’s
      common stock, are classified as liabilities when either (a) the holder possesses
      rights to net-cash settlement or (b) physical or net-share settlement is not
      within the control of the Company. In such instances, net-cash settlement is
      assumed for financial accounting and reporting, even when the terms of the
      underlying contracts do not provide for net-cash settlement. Such financial
      instruments are initially recorded at fair value and subsequently adjusted
      to
      fair value at the close of each reporting period.





The
      caption “Derivative Financial Instruments” consists of (i) the fair values
      associated with derivative features embedded in the Series C convertible
      preferred stock, (ii) the fair values of the detachable warrants that were
      issued in connection with the preferred stock financing arrangement, and (iii)
      the fair value of detachable warrants that were outstanding prior to the
      issuance of the Series C Preferred Shares..





*Allowance
      for Doubtful Accounts.* NeoMedia
      maintains an allowance for doubtful accounts for estimated losses resulting
      from
      the inability of its customers to make required payments. Allowance for doubtful
      accounts is based on NeoMedia’s assessment of the collectibility of specific
      customer accounts, the aging of accounts receivable, NeoMedia’s history of bad
      debts, and the general condition of the industry. If a major customer’s credit
      worthiness deteriorates, or NeoMedia’s customers’ actual defaults exceed
      historical experience, NeoMedia’s estimates could change and impact its reported
      results.





*Inventory.* Inventories are stated at lower of cost (using the first-in, first-out method)
      or market. NeoMedia continually evaluates the composition of its inventories
      assessing slow-moving and ongoing products and maintains a reserve for
      slow-moving and obsolete inventory as well as related disposal
      costs.





*Stock-based
      Compensation* .
      Beginning January 1, 2006, NeoMedia began to account for stock-based
      compensation in accordance with SFAS No. 123(R), *Share-Based
      Payment* .
      Under
      the fair value recognition provisions of this statement, share-based
      compensation cost is measured at the grant date based on the value of the award
      and is recognized as expense over the vesting period. Determining the fair
      value
      of share-based awards at the grant date requires judgment, including estimating
      expected dividends. In addition, judgment is also required in estimating the
      amount of share-based awards that are expected to be forfeited. If actual
      results differ significantly from these estimates, stock-based compensation
      expense and our results of operations could be materially impacted. Stock-based
      compensation expense is calculated using the Black Scholes option pricing model
      on the date of grant. This option valuation model requires input of highly
      subjective assumptions. Because NeoMedia’s employee stock options have
      characteristics significantly different from those of traded options, and
      because changes in the subjective input assumptions can materially affect the
      fair value estimate, in management's opinion, the existing model does not
      necessarily provide a reliable single measure of fair value of its employee
      stock options.





*Estimate
      of Litigation-based Liability* .
      From
      time to time, NeoMedia is defendant in certain litigation in the ordinary course
      of business (see the section entitled “Legal Proceedings”). NeoMedia accrues
      liabilities relating to these lawsuits on a case-by-case basis. NeoMedia
      generally accrues attorney fees and interest in addition to the liability being
      sought. Liabilities are adjusted on a regular basis as new information becomes
      available. NeoMedia consults with its attorneys to determine the viability
      of an
      expected outcome. The actual amount paid to settle a case could differ
      materially from the amount accrued.





45


*Revenue
      Recognition.* NeoMedia derives  revenues from the following  sources:  (1)
      license revenues relating to patents and internally-developed software, (2)
      hardware, software, and service revenues related to mobile marketing campaign
      design and implementation, and (3) sale of its proprietary Micro Paint Repair
      solution.





(1)
            Technology
                license fees, including Intellectual Property licenses, represent
                revenue
                from the licensing of NeoMedia’s proprietary  software  tools
                and  applications products.  NeoMedia licenses its 
                development  tools and  application  products pursuant to
                non-exclusive and  non-transferable  license agreements. 
                The basis for license fee revenue recognition is substantially governed
                by
                American  Institute  of  Certified  Public 
                Accountants  ("AICPA")  Statement of Position 97-2 "Software
                Revenue  Recognition" ("SOP 97-2"), as amended, and Statement of
                Position 98-9, Modification of SOP 97-2, “Software Revenue Recognition,
                With Respect to Certain Transactions.”.  License revenue is
                recognized if persuasive  evidence of an agreement 
                exists,  delivery has occurred, pricing is fixed and determinable,
                and collectibility is probable.  The Company defers revenue related
                to license fees for which amounts have been collected but for which
                revenue has not been recognized in accordance with the above, and
                recognizes the revenue over the appropriate
                .





(2)
            Technology
                service & product revenue, which includes sales of software and
                technology equipment and service fee is recognized  based on
                guidance  provided in  SEC Staff  Accounting 
                Bulletin  (“SAB”) No. 104,  "Revenue  Recognition  in
                Financial Statements,"  as amended (SAB 104).  Software
                and technology equipment resale revenue is
                recognized when persuasive evidence of an arrangement exists, the
                price to the customer is fixed and determinable, delivery of the
                service
                has occurred and collectibility is reasonably assured.
                Service revenues including maintenance fees for
                providing system updates for software products, user documentation
                and
                technical support are recognized over the life of
                the contract.  Software  license revenue  from 
                long-term  contracts  has  been  recognized  on
                a  percentage  of completion  basis,  along with the
                 associated  services being  provided.  Telecom
                revenues are recognized at the time that calls are accepted by the
                clearing house for billing to customers. The Company’s recently acquired
                subsidiaries BSD, Mobot, and Gavitec follow this policy. The Company
                defers revenue related to technology service & product revenue for
                which amounts have been invoiced and or collected but for which the
                requisite service has not been provided. Revenue is then recognized
                over
                the matching service period.





(3)
            Technology
                service also includes mobile marketing services to its customers
                which
                mobile marketing projects are recognized after the completion of
                the
                project and accepted by the customer.  All response and messaging
                based revenues are recognized at the time such responses are received
                and
                processed and the Company recognizes its premium messaging revenues
                on a
                net basis based on guidance provided in Emerging Issues Task Force
                Issues
                No. 99-19 (EITF 99-19), “Reporting Revenue Gross as Principal or Net as an
                Agent” and No. 01-09 (EITF 01-09), "Accounting for Consideration Given by
                a Vendor to a Customer."  Consulting and management revenues and
                revenues for periodic services are recognized as services are
                performed.  NeoMedia uses  stand-alone  pricing to
                determine an element's  vendor  specific  objective 
                evidence  (“VSOE”) in order to allocate an arrangement  fee
                amongst various pieces of a  multi-element  contract.  The
                Company’s recently acquired subsidiaries 12Snap and Sponge follow this
                policy. The Company defers revenue related to mobile marketing service
                fees for which amounts have been invoiced and/or collected but for
                which
                revenue has not been recognized. Revenue is then recognized over
                the
                matching service period.




46





(4)
            Revenue
                for training and certification on NeoMedia’s Micro Paint Repair systems is
                recognized equally over the term of the contract, which is currently
                one
                year.  A portion of the initial fee paid by the customer is allocated
                to training costs and initial products sold with the system, and
                is
                recognized upon completion of training and shipment of the products,
                provided there is VSOE in a multiple element arrangement.  Ongoing
                product and service revenue is recognized as products are shipped
                and
                services performed.  The Company defers revenue related to micro
                paint repair training and certification for which amounts have been
                invoiced and/or collected but for which revenue has not been recognized.
                Revenue is then recognized over the estimated contract period, which
                is
                currently one year.





In
      December 2003, the SEC issued SAB 104, “Revenue Recognition.” SAB 104
      supersedes SAB 101, “Revenue Recognition in Financial Statements.”
SAB 104’s primary purpose is to rescind accounting guidance contained in
      SAB 101 related to multiple element revenue arrangements, superseded as a
      result of the issuance of EITF 00-21, “Accounting for Revenue Arrangements
      with Multiple Deliverables.” Additionally, SAB 104 rescinds the SEC’s
      Revenue Recognition in Financial Statements Frequently Asked Questions and
      Answers (the “FAQ”) issued with SAB 101 that had been codified in SEC Topic
      13, Revenue Recognition. Selected portions of the FAQ have been incorporated
      into SAB 104. While the wording of SAB 104 has changed to reflect the
      issuance of EITF 00-21, the revenue recognition principles of SAB 101
      remain largely unchanged by the issuance of SAB 104, which was effective
      upon issuance. The adoption of SAB 104 did not impact NeoMedia’s
      consolidated financial statements.





*Income
      Tax Valuation Allowance.* Deferred
      tax assets are reduced by a valuation allowance when, in the opinion of
      management, it is more likely than not that some portion or all of the deferred
      tax assets will not be recognized. The Company has recorded a 100% valuation
      allowance as of June 30, 2006 and 2005.





*Foreign
      Currency Translation.* **** The
      local
      currency has been primarily used as the functional currency throughout the
      world. Translation gains and losses of those operations that use local currency
      as the functional currency are included in the consolidated balance sheets
      as
“Accumulated other comprehensive income (loss).” Where the U.S. dollar is used
      as the functional currency, foreign currency gains and losses are reflected
      in
      income.





**Stock-Based
      Compensation**





NeoMedia
      adopted Statement of Financial Accounting Standards No. 123 (“SFAS 123R”)
      on January 1, 2006, using the prospective method for stock option grants
      prior to January 1, 2006 and the modified-prospective transition method for
      stock option grants and restricted stock issued after January 1, 2006. As a
      result, the unamortized compensation expense from stock options granted prior
      to
      January 1, 2006 is not included in the statement of operations. SFAS 123R
      requires all share-based payments to employees to be recognized in the income
      statement based on their fair values. Under the modified-prospective transition
      method, compensation cost recognized for the three and six months ended June
      30,
      2006 includes: (a) compensation cost for all share-based payments granted,
      but not yet vested as of January 1, 2006 based on the grant-date fair value
      estimated in accordance with the original provisions of SFAS 123, and
      (b) compensation cost for all share-based payments granted subsequent to
      January 1, 2006, based on the grant-date fair value estimated in accordance
      with the provisions of SFAS 123R. Such amounts are reduced by
      NeoMedia’s estimate of forfeitures of all unvested awards.





Prior
      to
      January 1, 2006, NeoMedia accounted for its stock-based compensation plans
      under the intrinsic-value method prescribed in Accounting Principles Board
      Opinion No. 25 “Accounting for Stock Issued to Employees,” (“APB 25”) and
      related interpretations as permitted by Statement of Financial Accounting
      Standards No. 123, “Accounting for Stock-Based Compensation.” (“SFAS 123”).
      Under APB 25, when the exercise price of options granted to employees equals
      the
      market price of the common stock on the date of grant, no compensation expense
      is recorded.  When the exercise price of options granted to employees is
      less than the market price of the common stock on the date of grant,
      compensation expense is recognized over the vesting period. Had NeoMedia
      accounted for stock based compensation under the fair value method during the
      three and six months ended June 30, 2005, net loss would have been higher by
      $1.1 million and $1.4 million, respectively, during these periods, causing
      no
      change to the reported net loss per share of $0.01 for the three and six
      month periods ending june 30, 2005.





47


SFAS
      123R
      requires share-based payments to employees to be measured at fair value.
      However, the valuation of employee stock options is an inherently subjective
      process, since market values are generally not available for long-term,
      non-transferable employee stock options. Accordingly, an option pricing model
      is
      utilized to derive an estimated fair value. NeoMedia use the
      Black-Scholes-Merton pricing model in order to calculate the estimated fair
      value for its stock options.





Approximately
      82% and 74% of the stock-based compensation expense recorded in the three and
      six months ended June 30, 2006 respectively relates to the continued vesting
      of
      stock options that were granted prior to January 1, 2006. In accordance with
      the
      transition provisions of SFAS 123R, the grant date estimates for these options
      have not been changed.





As
      of
      June 30, 2006, there was $9.1 million of total stock-based compensation expense
      not yet recognized relating to non-vested awards granted under NeoMedia’s option
      plans and restricted stock agreements as calculated under SFAS 123R. This
      expense is net of estimated forfeitures and is expected to be recognized over
      a
      weighted-average period of approximately 1.4 years. The amount of
      stock-based compensation expense to be recorded in any future period cannot
      be
      exactly predicted due to the uncertainty of future grant levels and actual
      forfeitures to be recorded. Additionally, changes to the assumptions used in
      the
      Black Scholes model could cause a material change in the amount of compensation
      expense to be recorded in future reporting periods.





One
      of
      the key components used in calculating the fair value of stock options is the
      volatiliy of the underlying stock. As of January 1, 2006, NeoMedia reevaluated
      its volatility calculation to take into consideration the guidance outlined
      in
      Statement 123(R). Prior to January 1, 2006, NeoMedia calculated volatility
      using
      only historical share price data. Under the provisions of Statement 123(R),
      from
      January 1, 2006 onward NeoMedia has considered historical volatility, as well
      expected future volatility. As a result, NeoMedia’s volatility decreased
      significantly for stock based compensation granted during the six months ended
      June 30, 2006 as compared with stock based compensation granted prior to January
      1, 2006. NeoMedia will evaluate its volatility on an ongoing basis using the
      most current information available. NeoMedia expects that, under the guidelines
      of Statement 123(R), future volatility will more closely resemble 2006 levels
      than previous years.








**Effect
      Of Recently Issued Accounting Pronouncements**





A
      discussion of recent accounting pronouncements is included in Note 2 to the
      consolidated financial statements included in our Annual Report on Form 10-KSB
      for the year ended December 31, 2005.




Emerging
      Issues Task Force issue number 06-03 has been adopted early by NeoMedia in
      the
      first quarter of 2006. The implementation of EITF 06-03 had no impact on current
      or historical financial statements.




In
        June
        2006, the FASB issued FASB Interpretation (FIN) No. 48, “Accounting for
        Uncertainty in Income Taxes,” that provides guidance on the accounting for
        uncertainty in income taxes recognized in financial statements. The
        interpretation will be adopted by the Company on January 1, 2007. The Company
        is
        currently evaluating the impact of adopting FIN 48; however, does not expect
        the
        adoption of this provision to have a material effect on the financial position,
        results of operations or cash flows.
   In
        July
        2006, the FASB issued FASB Staff Position (FSP) No. FAS 13-2, “Accounting for a
        Change or Projected Change in the Timing of Cash Flows Relating to Income
        Taxes
        Generated by a Leveraged Lease Transaction,” that provides guidance on how a
        change or a potential change in the timing of cash flows relating to income
        taxes generated by a leveraged lease transaction affects the accounting by
        a
        lessor for the lease. This staff position will be adopted by the Company
        on
        January 1, 2007. The Company is currently evaluating the impact of adopting
        this
        FSP; however, the Company does not expect the adoption of this provision
        to have
        a material effect on its financial position, results of operations or cash
        flows.




48


**Results
      Of Operations For The Three Months Ended June 30, 2006 As Compared To The Three
      Months Ended June 30, 2005**





*Net
      sales.* Total
      net
      sales for the three months ended June 30, 2006 were $6,606,000, which
      represented a $6,068,000, or 1,128%, increase from $538,000 for the three months
      ended June 30, 2005.  This increase primarily resulted from revenues of
      subsidiaries 12Snap, Sponge, Mobot, Gavitec, and BSD, all of which were acquired
      during the first quarter of 2006.  NeoMedia could realize a material
      increase in revenue over the next 12 months relative to 2005 due to the
      acquisitions of Mobot, 12Snap, Sponge, Gavitec, and BSD for the entire
      quarter.  NeoMedia could also realize a material increase in revenue over
      the next 12 months if the Company is successful in implementing its
      Qode ® go-to-market strategy, if pending court cases involving its intellectual
      property are resolved in NeoMedia’s favor, or if it is successful in
      implementing the expansion of the Micro Paint Repair business unit into China
      and other geographies.





*Technology
      license, service, product and licenses.* Technology
      service, product and license sales increased $5,928,000, or 2,140% to $6,205,000
      for the three months ended June 30, 2006 compared to $277,000 for the three
      months ended June 30, 2005.  The increase was primarily the result of sales
      from subsidiaries 12Snap, Sponge, Mobot, Gavitec, and BSD, all of which were
      acquired during the first quarter of 2006.   NeoMedia could realize an
      increase in license fees over the next 12 months due to the recent acquisitions
      of Mobot, 12Snap, Sponge, Gavitec, and BSD, if the Company is successful in
      implementing its Qode ® go-to-market strategy, or if pending court cases involving its intellectual
      property are resolved in NeoMedia’s favor.





*Micro Paint Repair products and services.* Sales
      of Micro Paint Repair products and services were $401,000 for the three months
      ended June 30, 2006, compared with $261,000 for the three months ended June
      30,
      2005, an increase of $140,000, or 54%.  The increase was primarily due to
      the growth of the Company’s US operations. In addition, during the fourth
      quarter of 2005 and first quarter of 2006, NeoMedia shipped and invoiced
      $757,000 of product to Beijing Sino-US Jinche Yingang Auto Technological
      Services Limited that has not yet been recognized as revenue as of June 30,
      2006. Once collectibility is reasonably assured, NeoMedia expects to recognize
      revenue for these shipments.  NeoMedia could realize a material increase in
      Micro Paint Repair revenue if the Company is successful in continuing the
      expansion of the business unit into China and other geographies.





*Cost of technology license, service, product and licenses.* Cost
      of
      technology services, products and licenses fees were $3,948,000 for the three
      months ended June 30, 2006 compared to $213,000 for the three months ended
      June
      30, 2006, an increase of $3,735,000, or 1,754%.  The increase was due
      primarily to the cost of increased sales from subsidiaries 12Snap, Sponge,
      Mobot, Gavitec, and BSD, all of which were acquired during the first quarter
      of
      2006.





*Cost
      of Micro Paint Repair products and services.* Cost of Micro Paint Repair products and services was $569,000 for the three
      months ended June 30, 2006, compared with $237,000 for the three months ended
      June 30, 2005, an increase of $332,000, or 140%.  This increase is the
      result of fixed cost of goods sold associated with NeoMedia’s corporate Micro
      Paint facility in Ft. Myers, Florida. The facility operated at a gross margin
      loss during the first half of 2006 as it gained market traction.  Cost of
      micro paint repair products and services as a percentage of related sales was
      142% in 2006, compared to 91% in 2005.  NeoMedia expects cost of micro
      paint repair products and services to decrease as the corporate facility
      increases its customer base and profitability and product sales expand globally.





*Gross
      Profit.* Gross profit was $2,089,000 for the three months ended June 30, 2006, an
      increase of $2,001,000, or 2,274%, compared with gross profit of $88,000 for
      the
      three months ended June 30, 2005.  This increase was primarily the result
      of the gross profit of the subsidiaries 12Snap, Sponge, Mobot, Gavitec, and
      BSD,
      all of which were acquired during the first quarter of 2006.





*Sales
      and marketing.* Sales
      and
      marketing expenses were $3,337,000 for the three months ended June 30, 2006,
      compared to $1,230,000 for the three months ended June 30, 2005, an increase
      of
      $2,107,000 or 171%.  This increase resulted primarily from the addition of
      sales force and cost associated with added sales and marketing resources
      associated with Mobot, 12Snap, Sponge, Gavitec, and BSD.  NeoMedia expects
      sales and marketing expense to increase over the next 12 months with the
      continued development and expansion of the NeoMedia Mobile, NeoMedia Micro
      Paint
      Repair, and NeoMedia Telecom product groups.





49


*General
      and administrative.* General
      and administrative expenses increased by $2,253,000, or 5,074%, to $2,697,000
      for the three months ended June 30, 2006, compared to $444,000 for the three
      months ended June 30, 2005. The increase resulted primarily from increased
      infrastructure expense coupled with the expenses of the subsidiaries 12Snap,
      Sponge, Mobot, Gavitec, and BSD, all of which were acquired during the first
      quarter of 2006.  NeoMedia expects general and administrative expense to
      increase over the next 12 months with the continued expansion of the NeoMedia
      Mobile business.





*Stock
      based compensation expense.* Stock
      based compensation was $1,072,000 for the three months ended June 30, 2006,
      as
      compared with $418,000 for the three months ended June 30, 2005, an increase
      of
      $654,000, or 156%.  The increase was due to the adoption of SFAS 123R
      (Share Based Payment) on January 1, 2006.





*Research
      and development.* During
      the three months ended June 30, 2006, NeoMedia charged to expense $896,000
      of
      research and development costs, an increase of $736,000 or 460% compared to
      $160,000 for the three months ended June 30, 2005.  The increase is
      primarily due to the addition of development staff hired and acquired in
      connection with the ongoing commercialization of the NeoMedia Mobile business
      unit.  NeoMedia expects research and development costs to increase over the
      next 12 months with the continued development efforts of NeoMedia Mobile
      business unit products and services worldwide.





*Gain
      (loss) on extinguishment of debt.* Gain
      on
      extinguishment of debt was $106,000 for the three months ended June 30, 2006,
      an
      increase of $73,000, or 221%.  The gains resulted from the difference
      between the cash or market value of stock issued to settle the debt and the
      carrying value of the debt at the time of settlement.





*Interest
      income (expense).* Interest
      income (expense) consists primarily of interest accrued for creditors as part
      of
      financed purchases, past due balances, and notes payable, net of interest earned
      on cash equivalent investments.  Interest income (expense) decreased by
      $84,000, or 49%, to ($85,000) for the three months ended June 30, 2006 from
      ($169,000) for the three months ended June 30, 2005, due to the pay down of
      notes payable.





*Gain
      on derivative financial instruments.* Gain
      on
      derivative financial instruments was $11,026,000 for the three months ended
      June
      30, 2006.  The gain is on the derivatives associated with the preferred
      stock sale on February 17, 2006.  Certain derivatives were created at the
      time of the offering and those derivatives are recorded at fair value on the
      accompanying balance sheet. ** The
      gain
      for the three months ended June 30, 2006 is the reduction in value of the
      derivative from March 31, 2006 to June 30, 2006 and is due almost entirely
      to a
      reduction in NeoMedia’s stock price from March 31, 2006 to June 30, 2006. 
 There was no such gain or loss on derivative financial instruments for the
      three months ended June 30, 2005.





*Net
      Income (Loss)* . 
      The net income (loss) for the three months ended June 30, 2006 was $5,133,000,
      which represented a $7,433,000, or 323% increase from a ($2,300,000) loss for
      the three months ended June 30, 2005.  The increase in net income is due
      primarily to the $11,025,000 gain on derivative financial instruments during
      2006, partially offset by increased operating expenses from the expanded
      operations from the acquired subsidiaries.




50


**Results
      Of Operations For The Six Months Ended June 30, 2006 As Compared To The Six
      Months Ended June 30, 2005**





*Net
      sales.* Total
      net
      sales for the six months ended June 30, 2006 were $8,658,000, which represented
      a $7,373,000, or 574%, increase from $1,285,000 for the six months ended June
      30, 2005.  This increase primarily resulted from revenues from subsidiaries
      12Snap, Sponge, Mobot, Gavitec, and BSD, all of which were acquired during
      the
      first quarter of 2006.  NeoMedia could realize a material increase in
      revenue over the next 12 months relative to 2005 due to the acquisitions of
      Mobot, 12Snap, Sponge, Gavitec, and BSD for the entire quarter.  NeoMedia
      could also realize a material increase in revenue over the next 12 months if
      the
      Company is successful in implementing its Qode ® go-to-market strategy, if pending court cases involving its intellectual
      property are resolved in NeoMedia’s favor, or if it is successful in
      implementing the expansion of the Micro Paint Repair business unit into China
      and other geographies.





*Technology
      license, service, product and licenses.* Technology
      service, product and license sales increased $7,311,000, or 1,285% to $7,880,000
      for the six months ended June 30, 2006 compared to $569,000 for the six months
      ended June 30, 2005.  The increase was primarily the result of sales of
      subsidiaries 12Snap, Sponge, Mobot, Gavitec, and BSD, all of which were acquired
      during the first quarter of 2006.   NeoMedia could realize an increase
      in license fees over the next 12 months due to the recent acquisitions of Mobot,
      12Snap, Sponge, Gavitec, and BSD, if the Company is successful in implementing
      its Qode ® go-to-market strategy, or if pending court cases involving its intellectual
      property are resolved in NeoMedia’s favor.





*Micro Paint Repair products and services.* Sales
      of Micro Paint Repair products and services were $778,000 for the six months
      ended June 30, 2006, compared with $716,000 for the six months ended June 30,
      2005, an increase of $62,000, or 9%.  The increase was primarily due to the
      growth of the Company’s US operations. In addition, during the fourth quarter of
      2005 and first quarter of 2006, NeoMedia shipped and invoiced $757,000 of
      product to Beijing Sino-US Jinche Yingang Auto Technological Services Limited
      that has not yet been recognized as revenue as of June 30, 2006. Once
      collectibility is reasonably assured, NeoMedia expects to recognize revenue
      for
      these shipments.  NeoMedia could realize a material increase in Micro Paint
      Repair revenue if the Company is successful in continuing the expansion of
      the
      business unit into China and other geographies.





*Cost of technology license, service, product and licenses.* Cost
      of
      technology services, products and licenses fees were $4,775,000 for the six
      months ended June 30, 2006 compared to $389,000 for the six months ended June
      30, 2006, an increase of $4,386,000, or 1,128%.  The increase was due
      primarily to the cost of increased sales from subsidiaries 12Snap, Sponge,
      Mobot, Gavitec, and BSD, all of which were acquired during the first quarter
      of
      2006.





*Cost
      of Micro Paint Repair products and services.* Cost of Micro Paint Repair products and services was $988,000 for the six months
      ended June 30, 2006, compared with $510,000 for the six months ended June 30,
      2005, an increase of $478,000, or 94%.  This increase is the result of
      fixed cost of goods sold associated with NeoMedia’s corporate Micro Paint
      facility in Ft. Myers, Florida coupled with volume related increased costs
      of
      sales. The facility operated at a gross margin loss during the first half of
      2006 as it gained market traction.  Cost of micro paint repair products and
      services as a percentage of related sales was 127% in 2006, compared to 71%
      in
      2005.  NeoMedia expects cost of micro paint repair products and services to
      decrease as the corporate facility increases its customer base and profitability
      and product sales expand globally.





*Gross Profit.* Gross profit was $2,895,000 for the six months ended June 30, 2006, an increase
      of $2,509,000, or 650%, compared with gross profit of $386,000 for the six
      months ended June 30, 2005.  This increase was primarily the result of the
      gross profit of the subsidiaries 12Snap, Sponge, Mobot, Gavitec, and BSD, all
      of
      which were acquired during the first quarter of 2006.





*Sales
      and marketing.* Sales
      and
      marketing expenses were $4,879,000 for the six months ended June 30, 2006,
      compared to $2,025,000 for the six months ended June 30, 2005, an increase
      of
      $2,854,000 or 141%.  This increase resulted primarily from the addition of
      sales force and cost associated with added sales and marketing resources
      associated with Mobot, 12Snap, Sponge, Gavitec, and BSD.  NeoMedia expects
      sales and marketing expense to increase over the next 12 months with the
      continued development and expansion of the NeoMedia Mobile, NeoMedia Micro
      Paint
      Repair, and NeoMedia Telecom product groups.





51


*General
      and administrative.* General
      and administrative expenses increased by $2,976,000, or 284%, to $4,023,000
      for
      the six months ended June 30, 2006, compared to $1,047,000 for the six months
      ended June 30, 2005. The increase resulted primarily from increased
      infrastructure expense coupled with the expenses of the subsidiaries 12Snap,
      Sponge, Mobot, Gavitec, and BSD, all of which were acquired during the first
      quarter of 2006.  NeoMedia expects general and administrative expense to
      increase over the next 12 months with the continued expansion of the NeoMedia
      Mobile business.





*Stock
      based compensation expense.* Stock
      based compensation was $2,589,000 for the six months ended June 30, 2006, as
      compared with $514,000 for the six months ended June 30, 2005, an increase
      of
      $2,075,000, or 404%.  The increase was due to the adoption of SFAS 123R
      (Share Based Payment) on January 1, 2006.





*Research
      and development.* During
      the six months ended June 30, 2006, NeoMedia charged to expense $1,446,000
      of
      research and development costs, an increase of $1,102,000 or 320% compared
      to
      $344,000 for the six months ended June 30, 2005.  The increase is primarily
      due to the addition of development staff hired and acquired in connection with
      the ongoing commercialization of the NeoMedia Mobile business unit. 
NeoMedia expects research and development costs to increase over the next 12
      months with the continued development efforts of NeoMedia Mobile business unit
      products and services worldwide.





*Gain
      (loss) on extinguishment of debt.* NeoMedia
      incurred a loss on extinguishment of debt of $1,858,000 for the six months
      ended
      June 30, 2006, primarily resulting from debt retired in connection with the
      Series C preferred stock issued and sold to Cornell on February 17, 2006. ** A
      loss
      was incurred on the surrender  of a certain promissory note to Cornell
      dated March 30, 2005 in connection with the preferred stock sale. During the
      six
      months ended June 30, 2005, NeoMedia recognized a gain on extinguishment of
      debt
      of $171,000, resulting from the payment of debt at a discount to its book
      value.





*Interest
      income (expense).* Interest
      income (expense) consists primarily of interest accrued for creditors as part
      of
      financed purchases, past due balances, and notes payable, net of interest earned
      on cash equivalent investments.  Interest income (expense) decreased by
      $67,000, or 46%, to ($79,000) for the six months ended June 30, 2006 from
      ($146,000) for the six months ended June 30, 2005, due to the pay down of notes
      payable.





*Gain
      on derivative financial instruments.* Gain
      on
      derivative financial instruments was $15,794,000 for the six months ended June
      30, 2006.  The gain is on the derivatives associated with the preferred
      stock sale on February 17, 2006.  Certain derivatives were created at the
      time of the offering and those derivatives are recorded at fair value on the
      accompanying balance sheet. ** The
      gain
      for the six months ended June 30, 2006 is the reduction in value of the
      derivative from February 17, 2006 to June 30, 2006 and is due almost entirely
      to
      a reduction in NeoMedia’s stock price from February 17, 2006 to June 30,
      2006.   There was no such gain or loss on derivative financial
      instruments for the six months ended June 30, 2005.





*Net
      Income (Loss)* . 
      The net income (loss) for the six months ended June 30, 2006 was $3,815,000,
      which represented a $7,334,000, or 208% increase from a ($3,519,000) loss for
      the six months ended June 30, 2005.  The increase in net income is due
      primarily to the $15,794,000 gain on derivative financial instruments during
      2006, partially offset by increased operating expenses from the expanded
      operations from the acquired subsidiaries.




52


**Liquidity
      and Capital Resources**





**Current
      Period Activity**





*Net
      Cash from Operations.*  Net
      cash
      used in operating activities was $6,429,000 for the six months ended June
      30 ,
      2006,
      compared with $3,455,000 for the six months ended June
      30,
      2006 . NeoMedia’s
      net cash used in operating activities increased substantially during the six
      months ended June 30, 2006. The increase was driven primarily by the following
      factors (1) additional sales, marketing, research and development resources
      employed to complete the technical requirements for a 2006 qode® launch in the
      U.S. and Europe; (2) increased general and administrative costs associated
      with
      supporting the new acquisitions and other administrative initiatives such as
      Sarbanes Oxley; and (3) negative operational cashflow from newly-acquired
      subsidiaries Mobot, Gavitec, and 12Snap. NeoMedia expects to continue to
      generate negative operational cashflow over the next 12 months as it continues
      to invest in the qode® launch.





*Net
      Used in Investing.* NeoMedia’s net cash flow used in investing activities for the six months ended
      June 30, 2006 and 2005 was $12,949,000 and $2,211,000, respectively. The
      increase resulted primarily from the investment of $11.9 million in the
      acquisitions of Mobot, Sponge, Gavitec and 12Snap. NeoMedia also advanced
      $500,000 to Hip Cricket in the form of promissory notes, and increased capital
      expenditures on equipment and software required for the qode® launch.





*Net
      cash provided by financing activities* .
      Net
      cash provided by financing activities for the six months ended June 30, 2006
      and
      2005 was $20,179,000 and $10,098,000, respectively. NeoMedia received $14.1
      million from the sale of Series C convertible stock during February 2006.
      NeoMedia also received $8.3 million from the exercise of warrants and employee
      stock options during the first half of 2006.





**Significant
      Liquidity Events**





In
      the
      event that NeoMedia’s stock price at the time the consideration shares issued in
      connection with the acquisitions of Mobot, Sponge, Gavitec, and 12Snap become
      saleable is less than the contractual price (between $0.3839 and $0.3956),
      NeoMedia is obligated to compensate the sellers in cash for the difference
      between the price at the time the shares become saleable and the relevant
      contractual price. Assuming a stock price at the time the shares become saleable
      of $0.165, which was the last sale price on July 21, 2006, NeoMedia would have
      a
      cash liability of $25.5 million relating to the guarantees. On June 21, 2006,
      NeoMedia filed a registration statement on Form S-3 which included the
      consideration shares issued to acquire Mobot, Sponge, Gavitec, and 12Snap,
      among
      others, which was subsequently withdrawn. NeoMedia intends to file a new
      registration statement on form S-3 to cover these areas.  At current stock
      prices, NeoMedia does not believe that it will be able to generate enough cash
      to satisfy the purchase price guarantees if and when they become due, which
      is
      expected to occur upon effectiveness of the registration statement. As a result,
      NeoMedia is attempting to negotiate for payment of the purchase price guarantees
      in another form, including additional shares of common stock. There is no
      guarantee that NeoMedia will be successful in negotiating such an agreement
      with
      any or all of the parties involved.





During
      the six months ended June
      30,
      2006, NeoMedia made cash payments totaling $2.1 million to silent partners
      of
      12Snap, as partial payment under silent partner agreements put in place prior
      to
      the acquisition of 12Snap by NeoMedia. The agreements call for additional cash
      payments of $2.1million on or before December 31, 2006.





During
      the fourth quarter of 2005 and first quarter of 2006, NeoMedia shipped and
      invoiced $757,000 of Micro Paint Repair products to Automart for which payment
      has not been received. Recognition of revenue on this transaction has been
      deferred since this is a new customer in a new territory. If and when payment
      is
      made, NeoMedia expects to recognize revenue for these shipments, and would
      also
      receive a material cash infusion. In the absence of payment, NeoMedia would
      not
      recognize revenue related to these products and would not recoup its cost of
      goods sold which have already been paid.




53


**Sources
      of Cash and Projected Cash Requirements**





NeoMedia
      intends to fund its growth and working capital deficiencies from the following
      sources during the remainder of 2006 and beyond:





*Series
      C Convertible Preferred Stock Sale.* During
      the first quarter of 2006, NeoMedia received approximately $14.1 million net
      proceeds from the Series C convertible preferred stock sale. NeoMedia used
      $13.8
      million of the proceeds to pay the cash portion of the purchase price of Mobot,
      Gavitec, Sponge, and 12Snap. Pursuant to the investment agreement entered into
      in connection with the Series C convertible preferred stock sale, $5 million
      of
      the purchase price was withheld by the investors, and will be funded at the
      time
      a registration statement including the common shares underlying the Series
      C
      convertible preferred stock is declared effective.





*Exercise
      of Options and Warrants.* Attached
      to the Series C convertible preferred stock were 75 million warrants to purchase
      shares of NeoMedia common stock at exercises prices ranging from $0.35 - $0.50.
      NeoMedia can force conversion of the warrants if its stock price is more than
      $0.10 higher than the exercise price of the warrants once the shares underlying
      the warrants are registered. If all of these warrants were exercised, NeoMedia
      would receive $30.5 million proceeds. In addition, NeoMedia can force conversion
      of certain other warrants if the closing bid price of NeoMedia stock is greater
      than $0.30 for five consecutive days, at which point NeoMedia would receive
      an
      additional $2 million proceeds. At current prices, NeoMedia would not realize
      any proceeds from these warrants.





In
      addition, certain outstanding employee stock options are in-the-money and could
      be exercised at the holders’ discretion from time to time.





*$100
      Million SEDA.* On March
      30, 2005, NeoMedia and Cornell Capital Partners entered into a Standby Equity
      Distribution Agreement under which Cornell Capital Partners agreed to purchase
      up to $100 million of NeoMedia’s common stock over a two-year period, with the
      timing and amount of the purchase at NeoMedia’s discretion. The maximum amount
      of each purchase would be $2,000,000 with a minimum of five business days
      between advances. NeoMedia expects to file a registration statement with the
      SEC
      during 2006 to register the shares underlying the $100 million 2005 SEDA. The
      2005 SEDA would become available at the time the SEC declares effective a
      registration statement containing such shares. NeoMedia expects to file a
      registration including the shares underlying the SEDA after the Series C
      convertible preferred shares are converted.





NeoMedia’s
      reliance on Cornell Capital Partners as its primary financing source has certain
      ramifications that could affect future liquidity and business operations. For
      example, pursuant to an investment agreement between NeoMedia and Cornell signed
      in connection with the Series C convertible preferred stock sale, NeoMedia
      cannot (i) enter into any debt arrangements in which it is the borrower, (ii)
      grant any security interest in any of its assets, or (iii) grant any security
      below market price. Additionally, pursuant to a security agreement between
      NeoMedia and Cornell signed in connection with the $100 million SEDA, Cornell
      has a security interest in all of NeoMedia’s assets, with the exception of
      patents and patent applications. Such covenants could severely harm NeoMedia’s
      ability to raise additional funds from sources other than Cornell, and would
      likely result in a higher cost of capital in the event funding were secured.





In
      addition, NeoMedia has incurred both cash and non-cash costs associated with
      the
      financing arrangements with Cornell Capital Partners. In connection with the
      $27
      million Series C convertible preferred stock sale, NeoMedia incurred the
      following costs: (i) Cornell held back a $2.7 million cash fee from the proceeds
      of the sale, (ii) NeoMedia issued 75 million warrants to Cornell with exercise
      prices between $0.35 and $0.50, and (iii) NeoMedia issued 2 million warrants
      with an exercise price of $0.328 to another party for structuring and consulting
      fees associated with the sale. In connection with the 2005 SEDA, NeoMedia
      incurred the following costs: (i) NeoMedia issued 75 million warrants to Cornell
      with an exercise price of $0.20, and (ii) NeoMedia issued 4 million warrants
      with an exercise price of $0.227 to another party for structuring and consulting
      fees associated with the 2005 SEDA.





54





NeoMedia’s
      cash flow used in operations was approximately $6.4 million for the six months
      ended June 30, 2006. In the event that NeoMedia’s stock price does not increase
      to levels where NeoMedia can exercise enough of its outstanding warrants to
      generate material operating capital, or if the market for NeoMedia’s stock will
      not support the sale of shares underlying such warrants or other funding
      sources, or NeoMedia does not realize a material increase in revenue during
      the
      next 12 months, NeoMedia will have to seek additional cash sources. There can
      be
      no assurances that such funding sources will be available. If necessary funds
      are not available, NeoMedia’s business and operations would be materially
      adversely affected and in such event, NeoMedia would attempt to reduce costs
      and
      adjust its business plan.





**Contractual
      Obligations**





NeoMedia
      and its subsidiaries lease office facilities and certain office and computer
      equipment under various operating leases. NeoMedia is party to various payment
      arrangements with its vendors that call for fixed payments on past due
      liabilities. NeoMedia is also party to various consulting agreements that carry
      payment obligations into future years. Additionally, NeoMedia issued Series
      C
      convertible preferred shares with face value of $22,000,000 (and a commitment
      for an additional $5,000,000 purchase by the purchasers under the same terms)
      that are subject to conversion no later than February 17, 2009.





In
      addition, NeoMedia is obligated to make debt payments by December 31, 2006
      in
      connection with silent partner agreements totaling approximately $2.1 million
      plus accrued interest and penalties.





The
      following table sets forth NeoMedia’s future minimum payments due under
      operating leases, vendor and consulting agreements, convertible stock
      agreements, and debt agreements:





(dollars
                in thousands)**Series
                C****Vendor
                &**
            
            
            
            **Convertible****Operating**
            
            **Consulting**
            
            **Notes**
            
            **Preferred****Leases**
            
            **Agreements**
            
            **Payable**
            
            **Stock**
            
            **Total**2006
                (remaining six months)
            
            $
            473
            
            $
            271
            
            $
            2,386
            
            $
            0
            
            $
            3,1302007
            
            
            783
            
            
            340
            
            
            31
            
            
            0
            
            
            1,1542008
            
            
            501
            
            
            156
            
            
            0
            
            
            0
            
            
            6572009
            
            
            190
            
            
            39
            
            
            0
            
            
            27,000
            
            
            27,2292010
            
            
            58
            
            
            0
            
            
            0
            
            
            0
            
            
            58Thereafter
            
            
            42
            
            
            0
            
            
            0
            
            
            0
            
            
            42Total
            
            $
            2,047
            
            $
            806
            
            $
            2,417
            
            $
            27,000
            
            $
            32,270


In
        addition to contractually obligated amounts above, NeoMedia has also guaranteed
        the value of stock consideration issued in connection with certain acquisitions,
        the amount of which will not be determinable until the shares issued for
        such
        acquisitions are registered. In the event that NeoMedia’s stock price at the
        time the consideration shares issued in connection with the acquisitions
        of
        Mobot, Sponge, Gavitec, and 12Snap become saleable is less than the contractual
        price (between $0.3839 and $0.3956), NeoMedia is obligated to compensate
        the
        sellers in cash for the difference between the price at the time the shares
        become saleable and the relevant contractual price. Assuming a stock price
        at
        the time the shares become saleable of $0.165, which was the last sale price
        on
        July 21, 2006, NeoMedia would have a cash liability of $25.5 million relating
        to
        the guarantees.


**Going
      Concern**


The
        accompanying condensed consolidated financial statements have been prepared
        in
        conformity with accounting principles generally accepted in the United States
        of
        America, which contemplate continuation of the Company as a going concern.
        . Net
        income for the six months ended June 30, 2006, was $3,815,000 which includes
        a
        gain on derivative financial instruments of $15,794,000. NeoMedia also reported
        net losses of $9,147,000 and $7,230,000 for the years ended December 31,
        2005
        and 2004, respectively, and has an accumulated deficit of $88,709,000 and
        a
        working capital deficit of $18,877,000 as of June 30, 2006.
 
 In
        addition, NeoMedia has material liquidity events that could adversely affect
        its
        ability to continue as a going concern, primarily:
 
 ·
            in
                the event that NeoMedia’s stock price at the time the consideration shares
                issued in connection with the acquisitions of Mobot, Sponge, Gavitec,
                and
                12Snap become saleable is less than the contractual price (between
                $0.3839
                and $0.3956), NeoMedia is obligated to compensate the sellers in
                cash for
                the difference between the price at the time the shares become saleable
                and the relevant contractual price. Assuming a stock price at the
                time the
                shares become saleable of $0.165, which was the last sale price on
                July
                21, 2006, NeoMedia would have a cash liability of $25.5 million relating
                to the guarantees. 
 ·
            during
                the six months ended June 30, 2006, NeoMedia made cash payments totaling
                $2.1 million to silent partners of 12Snap, as partial payment under
                silent
                partner agreements put in place prior to the acquisition of 12Snap
                by
                NeoMedia. The agreements call for additional cash payments of $2.1million
                on or before December 31, 2006.


55


If
      NeoMedia’s financial resources are insufficient NeoMedia may require additional
      financing in order to execute its operating plan and continue as a going
      concern. NeoMedia cannot predict whether this additional financing will be
      in
      the form of equity, debt, or another form. NeoMedia may not be able to obtain
      the necessary additional capital on a timely basis, on acceptable terms, or
      at
      all. In any of these events, NeoMedia may be unable to implement its current
      plans for expansion, repay its debt obligations as they become due, pay any
      additional costs required under its recently completed acquisition agreements,
      or respond to competitive pressures, any of which circumstances would have
      a
      material adverse effect on its business, prospects, financial condition and
      results of operations. The financial statements do not include any adjustments
      relating to the recoverability and reclassification of recorded asset amounts
      or
      amounts and reclassification of liabilities that might be necessary, should
      NeoMedia be unable to continue as a going concern.






56


**ITEM
      3.** **QUANTITATIVE
      AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK** **.**





NeoMedia
      previously filed its periodic reports as a small business issuer through the
      period ended December 31, 2005. The information required by Item 305 of
      Regulation S-K was not required under the disclosure requirements for small
      business issuers. Pursuant to Item 305 of Regulation S-K, disclosure of
      quantitative and qualitative information about market risk is required in the
      first annual report. Information relating to interim financial statements is
      not
      required until after the first fiscal year end in which Item 305 is applicable.
      Accordingly, NeoMedia anticipates providing a quantitative and qualitative
      analysis regarding market risk in our Form 10-K for the year ending December
      31,
      2006.





**ITEM
      4. CONTROLS AND PROCEDURES**





There
      were no policy reviews, improvements of documentation or general improvement
      in
      the state of internal controls that led to any change during the fiscal quarter,
      or subsequent to the end of the fiscal quarter through the date of this Form
      10-Q, that materially affected or were reasonably likely to materially affect,
      internal controls over financial reporting




***Evaluation
      of Disclosure Controls and Procedures*** .
      As of
      the end of the period covered by this report, the Company carried out an
      evaluation, under the supervision and with the participation of the Company’s
      Principal Executive Officer and Principal Financial Officer, of the
      effectiveness of the design and operation of the Company’s disclosure controls
      and procedures. The Company’s disclosure controls and procedures are designed to
      provide a reasonable level of assurance of achieving the Company’s disclosure
      control objectives. The Company’s Principal Executive Officer and Principal
      Financial Officer have concluded that the Company’s disclosure controls and
      procedures are, in fact, effective at this reasonable assurance level as of
      the
      end of period covered. In addition, the Company reviewed its internal controls,
      and there have been no significant changes in its internal controls or in other
      factors that could significantly affect those controls subsequent to the date
      of
      their last evaluation or from the end of the reporting period to the date of
      this Form 10-Q.





***Changes
      in Internal Controls*** .
      In
      connection with the evaluation of the Company’s internal controls during the
      Company’s six months ended June 30, 2006, the Company’s Principal Executive
      Officer and Principal Financial Officer have determined that there were no
      changes to the Company’s internal controls over financial reporting that have
      materially affected, or are reasonably likely to materially effect, the
      Company’s internal controls over financial reporting during the six months ended
      June 30, 2006, or subsequent to the date of their last evaluation, or from
      the
      end of the reporting period to the date of this Form 10-Q, except that the
      Company has added
      a
      European Controller to oversee the ongoing assimilationof its recently
      acquired European subsidiaries.




57


**PART
      II -- OTHER INFORMATION**





**ITEM
      1. LEGAL PROCEEDINGS**





The
      Company is involved in various legal actions arising in the normal course of
      business, both as claimant and defendant. While it is not possible to determine
      with certainty the outcome of these matters, it is the opinion of management
      that the eventual resolution of the following legal actions could have a
      material adverse effect on the Company’s financial position or operating
      results. The following outlined legal proceedings for which the potential
      outcome could be in excess of $50,000.





**Scanbuy,
      Inc.**





On
      January 23, 2004, NeoMedia filed suit against Scanbuy, Inc. (“Scanbuy”) in the
      Northern District of Illinois, claiming that Scanbuy has manufactured, or has
      manufactured for it, and has used, or actively induced others to use, technology
      which allows customers to use a built-in UPC bar code scanner to scan individual
      items and access information, thereby infringing NeoMedia’s patents.  The
      complaint stated that on information and belief, Scanbuy had actual and
      constructive notice of the existence of the patents-in-suit, and, despite such
      notice, failed to cease and desist their acts of infringement, and continue
      to
      engage in acts of infringement of the patents-in-suit.  On April 15, 2004,
      the court dismissed the suits against Scanbuy for lack of personal
      jurisdiction.





On
      April
      20, 2004, NeoMedia re-filed its suit against Scanbuy in the Southern District
      of
      New York alleging patent infringement. Scanbuy filed its answer on June 2,
      2004.
      NeoMedia filed its answer and affirmative defenses on July 23, 2004. On
      February 13, 2006, Scanbuy filed an amended answer to the complaint. NeoMedia
      filed its reply to Scanbuy’s amended answer on March 6, 2006. Discovery
      is ongoing.








**Former
      Mobot Shareholders**





On
      June
      8, 2006, Mark Freitas (“Plaintiff”), a former Mobot shareholder, filed a
      complaint in Massachusetts state court against NeoMedia alleging that NeoMedia
      breached the merger agreement between NeoMedia and Mobot by failing to file
      a
      registration statement with the SEC that included his shares by May 9,
      2006.  Plaintiff's complaint requested that the Court issue a preliminary
      injunction prohibiting NeoMedia from:  (1) causing its charter to be
      amended so as to increase the number of shares of authorized common stock in
      excess of one billion shares; (2) entering into any contract, agreement, or
      other undertaking in which NeoMedia shares are used as payment; (3) issuing
      a
      warrant or option to acquire NeoMedia common stock with an exercise price of
      less than $0.3839; and (4) filing a registration statement with the SEC that
      does not include the Mobot shareholder's shares.  Plaintiff also seeks
      costs and attorney's fees in his complaint.





A
      hearing
      on the request for preliminary injunctive relief was held on June 21,
      2006.  During the hearing, Plaintiff changed his request for relief by
      asking that the Court enjoin NeoMedia from amending the Registration Statement
      it filed on June 21, 2006 to add any additional shares or from filing any
      further registration statements until the one filed on June 21, 2006 becomes
      effective.  On June 26, 2006, the Court issued a Memorandum of Decision
      and Order on Plaintiff's Request for Preliminary Injunction and denied
      Plaintiff's request for a preliminary injunction.





NeoMedia plans
      to file a motion to dismiss the complaint, but the parties have agreed to
      extend the deadline for the submission of those papers to the Court. 
NeoMedia may also join Plaintiff's request that the action be transferred to
      the
      Business Litigation Session of the Suffolk Superior Court. NeoMedia
      intends to defend the lawsuit vigorously.




58





**12Snap
      Silent Partners**





On
      April
      18, 2006, 12Snap AG, a wholly-owned subsidiary of NeoMedia acquired on February
      28, 2006, received a letter of Technologie Beteiligungsfonds Bayern GmbH &
Co. KG, Munich, to initiate arbitration proceedings. Technologie
      Beteiligungsfonds claims for a final payment in the amount of EUR 353,400 plus
      interest of 5% per annum since March 1, 2006 arising out of a silent partnership
      agreement with 12Snap. On July 5, 2006, the Company filed a statement of defense
      with the arbitration panel. The Company expects the matter will be subject
      to a
      German arbitration proceeding during the third or fourth quarter of
      2006.








**Threatened
      Litigation**





On
      March
      15, 2006, NeoMedia received a letter from an unrelated third party alleging
      that
      the party performed independent consulting services leading up to the closing
      of
      the merger between NeoMedia and Mobot on February 17, 2006. The letter contends
      that NeoMedia and Mobot breached a consulting agreement whereby the party was
      to
      be paid $300,000, equal to 3% of the merger consideration paid by NeoMedia
      to
      Mobot. NeoMedia is investigating the allegations, and based upon its findings
      will decide whether to defend or attempt to settle the dispute.




59


**ITEM
      1A. RISK FACTORS**





**Risks
      Related to NeoMedia’s Business**





**NeoMedia
      has Historically Lost Money and Losses May Continue**





NeoMedia
      has incurred substantial operating losses since inception, and anticipates
      continuing to incur substantial losses for the foreseeable future. Net income
      for the six months ended June 30, 2006, was $3,815,000 which includes a gain
      on
      derivative financial investments of $15,794,000. NeoMedia also reported net
      losses of $9,147,000 and $7,230,000 for the years ended December 31, 2005 and
      2004 respectively. NeoMedia’s accumulated losses were approximately $88,709,000
      and $92,524,000 as of June 30, 2006 and December 31, 2005, respectively. As
      of
      June 30, 2006 and December 31, 2005 and 2004, NeoMedia had a working capital
      deficit of approximately $18,877,000, $4,874,000 and $2,597,000, respectively.
      NeoMedia had stockholders’ equity of $56,473,000, $4,227,000 and $4,392,000 as
      of June 30, 2006 and December 31, 2005 and 2004, respectively. NeoMedia
      generated revenues of $8,658,000, $1,285,000, $2,156,000 and $1,700,000 for
      the
      six months ended June 30, 2006 and 2005 and the years ended December 31, 2005
      and 2004, respectively. In addition, during the six months ended June 30, 2006
      and 2005 and the years ended December 31, 2005 and 2004, NeoMedia recorded
      negative cash flows from operations of $6,429,000, $3,455,000, $6,509,000 and
      $4,650,000, respectively. To succeed, NeoMedia must develop new client and
      customer relationships and substantially increase its revenue derived from
      improved products and additional value-added services. NeoMedia has expended,
      and to the extent it has available financing, NeoMedia intends to continue
      to
      expend, substantial resources to develop and improve its products, increase
      its
      value-added services and to market its products and services. These development
      and marketing expenses must be incurred well in advance of the recognition
      of
      revenue. As a result, NeoMedia may not be able to achieve or sustain
      profitability.





**NeoMedia’s
      Independent Registered Public Accounting Firm Have Added Going Concern Language
      To Their Report On NeoMedia’s Consolidated Financial Statements, Which Means
      That NeoMedia May Not Be Able To Continue Operations**





The
      report of Stonefield Josephson, Inc., NeoMedia’s independent registered public
      accounting firm, with respect to NeoMedia’s consolidated financial statements
      and the related notes for the years ended December 31, 2005 and 2004, indicates
      that, at the date of their report, NeoMedia had suffered significant recurring
      losses from operations and its working capital deficit raised substantial doubt
      about its ability to continue as a going concern. NeoMedia’s consolidated
      financial statements do not include any adjustments that might result from
      this
      uncertainty.





**NeoMedia
      Has Guaranteed The Value of Stock Issued In Connection With Recent Mergers
      Through The Registration Of The Shares, Which Could Result In A Material Cash
      Liability**





Pursuant
      to the terms of the merger agreements with Mobot, Sponge, Gavitec, and 12Snap,
      in the event that NeoMedia’s stock price at the time the consideration shares
      issued in connection with each acquisition are saleable is less than the price
      at which they were valued for purposes of the merger agreement (between $0.3839
      and $0.3956 per share), NeoMedia is obligated to compensate the sellers in
      cash
      for the difference between the price at the time the shares become saleable
      and
      the price the shares were valued for purposes of the merger agreement.
      Subsequent to the closing of the acquisitions, NeoMedia’s stock has closed as
      low as $0.153 per share. Assuming a stock price at the time the shares become
      saleable of $0.165, which was the last sale price on July 21, 2006, NeoMedia
      would have a cash liability of $25.5 million resulting from these
      clauses.








**NeoMedia
      Has Contractual Commitments to Pay Silent Partners**








Resulting
      from the acquisition of 12 Snap, NeoMedia has a commitment to pay EUR 1,750,000
      (approximately $2.1M US), at the end of 2006 to the
      Silent Partners of 12 Snap .
      If
      NeoMedia’s financial resources are insufficient, NeoMedia may require additional
      financing in order to meet this obligation.  There is no guarantee that
      NeoMedia will be able to obtain the necessary additional capital to meet this
      obligation on a timely basis, on acceptable terms, or at all.  In any of
      these events, NeoMedia may be unable to repay this obligation when it becomes
      due.


**NeoMedia
        Could Identify Material Internal Control Weaknesses As Part of Its
        Sarbanes-Oxley Internal Control Review for Its Fiscal Year Ended December
        31,
        2006,**
   The
        regulations implementing Section 404 of the Sarbanes-Oxley Act of 2002 require
        an assessment of the effectiveness of the Company’s internal controls over
        financial reporting beginning with our Annual Report on Form 10-K for the
        fiscal
        year ending December 31, 2006. The Company’s independent auditors will be
        required to confirm in writing whether management’s assessment of the
        effectiveness of the internal controls over financial reporting is fairly
        stated
        in all material respects, and separately report on whether they believe
        management maintained, in all material respects, effective internal control
        over
        financial reporting as of December 31, 2006. As part of the assessment of
        our internal controls in connection with the process required by Section
        404 of
        the Sarbanes-Oxley Act of 2002, management intends to continue to review,
        evaluate and strengthen our controls and processes. Management cannot state
        that
        material weaknesses in internal controls will not be determined. Management
        also
        cannot state that the process of evaluation and the auditor’s attestation will
        be completed on time. If a material weakness is discovered, corrective action
        may be time consuming, costly and further divert the attention of management.
        The disclosure of a material weakness, even if quickly remedied, could reduce
        the market’s confidence in the Company’s financial statements and harm the
        Company’s stock price, especially if a restatement of financial statements for
        past periods is required




60





**There
      is Limited Information Upon Which Investors Can Evaluate NeoMedia’s Business
      Because The Physical-World-to-Internet Market Has Existed For Only A Short
      Period Of Time**





The
      physical-world-to-Internet market in which NeoMedia operates is a recently
      developed market. Further, NeoMedia has conducted operations in this market
      only
      since March 1996. Consequently, NeoMedia has a relatively limited operating
      history upon which an investor may base an evaluation of NeoMedia’s primary
      business and determine NeoMedia’s prospects for achieving its intended business
      objectives. To date, NeoMedia has sold its physical-world-to-Internet products
      to only 12 companies. NeoMedia is prone to all of the risks inherent to the
      establishment of any new business venture, including unforeseen changes in
      its
      business plan. An investor should consider the likelihood of NeoMedia’s future
      success to be highly speculative in light of its limited operating history
      in
      its primary market, as well as the limited resources, problems, expenses, risks,
      and complications frequently encountered by similarly situated companies in
      new
      and rapidly evolving markets, such as the physical-world-to-Internet space.
      To
      address these risks, NeoMedia must, among other things:




·
            maintain
                and increase its client base;


·
            implement
                and successfully execute its business and marketing
                strategy;


·
            continue
                to develop and upgrade its
                products;


·
            continually
                update and improve service offerings and
                features;


·
            respond
                to industry and competitive developments;
                and


·
            attract,
                retain, and motivate qualified
                personnel.




NeoMedia
      may not be successful in addressing these risks. If NeoMedia is unable to do
      so,
      its business, prospects, financial condition, and results of operations would
      be
      materially and adversely affected.





**NeoMedia’s
      future success depends on the timely introduction of new products and the
      acceptance of these new products in the marketplace.**





Rapid
      technological change and frequent new product introductions are typical for
      the
      markets NeoMedia serves. NeoMedia’s future success will depend in large part on
      continuous, timely development and introduction of new products that address
      evolving market requirements. To the extent that NeoMedia fails to introduce
      new
      and innovative products, it may lose market share to its competitors, which
      may
      be difficult to regain. Any inability, for technological or other reasons,
      to
      successfully develop and introduce new products could materially and adversely
      affect NeoMedia’s business.





**NeoMedia’s
      Common Stock Is Deemed To Be “Penny Stock,” Which May Make It More Difficult For
      Investors To Sell Their Shares Due To Suitability
      Requirements**





NeoMedia’s
      common stock is deemed to be “penny stock” as that term is defined in
      Rule 3a51-1 promulgated under the Securities Exchange Act of 1934, as
      amended. These requirements may reduce the potential market for NeoMedia’s
      common stock by reducing the number of potential investors. This may make it
      more difficult for investors in NeoMedia’s common stock to sell shares to third
      parties or to otherwise dispose of them. This could cause NeoMedia’s stock price
      to decline. Penny stocks are stock:





·
            with
                a price of less than $5.00 per
                share;





·
            that
                are not traded on a “recognized” national exchange;





61


·
            whose
                prices are not quoted on the NASDAQ automated quotation system (NASDAQ
                listed stock must still have a price of not less than $5.00 per share);
                or





·
            in
                issuers with net tangible assets less than $2 million (if the issuer
                has
                been in continuous operation for at least three years) or $10 million
                (if in continuous operation for less than three years), or with average
                revenues of less than $6 million for the last three
                years.





Broker-dealers
      dealing in penny stocks are required to provide potential investors with a
      document disclosing the risks of penny stocks. Moreover, broker-dealers are
      required to determine whether an investment in a penny stock is a suitable
      investment for a prospective investor.





**Existing
      Shareholders Will Experience Significant Dilution When Certain Investors
      Convert Their Preferred Stock to Common Stock or When the Investors Exercise
      Their Warrants and Receive Common Stock Shares Under the Investment Agreement
      with the Investors**





The
      issuance of shares of common stock pursuant to the conversion of Series C
      convertible preferred stock pursuant to our transaction with Cornell Capital
      Partners will have a dilutive impact on our stockholders. As a result, our
      net
      income or loss per share could decrease in future periods, and the market price
      of our common stock could decline.  In addition, the lower our stock price
      is, the more shares of common stock we will have to issue pursuant to the
      conversion of our preferred stock.  If our stock price is lower, then
      our existing stockholders would experience greater dilution.





**Due
      To The Accounting Treatment Of Certain Convertible Preferred Stock Instruments
      Issued By NeoMedia, A Fluctuation In NeoMedia’s Stock Price Could Have A
      Material Impact On NeoMedia’s Results Of Operations**








During
      the first and second quarters of 2006, NeoMedia recognized income in the amount
      of $4,768,000 and $11,026,000, respectively, from adjustments recorded to
      reflect the change in fair value of derivatives issued in connection with its
      Series C convertible preferred shares. The income results from a decrease in
      NeoMedia’s share price from $0.389 per share at the time of issuance of the
      Series C convertible preferred shares (February 17, 2006) to $0.345 at March
      31,
      2006 to $0.231 at June 30, 2006. An increase to NeoMedia’s shares price would
      result in a charge to income. NeoMedia will adjust the carrying value of the
      derivative instruments to market at each balance sheet date. As a result,
      NeoMedia could experience significant fluctuations in its net income (loss)
      in
      future periods as a result of such charges.








**NeoMedia
      is Uncertain Of The Success Of Its NeoMedia Mobile Business Unit And The Failure
      Of This Unit Would Negatively Affect The Price Of NeoMedia’s
      Stock**





NeoMedia
      provides products and services that provide a link from physical objects,
      including printed material, to the mobile Internet. NeoMedia can provide no
      assurance that:





·
            its
                NeoMedia Mobile business unit will ever achieve
                profitability;


·
            its
                current product offerings will not be adversely affected by the focusing
                of its resources on the physical-world-to-Internet space;
                or


·
            the
                products NeoMedia develops will obtain market
                acceptance.




In
      the
      event that the NeoMedia
      Mobile business
      unit should never achieve profitability, that NeoMedia’s current product
      offerings should so suffer, or that NeoMedia’s products fail to obtain market
      acceptance, NeoMedia’s business, prospects, financial condition, and results of
      operations would be materially adversely affected.





62


**A
      Large Percentage Of NeoMedia’s Assets Are Intangible Assets, Which Will Have
      Little Or No Value If NeoMedia’s Operations Are
      Unsuccessful**





At
      June
      30, 2006 and December 31, 2005 and 2004, approximately 84%, 48% and 49%,
      respectively, of NeoMedia’s total assets were intangible assets, consisting
      primarily of rights related to NeoMedia’s patents, other intellectual property,
      and excess of purchase price over fair market value paid for Mobot, Sponge,
      Gavitec, 12Snap, BSD, and CSI International, Inc. If NeoMedia’s operations are
      unsuccessful, these assets will have little or no value, which would materially
      adversely affect the value of NeoMedia’s stock and the ability of NeoMedia’s
      stockholders to recoup their investments in NeoMedia’s capital stock.





NeoMedia reviews
      its amortizable intangible assets for impairment when events or changes in
      circumstances indicate the carrying value may not be recoverable. Goodwill
      is
      required to be tested for impairment at least annually. NeoMedia may be required
      to record a significant charge to earnings in its financial statements during
      the period in which any impairment of our goodwill or amortizable intangible
      assets is determined, resulting in an impact on results of operations.








**Certain
      Of NeoMedia’s Emerging Products and Services Have Limited History And May Not
      Result In Success**





To
      date,
      NeoMedia has conducted limited marketing efforts directly relating to its
      emerging technology products, consisting primarily of the Qode suite of
      products, and certain products of recent acquisitions Mobot and Gavitec. Many
      of
      NeoMedia’s marketing efforts with respect to these emerging technologies have
      been largely untested in the marketplace, and may not result in materially
      increased sales of these emerging products and services. To penetrate the
      emerging markets in which it competes, NeoMedia expects that it will have to
      exert significant efforts to create awareness of, and demand for, its emerging
      products and services. NeoMedia intends to continue to expand its sales and
      marketing resources as the market continues to mature. NeoMedia’s failure to
      further develop its sales and marketing capabilities and successfully market
      its
      emerging products and services would have a material adverse effect on its
      business, prospects, financial condition, and results of
      operations.





**NeoMedia’s
      Internally Developed Systems Are Inefficient And May Put NeoMedia At A
      Competitive Disadvantage**





NeoMedia
      uses internally developed technologies for a portion of its systems integration
      services, as well as the technologies required to interconnect its clients’ and
      customers’ physical-world-to-Internet systems and hardware with its own. As
      NeoMedia develops these systems in order to integrate disparate systems and
      hardware on a case-by-case basis, these systems are inefficient and require
      a
      significant amount of customization. Such client and customer-specific
      customization is time consuming and costly and may place NeoMedia at a
      competitive disadvantage when compared to competitors with more efficient
      systems.





**NeoMedia
      Could Fail to Attract Or Retain Key Personnel**





NeoMedia’s
      future success will depend in large part on its ability to attract, train,
      and
      retain additional highly skilled executive level management, creative,
      technical, and sales personnel. Competition is intense for these types of
      personnel from other technology companies and more established organizations,
      many of which have significantly larger operations and greater financial,
      marketing, human, and other resources than NeoMedia has. NeoMedia may not be
      successful in attracting and retaining qualified personnel on a timely basis,
      on
      competitive terms, or at all. NeoMedia’s failure to attract and retain qualified
      personnel could have a material adverse effect on its business, prospects,
      financial condition, and results of operations.





63


**NeoMedia
      Depends Upon Its Senior Management And Their Loss Or Unavailability Could Put
      NeoMedia At A Competitive Disadvantage**





NeoMedia’s
      success depends largely on the skills of certain key management and technical
      personnel, including Charles T. Jensen, NeoMedia’s President and Chief Executive
      Officer, Charles W. Fritz, NeoMedia’s founder and Chairman of the Board of
      Directors, Martin N. Copus, NeoMedia’s Chief Operating Officer and head of the
      NMM business unit, and David A. Dodge, NeoMedia’s Chief Financial Officer. The
      loss of the services of Messrs. Jensen, Fritz, Copus, or Dodge could materially
      harm NeoMedia’s business because of the cost and time necessary to replace and
      train a replacement. Such a loss would also divert management attention away
      from operational issues. NeoMedia does not presently maintain a key-man life
      insurance policy on Messrs. Jensen, Fritz, Copus, or Dodge.





**NeoMedia
      May Be Unsuccessful In Integrating Its Recently Completed and Pending
      Acquisitions With Its Current Business**





The
      success of the acquisitions of Mobot, 12Snap, Sponge, Gavitec, and BSD could
      depend on the ability of NeoMedia’s executive management to integrate the
      business plan of each company with NeoMedia’s overall business plan. Failure to
      properly integrate the business could have a material adverse effect on the
      expected revenue and operations of the acquisitions, as well as the expected
      return on investment for NeoMedia.








**NeoMedia
      May Be Unable To Protect Its Intellectual Property Rights And May Be Liable
      For
      Infringing The Intellectual Property Rights Of Others**





NeoMedia’s
      success in the physical-world-to-Internet market is dependent upon its
      proprietary technology, including patents and other intellectual property,
      and
      on the ability to protect proprietary technology and other intellectual property
      rights. In addition, NeoMedia must conduct its operations without infringing
      on
      the proprietary rights of third parties. NeoMedia also intends to rely upon
      unpatented trade secrets and the know-how and expertise of its employees, as
      well as its patents. To protect its proprietary technology and other
      intellectual property, NeoMedia relies primarily on a combination of the
      protections provided by applicable patent, copyright, trademark, and trade
      secret laws as well as on confidentiality procedures and licensing arrangements.
      Although NeoMedia believes that it has taken appropriate steps to protect its
      unpatented proprietary rights, including requiring that its employees and third
      parties who are granted access to NeoMedia’s proprietary technology enter into
      confidentiality agreements, NeoMedia can provide no assurance that these
      measures will be sufficient to protect its rights against third parties. Others
      may independently develop or otherwise acquire patented or unpatented
      technologies or products similar or superior to NeoMedia’s.





NeoMedia
      licenses from third parties certain software tools that are included in
      NeoMedia’s services and products. If any of these licenses were terminated,
      NeoMedia could be required to seek licenses for similar software from other
      third parties or develop these tools internally. NeoMedia may not be able to
      obtain such licenses or develop such tools in a timely fashion, on acceptable
      terms, or at all. Companies participating in the software and Internet
      technology industries are frequently involved in disputes relating to
      intellectual property. NeoMedia may in the future be required to defend its
      intellectual property rights against infringement, duplication, discovery,
      and
      misappropriation by third parties or to defend against third party claims of
      infringement. Likewise, disputes may arise in the future with respect to
      ownership of technology developed by employees who were previously employed
      by
      other companies. Any such litigation or disputes could result in substantial
      costs to, and a diversion of effort by, NeoMedia. An adverse determination
      could
      subject NeoMedia to significant liabilities to third parties, require NeoMedia
      to seek licenses from, or pay royalties to, third parties, or require NeoMedia
      to develop appropriate alternative technology. Some or all of these licenses
      may
      not be available to NeoMedia on acceptable terms or at all, and NeoMedia may
      be
      unable to develop alternate technology at an acceptable price or at all. Any
      of
      these events could have a material adverse effect on NeoMedia’s business,
      prospects, financial condition, and results of operations.





64


**NeoMedia
      Is Exposed To Product Liability Claims And An Uninsured Claim Could Have A
      Material Adverse Effect On NeoMedia’s Business, Prospects, Financial Condition,
      And Results Of Operations, As Well As The Value Of NeoMedia’s
      Stock**





Many
      of
      NeoMedia’s projects are critical to the operations of its clients’ businesses.
      Any failure in a client’s information system could result in a claim for
      substantial damages against NeoMedia, regardless of NeoMedia’s responsibility
      for such failure. NeoMedia could, therefore, be subject to claims in connection
      with the products and services that it sells. NeoMedia currently maintains
      product liability insurance. There can be no assurance that:





·
            NeoMedia
                has contractually limited its liability for such claims adequately
                or at
                all; or


·
            NeoMedia
                would have sufficient resources to satisfy any liability resulting
                from
                any such claim.




The
      successful assertion of one or more large claims against NeoMedia could have
      a
      material adverse effect on its business, prospects, financial condition, and
      results of operations.





**NeoMedia
      Will Not Pay Cash Dividends and Investors May Have To Sell Their Shares In
      Order
      To Realize Their Investment**





NeoMedia
      has not paid any cash dividends on its common stock and does not intend to
      pay
      cash dividends in the foreseeable future. NeoMedia intends to retain future
      earnings, if any, for reinvestment in the development and marketing of
      NeoMedia’s products and services. As a result, investors may have to sell their
      shares of common stock to realize their investment.





**Some
      Provisions Of NeoMedia’s Certificate of Incorporation And bylaws May Deter
      Takeover Attempts, Which May Limit The Opportunity Of NeoMedia’s Stockholders To
      Sell Their Shares At A Premium To The Then-Current Market
      Price**





Some
      of
      the provisions of NeoMedia’s Certificate of Incorporation and bylaws could make
      it more difficult for a third party to acquire NeoMedia, even if doing so might
      be beneficial to NeoMedia’s stockholders by providing them with the opportunity
      to sell their shares at a premium to the then-current market price. On December
      10, 1999, NeoMedia’s Board of Directors adopted a stockholders rights plan and
      declared a non-taxable dividend of one right to acquire Series A Preferred
      Stock
      of NeoMedia, par value $0.01 per share, on each outstanding share of NeoMedia’s
      common stock to stockholders of record on December 10, 1999 and each share
      of
      common stock issued thereafter until a pre-defined hostile takeover date. The
      stockholder rights plan was adopted as an anti-takeover measure, commonly
      referred to as a “poison pill.” The stockholder rights plan was designed to
      enable all stockholders not engaged in a hostile takeover attempt to receive
      fair and equal treatment in any proposed takeover of NeoMedia and to guard
      against partial or two-tiered tender offers, open market accumulations, and
      other hostile tactics to gain control of NeoMedia. The stockholders rights
      plan
      was not adopted in response to any effort to acquire control of NeoMedia at
      the
      time of adoption. This stockholders rights plan may have the effect of rendering
      more difficult, delaying, discouraging, preventing, or rendering more costly
      an
      acquisition of NeoMedia or a change in control of NeoMedia. Certain of
      NeoMedia’s directors, officers and principal stockholders, Charles W. Fritz,
      William E. Fritz and The Fritz Family Limited Partnership and their holdings
      were exempted from the triggering provisions of NeoMedia’s “poison pill” plan,
      as a result of the fact that, as of the plan’s adoption, their holdings might
      have otherwise triggered the “poison pill”.





In
      addition, NeoMedia’s Certificate of Incorporation authorizes the Board of
      Directors to designate and issue preferred stock, in one or more series, the
      terms of which may be determined at the time of issuance by the Board of
      Directors, without further action by stockholders, and may include voting
      rights, including the right to vote as a series on particular matters,
      preferences as to dividends and liquidation, conversion, redemption rights,
      and
      sinking fund provisions.




NeoMedia
      is authorized to issue a total of 25,000,000 shares of Preferred Stock, par
      value $0.01 per share. The issuance of any preferred stock could have a material
      adverse effect on the rights of holders of NeoMedia’s common stock, and,
      therefore, could reduce the value of shares of NeoMedia’s common stock. In
      addition, specific rights granted to future holders of preferred stock could
      be
      used to restrict NeoMedia’s ability to merge with, or sell NeoMedia’s assets to,
      a third party. The ability of the Board of Directors to issue preferred stock
      could have the effect of rendering more difficult, delaying, discouraging,
      preventing, or rendering more costly an acquisition of NeoMedia or a change
      in
      NeoMedia’s control thereby preserving control by the current stockholders.




65





**Risks
      Relating To NeoMedia’s Industry**








**The
      Security of the Internet Poses Risks To The Success Of NeoMedia’s Entire
      Business**





Concerns
      over the security of the Internet and other electronic transactions, and the
      privacy of consumers and merchants, may inhibit the growth of the Internet
      and
      other online services generally, especially as a means of conducting commercial
      transactions, which may have a material adverse effect on NeoMedia’s
      physical-world-to-Internet business.





**NeoMedia
      Will Only Be Able To Execute Its Physical-World-To-Internet Business Plan If
      Internet Usage and Electronic Commerce Continue To Grow**





NeoMedia’s
      future revenues and any future profits are substantially dependent upon the
      widespread acceptance and use of the Internet and camera devices on mobile
      telephones. If use of the Internet and camera devices on mobile telephones
      does
      not continue to grow or grows more slowly than expected, or if the
      infrastructure for the Internet and camera devices on mobile telephones does
      not
      effectively support the growth that may occur, or does not become a viable
      commercial marketplace, NeoMedia’s physical-world-to-Internet business, and
      therefore NeoMedia’s business, prospects, financial condition, and results of
      operations, could be materially adversely affected. Rapid growth in the use
      of,
      and interest in, the Internet and camera devices on mobile telephones is a
      recent phenomenon, and may not continue on a lasting basis. In addition,
      customers may not adopt, and continue to use mobile telephones as a medium
      of
      information retrieval or commerce. Demand and market acceptance for recently
      introduced services and products over the mobile Internet are subject to a
      high
      level of uncertainty, and few services and products have generated profits.
      For
      NeoMedia to be successful, consumers and businesses must be willing to accept
      and use novel and cost efficient ways of conducting business and exchanging
      information.





In
      addition, the public in general may not accept the use of the Internet and
      camera devices on mobile telephones as a viable commercial or information
      marketplace for a number of reasons, including potentially inadequate
      development of the necessary network infrastructure or delayed development
      of
      enabling technologies and performance improvements. To the extent that mobile
      phone Internet usage continues to experience significant growth in the number
      of
      users, their frequency of use, or in their bandwidth requirements, the
      infrastructure for the mobile Internet may be unable to support the demands
      placed upon them. In addition, the mobile Internet and mobile interactivity
      could lose its viability due to delays in the development or adoption of new
      standards and protocols required to handle increased levels of mobile Internet
      activity, or due to increased governmental regulation. Significant issues
      concerning the commercial and informational use of the mobile Internet, and
      online networks technologies, including security, reliability, cost, ease of
      use, and quality of service, remain unresolved and may inhibit the growth of
      Internet business solutions that utilize these technologies. Changes in, or
      insufficient availability of, telecommunications services to support the
      Internet, the Web or other online services also could result in slower response
      times and adversely affect usage of the Internet, the Web and other online
      networks generally and NeoMedia’s physical-world-to-Internet product and
      networks in particular.





**NeoMedia
      May Not Be Able To Adapt As The Internet, Physical-World-To-Internet, And
      Customer Demands Continue To Evolve**





NeoMedia
      may not be able to adapt as the mobile Internet and physical-world-to-Internet
      markets and consumer demands continue to evolve. NeoMedia’s failure to respond
      in a timely manner to changing market conditions or client requirements would
      have a material adverse effect on its business, prospects, financial condition,
      and results of operations. The mobile Internet and physical-world-to-Internet
      markets are characterized by:





66


·
            rapid
                technological change;


·
            changes
                in user and customer requirements and
                preferences;


·
            frequent
                new product and service introductions embodying new technologies;
                and


·
            the
                emergence of new industry standards and practices that could render
                proprietary technology and hardware and software infrastructure
                obsolete.





NeoMedia’s
      success will depend, in part, on its ability to:




·
            enhance
                and improve the responsiveness and functionality of its products
                and
                services;





·
            license
                or develop technologies useful in its business on a timely
                basis;





·
            enhance
                its existing services, and develop new services and technologies
                that
                address the increasingly sophisticated and varied needs of NeoMedia’s
                prospective or current customers;
                and





·
            respond
                to technological advances and emerging industry standards and practices
                on
                a cost-effective and timely basis.




**NeoMedia’s
      Competitors In The Micro Paint Repair Industry Could Duplicate NeoMedia’s
      Proprietary Processes**








NeoMedia’s
      success in the micro paint repair industry depends upon proprietary chemical
      products and processes. There is no guarantee that NeoMedia’s competitors will
      not duplicate NeoMedia’s proprietary processes.








**NeoMedia
      May Not Be Able To Compete Effectively In Markets Where Its Competitors Have
      More Resources**





While
      the
      market for physical-world-to-Internet technology is relatively new, it is
      already highly competitive and characterized by an increasing number of entrants
      that have introduced or developed products and services similar to those offered
      by NeoMedia. NeoMedia believes that competition will intensify and increase
      in
      the near future. NeoMedia’s target market is rapidly evolving and is subject to
      continuous technological change. As a result, NeoMedia’s competitors may be
      better positioned to address these developments or may react more favorably
      to
      these changes, which could have a material adverse effect on NeoMedia’s
      business, prospects, financial condition, and results of
      operations.





Some
      of
      NeoMedia’s competitors have longer operating histories, larger customer bases,
      longer relationships with clients, and significantly greater financial,
      technical, marketing, and public relations resources than NeoMedia. NeoMedia
      may
      not successfully compete in any market in which it conducts or may conduct
      operations. Many of NeoMedia’s competitors in the Micro Paint Repair business
      have a longer operating history in the industry, as well as access to greater
      financial resources. NeoMedia may not be able to penetrate markets or market
      its
      products as effectively as NeoMedia’s better-funded more-established
      competitors.







67


**In
      The Future There Could Be Government Regulations** **And
      Legal Uncertainties Which Could Harm NeoMedia’s Business**





Any
      new
      legislation or regulation, the application of laws and regulations from
      jurisdictions whose laws do not currently apply to NeoMedia’s business, or the
      application of existing laws and regulations to the Internet and other online
      services, could have a material adverse effect on NeoMedia’s business,
      prospects, financial condition, and results of operations. Due to the increasing
      popularity and use of the Internet, the Web and other online services, federal,
      state, and local governments may adopt laws and regulations, or amend existing
      laws and regulations, with respect to the Internet or other online services
      covering issues such as taxation, user privacy, pricing, content, copyrights,
      distribution, and characteristics and quality of products and services. The
      growth and development of the market for electronic commerce may prompt calls
      for more stringent consumer protection laws to impose additional burdens on
      companies conducting business online. The adoption of any additional laws or
      regulations may decrease the growth of the Internet, the Web or other online
      services, which could, in turn, decrease the demand for NeoMedia’s services and
      increase NeoMedia’s cost of doing business, or otherwise have a material adverse
      effect on NeoMedia’s business, prospects, financial condition, and results of
      operations. Moreover, the relevant governmental authorities have not resolved
      the applicability to the Internet, the Web and other online services of existing
      laws in various jurisdictions governing issues such as property ownership and
      personal privacy and it may take time to resolve these issues
      definitively.





Certain
      of NeoMedia’s proprietary technology allows for the storage of demographic data
      from NeoMedia’s users. In 2000, the European Union adopted a directive
      addressing data privacy that may limit the collection and use of certain
      information regarding Internet users. This directive may limit NeoMedia’s
      ability to collect and use information collected by NeoMedia’s technology in
      certain European countries. In addition, the Federal Trade Commission and
      several state governments have investigated the use by certain Internet
      companies of personal information. NeoMedia could incur significant additional
      expenses if new regulations regarding the use of personal information are
      introduced or if NeoMedia’s privacy practices are investigated.





Certain
      of NeoMedia’s micro paint solutions could be subject to environmental
      regulations.




68








**Item
      2. Unregistered Sales of Equity Securities and Use of Proceeds
      (** **a),
      (b), (c** **)
      and (** **d** **)**





During
      the three months ended June 30, 2006, NeoMedia issued 5,233,791 unregistered
      shares of common stock to satisfy debt assumed in its acquisition of BSD
      Software, Inc. The
      carrying value of the debt was $1,314,000, and the fair value of the shares
      issued was $1,208,000.





**Item
      3. Default upon Senior Securities**





None.





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





On
      June
      28, 2006, NeoMedia held its annual meeting of shareholders, at which the
      following matters were ratified: (i) re-election of its current five directors,
      (ii) ratification of Stonefield Josephson, Inc. as NeoMedia’s auditors for the
      fiscal year ended December 31, 2006, and (iii) an increase to the Company’s
      authorized common shares to 5 billion.





The
      number of votes cast for each matter were:





**Matter**
            
            **For**
            
            **Against**
            
            **Withheld**
            
            **Total****Matter
                #1**Barclay,
                A. Hayes
            
            
            606,054,355
            
            
            ---
            
            
            12,178,469
            
            
            618,232,824Fritz,
                Charles W.
            
            
            607,518,642
            
            
            ---
            
            
            10,714,182
            
            
            618,232,824Fritz,
                William E.
            
            
            608,744,257
            
            
            ---
            
            
            9,488,567
            
            
            618,232,824Jensen,
                Charles T.
            
            
            610,206,579
            
            
            ---
            
            
            8,026,245
            
            
            618,232,824Keil,
                James J.
            
            
            606,399,055
            
            
            ---
            
            
            11,833,769
            
            
            618,232,824**Matter
                #2**Ratification
                of Stonefield Josephson, Inc. as independent auditors
            
            
            612,558,232
            
            
            2,589,920
            
            
            3,084,672
            
            
            618,232,824**Matter
                #3**Increase
                to authorized shares
            
            
            567,687,092
            
            
            48,882,386
            
            
            1,663,346
            
            
            618,232,824








**Item
      5. Other Information**




None.




69


**Item
      6. Exhibits and reports on form 8-K**





**(a)**  **Exhibits** **:**


**Exhibit
                No.**
            
            **Description**
            
            **Location**31.1
            
            Certification
                by Chief Executive Officer pursuant to 15 U.S.C. Section 7241, as
                adopted
                pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
            
            Provided
                herewith31.2
            
            Certification
                by Chief Financial Officer pursuant to 15 U.S.C. Section 7241, as
                adopted
                pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
            
            Provided
                herewith32.1
            
            Certification
                by Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as
                adopted
                pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
            
            Provided
                herewith32.2
            
            Certification
                by Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as
                adopted
                pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
            
            Provided
                herewith








**(b)**
            **Reports
                on Form 8-K****:**





NeoMedia
      filed a report on Form 8-K on April 3, 2006, with respect to Item 8.01,
      reporting that Cornell Capital Partners had exercised warrants to purchase
      20,000,000 shares of NeoMedia common stock, par value $0.01 per share. The
      warrants were issued to Cornell Capital on March 30, 2005 as a commitment fee
      for Cornell Capital entering into that certain Standby Equity Distribution
      Agreement, dated March 30, 2006 by and between NeoMedia and Cornell Capital.
      The
      warrants had an exercise price equal to $0.20 per share. In connection with
      the
      exercise of the 20,000,000 Warrants, NeoMedia received proceeds of
      $4,000,000.





NeoMedia
      filed amendment No. 1 to Form 8-K on May 3, 2006, with respect to Items 2.01
      and
      9.01, for the purposes of providing the required financial statements of Mobot,
      Inc.





NeoMedia
      filed amendment No. 1 to Form 8-K on May 8, 2006, with respect to Items 2.01
      and
      9.01, for the purposes of providing the required financial statements of 12Snap
      AG.





NeoMedia
      filed amendment No. 1 to Form 8-K on May 9, 2006, with respect to Items 2.01
      and
      9.01, for the purposes of providing the required financial statements of Gavitec
      AG.





NeoMedia
      filed amendment No. 1 to Form 8-K on May 9, 2006, with respect to Items 2.01
      and
      9.01, for the purposes of providing the required financial statements of Sponge
      Ltd.





NeoMedia
      filed amendment No. 1 to Form 8-K on June 2, 2006, with respect to Items 2.01
      and 9.01, for the purposes of providing the required financial statements of
      BSD
      Software, Inc.





NeoMedia
      filed amendment No. 2 to Form 8-K on June 21, 2006, with respect to Items 2.01
      and 9.01, for the purposes of providing restated financial statements of Sponge
      Ltd.





NeoMedia
      filed a report on Form 8-K on July 27, 2006, with respect to Item 1.01,
      reporting that it had signed
      a
      an operating agreement with Shang Fang Wei Ye Technology Development Limited
      Company (“Shang
      Fang”) ,
      a
      subsidiary of Beijing Sino-U.S. Jinche Yingyang Auto Technological Services
      Ltd., to introduce and market NeoMedia’s patented qode direct-to-Web technology in key
      markets in  Asia .




70


**SIGNATURES**





In
      accordance with the requirements of the Securities Exchange Act of 1934, the
      Registrant has caused this report to be signed on its behalf by the undersigned,
      thereunto duly authorized.








**NEOMEDIA
                TECHNOLOGIES, INC.**RegistrantDate:August
                7, 2006
            By:*/s/
                Charles T. Jensen*Charles
                T. Jensen, President, Chief Executive Officer, and
                DirectorDate:August
                7, 2006
            By:*/s/
                David A. Dodge*David
                A. Dodge, Vice President,Chief
                Financial Officer and principal accounting officer







71