**SECURITIES AND EXCHANGE COMMISSION**

**WashingtonD.C. 20549**

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FORM 10-K

**x**                              ANNUALREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACTOF 1934

**Forthe fiscal year ended December 31, 2004**

**OR**

**o**                                 TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACTOF 1934

**Forthe transition period from                  to                 **

**CommissionFile No.: 000-29029**

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FARGO ELECTRONICS, INC.

(Exact name of registrantas specified in its charter)

| **Delaware**                                                     | **41-1959505**                        |
|------------------------------------------------------------------|---------------------------------------|
| (State or other  jurisdiction of  incorporation or organization) | (I.R.S. Employer  Identification No.) |
| **6533 Flying Cloud Drive  Eden Prairie, Minnesota**             | **55344**                             |
| (Address of  principal executive offices)                        | (Zip Code)                            |

 

**Registrant’s telephone number,including area code:** (952) 941-9470

**Securities registered pursuant to Section 12(b) ofthe Act:** None

Securities registered pursuant to Section 12(g) ofthe Act:

**CommonStock, $.01 par value**

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Indicate by check mark whetherthe registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrant was required tofile such reports), and (2) has been subject to such filing requirementsfor the past 90 days. Yes x  No o

Indicate by check mark ifdisclosure of delinquent filers pursuant to Item 405 of Regulation S-K isnot contained herein, and will not be contained, to the best of registrant’sknowledge, in definitive proxy or information statements incorporated byreference in Part III of this Form 10-K or any amendment tothis Form 10-K. x

Indicate by check markwhether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes x  No o

As of February 23, 2005,12,613,834 shares of the Registrant’s common stock were outstanding. Theaggregate market value of the Registrant’s outstanding common stock as of June 30,2004, the last business day of Registrant’s most recently completed secondfiscal quarter (based upon the last sale price of a share of common stock onthat date as reported by the Nasdaq National Market), excluding outstandingshares beneficially owned by directors and executive officers, was$136,746,982.

**DOCUMENTSINCORPORATED BY REFERENCE**

Part III of thisAnnual Report on Form 10-K incorporates by reference information (tothe extent specific sections are referred to herein) from the registrant’sProxy Statement for its 2005 Annual Meeting to be held on May 3, 2005.

 

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**PART I**

**Item 1.**                        BUSINESS

***(a)   General Development of the Business***

We are a global leader in the development of securetechnologies for identity card issuance systems, including secure cardprinter/encoders, materials and software. Our card issuance systems help reducevulnerabilities and potential for loss of time, money and lives by continuallyimproving the security of identity credentials.

We manufacturethree card printing technologies to meet the unique card and security needs ofour users. These are:

1.                HDP (HighDefinition Printing), reverse image technology for high-level security andlarge applications especially when a card with electronics, either RadioFrequency Identification (RFID) proximity or integrated circuit chips, is used;

2.                DTC (Direct-to-Card),dye-sublimation technology for low to mid-level security and large applicationswhich is the most commonly used technology in identification card printing; and

3.                Inkjet printing,which is a familiar inkjet technology for low-level security and entry-levelapplications in a technology alliance with Hewlett-Packard (HP).

We market and sell our products exclusively through adistribution channel of system integrators and independent distributors in morethan 80 countries worldwide. We estimate that as of December 31, 2004, wehave manufactured and sold more than 100,000 systems.

End users of ourcard identity systems create personalized cards for a wide variety ofapplications including:

·       **Government:  **national and military identification;employee identification; access control; driver’s licenses; social servicesidentification and stored value; inmate and corrections staff identification.

·       **Corporate:**   access control; time and attendancetracking; employee identification; parking passes; visitor management.

·       **Education:**   faculty and student identification, storedvalue for bookstores and cafeterias; library cards; dorm and equipment access.

·       **Transportation:  **bus and train passes; airportsecurity; employee identification.

·       **Trade and professional associations**:   membershipidentification, loyalty and discount cards.

Since our inception in 1974, we have used ourengineering expertise and knowledge of printing and data encoding to build areputation for technological leadership in our industry. Historically, we haveleveraged our engineering capabilities to develop systems for multiple markets,including bar code printers, color office printers and card personalizationsystems.

We own or have rights to certain trademarks that weuse in connection with the sale of our products, including, but not limited to,the following: Fargo®, Persona®, HDP®, UltraCard®, DTC®, Build-a-Badge®,Smart Card®, Smart Shield®, Pro-LTM, Pro-LXTM, CardJetTM, CardJet PrintingTechnologyTM, Fargo Certified SuppliesTM, Fargo Certified SoftwareTM, HolomarkTM,VerimarkTM, PolyguardTM, RibbonTraqTM, Visual Security SolutionsTM, C11TM, C16TM andHigh Definition PrintingTM.

We are a Delawarecorporation. Our principal executive offices are located at 6533 Flying CloudDrive, Eden Prairie, Minnesota 55344, and our telephone number is (952) 941-9470.Our web site address is *www.fargo.com*.Copies of our annual report on Form 10-K, quarterly reports on Form 10-Q,current 

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reportson Form 8-K, and amendments to these reports, are available free ofcharge on our web site as soon as reasonably practicable after such material isfiled with, or furnished to, the Securities and Exchange Commission. Such formsare also available at the Securities and Exchange Commission’s web site at *www.sec.gov.*

***(b)   Financial Information About Segments***

Ourbusiness is organized in one business unit and is managed and internallyreported as a single segment.

***(c)    Narrative Description of the Business***

**Our Industry**

*Background*

The first widely used method of producingidentification cards was to overlay instant photographs and typeset text orlogos on a paper card, then apply a plastic laminate over the card. This methodis commonly known as “cut-and-paste.” The development of digital imaging anddirect-to-card thermal dye sublimation processes in the late 1980’s led to theavailability of systems that could create cards more durable than cut-and-pastecards. These digital cards have superior graphic and design capabilities thatare more difficult to alter or forge. These cards can also include electronicdata and security features such as RFID antennae, computer chips andholographic overlaminates. A significant trend in the 1990’s was the replacementof cut-and-paste systems with digital direct-to-card systems.

In the late 1990’s, systems incorporating reverseimage printing, such as our HDP process, enabled high quality images to beprinted on cards with even or uneven surfaces and of varying size and thickness.This technology is especially suited to cards such as ‘smart’ cards withcomputer chips and proximity cards with RFID antennae. Many high-end governmentand transit applications are using these sophisticated electronic cards thatare well suited for HDP.

In 2002, we introduced the industry’s first desktopinkjet printers designed specifically for printing on plastic cards, theCardJet 410 and CardJet C7. Inkjet is a simple, familiar technology for manyentry-level users.

In 2004, we added newprinters in both our HDP and DTC product lines, and introduced Print SecuritySuite, user-friendly software that provides up to five applications to helpcontrol the issuance and help ensure the authenticity of ID cards. Thissoftware introduction signaled a broadening of our strategy from that of beingan ID card printer manufacturer to a company focused on the needs of customersin reducing vulnerabilities in their organizations by making their cardissuance programs more secure.

*Ongoing Industry Trends*

We believe certain social, technological andcommercial factors are increasing the demand for personalized identificationand access cards. Concern for personal safety and property protection hasheightened since the terrorist attacks of September 11, 2001, ongoingterrorist activities worldwide, as well as other well-publicized securitybreaches and violence at government facilities, businesses, hospitals andschools. Actions in response to these concerns by governments, such as thecreation of the Department of Homeland Security in the United States andnational ID programs overseas, continue to grow. Personalized identificationcards are increasingly being used as a means of visual and electronicidentification and access control. In addition, new applications forpersonalized cards are being driven by technologies such as magnetic stripes,proximity sensors, biometric technologies, optical data storage cards and smartcards. These applications include more secure forms of identification andauthentication of an individual, electronic purse programs that allow financialtransactions via the card, single sign-on to 

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computers and networksthat increase security by eliminating multiple passwords, encrypted e-mail andincreased government usage of sophisticated identification cards with higherlevels of protection against forgery.

We believe thatthese phenomena—the need for security, governmental activity for identificationof citizens and visitors, the adoption of biometrics and the development of newtechnologies—will foster a growing market for digital card printing systems.More specifically, we expect the market for card printing systems to continueto grow worldwide due to the following trends:

·       Newand broader markets for personalized IDs and access cards as concern forpersonal safety and property protection spreads to regions and markets thathave traditionally been considered lower risk;

·       Technologycards and multiple technologies housed on one card, driving support formultiple applications and increasing the overall value of the card;

·       Increasingintegration of biometric technologies such as fingerprint reading and facialrecognition with personalized card systems for added security;

·       Increasinguse of technology cards in high-end applications such as government, largecorporations and higher education;

·       Governmentinitiatives to establish national ID programs;

·       Thecontinuing need for portability of information, which is well suited to becarried on a card; and

·       Continuingmigration among users from analog, film-based systems to digital systems.

We believe that the market for identification cardprinters has become fragmented, with tiers developing in the entry-level,mid-range and high-end. Much of the market has moved toward lower-priced printers,as new entrants and more stable printer platforms have been introduced and endusers have become comfortable with installing simple card printing systemswithout any help. In this tier, where the end user does not need advancedsecurity features but merely wants to print a card, price is generally the mostimportant determinant. The mid-level market or integration market, where cardsecurity is more important and often multiple applications are being placedonto one card, has also become more price sensitive. Growing integrationapplications include time and attendance, access control, and increased visualsecurity where the end user still needs assistance from a knowledgeableintegration resource. The high-end market, usually governments or largecorporations, often requires unique features, significant integration, highersecurity and more durable cards. Many times these project end users work withprime contractors and large system integrators, with the printers being a smallpart of the overall project scope.

We have also seen newchannels of distribution arising or becoming more important. The internet hasbecome a more viable method for end users to research and purchase cardissuance systems. We have also seen the growth in channels such as the “auto ID”channel, which is primarily a supply chain management distribution systemtypically selling bar code printers and related media.

**Industry Technology**

*Central IssueVersus Decentralized Issue*

Two general types of systems characterize the digitalcard personalization market: “central issue” and “decentralized issue” systems.Central issue systems typically involve batch processing, printing and, in thecase of credit and debit cards, embossing (raising of certain areas of the cardto form letters or numbers) plastic cards. Typically, these processes takeplace at a different location from where the relevant cardholder’s data iscollected. Cards are usually sent or issued to individuals days or weeks afterthe initial processing begins, often by mail. Central issue processing istypically used in large-scale programs such as 

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processing private labelcredit cards and issuing driver’s licenses. Central issue systems are generallymuch larger and substantially more expensive than decentralized issue systems. However,some central issuance locations network multiple desktop printing systemsrather than a single large central issuance machine.

Decentralized issuesystems, which are typically desktop systems, are used to print personalized cardson demand for issue to the cardholder within moments after processing. Webelieve that decentralized issue systems reduce the time, costs and likelihoodof theft or loss associated with distribution of cards from centralized systemsand that decentralized issuance generally reduces printing down time, withbackup or multiple printers available to continue processing cards if onesystem requires maintenance. In the 1990’s, decentralized issue systems weretypically sold into small and medium scale applications such as corporationsfor access control or employee badging, and universities for studentidentification. These systems have now also been adopted by governmentalagencies for driver’s licenses, national identification programs and militarypersonnel identification that were once the province of central issuanceprinters.

*Digital CardPersonalization Technologies*

Currently, there are two principal digital cardprinting technologies used by decentralized issue systems to print personalizedcards: direct-to-card dye-sublimationprinting and reverse imageprinting. We believe that inkjetprinting will become another important card printing technology. Webelieve we are the only company in the desktop ID card market that hasdeveloped products that incorporate each of these technologies.

Central issuance machines use these threetechnologies, but also may incorporate technologies such as laser engraving andinks that require ultra-violet curing. Another process that has recently beenapplied to ID cards is resin transfer, which is a process similar to our HighDefinition Printing except that the colors are created by colored resin ratherthan by dyes.

*Direct-to-card printing*isthe most common technology used by digital card printers to print images directlyonto the surface of a plastic card. The process involves heating a specialprint ribbon beneath a thermal printhead and applying pressure so that theribbon is in contact with the card and the printhead rests on the top of theribbon, resulting in the transfer of color from the ribbon to a blank card.****Most card printers in the market today usedirect-to-card technology.

*Reverse image printing,*asused in our High Definition Printers, prints images onto a special film, whichis then laminated onto the surface of a blank card through heat and pressure.Because the graphics and text are printed on the underside of the film, theimage is “sandwiched” between the film and the card. This process produces oneof the most physically secure card constructions available in combination withdye-sublimation printing. It produces exceptional print quality, highdurability and greater flexibility to print on a variety of card constructions.The sandwiched image also produces a more secure card, reducing the possibilityof image tampering. Proximity cards, optical data storage cards and smartcards, which tend to have uneven surfaces due to embedded wires, a laserread-write area or smart chips, have more successful printing results usingHigh Definition Printing. We believe that we are one of only two companies thatmanufacture products using this technology. A third competitor uses resintransfer technology that has transfer characteristics similar to our HighDefinition Printing process.

*Inkjetprinting*systems, because they are simple to use, quiet andvery reliable, have become the standard printing technology for desktopcomputing worldwide. We believe this non-impact printing technology has notpreviously been used in the card market, because the inks are water-based andtraditionally do not readily adhere to plastic cards. Fargo now offers a pairof inkjet receptive cards that produce glossy and matte finishes that work withour CardJet printer, a product designed in collaboration with HP, the worldwideleader in inkjet printing. Non-impact printing is also beneficial for use onproximity cards that are designed with embedded electronics. Together withAccessID, a leading provider of custom secure card solutions for the electronicidentification market, we are now marketing a standard 

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26-bitproximity card with HID electronics inside. We believe this card may open upnew market opportunities with access control dealers searching for reliable,easy-to-use solutions for print personalizing proximity cards.

*Data Encoding*

In addition to printed photographs, text and barcodes, card printing systems can encode personalized data on magnetic stripes,smart cards, proximity cards and optical data storage cards.

*Magnetic stripe*technology is the oldest and most widely used technology for encodingidentification and storing data on cards. When the cards are swiped through areader, the data is interpreted and the cards can be used for identification,access control, time and attendance, loyalty, records management and more.

*Smart cards*commonly refer to any plastic card with an embedded integrated circuitmicrochip or an on-board microprocessor. The microprocessor provides controlledaccess to the data on the card using a pin code or encryption key. This makesit ideal for security applications including single sign-on, on-boardbiometrics, encrypted email, and financial applications including EMV (EuropayMastercard Visa, an international standard) and electronic purse. With “contact”smart cards, data is accessed by direct contact between a smart card reader anda gold plate on the card face. “Contactless” smart cards have an electronicmicrochip and embedded antenna that allow the card to communicate with anantenna/coupler unit without physical contact.

*Proximity cards*have embedded electronic circuits that store data and can be read by aproximity reading device without the need for the card to make physical contactwith the reader. Users can leave their proximity cards inside their wallet orpurse while the reader processes the code, making the convenience of proximitycards increasingly popular for access control applications.

*OpticalData Storage Cards* have a laser read-write surface that iscreated similarly to compact discs. This technology is being used for high datastorage and government applications such as the Italian and Saudi Arabiannational identification programs.

**Our Products**

*Card IdentitySystems*

We currently manufacture four different productplatforms, packaged into two selling lines, with a variety of options in eachproduct line. We sell our products to distributors and integrators, who offerthem to end users as part of a system they integrate with other companies’components or as a bundle that we put together including a digital camera andcard management, and simple badging software. All of our systems are designedto be interoperable with the hardware, software and other equipment most oftenused by our integrators.

Our Professional Series offers premium featuresand advanced technologies. Professional Series systems are sold through alimited number of integrators, value added distributors and distributors whohave agreed to meet certain criteria for carrying the Professional Series lines.Our Persona Series, targeted to the entry-level end user, is distributedwithout such limitations.

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Thefollowing chart sets forth our product lines, suggested retail price ranges andthe markets we believe they address:
| ** **                    | ** ** | **Professional Series** | ** ** | **Persona Series**                                                                                | ** ** |
|-------------------------------|------------|------------------------------|------------|--------------------------------------------------------------------------------------------------------|------------|
| **Models:**                   | ** ** | ** **                   | ** ** | **High Definition  Printing:  HDP 600 and  HDP 800  Printers/Encoder/  Laminator** | ** ** | **Lamination  Printing:  DTC500  Printer/Encoder/  Laminator** | ** ** | **Direct-to-Card  Printing:  DTC400  Printer/Encoder/  Laminator** | ** ** | **Inkjet Printing:  CardJet 410  Printer** | ** ** | **Direct-to-Card  Printing:  DTC 300  Printer/Encoder** | ** ** | **Inkjet Printing:  CardJet C7  Printer** | ** ** |
| Suggested Retail  Price:      |       |                         | $          | 6,995-$18,995                                                                                          |       |   |   | $ | 3,095-$10,995 |   |   |   | $ | 2,895-$5,995 |   |   |   | $ | 1,495-$2,595 |   |   |   | $ | 2,295-$4,995 |   |   |   | $ | 1,195-$1,995 |   |   |
| **Applications**              |       |                         |       |                                                                                                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| SmartCards/  Technology Cards |       |                         | X          |                                                                                                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Visual  Identification        |       |                         | X          |                                                                                                   |       |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |
| Time and  Attendance          |       |                         | X          |                                                                                                   |       |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |
| Access Control                |       |                         | X          |                                                                                                   |       |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |
| Loyalty                       |       |                         |       |                                                                                                   |       |   | X |   |   |   |   |   |   |   |   |   |   |   | X |   |   |   |   |   |   |
| **Vertical Markets**          |       |                         |       |                                                                                                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Corporate ID                  |       |                         | X          |                                                                                                   |       |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |
| National ID                   |       |                         | X          |                                                                                                   |       |   | X |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Driver’s Licenses        |       |                         | X          |                                                                                                   |       |   | X |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Government/  Military         |       |                         | X          |                                                                                                   |       |   | X |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Transportation                |       |                         | X          |                                                                                                   |       |   | X |   |   |   | X |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Healthcare                    |       |                         | X          |                                                                                                   |       |   | X |   |   |   | X |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Universities                  |       |                         | X          |                                                                                                   |       |   | X |   |   |   | X |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Corrections                   |       |                         |       |                                                                                                   |       |   | X |   |   |   | X |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Sports &  Leisure    |       |                         |       |                                                                                                   |       |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |
| K-12 Schools                  |       |                         |       |                                                                                                   |       |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |
| Health Clubs                  |       |                         |       |                                                                                                   |       |   |   |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |
| Retail &  Loyalty    |       |                         |       |                                                                                                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   | X |   |   |   | X |   |   |
| Casinos                       |       |                         |       |                                                                                                   |       |   |   |   |   |   | X |   |   |   |   |   |   |   | X |   |   |   |   |   |   |
| Manufacturing  Plants         |       |                         |       |                                                                                                   |       |   |   |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |
| Libraries                     |       |                         |       |                                                                                                   |       |   |   |   |   |   | X |   |   |   | X |   |   |   | X |   |   |   | X |   |   |
| Events                        |       |                         | X          |                                                                                                   |       |   | X |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
|                               |            |                              |            |                                                                                                        |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Our HDP600 is a dual-sided, full-color printer/encoderthat uses Fargo’s patented High Definition Printing technology. It features acompact design that is 50% smaller and lighter than previous HDP models. It hasbeen designed with simplified electronics for improved reliability and datacommunication. In addition, user conveniences such as drop-in, color-codedconsumables make set up faster and easier. A card lamination module isavailable as a factory-built or field-installable option. The lamination moduleapplies Fargo’s PolyGuard overlaminate to one or both sides of the printed cardfor extended card life and added security and durability

Introduced and shipped in late 2004, our DTC300 andDTC400 series card identity systems use direct-to-card technology and aredesigned for ease of use and security in ID card issuance. Their conveniencefeatures include: a print ribbon cartridge that installs in one easy step; anintegrated cleaning roller in every cartridge that eliminates the need forseparate card cleaning; and an LCD panel that communicates prompts and commands.Encoding and dual-sided printing modules can be added to the DTC400 as securityneeds grow. The DTC400 also offers Fargo’s new Print Security Suite as anupgradeable feature.

Our DTC500 series card identity systems usedirect-to-card technology and offer a variety of printing options includingsingle-sided printing, dual-sided printing, dual hoppers and afield-upgradeable 

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lamination station. Thesesystems are typically used in moderate-volume applications such as corporateidentification, education and gaming.

Our CardJet 410 andCardJet C7 card identity systems use inkjet technology. We have marketed theseproducts to address the needs of low-volume users and end users who currentlyuse analog cut-and-paste products.

*Fargo SecureMaterials*

A significant portion of our business is in the saleof secure printer materials including ribbons, overlaminates and a portfolio ofblank cards that include optional visual security features. Sales of theseproducts accounted for approximately 60%, 60% and 57% of our net sales in 2004,2003 and 2002, respectively. Our materials business strategy supports thedesign and incorporation of proprietary elements and logical security that areunique to our systems. We engineer these materials in close cooperation withthe manufacturers of these materials. Our materials strategy is designed tosupport our overall mission of reducing security vulnerabilities.

Our SecureMaterials include:

·       *Ribbon and Inks.  *The dye-basedribbons used by our printer/encoders are partitioned into consecutive colorpanels that generate rich, full-color images. During printing, a printheadcontaining hundreds of thermal elements heats the dyes on the ribbon, whichvaporize and diffuse into the surface of the card. Inks for use in CardJet aredye-based and generate robust photo image quality. All of our ribbons and inksare protected through patents, and we are designing ribbons that feature RFIDthat ensure security within the printer, avoidance of customer error, and as aresult of such patents and features, are intended to create a recurring revenuestream for us.

·       *Overlaminate and Films.  *Overlaminatesand films, especially custom holographic applications, are a growing portion ofour business as end users seek enhanced durability and security for theiridentification cards. For use in our laminating printer/encoders and HDPprinters respectively, overlaminates and films are available in clear andcustom designs. In 2004 we developed and introduced a new custom overlaminateand HDP film program to support our company-wide mission of reducing IDsecurity vulnerabilities. Many of these overlaminates incorporate the samesecurity features as our ribbons to reduce vulnerabilities of end users, andalso have patented technologies, which allow the overlaminates to also providea recurring revenue stream.

·       *Blank cards.  *We sell a portfolio ofbranded blank cards on which images and text are printed to createidentification cards. The production of our UltraCard brand of cards include aprocess that optically scans each card to ensure that they are as clean anddefect-free as possible. Blank cards are essentially a commodity item that maybe purchased through a variety of sources. We introduced a new HID co-brandedproximity card for use in our CardJet printer platform that we believe willincrease our exposure to the access control dealer channel.

·       *Secure Foil cards.  *To support endusers’ demands for more secure cards, we offer customized secure foil cardsmanufactured in-house. Using a hot stamp foil process, we offer customizedsolutions for small and large organizations alike that allow for quickidentification of valid cards by visual inspection.

Our continued focus onmaterials innovation in 2004 led us to introduce a series of new visualsecurity products for use in combination with our printer/encoders. Theseinclude a six-panel fluorescing color ribbon for use in direct-to-cardprinters; holographic reverse transfer film for use in HDP printers; a newsecure custom overlaminate for use in laminating printer modules, and securefoil cards for use in direct-to-card printers.

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*Fargo Secure Software*

As part of our focus onhelping ensure the authenticity of identification cards, we have begundeveloping software products designed to enhance the security of end users cardissuance systems. The first of these is the Print Security Suite, which wasintroduced in late 2004 and which we plan to begin shipping to our distributionchannel in 2005. This product, which is available for use with our DTC 400printer and is sold through our Professional Series distribution, isintended to allow end users more control over the use of their ID card printersas well as enabling remote diagnostics and electronic ordering of supplies.

**Research and Product Development**

Our research and development strategy is to identifyand incorporate new technologies, developed by us and others, so that ourproducts provide end users with the most secure card identity systemsavailable. We have adopted a design and development approach that will allow usto integrate new technologies into our product offering quickly andefficiently. We believe that emerging technologies, such as technology cardsand biometrics, will provide us with new opportunities to differentiate oursystems from those of our competitors. We strive to involve our independentintegrators to help us determine the needs of end users, assess our systems andbetter predict market acceptance of new products.

We have assembled a highly trained staff ofelectrical, mechanical, chemical and software engineers, and we devotesignificant resources to developing new card identity solutions and materialsthat contain proprietary elements that are unique to our systems, whilemaintaining high standards of quality and reliability. We are currentlyconducting research and development in the areas of printer design, includingpotential advances in our mechanical, electronic and laminating technologies,supplies development encoding development, and more recently softwareapplications development. As of December 31, 2004, we had 40 employeesengaged in research and development.

We invest significant engineeringresources in product development. Our research and development costs wereapproximately 7.2%, 7.3% and 6.8% of net sales in 2004, 2003 and 2002,respectively.

**Intellectual Property**

Portions of our manufacturing processes and themechanical and electronic designs of our systems are proprietary. We attempt toprotect our systems and processes through a combination of patents, copyright,trademark and trade secret laws; employee and third-party nondisclosureagreements and similar means. The decision to seek additional patents is basedon our analysis of various business considerations such as the cost ofobtaining a patent, the likely scope of patent protection and the benefits ofpatent protection relative to relying on trade secrets and other protection.

We currently hold 63 United States patents related toour card business. A number of these patents have also issued in Europe andAsia. We have also filed applications for approximately 80 additional UnitedStates patents that are currently pending. Our existing patents expire duringthe period between January 2009 and September 2023. We consider ourmost important patents to be those covering our methods for driving ourprintheads, our lamination methods and our methods of identifying dyesublimation and thermal transfer ribbons. These methods most directly impactthe quality and durability of our systems, areas in which we believe we have acompetitive advantage. The patents in these areas expire between 2013 and 2023.

We also rely on our engineering know-how, materialsexpertise and trade secrets applicable to the manufacture of our systems. Webelieve that this knowledge provides us with a competitive advantage at leastas important as patent protection. We seek to maintain the confidentiality ofthis information by requiring employees to sign confidentiality andnon-competition agreements and by limiting access by outside parties to suchinformation.

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We also file some patentsin countries outside the United States, again depending on our analysis of variousbusiness considerations such as the cost of obtaining a patent, the likelyscope of patent protection and the benefits of patent protection relative torelying on trade secrets and other protection. We recognize that some countriesin which we do business do not offer the same level of protection forintellectual property as does the United States.

**Manufacturing and Sources of Supply**

We outsource assembly ofmost of the component parts used in our printing systems, such as circuitboards, wire harnessing and cabling to outside manufacturers. These componentsare then shipped to our manufacturing facility in Eden Prairie, Minnesota forfinal assembly and testing. We also purchase component parts, print heads,inkjet cartridges, inkjet printer assemblies and ribbons from a number ofvendors located in the United States, China and Japan. The terms of supplycontracts are negotiated separately with each vendor. In 2002 we entered intoan agreement with Sony Chemical Corporation, a subsidiary of Sony Corporation,pursuant to which Sony has agreed to provide us with technical assistance,know-how, and expertise in such areas as manufacturing, smart cards, and otherelectronic and chemical technologies. Under this agreement, we have agreed topurchase from Sony, and Sony has agreed to sell to us on an exclusive,worldwide basis, Sony’s dye-sublimation printer ribbons for our products for aten-year period. Our obligations under this agreement, which include arequirement to purchase $4 million of printer ribbons each year, are subject toSony performing certain obligations under the agreement. We believe that ourpresent vendors have sufficient capacity to meet our requirements. We alsobelieve alternate production sources for most components are generally availablewithout undue interruption with the exception of Kyocera Corporation, oursupplier of print heads.

**Inventory**

Because most of oursystems are built upon order, we do not maintain a significant inventory ofcompleted systems. We maintain only limited inventories of component parts andmaterials, although we enter into purchase agreements with certain suppliersthat require us to purchase minimum amounts. We try to produce systems as theyare ordered, which causes us to forecast production based on past sales and ourestimates of future demand rather than stocking finished goods. While mostcomponents are available from multiple vendors, certain components used in oursystems are only available from single or limited sources. In common with mostof our competitors, we rely on Kyocera Corporation, based in Japan, to supplyus with print heads for our dye sublimation and reverse image printers.

**Sales and Marketing**

*Distribution channel.  *Wemarket and sell our products through a distribution channel of independentdistributors and integrators in more than 80 countries worldwide.

Our U.S. distribution program categorizes distributionpartners into four complementary, yet separate, program tracks. Fargo SolutionProviders provide retail customers with sales, service and integrationexpertise on Fargo’s full line of Professional and Persona Series productsand systems. Fargo Value Added Distributors provide in-depth integrationexpertise and support for Fargo Solution Providers and end user customers onFargo’s full line of products and systems. Fargo Distributors provide productdistribution services to Fargo Solution Providers and Persona Series integrators.Fargo Manufacturing Resellers are companies that have a core business ofdeveloping and manufacturing products where the sale of identification cardprinters is a secondary portion of its sale. In each category, our distributionpartners have the option to work exclusively with Fargo to develop market shareand expertise in the markets they serve. The program continues our two-productline strategy with restricted distribution on our Professional Series productsand broad distribution of our Persona Series.

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Our international distribution network includesintegrators and distributors throughout Europe, Asia, Africa, the Middle East,Latin America, Canada and Australia. Although doing business in developingregions involves risks of political and economic instability, we are generallyable to terminate our arrangements with our international distributors andintegrators upon short notice in order to mitigate such risks. Additionalinformation about our international sales is also included in Note 10 toour financial statements on page F-18.

Our ten largest distributors and integrators accountedfor a combined total of 48.5% of our sales in 2004, with one customer, WynitInc., accounting for 10.6% of such sales in 2004 and 12.8% in 2003. We supportour distribution network and end users through our offices in Eden Prairie,Minnesota. As of December 31, 2004, we directly employed 50 individualsengaged in sales, marketing and technical support services.

Our integrators sell a variety of identification,access control, time and attendance and visitor management components fromdifferent manufacturers to customize systems for end-user applications. Theseintegrators provide configuration, installation, training and support servicesrequired by end users within various market segments. The relationships ourintegrators develop and maintain allow us to reach end users worldwide in abroad variety of industries. We do not compete with our distributors orintegrators by selling directly to end users.

*Marketing activities.  *Ourmarketing operations include customer and technical support, productmanagement, market research, marketing communications, and repair services andtraining. Our marketing group works closely with our research and developmentpersonnel to develop ideas for new products and product enhancements to bettermeet the needs of end users. As part of our strategic planning, we continuallyanalyze the market for our products and evaluate our strengths and weaknessescompared with our competition. Our distribution partners have been a valuablesource of ideas and information and we communicate regularly with ourdistribution channel to solicit their input and gather feedback from end users.

Our marketingcommunications activities build our brand and generate sales leads. All leadsgenerated by our marketing activities are referred to an authorized distributoror integrator. These marketing activities include:

·       Weroutinely conduct promotions targeted at distributors and integrators, as wellas directly to potential end users such as corporations, schools, hospitals andothers.

·       Ourweb site provides visitors with information about the company and our systems,with referrals to our integrators for follow-up consultations. A second,proprietary web site allows special access to our authorized distributors andintegrators to obtain detailed product specifications, market information,pricing and technical updates.

·       Weactively participate in industry trade shows in the United States andinternationally, both as an exhibitor at larger trade shows and with ourdistribution partners at smaller, regional trade shows.

·       Weregularly advertise in online and print publications in the security,government, and education markets.

·       Ourpublic relations efforts generate editorial placements and speaking engagementsfor our staff.

We provide training andtechnical support to our distributors and integrators to assist them inmarketing and servicing our systems. Our training workshops, instructionalvideos and live telephone support assist our integrators in helping end usersmake the purchasing decision that best suits their particular needs. Inaddition, we encourage our integrators to become Authorized Service Providersso that they can provide technical support directly to their customers. As aresult, many of our integrators 

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offertheir customers maintenance and support contracts for their integrated cardpersonalization solutions.

**Competition**

Many companies areengaged in the design and manufacture of card printing systems. Competition inour market is intense, and we expect it to increase. We compete today, andexpect to compete in the future, with a number of companies, some of which havegreater financial, technical and marketing resources than we do. Significantcompetitors include Zebra Technologies Corporation and DataCard Corporation. Ourability to compete successfully depends on many factors, some of which areoutside of our control. Factors affecting our ability to compete include:

·       Ourability to introduce innovative new products and technologies;

·       Theeffectiveness of our distribution network;

·       Theprice, quality and performance of our systems relative to our competitors;

·       Oursuccess in developing new systems and the timing of new product introductions;

·       Theadequacy of our manufacturing capacity and supply of components and materials;

·       Theefficiency of manufacturing operations and the cost of manufacturing;

·       Ourrelationships with our suppliers; and

·       Generalmarket and economic conditions.

We believe that we compete favorably with respect toeach of these factors. We believe that our Professional Series and PersonaSeries systems are competitively priced both to the distribution networkand to the end users.

We believe that the cardprinting industry includes between 30 and 35 companies that manufacture digitalcard printers. These companies include both desktop and central issue printingsystems. We also compete with manufacturers of cut-and-paste card systems, suchas Polaroid Corporation, and we believe our ability to compete in this markethas been enhanced by our line of inkjet card printers.

**Employees**

As of February 15, 2005, we employed 207 persons,of whom 102 are engaged in manufacturing, 40 in research and development, 49 insales, marketing and technical support and the balance in management andadministrative positions. None of our employees is represented by a labor unionor covered by a collective bargaining agreement. We have not experienced anywork stoppages and consider relations with our employees to be good.

All ofour employees are required to sign a confidentiality and non-competitionagreement prior to beginning employment with us.

***(d)   Financial Information About Geographic Areas***

Geographical salesinformation is contained in Note 10 to our financial statements on page F-18of this report, and is incorporated in this item by reference.

**Item 1A.**                CAUTIONARYSTATEMENT REGARDING FUTURE RESULTS, FORWARD-LOOKING INFORMATION AND CERTAINIMPORTANT FACTORS

In this report we make, and from time to time weotherwise make, written and oral statements regarding our business andprospects, such as projections of future performance, statements of 

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management’s plans andobjectives, forecasts of market trends, and other matters that areforward-looking statements within the meaning of Section 27A of theSecurities Act of 1933 and Section 21E of the Securities Exchange Act of1934. Statements containing the words or phrases “will likely result,” “areexpected to,” “will continue,” “is anticipated,” “estimates,” “projects,” “believes,”“expects,” “anticipates,” “intends,” “target,” “goal,” “plans,” “objective,” “should”or similar expressions identify forward-looking statements, which may appear indocuments, reports, filings with the Securities and Exchange Commission, newsreleases, written or oral presentations made by officers or otherrepresentatives made by us to analysts, stockholders, investors, newsorganizations and others, and discussions with management and otherrepresentatives of us. For such statements, we claim the protection of the safeharbor for forward-looking statements contained in the Private SecuritiesLitigation Reform Act of 1995.

Our future results, including results related toforward-looking statements, involve a number of risks and uncertainties. Noassurance can be given that the results reflected in any forward-lookingstatements will be achieved. Any forward-looking statement speaks only as ofthe date on which such statement is made. Our forward-looking statements arebased upon assumptions that are sometimes based upon estimates, data,communications and other information from suppliers, government agencies andother sources that may be subject to revision. Except as required by law, we donot undertake any obligation to update or keep current either (i) anyforward-looking statement to reflect events or circumstances arising after thedate of such statement, or (ii) the important factors that could cause ourfuture results to differ materially from historical results or trends, resultsanticipated or planned by us, or which are reflected from time to time in anyforward-looking statement.

In addition to othermatters identified or described by us from time to time in filings with theSEC, there are several important factors that could cause our future results todiffer materially from historical results or trends, results anticipated orplanned by us, or results that are reflected from time to time in anyforward-looking statement. Some of these important factors, but not necessarilyall important factors, include the following:

**If wecannot or do not adequately protect or enforce our domestic or internationalintellectual property rights, others may offer products similar to ours whichcould depress our prices and gross profit margins or result in loss of marketshare.**

We believe that protecting our proprietary technologyis important to our success and competitive positioning. In addition to commonlaw intellectual property rights, we currently rely on a combination ofpatents, trademarks, license agreements and contractual provisions to establishand protect our intellectual property rights. Our failure to protect or enforceour intellectual property rights could have a material adverse effect on ourbusiness, results of operations and financial condition. We cannot be certainthat the steps we take to protect our intellectual property will adequatelyprotect our proprietary rights, that others will not independently develop orotherwise acquire equivalent or superior technology or that we can maintain anyof our technology as trade secrets.

We have instigatedlitigation to protect our intellectual property rights in the United States,Korea and China. The results of this litigation could include the loss ofpatent rights in those countries, limitation of the protection afforded by ourpatents or other adverse results. In general, intellectual property litigationcould result in substantial costs to us and the diversion of significant timeand effort by our executive management, and may be necessary to enforce ourpatents and trademarks and to protect our trade secrets and proprietarytechnology. We cannot assure you that we will have the financial resourcesnecessary to enforce or defend our intellectual property rights. We also cannotassure you that we would prevail in any such litigation or that, if we areunsuccessful, we would be able to obtain any necessary licenses on reasonableterms or at all. The laws of some of the countries in which our systems are ormay be sold may not protect our systems and intellectual property to the sameextent as the United States or at all.

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**Wemay not be able to adequately protect ourselves against infringement claims ofothers, which if successfully brought could require us to redesign or ceasemarketing our products.**

We cannot be certain thatwe have not infringed the proprietary rights of others. Any such infringementcould cause third parties to bring claims against us, resulting in significantcosts, possible damages and substantial uncertainty. We could also be forced todevelop a non-infringing alternative, which could be costly and time-consuming.

**Ourmarkets are highly competitive and many of our competitors have substantialresources. Competition may result in price reductions, lower gross profits andloss of market share.**

We face significantcompetition in developing and selling our systems. Our principal competitorshave substantial marketing, financial, development and personnel resources. Toremain competitive, we believe that we must continue to provide:

·       technologicallyadvanced and innovative systems that satisfy the demands of end users;

·       adependable and efficient distribution and integrator network;

·       superiorcustomer service; and

·       highlevels of quality and reliability.

We cannot assure you thatwe will be able to compete successfully against our current or future competitors.Zebra has been a significant competitor of ours in the past, and may be a morevigorous competitor in the future. The security printing system market hasincreased visibility, which may lead to large, well-known, well financedcompanies entering into this market. Increased competition from manufacturersof systems or consumable supplies may result in price reductions, lower grossprofit margins, increased discounts to distribution and loss of market shareand could require increased spending by us on research and development, salesand marketing and customer support. Some of our competitors may make strategicacquisitions or establish cooperative relationships with suppliers or companiesthat produce complementary products such as cameras, computer equipment,software or biometric applications. If any technology that is competing withours becomes more reliable, higher performing, less expensive or has otheradvantages over our technology, then the demand for our products coulddecrease.

**Werely on sole and single-source suppliers, which could cause delays, increasesin costs or prevent us from completing customer orders, all of which couldmaterially harm our business.**

We rely on outside vendorsto manufacture or develop products and consumable supplies that are used in oursystems. We purchase critical components for our systems, including printheads, High Definition Printer ribbons, inkjet printer chassis, inkjet ink,inkjet cards and microprocessors from separate single-source suppliers. Ourinability to obtain adequate deliveries or alternative sources of supply couldcause delays, loss of sales, increases in costs and lower gross profit margins.Currently, our sole supplier of print heads for dye sublimation printers isKyocera Corporation, based in Japan; our two suppliers of dye sublimationribbons are Dai Nippon and Sony Chemical Corporation, both also based in Japan;and our supplier of most of the microprocessors that run our printers isMotorola. Dai Nippon is the sole producer of High Definition Printing ribbonand film and may choose not to sell to us. We purchase inkjet printer chassisand ink from HP and purchase inkjet proximity cards from AccessID. If any ofthese suppliers is unable to ship critical components, we would be unable tomanufacture and ship products to our customers. If the price of print heads,ribbons or microprocessors increases for any reason, or if these suppliers areunable or unwilling to deliver, we may have to find another source, which couldresult in interruptions, increased costs, delays, loss of sales and qualitycontrol problems. War, natural disaster, trade embargoes or economic hardshipin Japan could also result in a disruption in shipments from our 

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Japanesesuppliers, which could require us and our competitors to develop new sources ofthese supplies or else cause us to be unable to complete and ship orders to ourcustomers.

**Ourbusiness success depends wholly on the continued demand for card printingsystems and related supplies.**

Because we sell cardissuance systems and related secure materials, our business depends on thecontinued demand for cards for identification, access control and otherpurposes. Demand for our products could decline if businesses and organizationsuse alternative technologies for these purposes that do not involve the use ofa card such as biometrics. Several identification programs, such as theUS-VISIT program, incorporate biometrics without the use of a card. Any suchchanges in the business environment or competition from current and potentialcompetitors could significantly erode the demand for our systems and cause ourbusiness to suffer. If demand on the part of governmental agencies and largecustomers are reduced, this could significantly impact our revenue.

**Ourproducts incorporate technologies that we do not own and we could lose revenueif we are unable to obtain these technologies in the future.**

Our products incorporatetechnologies over which we have no control, including thermal print headtechnology, dye sublimation technology, software, microprocessors, inkjettechnology and inkjet receptive cards. The owners of these technologies arefree to sell or license these technologies to our competitors, agree to supplythese technologies exclusively to a third party or enter the market for oursystems as our competitor. If any of these events occurs, the owners of thesetechnologies could choose not to continue to supply us with vital systemcomponents, which would result in the diversion of our research and developmentresources and could result in lost revenue, inability to ship products and harmto our reputation. Some of these technologies are incorporated into new systemsand if these systems are not shipped, we will see a material adverse impact toour revenues in the foreseeable future.

**Thecomplex design of our systems could result in manufacturing delays and otherproblems that cause us to fail to meet the demand for our systems on a timelybasis, increase the cost of our systems, or both.**

We have experiencedmanufacturing problems with some of our systems in the past. Similar problemsin the future could lead to production delays that could cause our distributionnetwork to choose to sell competing systems. In addition, manufacturingproblems could result in higher material, labor and other costs, which couldincrease the total cost of our systems and could decrease our gross profitmargins.

**Oursystems may have manufacturing or design defects that we discover aftershipment, which could negatively affect our revenues, increase our costs andharm our reputation.**

Our systems are complex and may contain undetected andunexpected defects, errors or failures. If these product defects aresubstantial, the result could be product recalls, an increased amount ofproduct returns, loss of market acceptance and damage to our reputation, all ofwhich could increase our costs and cause us to lose sales. We carry generalcommercial liability insurance, including product liability, with a coveragelimit of two million dollars per occurrence plus an umbrella policy with afive million dollar limit, however, coverage may not be included oncertain risks. Our insurance may be insufficient to protect us against lossescaused by severe defects in our products.

We may not deliver systemsthat we have introduced on a timely basis, which could impact our anticipatedrevenue, and allow competitors to respond to our product introductions,introduce competing products or introduce superior products. These delays,which may occur on future product introductions, may allow competition torespond to our plans, which could impact our revenue, or result in theintroduction of competing products that reduce the innovative value of ourproducts or could be technologically superior to the product we introduced.

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**We donot maintain significant inventories of component parts or finished goods andour failure to adequately forecast demand could result in shortages and damageour business.**

Because most of oursystems are built upon order, we do not maintain a significant inventory ofcompleted systems. We maintain only limited inventories of component parts andconsumable supplies, although we enter into purchase agreements with certainsuppliers that require us to purchase minimum amounts. We endeavor to producesystems as they are ordered, which causes us to forecast production based onpast sales and our estimates of future demand. In the event that wesignificantly underestimate our needs or encounter an unexpectedly high levelof demand for our systems or our suppliers are unable to deliver our orders ofcomponents in a timely manner, we may be unable to fill our product orders ontime which could harm our reputation and result in reduced sales.

**Ourstrategy of providing secure issuance solutions may not be successful.**

We have begun to developsecure issuance solutions, which include card printer/encoders, materials andsoftware, for identification card printing. Our distribution system may viewthese as competitive threats to their integration business or no longer perceiveus as the best choice for purchasing ID systems. We may spend engineering,marketing and sales efforts on products that do not generate appreciablerevenue.

**Technologyin our industry evolves rapidly, potentially causing our products to become obsolete,and we must continue to enhance existing systems and develop new systems or wewill lose sales.**

Rapid technologicaladvances, rapidly changing customer requirements and fluctuations in demandcharacterize the current market for our products. Our existing anddevelopment-stage products may become obsolete if our competitors introducenewer or more appealing technologies. If these technologies are patented orproprietary to our competitors, we may not be able to access thesetechnologies. To be successful, we must constantly enhance our existing systemsand develop and introduce new systems. If we fail to anticipate or respond totechnological developments or customer requirements, or if we are significantlydelayed in developing and introducing products, our business will suffer lostsales.

**Allof our sales are made through independent distributors and integrators, overwhom we have limited control, and if they do not effectively market or sell ourproducts, our sales will decline.**

All of our revenue comes from sales through ourdistributor and integrator network, and we do not sell our products directly toend users. Although certain distributors and integrators have made certaincontractual commitments to us, they are independent businesses that we do notcontrol and these contractual commitments may be terminated with limited noticeand without a particular reason for termination. We cannot be certain thatcompanies who have committed to exclusively sell our printing systems willremain exclusive or that our distribution will continue to market or sell oursystems effectively. Our agreements with distributors and integrators of ourProfessional Series line of systems do not contain requirements that acertain percentage of sales are of our products nor do they restrict theability of our distribution to choose alternative sources for printing systems.We have contractual agreements with certain distributors and integrators to beexclusive partners, however, these contracts do not place restrictions that limitthe exclusive distributors and integrators from changing their exclusive status.We are dependent upon the continued viability and financial stability of thesedistributors and integrators, many of which are small organizations withlimited capital. These distributors and integrators may choose to devote theirefforts to other products in different markets or reduce or fail to devote thenecessary resources to provide effective sales and marketing support of ourproduct. We believe that our future growth and success will continue to dependin large part upon the success of our distributors in operating their ownbusinesses.

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**Wesell a significant portion of our products internationally and purchaseimportant components from foreign suppliers, which exposes us to currencyfluctuations and other risks.**

We sell asignificant amount of our products to customers outside the United States.International sales accounted for 44%, 42% and 40% of our net sales in 2004,2003 and 2002, respectively. We expect that shipments to internationalcustomers will continue to account for a significant portion of our net sales.Sales outside the United States involve the following risks, among others:

·       foreigngovernments may impose tariffs, quotas and taxes;

·       politicaland economic instability may reduce demand for our products;

·       restrictionson the export or import of technology may reduce or eliminate our ability tosell in certain markets;

·       potentiallylimited intellectual property protection in certain countries may limit ourrecourse against infringing products or cause us to refrain from selling incertain markets;

·       certaincountries may have legal requirements that impact our ability to change ourdistribution without economic impact;

·       wesell in dollars, not in the currencies of the countries that we export to;

·       wemay decide to price our products in foreign currency denominations;

·       wedo not maintain any overseas warehouses to carry inventory;

·       ourcontracts with foreign distributors and integrators do not fully protect usagainst political and economic instability;

·       wemay face difficulties in collecting receivables; and

·       wemay not be able to control our international distributors’ efforts on ourbehalf.

Currently, we do not hedge against foreign currencyfluctuations. Because we denominate our international sales in U.S. dollars,currency fluctuations could also cause our products to become less affordableor less price competitive than those of foreign manufacturers. These factorsmay have a material adverse effect on our international sales.

In addition, we purchasecomponents from a number of foreign suppliers and outsource certainmanufacturing tasks to foreign manufacturers. Currently, we purchase allcomponents in U.S. dollars but we may not be able to do so in the future, wemay have to renegotiate prices due to currency fluctuations or we may choose topurchase products in a foreign currency.

**Ifour systems fail to comply with domestic and international governmentregulations, or if these regulations result in a barrier to our business, wecould lose sales.**

Our systems must comply with various domestic andinternational laws, regulations and standards. In the event that we are unableor unwilling to comply with any such laws, regulations or standards, we maydecide not to conduct business in certain markets. Particularly ininternational markets, we may experience difficulty in securing requiredlicenses or permits on commercially reasonable terms, or at all. Failure tocomply with existing or evolving laws or regulations, including export andimport restrictions and barriers, or to obtain timely domestic or foreignregulatory approvals or certificates could result in lost sales.

On May 15, 2002, theEuropean Union Competition Commission stated that it is reviewing the pricingof printer ink cartridges. Although this investigation is primarily focused onlarge inkjet printer manufacturers, if these companies are found to be inviolation of European Union antitrust laws or other similar laws, it ispossible that the same laws may apply to us, which may negatively impact oursales. In 

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December 2002,the European Parliament voted to force inkjet printer manufacturers to allowsales of inkjet cartridges filled by third parties. This act becomes effectivein 2006 unless appealed by the inkjet printer manufacturers. If this law goesinto effect, it could negatively affect our supplies revenue from our CardJetprinters or it could be applied to all printing technologies, including ourdirect-to-card and High Definition Printing products.

**Ourquarterly operating results have been volatile as a result of many factors andcontinued volatility may cause our stock price to fluctuate.**

We have experiencedfluctuations in our quarterly operating results and we expect thosefluctuations to continue due to a variety of factors. Some of the factors thatinfluence our quarterly operating results include:

·       thenumber and mix of products sold in the quarter;

·       thetiming of major projects;

·       theavailability and cost of components and materials;

·       timing,costs and benefits of new product introductions;

·       customerorder size and shipment timing;

·       seasonalfactors affecting timing of purchase orders;

·       promotionsby ourselves or competitors, and the timing of the promotion; and

·       thetiming and level of operating expenses.

Because of these factors,our quarterly operating results are difficult to predict and are likely to varyin the future. If our earnings are below financial analysts’ expectations inany quarter, our stock price is likely to drop.

**If wefail to attract and retain highly skilled managerial and technical personnel,we may fail to remain competitive.**

Our future successdepends, in significant part, upon the continued service and performance of oursenior management and other key personnel, in particular Gary R. Holland, ourChief Executive Officer. Losing the services of Mr. Holland could impairour ability to effectively manage our company and to carry out our businessplan. The other members of our management team also have significant experiencein our industry and the loss of any other member of our other senior managementcould likewise impair our ability to effectively manage our company and carryout our business plan. We do not carry key man insurance on any of our seniormanagers. In addition, competition for skilled technical employees in ourindustry is intense. If we cannot attract and retain sufficient qualifiedtechnical employees, we may not be able to effectively develop and delivercompetitive products to the market.

**Wemay need to raise additional capital to fund our future operations, and anyfailure to obtain additional capital when needed or on satisfactory terms coulddamage our business.**

We may need to raise orborrow additional capital in the future to fund our ongoing operations. Anyequity or debt financing, if available at all, may be on terms that are notfavorable to us and, in the case of equity offerings, may result in dilution toour stockholders. Any difficulty in obtaining additional financial resources,including the inability to borrow on satisfactory financial terms, could forceus to curtail our operations or prevent us from pursuing our growth strategy orotherwise cause us financial harm.

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**Compliancewith changing regulation of corporate governance and public disclosure mayresult in additional expenses.**

Changing laws, regulationsand standards relating to corporate governance and public disclosure, includingthe Sarbanes-Oxley Act of 2002, new SEC regulations and NASDAQ National Marketrules, are creating uncertainty for companies such as ours. These new orchanged laws, regulations and standards are subject to varying interpretationsin many cases due to their lack of specificity, and as a result, theirapplication in practice may evolve over time as new guidance is provided byregulatory and governing bodies, which could result in continuing uncertainty regardingcompliance matters and higher costs necessitated by ongoing revisions todisclosure and governance practices. We are committed to maintaining highstandards of corporate governance and public disclosure. As a result, ourefforts to comply with evolving laws, regulations and standards have resultedin, and are likely to continue to result in, increased general andadministrative expenses and a diversion of management time and attention fromrevenue-generating activities to compliance activities. In particular, ourefforts to comply with Section 404 of the Sarbanes-Oxley Act of 2002 andthe related regulations regarding our required assessment of our internalcontrols over financial reporting and our external auditors’ audit of thatassessment has required the commitment of significant financial and managerialresources. We expect these efforts to require the continued commitment ofsignificant resources. Further, our board members, chief executive officer andchief financial officer could face an increased risk of personal liability inconnection with the performance of their duties. As a result, we may havedifficulty attracting and retaining qualified board members and executiveofficers, which could harm our business. If our efforts to comply with new orchanged laws, regulations and standards differ from the activities intended byregulatory or governing bodies due to ambiguities related to practice, ourreputation may be harmed.

**Item 2.**                        PROPERTIES

We currently leaseapproximately 90,240 square feet of space for our corporate headquarters andmanufacturing facility in Eden Prairie, Minnesota. Our lease for this facilityexpires in 2006 and we have the option of extending this lease for anadditional two or five-year period. We consider our present facilities to besufficient for our current operations.

**Item 3.**                        LEGALPROCEEDINGS

*Korean Patent Litigation*

On December 19,2003, we filed two separate lawsuits with Seoul Central District Court, CivilDivision, claiming that certain entities and individuals were selling andmanufacturing printer ribbon products that infringed upon one or more of ourpatents.

In one ofthe lawsuits, we named Mr. Nak Dong Lee doing business as “Intra Korea”and “Intra Worldwide” as defendant. On May 24, 2004, we reached a settlementwith Mr. Lee. Among other things, the settlement acknowledges the validityof our US and Korean ribbon sensor patent and acknowledges that Mr. Leehas sold products in violation of the Korean patent.

In the second lawsuit, we named KCP Systems, Mr. SungJun Pak and Mr. Jae Hyun Bae as defendants. On August 9, 2004, wereached a settlement of this suit. The settlement acknowledges the validity ofour US and Korean ribbon sensor patent and that KCP Systems, Mr. Pak and Mr. Baehave sold products in violation of the Korean patent. The settlement requiresKCP Systems to deliver to us all infringing product in its possession and has aclause that if Mr. Pak, Mr. Bae or any associates are found to be inviolation of the settlement agreement, a liquidated damage amount of $75,000will be paid to us. In addition, KCP Systems agreed to pay Fargo damages in theamount of 7 million Korean won ($6,300 USD). The settlement is applicableworldwide.

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*Toppan and TDT Patent Litigation*

On July 19, 2004, we filed a patent infringement suitagainst Toppan Printing Co. Ltd. (Toppan), and Trans Digital TechnologiesCorporation (TDT), a wholly owned subsidiary of Viisage Technology, Inc.,in US Federal District Court, Eastern District of Virginia. Our lawsuit allegesthat a reverse image printer manufactured by Toppan and distributed by TDT,infringes four US patents that we own. Two of these patents relate tolamination, the third patent relates to flipping the card, and the fourthpatent describes technology related to our reverse image printer. We areseeking a permanent injunction against the sale of the Toppan printer, damagesfor any past sales, and attorney’s fees. Further, we are alleging willfulinfringement of these patents by Toppan and TDT and asking for all damages tobe trebled in accordance with the patent statute. This suit involves a Japanesecorporation (Toppan), and we have had to serve this suit upon Toppan underinternational treaty rules, and all depositions of Toppan employees must occurat the United States Embassy in Tokyo, Japan, unless Toppan waives this right. Weanticipate a trial in the early fall of 2005.

*Iris Ltd. Litigation*

We filed a patentinfringement complaint against Iris Ltd., Inc. on February 24, 2004in Federal District Court in the State of Minnesota and served this complainton Iris Ltd., Inc. on March 26, 2004. Our complaint allegesinfringement of one or more of our patents relating to our printer ribbonproduct. We are seeking injunctive relief, damages and legal fees. In opencourt on September 8, 2004, Iris agreed to cease selling its infringingribbons. In early 2005, Iris announced another ribbon core and has begunsoliciting orders for this ribbon. We believe this product infringes upon ourpatents and may violate the cessation of sales agreed to in open court. We areevaluating our options but anticipate this lawsuit continuing.

*Chinese PatentLitigation*

On October 27, 2003,we instituted an administrative action in the Shenzhen Intellectual PropertyOffice, which is a branch of the Chinese Intellectual Property Office, claimingthat Shenzhen Kanon Industrial Development Company Ltd. is infringing upon oneor more of our patents related to our printer ribbon product. We are seeking apermanent injunction, a request for payment of all costs incurred by us in thecase, a public apology and compensation for damages resulting from our lostsales. On November 17, 2004, the Shenzhen Municipal Intellectual PropertyOffice issued an opinion that Shenzhen Kanon Industrial Development Company isinfringing upon our patents and has ordered Shenzhen Kanon to cease suchinfringement. If Shenzhen Kanon does not cease its activities, criminal chargesmay be filed against Shenzhen Kanon.

*Other Litigation*

In addition, we are party to various other litigationmatters arising from time to time in the ordinary course of business. We do notbelieve that any such legal matters exist that would have a material adverseeffect on our financial position, results of operations or cash flows.

**Item 4.**                        SUBMISSIONOF MATTERS TO A VOTE OF SECURITY HOLDERS

No matter was submittedfor a vote of our security holders during the fourth quarter of the fiscal yearcovered by this report.

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**Item4A.**                EXECUTIVEOFFICERS OF FARGO
| **Name**             | ** ** | ** ** | ** ** | **Age**                                                                    | ** ** | **Position** |
|----------------------|------------|------------|------------|----------------------------------------------------------------------------|------------|--------------|
| Gary R. Holland      |       | 63         |       | Chairman of the Board of  Directors, President and Chief Executive Officer |
| Kathleen L. Phillips |       | 40         |       | Marketing and  Distribution                                                |
| Thomas C. Platner    |       | 45         |       | Engineering and  Manufacturing                                             |
| Paul W.B. Stephenson |       | 50         |       | Chief Financial Officer                                                    |
| Jeffrey D. Upin      |       | 46         |       | Business Development, General Counsel and Secretary                        |

 

*Gary R. Holland*has served as our President and Chief Executive Officer since February 1998.From May 1997 to February 1998, Mr. Holland was the generalmanager of Fargo. From 1992 to 1997, Mr. Holland owned and operated twobusiness and strategy consulting firms, Decision Process International ofMinnesota, Inc. and Holland & Associates. From 1982 to 1992, Mr. Hollandwas the President of Datacard Corporation. From 1979 to 1982, he was thePresident and Chief Operating Officer of CPT Corporation. Mr. Holland alsoserves as a member of the board of directors of Delphax Technologies.

*Kathleen L. Phillips*has been our head of Marketing since June 2000. In December 2003, sheassumed additional responsibilities as head of Distribution. She joined Fargoin 1993, and has held various management positions at Fargo, includingtechnical support, inside sales, customer service and product marketing. Priorto joining Fargo, she held various positions in research and development, andtechnical support and services at Northgate Computer Systems from 1989 to 1992.

*Thomas C. Platner*has been our head of Engineering and Manufacturing since November 2000. Hejoined Fargo as Director of Product Development in August 1999. Prior tojoining Fargo, he worked as Engineering Manager and Director of Engineering atRosemount Inc. (a division of Emerson Electric) from 1995 to 1999. He heldvarious engineering positions at McQuay International from 1985 to 1995, andfor Carrier Corporation (division of United Technologies) as a FieldApplication Engineer from 1981 to 1985.

*Paul W.B. Stephenson*rejoined Fargo as Chief Financial Officer in May 2002, having previouslyserved in that position from May 2001 through January 2002. Mr. Stephensonfirst joined Fargo in February 2001 as an independent consultant, servingas acting Chief Financial Officer. From January 2002 through May 2002,Mr. Stephenson served as Chief Financial Officer of Oppenheimer Wolff &Donnelly LLP, our legal counsel. From March 1999 to December 2000, Mr. Stephensonserved as Vice President and Chief Financial Officer of the MinnesotaOrchestral Association. From 1998 to 1999, he served as Vice President andChief Financial Officer and from 1992 to 1997, as Vice President of Finance andAdministration, of Check Technology Corporation.

*Jeffrey D. Upin*has been our head of Business Development since August 2002 and has servedas our General Counsel since 1995. Mr. Upin also held operational dutiesas Director of Supplies. Mr. Upin was appointed as Fargo’s Vice Presidentand Corporate Secretary in September 2000. Prior to joining Fargo, Mr. Upinserved as Vice President of St. Paul Clothiers, a regional retail operation.

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**PART II**

**Item 5.**                        MARKET FORREGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.

***(a)   Market Information.***

Ourcommon stock is currently traded on the Nasdaq National Market under the symbol“FRGO.” The following table sets forth, the high and low sales prices per shareas reported by the Nasdaq National Market for each quarter in 2004 and 2003.
| **2004**       | ** ** | ** ** | ** ** | **High** | ** ** | **Low**        | ** ** | **2003**      | ** ** | ** ** | **High** | ** ** | **Low** | ** ** |
|----------------|------------|------------|------------|----------|------------|----------------|------------|---------------|------------|------------|----------|------------|---------|------------|
| First Quarter  |       | $          | 13.58      |     | $          | 9.75           |       | First Quarter |       | $          | 10.45    |       | $       | 7.58       |   |
| Second Quarter |       | 11.93      |       | 8.74     |       | Second Quarter |       | 11.93         |       | 9.24       |     |
| Third Quarter  |       | 11.50      |       | 7.93     |       | Third Quarter  |       | 13.49         |       | 9.10       |     |
| Fourth Quarter |       | 15.83      |       | 9.71     |       | Fourth Quarter |       | 17.10         |       | 11.50      |     |
|                |            |            |            |          |            |                |            |               |            |            |          |            |         |            |  |  |  |  |

 

***(b)   Holders.***

As of March 11,2005, we estimate that there were approximately 4,000 beneficial owners ofshares of our common stock, which shares were held by 95 record holders.

***(c)    Dividends.***

Wehave not declared or paid any cash dividends on our common stock for the pasttwo fiscal years. Our Board of Directors presently intends to retain allearnings to support our operations and to finance expansion. Under Delawarelaw, we are permitted to pay dividends only out of our surplus or net profits.In addition, the terms of our credit facility restrict us from paying dividendsif an “event of default”, as defined by the credit facility agreement, hasoccurred. An “event of default” includes failure to make loan payments on atimely basis, non-compliance with loan covenants, including the maintenance ofspecified financial ratios, and a change of control.

***(d)   Recent Sales of Unregistered Securities.***

We didnot sell any equity securities that were not registered under the SecuritiesAct of 1933, as amended, during the fiscal year ended December 31, 2004.

***(e)    Recent Stock Purchases.***

None.

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**Item 6.**                        SELECTEDFINANCIAL DATA.

Thedata presented below as of and for the years ended December 31, 2004, 2003and 2002 are derived from our audited financial statements included elsewherein this report. The financial data as of and for the years ended December 31,2001 and 2000 are derived from our audited financial statements that are notincluded in this report. The information set forth below should be read inconjunction with “Management’s Discussion and Analysis of Financial Conditionand Results of Operations” in Item 7 of this report and our financialstatements and related notes beginning on page F-1 and other financialinformation included elsewhere in this report.

**SummaryStatements of Operations Data**(in thousands, except per share data)
| ** **                                                         | ** ** | **Year Ended December 31,** | ** ** |
|--------------------------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                         | ** ** | **2004**                                   | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| Net sales                                                          |       | $                                          | 72,393     |   | $ | 65,491 |   | $ | 66,035 |   | $ | 60,963 |   | $ | 57,845 |   |
| Cost of sales                                                      |       | 43,319                                     |       | 38,608 |   | 39,199 |   | 37,497 |   | 34,721 |   |
| Gross profit                                                       |       | 29,074                                     |       | 26,883 |   | 26,836 |   | 23,466 |   | 23,124 |   |
| Operating expenses:                                                |       |                                       |       |   |   |   |   |   |   |   |   |
| Research and  development                                          |       | 5,151                                      |       | 4,801 |   | 4,529 |   | 4,053 |   | 4,934 |   |
| Selling, general  and administrative                               |       | 13,060                                     |       | 11,501 |   | 11,387 |   | 10,341 |   | 10,633 |   |
| Terminated  acquisition costs(1)                                   |       | —                                     |       | — |   | 552 |   | 1,434 |   | — |   |
| Total operating  expenses                                          |       | 18,211                                     |       | 16,302 |   | 16,468 |   | 15,828 |   | 15,567 |   |
| Operating income                                                   |       | 10,863                                     |       | 10,581 |   | 10,368 |   | 7,638 |   | 7,557 |   |
| Other income (expense):                                            |       |                                       |       |   |   |   |   |   |   |   |   |
| Interest expense                                                   |       | (7                                         | )          | (29 | ) | (554 | ) | (1,379 | ) | (2,830 | ) |
| Interest income                                                    |       | 200                                        |       | 32 |   | 187 |   | 79 |   | 81 |   |
| Other, net                                                         |       | (2                                         | )          | — |   | — |   | (33 | ) | 7 |   |
| Total other income  (expense)                                      |       | 191                                        |       | 3 |   | (367 | ) | (1,333 | ) | (2,742 | ) |
| Income before  provision for income taxes                          |       | 11,054                                     |       | 10,584 |   | 10,001 |   | 6,305 |   | 4,815 |   |
| Provision for  income taxes                                        |       | 3,338                                      |       | 3,344 |   | 3,265 |   | 2,229 |   | 1,758 |   |
| Net income                                                         |       | 7,716                                      |       | 7,240 |   | 6,736 |   | 4,076 |   | 3,057 |   |
| Accrued dividends  on Series B, 8% redeemable preferred stock |       | —                                     |       | — |   | — |   | — |   | (350 | ) |
| Net income  available to common stockholders                       |       | $                                          | 7,716      |   | $ | 7,240 |   | $ | 6,736 |   | $ | 4,076 |   | $ | 2,707 |   |
| Net income per common share:                                       |       |                                       |       |   |   |   |   |   |   |   |   |
| Basic earnings per  share                                          |       | $                                          | 0.62       |   | $ | 0.58 |   | $ | 0.56 |   | $ | 0.35 |   | $ | 0.25 |   |
| Diluted earnings  per share                                        |       | $                                          | 0.60       |   | $ | 0.57 |   | $ | 0.55 |   | $ | 0.34 |   | $ | 0.24 |   |
| Weighted average common shares outstanding:                        |       |                                       |       |   |   |   |   |   |   |   |   |
| Basic shares  outstanding                                          |       | 12,515                                     |       | 12,397 |   | 12,048 |   | 11,760 |   | 10,637 |   |
| Diluted shares  outstanding                                        |       | 12,869                                     |       | 12,799 |   | 12,331 |   | 11,958 |   | 11,413 |   |

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(1)           Reflectsexpenses consisting primarily of legal, professional and investment bankingfees incurred by us in connection with the proposed acquisition of Fargo byZebra Technologies Corporation, which was announced July 31, 2001, andterminated on March 27, 2002.

**SummaryBalance Sheet Data(in thousands)**
| ** **                | ** ** | **As of December 31,** | ** ** |
|---------------------------|------------|---------------------------------------|------------|
| ** **                | ** ** | **2004**                              | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| Cash and cash equivalents |       | $                                     | 23,435     |   | $ | 13,445 |   | $ | 2,511 |   | $ | 3,586 |   | $ | 1,223 |   |
| Working capital           |       | 34,062                                |       | 22,386 |   | 12,708 |   | 9,190 |   | 14,850 |   |
| Total assets              |       | 61,905                                |       | 50,807 |   | 44,009 |   | 46,213 |   | 48,815 |   |
| Bank debt                 |       | —                                |       | — |   | — |   | 14,000 |   | 22,900 |   |
| Stockholders’ equity |       | $                                     | 53,081     |   | $ | 44,240 |   | $ | 36,313 |   | $ | 25,638 |   | $ | 21,359 |   |

 

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**Item 7.**                        MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

Certain statementscontained in this report include “forward-looking statements” within themeaning of the Private Securities Litigation Reform Act of 1995. All forward-lookingstatements in this document are based on information currently available to usas of the date of this report, and except as required by law, we assume noobligation to update any forward-looking statements. Forward-looking statementsinvolve known and unknown risks, uncertainties and other factors that may causethe actual results to differ materially from any future results, performance orachievements expressed or implied by such forward-looking statements. Suchfactors may include, among others, those factors listed in Item 1A andelsewhere in this report and our other filings with the Securities and ExchangeCommission. The following discussion should be read in conjunction with ourfinancial statements and related notes appearing elsewhere in this report.

**Overview**

We are a leading developer, manufacturer and supplierof printing systems and consumable supplies that personalize plasticidentification cards by printing images and text onto the card. Our printingsystems are capable of encoding data onto cards that incorporate bar code,magnetic stripe, smart card or proximity card technology. We believe that ourengineering expertise and our ability to offer a broad range of printingsystems using multiple printing technologies have led to a reputation forinnovation in our industry.

We believe that we are the only manufacturer in ourindustry to offer three distinct technologies in printing systems—HighDefinition Printing (reverse image), traditional Direct-to-Card printing****(dye-sublimation)****and CardJetPrinting technology (inkjet)—to personalize plastic identification cards,complete with digital images and text, lamination and electronically encodedinformation. We believe there are between 30 and 35 companies manufacturingdigital card printers. The great majority of these are offering direct-to-carddye-sublimation printers. We believe our High Definition Printing platformcurrently has two competitors and we are not aware of any other companyoffering an inkjet solution for printing plastic identification cards.

Concern for personal safety and property protectionhas led to the need for electronic and visual identification and access control.We believe the demand for our products will increase as governments andcorporations worldwide address their security needs. We believe the developmentand implementation of new technologies that add security features to plasticcards should foster a growing market for our systems.

We market and sell our products exclusively through adistribution channel of system integrators and independent distributors in morethan 80 countries worldwide. We estimate that as of December 31, 2004, wehave manufactured and sold more than 100,000 of our printing systems. End usersof our printing systems create personalized cards for a wide variety ofapplications including corporate security and access; driver’s licenses,government and military identification; student identification and access;public transportation access; and recreation and gaming.

We sell both printing systems and consumable suppliesused in those systems. We produce a diverse array of card printing systems thatallow us to meet the needs of end users, ranging from those who desire apremium system to address complex applications to those focused on lower pricedsystems with fewer features. We also sell consumable supplies that are usedwith our systems, including dye sublimation ribbons, overlaminates, thermalresin ribbons, printheads, inkjet cartridges, inkjet card cartridges and blankcards. Over the past six years, the proportion of our total revenues providedby consumable supplies has increased to 60% of total revenues in 2004 from 49%in 1999. Factors affecting our net sales of card printing systems each yearinclude the mix of systems sold, changes in average selling price and thenumber 

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of major projects we aresuccessful in winning. As the number of Fargo systems installed and in usecontinues to grow, it is our belief that the sale of consumable supplies foruse in these systems will provide us with a significant recurring, and growingrevenue stream.

Our marketscan be categorized in three broad tiers—entry-level, mid-level and high-level. Wehave historically been successful in each of these markets. End users in theentry-level market are typically using a simple photo identification card. Usersin this market are likely more focused on lower priced systems with fewerfeatures. Users in the mid-level tier typically would add functionality such asaccess control or time and attendance recording features. At the high-end ofour markets are government and government-related projects and corporatesecurity programs with multi-level requirements, which typically will use amuch more sophisticated and complex identification card and are projects wherethe end user is looking for the highest levels of functionality and security. Examplesof government and government-related projects include national identificationprograms, military programs and driver’s license programs. These projectstypically span multiple years and involve integrating solutions into complexexisting infrastructures. The printer component of these projects is typicallyonly a small piece of the overall project. While the company actively pursuessuch project business, these projects are very competitive and it is verydifficult to predict the timing of the bid process, funding and implementationof any such projects.

We have experienced and expect to continue toexperience quarterly variations in net sales and gross profit as a result of anumber of factors, including, among other things, the timing and extent ofpromotional pricing; the timing of major projects; changes in average sellingprices; the number and mix of products sold in the quarter; the availabilityand cost of components and materials; costs, benefits and timing of new productintroductions; customer order size and shipment timing; and seasonable factorsaffecting timing of purchase orders.

In October 2003,we introduced a new distribution program for our United States channel partners.The new program categorizes distribution partners into four complementary, yetseparate, program tracks. Fargo Solution Providers provide retail customerswith sales, service and integration expertise on Fargo’s full line of Professionaland Persona Series products and systems. Fargo Value Added Distributorsprovide in-depth integration expertise and support for Fargo Solution Providersand end user customers on Fargo’s full line of products and systems. FargoDistributors provide product distribution services to Fargo Solution Providersand Persona Series resellers. Fargo Manufacturing Resellers are companiesthat have a core business of developing and manufacturing products where thesale of identification card printers is a secondary portion of its sale. Eachcategory has the option to work exclusively with Fargo to develop market shareand expertise in the markets they serve. The program continues our two-productline strategy with restricted distribution on our Professional Series productsand broad distribution of our Persona products. The new program resulted from areview of our existing and future channel requirements, our distributionpartners’ needs and the products that are under development by us. We believethat this new distribution structure is working well with our distributionpartners.

In the second half of 2004, we began making additionalinvestments in the infrastructure of our business, resulting in an increase inoperating expenses. The purpose of these investments is to position ourselvesbetter to capitalize on anticipated market opportunities for our products andto grow our revenue in the future. It is our intention to continue to makethese investments. We also anticipate continued legal expenses in connection withpatent litigation we have initiated. We currently expect our future operatingexpenses to increase at a faster rate than the increases we have experienced inthe past. We believe these expenditures will enhance the future growth of thecompany for our shareholders; however, the anticipated growth cannot be assuredand our operating income may be negatively affected.

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**Results of Operations**

Thefollowing table sets forth, for the periods indicated, certain selectedfinancial data expressed as a percentage of net sales:
| ** **                          | ** ** | **Years Ended December 31,** | ** ** |
|-------------------------------------|------------|---------------------------------------------|------------|
| ** **                          | ** ** | **2004**                                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| Net sales                           |       | 100.0                                       | %          | 100.0 | % | 100.0 | % |
| Cost of sales                       |       | 59.8                                        |       | 59.0 |   | 59.4 |   |
| Gross profit                        |       | 40.2                                        |       | 41.0 |   | 40.6 |   |
| Operating expenses:                 |       |                                        |       |   |   |   |   |
| Research and development            |       | 7.2                                         |       | 7.3 |   | 6.8 |   |
| Selling, general and administrative |       | 18.0                                        |       | 17.6 |   | 17.2 |   |
| Terminated acquisition costs        |       | —                                      |       | — |   | 0.8 |   |
| Total operating expenses            |       | 25.2                                        |       | 24.9 |   | 24.8 |   |
| Operating income                    |       | 15.0                                        | %          | 16.1 | % | 15.8 | % |

 

*Comparison of YearsEnded December 31, 2004 and 2003*

*Net sales.  *Netsales increased 10.5% to $72.4 million in 2004 from $65.5 million in 2003. Salesof equipment increased 11.6% to $28.9 million from $25.9 million in 2003. Theincrease in equipment sales is due to an increase of $1.1 million in majorgovernment project business. This type of business is inherently unpredictableand is likely to fluctuate from year to year. Equipment sales were also higherdue to an increase in non-major government project related unit volume,partially offset by a decrease in average selling price and unit mix. Sales ofsupplies increased 9.8% to $43.5 million from $39.6 million in 2003. Theincrease in sales of supplies is due to an increase of $1.4 million in majorgovernment project business and an increase of $1.2 million related to higheraverage selling prices and sales mix of ribbons. The balance is mainly due toincreased sales of software and other supplies such as cards, overlaminates andprintheads.

International sales increased 14.7% to $31.8 millionin 2004 from $27.8 million in 2003 and accounted for 44.0% of net sales in 2004compared to 42.4% of net sales in 2003. International sales increased $4.0million primarily due to a $1.3 million increase in sales in the Asia andAustralia region and a $2.0 million increase in the Middle East and Africaregion. The balance is related to increases in Europe and North and SouthAmerica (other than the United States). The increase in sales in Asia andAustralia region is primarily related to an increase in supplies for a majorgovernment project. The increase in sales in the Middle East is due to enhanceddistribution efforts in this geographical area.

*Gross profit.  *Grossprofit increased 8.2% to $29.1 million for 2004 from $26.9 million in 2003. Grossprofit as a percentage of net sales was 40.2% for 2004 compared to 41.0% in2003. The gross profit percentage was adversely impacted by lower averageselling prices on printers and unit mix within printers and supplies, partiallyoffset by reduced warranty expenses of approximately $250,000 and a $360,000reduction of cost of sales related to the settlement of prior years’ dutydrawback claims.

*Research and development.  *Researchand development expenses increased 7.3% to $5.2 million in 2004 from$4.8 million in 2003. Research and development expenses as a percentage ofnet sales were 7.2% for 2004 compared to 7.3% for 2003. The increase in research and development expenses is mainlydue to higher payroll expenses in 2004 as a result of annual salaryincreases and market adjustments.

*Selling, general and administrative.  *Selling,general and administrative expenses increased 13.6% to $13.1 million in2004 from $11.5 million in 2003. As a percentage of net sales, selling,general and administrative expenses were 18.0% in 2004, compared to 17.6% in2003. The increase in selling, general and administrative expenses is due tohigher sales and marketing expenses of approximately $1.0 million and increasedgeneral and administrative expenses of approximately $550,000. The increase insales and 

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marketing expenses ismainly due to additional advertising and promotional expenses of approximately$600,000 and increased salary expense of approximately $300,000. The increasein advertising and promotional expense is primarily due to the launch of newproducts in 2004. The increase in salary expense is primarily due to anincrease in the number of employees engaged in sales, marketing and supportservices. The increase in general and administrative expenses is due to anincrease in professional fees of approximately $300,000 and increasedcompensation and health insurance costs. The increase in legal and professionalfees is due to on-going patent litigation expense, as well as professional feesrelating to implementing Sarbanes-Oxley Section 404.

*Operating income.  *Operatingincome increased 2.7% to $10.9 million in 2004 from $10.6 million in2003. As a percentage of net sales, operating income was 15.0% in 2004 ascompared to 16.1% in 2003.

*Interest income*.   Interestincome totaled $200,000 in 2004 compared to $32,000 in 2003. The increase ininterest income is due to our increased cash balance in 2004.

*Incometax expense.  *Income tax expense was $3.3 millionin 2004, which represents an effective tax rate of 30.2%, compared to incometax expense of $3.3 million and an effective tax rate of 31.6% in 2003. In2004, we recognized approximately $200,000 of additional tax credits related toa prior year, which was settled in the third quarter of 2004. In 2003, werecognized approximately $126,000 of additional tax credits related to a prioryear, which was settled in the third quarter of 2003. Excluding these taxcredits, the effective tax rate would have been 32.0% in 2004 and 32.8% in 2003.Income tax expense for both 2004 and 2003 includes the current recognition ofresearch and experimentation credits in the respective periods.

*Comparison of YearsEnded December 31, 2003 and 2002*

*Net sales.  *Netsales decreased 0.8% to $65.5 million in 2003 from $66.0 million in2002. Sales of equipment decreased 9.2% to $25.9 million from$28.5 million in 2002, and sales of supplies increased 5.6% to$39.6 million from $37.5 million in 2002. The decrease of $2.6 millionin 2003 equipment sales is due primarily to a decrease of $2.2 million in majorgovernment project business. This type of business is inherently unpredictableand is likely to fluctuate from year to year. The balance is due to a decreasein average selling prices, partially offset by an increase in unit volume frombusiness other than major government projects. The increase of $2.1 million in2003 sales of supplies is due to increased revenue of $1.2 million from thesale of ribbons related to price increases and higher average selling pricesdue to sales mix. The balance of the increase is due to an increase in salesrelated to major government projects and software.

International sales increased 5.4% to$27.8 million in 2003 from $26.4 million in 2002 and accounted for42.4% of net sales in 2003 compared to 39.9% of net sales in 2002.International sales increased $1.4 million primarily due to an increase insales in the Middle East and Africa related to enhanced distribution efforts inthis geographical area.

*Gross profit.  *Grossprofit increased 0.2% to $26.9 million for 2003 from $26.8 million in2002. Gross profit as a percentage of net sales was 41.0% for 2003 compared to40.6% in 2002. Gross profit for 2003 was positively impacted primarily by lowermanufacturing costs associated with improved quality.

*Research and development.  *Researchand development expenses increased 6.0% to $4.8 million in 2003 from$4.5 million in 2002. Research and development expenses as a percentage ofnet sales were 7.3% for 2003 compared to 6.8% for 2002. In 2002, research anddevelopment expenses are net of approximately $213,000 charged by us to a thirdparty for certain engineering development work. We also experienced higherpayroll and benefits expenses in 2003.

*Selling, general and administrative.  *Selling,general and administrative expenses increased 1.0% to $11.5 million in2003 from $11.4 million in 2002. As a percentage of net sales, selling,general and administrative expenses were 17.6% in 2003, compared to 17.2% in2002. The increase in selling, general 

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and administrativeexpenses is due to higher general and administrative expenses, due mainly tohigher legal and professional fees of $192,000, directors’ fees of $75,000, andhealth insurance costs of $107,000, partially offset by a decrease inadvertising marketing expenses of $370,000. The increase in legal andprofessional fees relates primarily to litigation expenses incurred to enforceour patents in Asia. Directors’ fees increased due to the addition of threeboard members in 2003. The increase in our health insurance is due mainly tothe increase in our major claims experience in the fourth quarter of 2003. Thedecrease in advertising marketing expenses is due to the timing of new productintroductions.

*Operating income.  *Operatingincome increased 2.1% to $10.6 million in 2003 from $10.4 million in2002. As a percentage of net sales, operating income was 16.1% in 2003 ascompared to 15.8% in 2002.

*Interest expense.  *Interestexpense totaled $29,000 in 2003 compared to $554,000 in 2002. The interestexpense in 2003 is mainly for non-use fees on our revolving credit facility. Wehad no bank debt outstanding during 2003.

*Interest income*.   Interestincome totaled $32,000 in 2003 compared to $187,000 in 2002. In 2002, interestincome included $163,000 of interest earned from the repayment in 2002 ofrecourse promissory notes issued in connection with grants of restricted stockmade in 1998 and 1999 to Mr. Holland, our Chief Executive Officer, and toan outside director. There were no promissory notes outstanding during 2003.

*Incometax expense.  *Income tax expense was $3.3 millionin 2003, which results in an effective tax rate of 31.6%, compared to incometax expense of $3.3 million and an effective tax rate of 32.6% in 2002.The lower effective tax rate for 2003 was the result of the recognition ofapproximately $126,000 of additional tax credits related to a prior year, whichwas settled in the third quarter of 2003. Excluding these tax credits, theeffective tax rate would have been 32.8% for the year ended December 31,2003. Income tax expense for both 2003 and 2002 includes the currentrecognition of research and experimentation credits in the respective periods.

**Liquidity and Capital Resources**

We have historically financed our operations, debtservice and capital requirements through cash flows generated from operations.Working capital was $34.1 million, $22.4 million and $12.7 million atDecember 31, 2004, 2003, and 2002, respectively. During 2002, we repaid$14.0 million of bank debt. At December 31, 2002 and throughout 2003and 2004, we had no bank debt outstanding.

We believe, based on our current cash levels as wellas the operating cash flows expected in 2005 and the funds available to usunder our $5.0 million revolving credit facility, that we will have sufficientfunds to finance our current operations and planned capital expenditures for atleast the next 12 months.

We had cash and cash equivalents of $23.4 millionat December 31, 2004, an increase of $10.0 million from$13.4 million at December 31, 2003. This increase is mainly due topositive net cash flows provided by our operating activities in 2004.

Cash generated from operating activities in 2004totaled $10.1 million due to net income of $7.7 million, non-cash charges of$4.4 million and changes in operating assets and liabilities of $(2.0) million.The non-cash charges are primarily for deferred income taxes and depreciationand amortization. The changes in operating assets and liabilities relateprimarily to an increase in accounts receivable of $2.7 million, an increase ininventory of $1.5 million, offset by an increase in accounts payable andaccrued liabilities of $2.2 million. Accounts receivable increased due to theincrease in sales in the fourth quarter compared to 2003 and a reduction incustomer prepayments. The increase in inventory is primarily due to theintroduction of new products. The increase in accounts payable is due toincreased revenue activity in the fourth quarter of 2004 compared to 2003 andthe timing of purchases. Cash used by investing activities was $948,000exclusively for the purchase of equipment and leasehold improvements. Cashprovided by financing activities was $866,000 due to proceeds received from theexercise of stock options during 2004.

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Cash generated from operating activities in 2003 totaled$11.9 million due to net income of $7.2 million, non-cash charges of $3.6million and changes in operating assets and liabilities of $1.1 million. Thenon-cash charges are primarily for deferred income taxes and depreciation andamortization. The changes in operating assets and liabilities relate primarilyto a decrease in accounts receivable of $2.1 million offset by a decrease inaccounts payable and accrued liabilities of $1.4 million. The decrease inaccounts receivable is due to a decrease in sales in the fourth quarter of 2003compared to 2002 and an increase in customer prepayments. Accounts payabledecreased due to the decreased revenue activity in the fourth quarter of 2003compared to 2002 and the timing of purchases. Cash used by investing activitieswas $1.4 million exclusively for the purchase of equipment and leaseholdimprovements. Cash provided by financing activities was $472,000 due toproceeds received from the exercise of stock options during 2003.

In April 2004,we further amended our $5.0 million revolving credit facility, on which therewas no outstanding balance at December 31, 2004 or at any point during2004 and 2003. As a result of this amendment, the credit facility willautomatically renew at the end of its term for a period of 364 days unlesseither party delivers a non-renewal notice. The amendment also eliminated theunused commitment fee. Borrowings under the revolving credit facility arelimited to eligible accounts receivable and inventories, as defined by theagreement. Under the terms of the amendment, we may borrow at the prime rate ofinterest or LIBOR plus a margin of 1.5%.

The credit facility requires, among other things, themaintenance of a minimum EBITDA and restricts our ability to pay dividends orincur new operating lease expenditures, as defined in the agreement.

**Contractual Obligations**

Thefollowing table summarizes our future contractual obligations as of December 31,2004.
| ** **                                                                 | ** ** | **Payments due by period (in thousands)** | ** ** |
|----------------------------------------------------------------------------|------------|--------------------------------------------------------------------|------------|
| **Contractual Obligations**                                           | ** ** | ** **                                                         | ** ** | **Total** | ** ** | ** Less than   1 year** | ** ** | **1 - 3  years** | ** ** | **3 - 5  years** | ** ** | **  More than    5 years** | ** ** |
| **Long-Term  Debt**                                                        |       | —                                                             |       |   | — |   |   | — |   | — |   |   | — |   |   |
| **Capital  Lease Obligations**                                             |       | —                                                             |       |   | — |   |   | — |   | — |   |   | — |   |   |
| **Operating  Lease**                                                       |       | $                                                                  | 1,036      |   |   | $ | 518 |   |   | $ | 518 |   | — |   |   | — |   |   |
| **Purchase  Obligations**                                                  |       | 41,492                                                             |       |   | 13,492 |   |   | 8,000 |   | 8,000 |   |   | 12,000 |   |   |
| **Other  Long-Term Liabilities Reflected on our Balance Sheet under GAAP** |       | —                                                             |       |   | — |   |   | — |   | — |   |   | — |   |   |
| **Total**                                                                  |       | $                                                                  | 42,528     |   |   | $ | 14,010 |   |   | $ | 8,518 |   | $ | 8,000 |   |   | $ | 12,000 |   |   |
|                                                                            |            |                                                                    |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

*Operating lease.  *We leaseour office, warehouse and manufacturing space under an operating lease thatexpires in December 2006. Total rent expense for this operating lease was$857,000, $918,000 and $940,000 during 2004, 2003 and 2002, respectively.

*Purchase obligations.  *Purchaseobligations are for purchases made in the normal course of business to meetoperational requirements. Of this amount, $2,080,000 relates to unconditionalpurchase agreements that the Company has entered into with certain suppliers. Theseagreements are reviewed on a semi-annual basis, and, unless terminated byeither party, automatically renew for an additional six-month period. Theagreements may be terminated by either party with a 30-day written notice.Purchase obligations also include an agreement to purchase $4 million ayear of materials under a ten-year agreement with one of our suppliers whichexpires in 2012. Our obligation to meet this commitment is conditional upon thesupplier continuing to meet a number of obligations set out in the agreement.

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**Inflation**

We do not believe thatinflation has had a material effect on our results of operations in recentyears; however, there can be no assurance that our business will not beadversely affected by inflation in the future.

**CriticalAccounting Policies and Estimates**

Management’s discussion and analysis of its financialcondition and results of operations are based upon our financial statements,which have been prepared in conformity with accounting principles generallyaccepted in the United States of America. The preparation of financialstatements requires us to make estimates and assumptions that affect thereported amounts of assets and liabilities and the reported amounts of revenuesand expenses during the reporting period. We base our estimates on historicalexperience and on various other assumptions that we believe to be reasonablebased upon the information available to us, the results of which form abasis for making judgments about the carrying value of assets and liabilitiesthat are not readily available from other sources. Actual results may differfrom these estimates under different assumptions or conditions.

The following critical policies relate to the moresignificant judgments and estimates used in the preparation of the financialstatements:

*RevenueRecognition*—Revenue is recognized when product hasbeen shipped, risk of loss has passed to the purchaser and we have fulfilledall of our obligations. We provide for promotional discounts, estimated earlypayment discounts, estimated warranty costs and estimated returns in the periodthe related revenue is recognized. Certain of our customers have arrangementswhich include limited stock balancing return provisions. We provide anallowance for stock balance returns based on estimated expected returns. Salesto these customers represented 14.0%, 17.3% and 11.7% of net sales for theyears ended December 31, 2004, 2003 and 2002, respectively. Under theterms of the stock balancing agreements, the maximum amount of returns isapproximately $193,000 at December 31, 2004, of which we have recorded anallowance of $137,000 for estimated returns. This reserve is included in ourallowance for doubtful accounts and sales returns.

We make marketing development funds available to ourresellers to support demand generation activity by the resellers. We treatpayment of these funds as marketing costs up to the fair value of the benefitreceived where we receive an identifiable benefit and can reasonably estimatethe fair value of the benefit received in accordance with the requirements ofEITF 01-9, *Accounting for ConsiderationGiven by a Vendor to a Customer (Including a Reseller of the Vendor’s Products)*.Any payments to resellers that do not meet these requirements, including anypromotional discounts for the purchase of product, are recorded as reductionsto revenue.

*Allowancefor doubtful accounts and sales returns**—*We determine the estimate of theallowance for doubtful accounts and sales returns considering a number offactors, including: (1) historical experience, (2) aging of theaccounts receivable, (3) analysis of stock balancing agreements and (4) specificinformation obtained by us on the financial condition and the currentcreditworthiness of our customers. If the financing conditions of our customerswere to deteriorate and reduce the ability of our customers to make payments ontheir accounts, we may be required to increase our allowance by recordingadditional bad debt expense. Likewise, should the financial condition of ourcustomers improve and result in payments or settlements of previously reservedamounts, we may be required to record a reduction in bad debt expense toreverse the recorded allowance. Our allowance for doubtful accounts and salesreturns was $350,000 at December 31, 2004.

*Allowancefor excess and obsolete inventories*—We value ourinventories at the lower of the actual cost to purchase or manufacture, or thecurrent estimated market value. We regularly review our inventory 

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quantities on hand andrecord a provision for excess and obsolete inventory based primarily onestimated forecasts of product demand and production requirements for thesubsequent twelve and twenty-four month periods. We make every effort to ensurethe accuracy of our forecasts of future product demand, however any significantunanticipated changes in demand or technological developments could have asignificant impact on the value of inventories and reported operating results.Our allowance for excess and obsolete inventories at December 31, 2004,was $414,000.

*Warrantyaccrual**—*Ourproducts are generally covered by a standard one-year warranty from the date ofsale. Estimated warranty costs are accrued in the same period in which therelated revenue is recognized, based on anticipated parts and labor costs, utilizinghistorical experience. Our warranty accrual at December 31, 2004, was$392,000.

*Deferred tax assets*—Therealization of our deferred tax assets is dependent upon our ability togenerate sufficient future taxable income which we believe is more likely thannot. Historically, we have generated operating income and we anticipate futuretaxable income sufficient to realize the recorded deferred tax assets. Futuretaxable income is based on our forecasts of operating results, and there can beno assurance that such results will be achieved. Our deferred tax assets at December 31,2004 were $20,225,000.

**RecentlyIssued Accounting Standards**

In November 2004, the Financial AccountingStandards Board (“FASB”) issued Statement of Financial Accounting Standards No. 151,“Inventory Costs. An Amendment of ARB No. 43, Chapter 4” (“SFAS 151”),which is effective for fiscal years beginning after June 15, 2005. SFAS151 amends the guidance in ARB No. 43 to clarify the accounting forabnormal amounts of idle facility expense, freight, handling costs, and wastedmaterial (spoilage). Among other provisions, SFAS 151 requires that items suchas idle facility expense, excessive spoilage, double freight, and rehandlingcosts be recognized as current-period charges regardless of whether they meetthe criterion of “so abnormal” as stated in ARB No. 43. In addition, SFAS151 requires that allocation of fixed production overheads to the costs ofconversion be based on the normal capacity of the production facilities. Webelieve the adoption of SFAS 151 will not have any material effect on ourfinancial statements.

In December 2004, the FASB issued Statement ofFinancial Accounting Standards No. 123R, “Share-Based Payment” (“SFAS 123R”),which replaces SFAS 123 and supersedes APB Opinion No. 25, “Accounting forStock Issued to Employees”. SFAS 123R requires that the cost of all share-basedpayments to employees, including grants of employee stock options, berecognized in the financial statements based on their fair values. That costwill be recognized as an expense over the vesting period of the award. The proforma disclosures previously permitted under SFAS 123 (which are shown in Note1 to our financial statements on page F-10) no longer will be analternative to financial statement recognition. In addition, we will berequired to determine fair value in accordance with SFAS 123R. SFAS 123Ris effective for reporting periods beginning with the first interim or annualperiod after June 15, 2005, with early adoption encouraged, and requiresthe application of a transition methodology for stock options that have notvested as of the date of adoption. We are currently evaluating the impact ofSFAS 123R on our financial statements.

In December 2004, theFASB issued FSP FAS 109-1, *Application of FASB No. 109,Accounting for Income Taxes, to the Tax Deduction on Qualified ProductionActivities Provided by the American Jobs Creation Act of 2004.* FSPFAS No. 109-1 clarifies SFAS No. 109’s guidance that applies to thenew tax deduction for qualified domestic production activities. FSP No. 109-1became effective upon issuance and we believe that this pronouncement will havean insignificant impact on our effective tax rate in 2005.

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**Item 7A.**                QUANTITATIVE ANDQUALITATIVE DISCLOSURES ABOUT MARKET RISK.

Market risk is the risk ofloss to future earnings, to fair values or to future cash flows that may resultfrom changes in the price of a financial instrument. The value of a financialinstrument may change as a result of changes in interest rates, exchange rates,commodity prices, equity prices and other market changes. Market risk isattributed to all market sensitive financial instruments, including long-termdebt.

**Interest Rate Risk**

We are potentially exposedto market risk from interest rate changes in our credit agreement. Under theterms of our credit agreement, we may borrow at the prime rate of interest orLIBOR plus a margin of 1.50%. For borrowings under our credit agreement, wetypically lock into a fixed interest rate for periods between 30 to90 days. At December 31, 2003 and throughout 2004, we had noborrowings outstanding.

**Foreign Currency Risk**

We denominate all foreignsales in U.S. dollars and do not hedge against currency fluctuations. Wepurchase components and supplies from several Japanese suppliers. To date,currency fluctuations have not had a material effect on our results ofoperations or financial condition, but could in the future by causing ourproducts to become less affordable or less price competitive than those of foreignmanufacturers or by causing the costs of our material supplies to increase. Wemake all of our purchases in U.S. dollars and we believe that we have reducedthe risks of increased purchasing costs that would otherwise occur if thedollar weakens relative to the yen. We have foregone the opportunity, however,to benefit from the full potential cost savings if the dollar strengthensrelative to the yen.

**Item 8.**                        FINANCIALSTATEMENTS AND SUPPLEMENTARY DATA.

**Financial Statements**

Our financial statements andrelated notes are contained on pages F-1 to F-18 of this report. The indexto such items is included in Item 15(a)(i).

**Quarterly Results**

Thefollowing table sets forth certain unaudited quarterly financial data for 2004and 2003. In our opinion, this unaudited information has been prepared on thesame basis as the audited information and includes all adjustments (consistingonly of normal recurring adjustments) necessary to present fairly theinformation set forth therein. The operating results for any quarter are notnecessarily indicative of results for any future period.
| ** **                     | ** ** | **Three Months Ended**                                                | ** ** |
|--------------------------------|------------|---------------------------------------------------------------------------------|------------|
| ** **                     | ** ** | **   March 31,     2003**                    | ** ** | **June 30,  2003** | ** ** | **September 30,  2003** | ** ** | **December 31,  2003** | ** ** |
| ** **                     | ** ** | **(Amounts in thousands, except per share data)** | ** ** |
| Net sales                      |       |                                                                            | $          | 15,479 |   |   | $ | 16,492 |   |   | $ | 17,059 |   |   |   | $ | 16,461 |   |   |
| Gross profit                   |       |                                                                            | 6,190      |   |   | 6,672 |   |   | 7,269 |   |   |   | 6,752 |   |   |
| Operating expenses             |       |                                                                            | 4,240      |   |   | 4,039 |   |   | 3,774 |   |   |   | 4,249 |   |   |
| Operating income               |       |                                                                            | 1,950      |   |   | 2,633 |   |   | 3,495 |   |   |   | 2,503 |   |   |
| Net income                     |       |                                                                            | $          | 1,315 |   |   | $ | 1,766 |   |   | $ | 2,459 |   |   |   | $ | 1,700 |   |   |
| Net income per common share:   |       |                                                                            |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Basic earnings per share(1)    |       |                                                                            | $          | 0.11 |   |   | $ | 0.14 |   |   | $ | 0.20 |   |   |   | $ | 0.14 |   |   |
| Diluted earnings per  share(1) |       |                                                                            | $          | 0.10 |   |   | $ | 0.14 |   |   | $ | 0.19 |   |   |   | $ | 0.13 |   |   |

 

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| ** **                    | ** ** | **Three Months Ended**                                                          | ** ** |
|-------------------------------|------------|---------------------------------------------------------------------------------|------------|
| ** **                    | ** ** | **March 31,  2004**                                                        | ** ** | **June 30,  2004** | ** ** | **September 30,  2004** | ** ** | **December 31,  2004** | ** ** |
| ** **                    | ** ** | **(Amounts in thousands, except per share data)** | ** ** |
| Net sales                     |       |                                                                            | $          | 15,554 |   |   | $ | 17,545 |   |   | $ | 19,626 |   |   |   | $ | 19,668 |   |   |
| Gross profit                  |       |                                                                            | 6,521      |   |   | 6,812 |   |   | 8,068 |   |   |   | 7,673 |   |   |
| Operating expenses            |       |                                                                            | 4,379      |   |   | 4,257 |   |   | 4,909 |   |   |   | 4,666 |   |   |
| Operating income              |       |                                                                            | 2,142      |   |   | 2,555 |   |   | 3,159 |   |   |   | 3,007 |   |   |
| Net income                    |       |                                                                            | $          | 1,427 |   |   | $ | 1,747 |   |   | $ | 2,305 |   |   |   | $ | 2,237 |   |   |
| Net income per common share:  |       |                                                                            |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Basic earnings per share(1)   |       |                                                                            | $          | 0.11 |   |   | $ | 0.14 |   |   | $ | 0.18 |   |   |   | $ | 0.18 |   |   |
| Diluted earnings per share(1) |       |                                                                            | $          | 0.11 |   |   | $ | 0.14 |   |   | $ | 0.18 |   |   |   | $ | 0.17 |   |   |

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(1)          Thesummation of quarterly per share amounts may not equal the calculation for thefull year, as each quarterly calculation is performed discretely.

**Item 9.**                        CHANGES INAND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.

None.

**Item 9A**                   Controls andProcedures

*Evaluation of Disclosure Controlsand Procedures.  *Based on their evaluation as of the endof the period covered by this Annual Report on Form 10-K, our ChiefExecutive Officer and Chief Financial Officer have concluded that thedisclosure controls and procedures (as defined in Rules 13a-15(e) and15d-15(e) of the Securities Exchange Act of 1934) are effective toensure that information required to be disclosed by us in reports that we fileor submit under the Securities Exchange Act of 1934 is recorded, processed,summarized and reported within the time periods specified in Securities andExchange Commission rules and forms. Additionally, our disclosure controlsand procedures were also effective in ensuring that information required to bedisclosed in our Exchange Act reports is accumulated and communicated to ourmanagement, including our Chief Executive Officer and Chief Financial Officerto allow timely decisions regarding required disclosures

*Management’s Report on Internal Control over Financial Reporting*.   Our management isresponsible for establishing and maintaining internal control over financialreporting as defined in Rule 13a-15(f) of the SecuritiesExchange Act of 1934. Our internal control over financial reporting is aprocess designed to provide reasonable assurance regarding the reliability offinancial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles. Ourinternal control over financial reporting includes those policies andprocedures that (i) pertain to the maintenance of records that, inreasonable detail, accurately and fairly reflect the transactions anddispositions of our assets; (ii) provide reasonable assurance thattransactions are recorded as necessary to permit preparation of financialstatements in accordance with generally accepted accounting principles, andthat our receipts and expenditures are being made only in accordance withauthorizations of our management and directors; and (iii) providereasonable assurance regarding prevention or timely detection of unauthorizedacquisition, use, or disposition of our assets that could have a materialeffect on the financial statements.

Because ofits inherent limitations, internal control over financial reporting may notprevent or detect misstatements. Also, projections of any evaluation ofeffectiveness to future periods are subject to the risk that controls maybecome inadequate because of changes in conditions, or that the degree ofcompliance with the policies or procedures may deteriorate.

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Managementhas assessed our internal control over financial reporting based on criteriadescribed in *Internal Control—IntegratedFramework*, issued by the Committee of Sponsoring Organizations ofthe Treadway Commission. Based on this assessment using those criteria, weconcluded that, as of December 31, 2004, our internal control overfinancial reporting was effective.

Ourmanagement’s assessment of the effectiveness of our internal control overfinancial reporting as of December 31, 2004 has been audited byPricewaterhouseCoopers LLP, an independent registered public accounting firm,as stated in their report which appears on page F-2 of this AnnualReport on Form 10-K.

*Changes in Internal Control overFinancial Reporting.  *There was no change in our internal control over financialreporting that occurred during the fourth quarter of fiscal 2004 that hasmaterially affected, or is reasonably likely to materially affect, our internalcontrol over financial reporting.

**Item 9B.**               OTHER INFORMATION.

None.

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**PART III**

**Item 10.**                 DIRECTORS ANDEXECUTIVE OFFICERS OF THE REGISTRANT.

(a)*   Directors of the Registrant.*

Theinformation under the caption “Election of Directors—Directors Nominated ForElection” and “—Directors Continuing in Office” in our 2005 Proxy Statementis incorporated herein by reference.

(b)*   Executive Officers of the Registrant.*

Informationconcerning our Executive Officers is included in this Annual Report on Form 10-Kunder Item 4A, “Executive Officers of Fargo.”

(c)*   Compliance with Section 16(a) of the Exchange Act.*

Theinformation under the caption “Section 16(a) Beneficial OwnershipReporting Compliance” in our 2005 Proxy Statement is incorporated herein byreference.

(d)*   Audit Committee Financial Expert.*

Theinformation under the caption “Election of Directors––Additional InformationAbout our Board and its Committees” in our 2005 Proxy Statement is incorporatedherein by reference.

(e)*   Identification of the Audit Committee.*

Theinformation under the caption “Election of Directors––Additional InformationAbout our Board and its Committees” in our 2005 Proxy Statement is incorporatedherein by reference.

(f)*    Code of Ethics for Senior Financial Officers.*

We have adopted a Code ofEthics that applies to our principal executive officer, principal financialofficer and director of finance. We have posted our Code of Ethics for SeniorFinancial Officers on our investor relations page of our web site. Thecorporate governance page can be accessed on our web site at *www.fargo.com.*

**Item 11.**                 EXECUTIVE COMPENSATION.

The information under thecaption “Executive Compensation” in our 2005 Proxy Statement is incorporatedherein by reference.

**Item 12.**                 SECURITYOWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.

The information under thecaptions “Security Ownership of Certain Beneficial Owners and Management” and “ExecutiveCompensation—Securities Authorized for Issuance Under Equity Compensation Plans”in our 2005 Proxy Statement is incorporated herein by reference.

**Item 13.**                 CERTAINRELATIONSHIPS AND RELATED TRANSACTIONS.

The information under thecaption “Executive Compensation—Certain Transactions” in our 2005 ProxyStatement is incorporated herein by reference.

**Item 14.**                 PRINCIPALACCOUNTANT FEES AND SERVICES.

The information under thecaption “Independent Accountants––Fees of Independent Auditors” in our 2005Proxy Statement is incorporated herein by reference.

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**PART IV**

**Item 15.**                 EXHIBITS,FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

**(a)   Listof documents filed as part of this report:**

(1)*   Financial Statements:*

Thefollowing financial statements are included in this report on the pages indicated:
| Report of Independent  Registered Public Accounting Firm                                                                |   | F-2  to F-3 |   |
|-------------------------------------------------------------------------------------------------------------------------|--------|-------------|--------|
| Balance Sheets at  December 31, 2004 and 2003                                                                      |   | F-4         |   |
| Statements of Operations for  the years ended December 31, 2004, 2003 and 2002                                     |   | F-5         |   |
| Statement of Changes in  Stockholders’ Equity for the years ended December 31, 2004, 2003 and 2002  |   | F-6         |   |
| Statements of Cash Flows for the years  ended December 31, 2004, 2003 and 2002                                     |   | F-7         |   |
| Notes  to Financial Statements                                                                                          |   | F-8 to F-18 |   |

 

(2)*   Financial Statement Schedule:*

The following financialstatement schedule is included herein and should be read in conjunction withthe financial statements referred to above:
| Report of Independent  Registered Public Accounting Firm on Financial Statement Schedule |   |   |   |
|------------------------------------------------------------------------------------------|--------|--------|--------|
| Schedule II—Valuation  and Qualifying Accounts                                 |   |   |   |

 

All other schedules are omitted as the requiredinformation is inapplicable or the information is presented in the financialstatements or related notes.

35

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**Report of Registered Public Accounting Firm onFinancial Statement Schedule**

To the Stockholders andBoard of Directors of Fargo Electronics, Inc.:

Our audits of the financial statements, of management’sassessment of the effectiveness of internal control over financial reportingand of the effectiveness of internal control over financial reporting referredto in our report dated March 14, 2005, appearing in the 2004 Annual Reportto Shareholders of Fargo Electronics, Inc. (which report, financialstatements and assessment are incorporated by reference in this Annual Reporton Form 10-K) also included an audit of the financial statement schedulelisted in Item 15(a)(2) of this Form 10-K. In our opinion, thisfinancial statement schedule presents fairly, in all material respects, theinformation set forth therein when read in conjunction with the relatedfinancial statements.
| /s/ PRICEWATERHOUSECOOPERS LLP |   |   |   |
|--------------------------------|--------|--------|--------|
| Minneapolis, Minnesota         |   |
| March 14, 2005            |   |

 

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**ScheduleIIValuation and Qualifying Accounts**
| **Description**                             | ** ** | ** ** | ** ** | **Balance at  Beginning  of Period** | ** ** | ** Charged to   Costs and  Expenses** | ** ** | ** Deductions ** | ** ** | **Balance at  End of  Period** | ** ** |
|---------------------------------------------|------------|------------|------------|------------------------------------------------|------------|-----------------------------------------------------------|------------|----------------------------|------------|------------------------------------------|------------|
| Valuation account for  accounts receivable: |       |       |       |                                           |       |                                                      |       |                       |       |                                     |       |   |   |
| Year ended December 31, 2004(1)        |       | $          | 400,000    |                                           |       | $                                                         | 612,668    |                       |       |                                     | $          | 662,668 |   |   | $ | 350,000 |   |
| Year ended December 31, 2003(1)        |       | $          | 400,000    |                                           |       | $                                                         | 724,867    |                       |       |                                     | $          | 724,867 |   |   | $ | 400,000 |   |
| Year ended December 31, 2002(1)        |       | $          | 300,000    |                                           |       | $                                                         | 868,165    |                       |       |                                     | $          | 768,165 |   |   | $ | 400,000 |   |
| Valuation account for  inventories:         |       |       |       |                                           |       |                                                      |       |                       |       |                                     |       |   |   |
| Year ended December 31, 2004           |       | $          | 771,000    |                                           |       | $                                                         | 106,505    |                       |       |                                     | $          | 463,505 |   |   | $ | 414,000 |   |
| Year ended December 31, 2003           |       | $          | 634,372    |                                           |       | $                                                         | 232,722    |                       |       |                                     | $          | 96,094 |   |   | $ | 771,000 |   |
| Year ended  December 31, 2002          |       | $          | 1,025,000  |                                           |       | $                                                         | 19,174     |                       |       |                                     | $          | 409,802 |   |   | $ | 634,372 |   |

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(1)          Amounts charged to costsand expenses include sales returns, sales credits and bad debt expense.

37

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*(3)*   Exhibits

The exhibits to thisAnnual Report on Form 10-K are listed in the Exhibit Indexcontained on pages E-1 through E-3 of this report.

We will furnish a copy ofany exhibit to a stockholder who requests a copy in writing. We reserve theright to charge a reasonable fee to cover our costs. Requests should be sentto: Paul W.B. Stephenson, Chief Financial Officer, Fargo Electronics, Inc, 6533Flying Cloud Drive, Eden Prairie, MN 55344.

Thefollowing is a list of each management contract or compensatory plan orarrangement required to be filed as an exhibit to this Annual Report on Form 10-Kpursuant to Item 15(c):

A.             Amendedand Restated 1998 Stock Option and Grant Plan (incorporated by reference to Exhibit 10.2to Fargo’s Form 10-K for the fiscal year ended December 31,2000 (File No. 333-90937)).

B.              2001Employee Stock Purchase Plan (incorporated by reference to Exhibit 10.20to Fargo’s Form 10-K for the fiscal year ended December 31,2000 (File No. 333-90937)).

C.              Form ofRestricted Stock Agreement under the Amended and Restated 1998 Stock Option andGrant Plan (incorporated by reference to Exhibit 10.3 to Fargo’sRegistration Statement on Form S-1 (File No. 333-90937)).

D.             Form ofIncentive Stock Option Agreement under the Amended and Restated 1998 StockOption and Grant Plan (incorporated by reference to Exhibit 10.5 to Fargo’sRegistration Statement on Form S-1 (File No. 333-90937)).

E.              Form ofNon-qualified Stock Option Agreement under the Amended and Restated 1998 StockOption and Grant Plan (incorporated by reference to Exhibit 10.4 to Fargo’sRegistration Statement on Form S-1 (File No. 333-90937)).

F.               Form ofIndemnification Agreement for directors and executive officers of Fargo(incorporated by reference to Exhibit 10.9 to Fargo’s RegistrationStatement on Form S-1 (File No. 333-90937)).

G.            2003Stock Incentive Plan (incorporated by reference to Exhibit 10.1 to Fargo’sForm 10-Q for the quarter ended September 30, 2003 (File No. 000-29029)).

H.            Form ofNon-qualified Stock Option Agreement under the 2003 Stock Incentive Plan(incorporated by reference to Exhibit 10.30 to Fargo’s Form 10-Kfor the fiscal year ended December 31, 2003 (File No. 000-29029)).

I.                  Form ofOfficers Agreement dated December 8, 2004 (incorporated by reference to Exhibit 10.1of Fargo’s Form 8-K filed on December 13, 2004 (File No. 000-29029)).

J.                 2005Non-Employee Director Compensation (incorporated by reference to Exhibit 10.2of Fargo’s Form 8-K filed on December 13, 2004 (File No. 000-29029)).

K.             Amendedand Restated Employment Agreement dated June 19, 2001 between FargoElectronics, Inc. and Gary R. Holland, as amended (incorporated byreference to Exhibit 99(e)(6) of Fargo’s Schedule 14D-9 filedon August 3, 2001 (File No. 005-59663))

**(b)   Exhibits:**

The response to thisportion of Item 15 is included as a separate section of this Annual Report on Form 10-K.

**(c)   FinancialStatement Schedules:**

See Item 15, section (a) 2above for the financial statement schedule filed herewith.

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**SIGNATURES**

Pursuant to therequirements of Section 13 or 15(d) of the Securities Exchange Act of1934, the registrant has duly caused this Report to be signed on its behalf bythe undersigned, thereunto duly authorized.
|          | **FARGO ELECTRONICS, INC.** |
|----------|----------------------------------|
|          | By                               | /s/  GARY R. HOLLAND |
|     |                             | Gary R. Holland |
| * * |                             | *Chairman  of the Board of Directors, President and Chief Executive Officer* |

 

Pursuantto the requirements of the Securities Exchange Act of 1934, this Report hasbeen signed below on March 16, 2005 by the following persons on behalf ofthe Registrant and in the capacities indicated.
|                           | **Signature** | ** **                                                           | ** ** | ** ** | **Title** | ** ** |
|---------------------------|---------------|----------------------------------------------------------------------|------------|------------|-----------|------------|
| /s/  GARY R. HOLLAND      |          | Chairman of the Board of  Directors,                                 |
| Gary R. Holland           |          | President and Chief Executive Officer (Principal  Executive Officer) |
| /s/  PAUL W.B. STEPHENSON |          | Chief Financial Officer                                              |
| Paul W.B.  Stephenson     |          | (Principal Financial Officer and Principal  Accounting Officer)      |
| /s/  EDWARD H. BERSOFF    |          | Director                                                             |
| Edward H. Bersoff         |          |                                                                 |
| /s/  WILLIAM H. GIBBS     |          | Director                                                             |
| William H. Gibbs          |          |                                                                 |
| /s/  KENT O. LILLEMOE     |          | Director                                                             |
| Kent O. Lillemoe          |          |                                                                 |
| /s/  DAVID D. MURPHY      |          | Director                                                             |
| David D. Murphy           |          |                                                                 |
| /s/  ELAINE A. PULLEN     |          | Director                                                             |
| Elaine A. Pullen          |          |                                                                 |
| /s/  EDWARD J. SMITH      |          | Director                                                             |
| Edward J. Smith           |          |                                                                 |

 

 

39

----

 

**FargoElectronics, Inc.IndexDecember 31, 2004 and 2003**
| Report of Independent  Registered Public Accounting Firm |   | F-2  to F-3  |
|----------------------------------------------------------|--------|--------------|
| **Financial  Statements**                                |   |         |
| Balance Sheets                                           |   | F-4          |
| Statements of Operations                                 |   | F-5          |
| Statement of Changes in  Stockholders’ Equity       |   | F-6          |
| Statements of Cash Flows                                 |   | F-7          |
| Notes to Financial Statements                            |   | F-8  to F-18 |

 

F-1

----

**Report of Independent Registered Public AccountingFirm**

To****theStockholders and Board of Directorsof Fargo Electronics, Inc.:

We have completed anintegrated audit of Fargo Electronics, Inc.’s2004 financial statements and of its internal control over financial reportingas of December 31, 2004 and audits of its 2003 and 2002 financialstatements in accordance with the standards of the Public Company AccountingOversight Board (United States). Our opinions, based on our audits, arepresented below.

*Financial statements*

In our opinion, theaccompanying balance sheets and the related statements of operations, changesin stockholders’ equity and cash flows present fairly, in all materialrespects, the financial position of FargoElectronics, Inc.****at December 31,2004 and 2003, and the results of its operations and its cash flows for each ofthe three years in the period ended December 31, 2004, in conformity withaccounting principles generally accepted in the United States of America. Thesefinancial statements are the responsibility of the Company’s management. Ourresponsibility is to express an opinion on these financial statements based onour audits. We conducted our audits of these statements in accordance with thestandards of the PublicCompany Accounting Oversight Board (United States). Those standardsrequire that we plan and perform the audit to obtain reasonable assurance aboutwhether the financial statements are free of material misstatement. An audit offinancial statements includes examining, on a test basis, evidence supportingthe amounts and disclosures in the financial statements, assessing theaccounting principles used and significant estimates made by management, andevaluating the overall financial statement presentation. We believe that ouraudits provide a reasonable basis for our opinion.

*Internal controlover financial reporting*

Also, in our opinion, management’s assessment,included in Management’s Report on Internal Control over Financial Reportingappearing in Item 9a of the 2004 Annual Report to Stockholders, that the Company maintained effective internalcontrol over financial reporting as of December 31, 2004, based oncriteria established in *Internal Control—IntegratedFramework* issued by the Committee of Sponsoring Organizations of theTreadway Commission (COSO), is fairly stated, in all material respects, basedon those criteria. Furthermore, in our opinion, the Company maintained, in allmaterial respects, effective internal control over financial reporting as of December 31,2004, based on criteria established in *Internal Control—IntegratedFramework* issued by the COSO. The Company’s management isresponsible for maintaining effective internal control over financial reportingand for its assessment of the effectiveness of internal control over financialreporting. Our responsibility is to express opinions on management’s assessmentand on the effectiveness of the Company’s internal control over financialreporting based on our audit. We conducted our audit of internal control overfinancial reporting in accordance with the standards of the Public CompanyAccounting Oversight Board (United States). Those standards require that weplan and perform the audit to obtain reasonable assurance about whethereffective internal control over financial reporting was maintained in allmaterial respects. An audit of internal control over financial reportingincludes obtaining an understanding of internal control over financialreporting, evaluating management’s assessment, testing and evaluating thedesign and operating effectiveness of internal control, and performing suchother procedures as we consider necessary in the circumstances. We believe thatour audit provides a reasonable basis for our opinions.

A company’s internal control over financial reportingis a process designed to provide reasonable assurance regarding the reliabilityof financial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles. A company’sinternal control over financial reporting includes those policies andprocedures that (i) pertain to the maintenance 

F-2

----

of records that, inreasonable detail, accurately and fairly reflect the transactions anddispositions of the assets of the company; (ii) provide reasonableassurance that transactions are recorded as necessary to permit preparation offinancial statements in accordance with generally accepted accountingprinciples, and that receipts and expenditures of the company are being made onlyin accordance with authorizations of management and directors of the company;and (iii) provide reasonable assurance regarding prevention or timelydetection of unauthorized acquisition, use, or disposition of the company’sassets that could have a material effect on the financial statements.

Because of its inherentlimitations, internal control over financial reporting may not prevent ordetect misstatements. Also, projections of any evaluation of effectiveness tofuture periods are subject to the risk that controls may become inadequatebecause of changes in conditions, or that the degree of compliance with thepolicies or procedures may deteriorate.

**/s/PRICEWATERHOUSECOOPERS LLP**

Minneapolis,Minnesota

March 14, 2005

F-3

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**Fargo Electronics, Inc.Balance SheetsDecember 31, 2004 and 2003(in thousands, except per share data)**
| ** **                                                                                                                                                 | ** ** | **2004** | ** ** | **2003** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------|------------|----------|------------|
| **Assets**                                                                                                                                                 |       |     |       |     |       |
| Current assets                                                                                                                                             |       |     |       |     |       |
| Cash and cash equivalents                                                                                                                                  |       | $        | 23,435     |     | $          | 13,445 |   |
| Accounts receivable, net                                                                                                                                   |       | 9,702    |       | 7,015    |       |
| Inventories, net                                                                                                                                           |       | 6,219    |       | 4,848    |       |
| Prepaid expenses                                                                                                                                           |       | 271      |       | 233      |       |
| Deferred income taxes                                                                                                                                      |       | 3,259    |       | 3,412    |       |
| Total current assets                                                                                                                                       |       | 42,886   |       | 28,953   |       |
| Equipment and  leasehold improvements, net                                                                                                                 |       | 2,026    |       | 2,107    |       |
| Deferred income  taxes                                                                                                                                     |       | 16,966   |       | 19,730   |       |
| Other                                                                                                                                                      |       | 27       |       | 17       |       |
| Total assets                                                                                                                                               |       | $        | 61,905     |     | $          | 50,807 |   |
| **Liabilities  and Stockholders’ Equity**                                                                                                             |       |     |       |     |       |
| Current liabilities                                                                                                                                        |       |     |       |     |       |
| Accounts payable                                                                                                                                           |       | $        | 6,018      |     | $          | 3,802 |   |
| Accrued liabilities                                                                                                                                        |       | 2,806    |       | 2,765    |       |
| Total current liabilities                                                                                                                                  |       | 8,824    |       | 6,567    |       |
| Commitments and contingencies                                                                                                                              |       | —   |       | —   |       |
| Stockholders’  equity                                                                                                                                 |       |     |       |     |       |
| Common stock, $.01 par value; 50,000 shares  authorized, 12,603 and 12,455 shares issued and outstanding at  December 31, 2004 and 2003, respectively |       | 126      |       | 125      |       |
| Additional paid-in capital                                                                                                                                 |       | 150,303  |       | 149,179  |       |
| Accumulated deficit                                                                                                                                        |       | (97,348  | )          | (105,064 | )          |
| Total stockholders’ equity                                                                                                                            |       | 53,081   |       | 44,240   |       |
| Total liabilities  and stockholders’ equity                                                                                                           |       | $        | 61,905     |     | $          | 50,807 |   |

 

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

F-4

----

**Fargo Electronics, Inc.Statements of OperationsYears Ended December 31, 2004, 2003 and 2002(in thousands, except per share data)**
| ** **                                   | ** ** | **2004** | ** ** | **2003** | ** ** | **2002** | ** ** |
|----------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Net sales                                    |       | $        | 72,393     |     | $          | 65,491   |       | $ | 66,035 |   |
| Cost of sales                                |       | 43,319   |       | 38,608   |       | 39,199   |       |
| Gross profit                                 |       | 29,074   |       | 26,883   |       | 26,836   |       |
| Operating  expenses                          |       |     |       |     |       |     |       |
| Research and development                     |       | 5,151    |       | 4,801    |       | 4,529    |       |
| Selling, general and administrative          |       | 13,060   |       | 11,501   |       | 11,387   |       |
| Terminated acquisition costs                 |       | —   |       | —   |       | 552      |       |
| Total operating expenses                     |       | 18,211   |       | 16,302   |       | 16,468   |       |
| Operating income                             |       | 10,863   |       | 10,581   |       | 10,368   |       |
| Other income  (expense)                      |       |     |       |     |       |     |       |
| Interest expense                             |       | (7       | )          | (29      | )          | (554     | )          |
| Interest income                              |       | 200      |       | 32       |       | 187      |       |
| Other, net                                   |       | (2       | )          | —   |       | —   |       |
| Total other income (expense)                 |       | 191      |       | 3        |       | (367     | )          |
| Income before  provision for income taxes    |       | 11,054   |       | 10,584   |       | 10,001   |       |
| Provision for  income taxes                  |       | 3,338    |       | 3,344    |       | 3,265    |       |
| Net income  available to common stockholders |       | $        | 7,716      |     | $          | 7,240    |       | $ | 6,736 |   |
| Net income per common  share                 |       |     |       |     |       |     |       |
| Basic earnings per share                     |       | $        | .62        |     | $          | .58      |       | $ | .56 |   |
| Diluted earnings per share                   |       | $        | .60        |     | $          | .57      |       | $ | .55 |   |
| Weighted average  common shares outstanding  |       |     |       |     |       |     |       |
| Basic                                        |       | 12,515   |       | 12,397   |       | 12,048   |       |
| Diluted                                      |       | 12,869   |       | 12,799   |       | 12,331   |       |

 

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

F-5

----

**FargoElectronics, Inc.Statement of Changes inStockholders’ EquityYears Ended December 31, 2004, 2003 and 2002(in thousands)**
| ** **                                                               | ** ** | **Common Stock**      | ** ** | **Additional**                         | ** ** | ** **           | ** ** | ** **               | ** ** | **Stock**                  | ** ** | **Total**                    | ** ** |
|--------------------------------------------------------------------------|------------|----------------------------|------------|----------------------------------------|------------|----------------------|------------|--------------------------|------------|----------------------------|------------|------------------------------|------------|
| ** **                                                               | ** ** | **Number of  Shares** | ** ** | **Par    Value  ** | ** ** | **Paid-in  Capital** | ** ** | **Accumulated  Deficit** | ** ** | **Deferred  Compensation** | ** ** | **Subscription  Receivable** | ** ** | **Stockholders’  Equity** | ** ** |
| **Balances at December 31, 2001**                                   |       |                       | 11,781     |                                   |       |                 | $          | 118                      |       |                       |       | $                            | 145,229    |   |   |   | $ | (119,040 | ) |   |   | $ | (44 | ) |   |   | $ | (625 | ) |   |   | $ | 25,638 |   |   |
| Proceeds from secondary public offering, net of $800  for offering costs |       |                       | 525        |                                   |       |                 | 5          |                     |       |                       | 3,132      |                         |       |   | — |   |   |   | — |   |   |   | — |   |   |   | 3,137 |   |   |
| Shares issued from exercise of stock options and  stock purchase plan    |       |                       | 45         |                                   |       |                 | 1          |                     |       |                       | 148        |                         |       |   | — |   |   |   | — |   |   |   | — |   |   |   | 149 |   |   |
| Proceeds from stock subscription receivable                              |       |                       | —     |                                   |       |                 | —     |                     |       |                       | —     |                         |       |   | — |   |   |   | — |   |   |   | 625 |   |   |   | 625 |   |   |
| Amortization of deferred compensation                                    |       |                       | —     |                                   |       |                 | —     |                     |       |                       | —     |                         |       |   | — |   |   |   | 28 |   |   |   | — |   |   |   | 28 |   |   |
| Net income                                                               |       |                       | —     |                                   |       |                 | —     |                     |       |                       | —     |                         |       |   | 6,736 |   |   |   | — |   |   |   | — |   |   |   | 6,736 |   |   |
| **Balances at December 31, 2002**                                   |       |                       | 12,351     |                                   |       |                 | 124        |                     |       |                       | 148,509    |                         |       |   | (112,304 | ) |   |   | (16 | ) |   |   | — |   |   |   | 36,313 |   |   |
| Shares issued from exercise of stock options and  stock purchase plan    |       |                       | 104        |                                   |       |                 | 1          |                     |       |                       | 471        |                         |       |   | — |   |   |   | — |   |   |   | — |   |   |   | 472 |   |   |
| Amortization of deferred compensation                                    |       |                       | —     |                                   |       |                 | —     |                     |       |                       | —     |                         |       |   | — |   |   |   | 16 |   |   |   | — |   |   |   | 16 |   |   |
| Tax benefit recognized for stock options                                 |       |                       | —     |                                   |       |                 | —     |                     |       |                       | 199        |                         |       |   | — |   |   |   | — |   |   |   | — |   |   |   | 199 |   |   |
| Net income                                                               |       |                       | —     |                                   |       |                 | —     |                     |       |                       | —     |                         |       |   | 7,240 |   |   |   | — |   |   |   | — |   |   |   | 7,240 |   |   |
| **Balances at December 31, 2003**                                   |       |                       | 12,455     |                                   |       |                 | 125        |                     |       |                       | 149,179    |                         |       |   | (105,064 | ) |   |   | — |   |   |   | — |   |   |   | 44,240 |   |   |
| Shares issued from exercise of stock options and  stock purchase plan    |       |                       | 148        |                                   |       |                 | 1          |                     |       |                       | 865        |                         |       |   | — |   |   |   | — |   |   |   | — |   |   |   | 866 |   |   |
| Tax benefit recognized for stock options                                 |       |                       | —     |                                   |       |                 | —     |                     |       |                       | 259        |                         |       |   | — |   |   |   | — |   |   |   | — |   |   |   | 259 |   |   |
| Net income                                                               |       |                       | —     |                                   |       |                 | —     |                     |       |                       | —     |                         |       |   | 7,716 |   |   |   | — |   |   |   | — |   |   |   | 7,716 |   |   |
| **Balances  at December 31, 2004**                                  |       |                       | 12,603     |                                   |       |                 | $          | 126                      |       |                       |       | $                            | 150,303    |   |   |   | $ | (97,348 | ) |   |   | $ | — |   |   |   | $ | — |   |   |   | $ | 53,081 |   |   |

 

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

F-6

----

**FargoElectronics, Inc.Statements of Cash FlowsYears Ended December 31, 2004, 2003 and 2002(in thousands)**
| ** **                                                                        | ** ** | **2004** | ** ** | **2003** | ** ** | **2002** | ** ** |
|-----------------------------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| **Cash flows from operating  activities**                                         |       |     |       |     |       |     |       |
| Net income                                                                        |       | $        | 7,716      |     | $          | 7,240    |       | $ | 6,736 |   |
| Adjustments to  reconcile net income to net cash provided by operating activities |       |     |       |     |       |     |       |
| Depreciation and amortization                                                     |       | 1,092    |       | 1,016    |       | 1,169    |       |
| Loss on disposal of equipment                                                     |       | 2        |       | 15       |       | 67       |       |
| Provision for doubtful accounts                                                   |       | —   |       | 10       |       | 104      |       |
| Provision for excess and obsolete inventories                                     |       | 107      |       | 233      |       | 19       |       |
| Deferred income taxes                                                             |       | 2,917    |       | 2,104    |       | 2,793    |       |
| Deferred compensation                                                             |       | —   |       | 16       |       | 28       |       |
| Tax benefit recognized for stock options                                          |       | 259      |       | 199      |       | —   |       |
| Changes in operating assets and liabilities                                       |       |     |       |     |       |     |       |
| Accounts receivable                                                               |       | (2,687   | )          | 2,117    |       | (1,533   | )          |
| Inventories                                                                       |       | (1,478   | )          | 240      |       | (96      | )          |
| Prepaid expenses and other assets                                                 |       | (53      | )          | 44       |       | (106     | )          |
| Accounts payable                                                                  |       | 2,156    |       | (1,537   | )          | 794      |       |
| Accrued liabilities                                                               |       | 41       |       | 178      |       | 327      |       |
| Net cash provided by operating activities                                         |       | 10,072   |       | 11,875   |       | 10,302   |       |
| **Cash flows from investing  activities**                                         |       |     |       |     |       |     |       |
| Purchases of  equipment and leasehold improvements                                |       | (948     | )          | (1,413   | )          | (1,169   | )          |
| Net cash used in investing activities                                             |       | (948     | )          | (1,413   | )          | (1,169   | )          |
| **Cash flows from financing  activities**                                         |       |     |       |     |       |     |       |
| Proceeds from  secondary public offering, net of $800 for offering costs          |       | —   |       | —   |       | 3,137    |       |
| Payments on notes  payable, bank                                                  |       | —   |       | —   |       | (14,000  | )          |
| Proceeds from  revolving credit facility                                          |       | —   |       | —   |       | 2,000    |       |
| Payments on  revolving credit facility                                            |       | —   |       | —   |       | (2,000   | )          |
| Payments of  deferred financing costs                                             |       | —   |       | —   |       | (119     | )          |
| Proceeds from  exercise of stock options                                          |       | 866      |       | 472      |       | 149      |       |
| Proceeds from  stock subscription receivable                                      |       | —   |       | —   |       | 625      |       |
| Net cash provided by (used in) financing activities                               |       | 866      |       | 472      |       | (10,208  | )          |
| Net increase (decrease) in cash and cash equivalents                              |       | 9,990    |       | 10,934   |       | (1,075   | )          |
| **Cash  and cash equivalents**                                                    |       |     |       |     |       |     |       |
| Beginning of  period                                                              |       | 13,445   |       | 2,511    |       | 3,586    |       |
| End of period                                                                     |       | $        | 23,435     |     | $          | 13,445   |       | $ | 2,511 |   |
| **Cash paid during the period for**                                               |       |     |       |     |       |     |       |
| Income taxes                                                                      |       | $        | 466        |     | $          | 797      |       | $ | 480 |   |
| Interest                                                                          |       | 7        |       | 19       |       | 347      |       |
| **Significant  noncash financing and investing activities**                       |       |     |       |     |       |     |       |
| Purchase of equipment  included in accounts payable                               |       | 60       |       | 230      |       | —   |       |

 

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

F-7

----

**FargoElectronics, Inc.Notes to Financial StatementsDecember 31, 2004 and 2003**

**1.   Natureof Business and Summary of Significant Accounting Policies**

**Nature of Business**

Fargo Electronics, Inc.(“Fargo” or the “Company”) develops, manufactures and supplies securetechnologies for identity card issuance systems, including secure cardprinter/encoders, materials and software. The Company sells its productsexclusively through a distribution channel of system integrators, independentdistributors and integrators in more than 80 countries worldwide.

**Cash and Cash Equivalents**

All highly liquidinvestments with original maturities of three months or less are consideredcash equivalents. Substantially all of the Company’s cash and cash equivalentsare held by two financial institutions.

**Inventories**

Inventories, which consistprimarily of raw materials, are stated at the lower of cost or market, withcost being determined by the first-in, first-out (“FIFO”) method. Allowancesfor write-downs to the lower of cost or market are recorded for estimatedexcess and obsolete inventories based primarily on forecasts of product demandand estimated production requirements.

**Equipmentand Leasehold Improvements**

Equipment and leasehold improvements are stated atcost. Equipment is depreciated over the estimated useful lives of the assets(three to seven years) generally using accelerated methods. Leaseholdimprovements are amortized over the shorter of estimated useful lives or theterms of the related leases. Software and capitalized web site development,included in Office equipment and other, is depreciated using the straight-linemethod over the estimated useful lives of the assets.

Major renewals orbetterments are capitalized, while repair and maintenance expenditures are chargedto operations as incurred. The cost and accumulated depreciation oramortization of equipment and leasehold improvements disposed of or sold areeliminated from their respective accounts, and the resulting gain or loss isrecorded in operations.

**Valuation of Long-Lived Assets**

The Company periodicallyanalyzes its long-lived assets for potential impairment, assessing theappropriateness of lives and recoverability of unamortized balances throughmeasurement of undiscounted operating cash flows.

F-8

----

**Warranties**

TheCompany’s products are generally covered by a standard one-year warranty fromthe date of sale. Estimated warranty costs are accrued in the same period inwhich the related revenue is recognized, based on anticipated parts and laborcosts utilizing historical experience.
| ** **                                                                    | ** ** | **2004**                | ** ** | **2003** | ** ** |
|-------------------------------------------------------------------------------|------------|-------------------------|------------|----------|------------|
| ** **                                                                    | ** ** | **(in thousands)** | ** ** |
| Accrued warranties                                                            |       |                    |       |     |       |
| Beginning of year                                                             |       | $                       | 525        |     | $          | 557 |   |
| Settlements made                                                              |       | (278                    | )          | (529     | )          |
| Accruals related to pre-existing warranties  (including changes in estimates) |       | (114                    | )          | —   |       |
| Accruals for warranties issued                                                |       | 259                     |       | 497      |       |
| End of year                                                                   |       | $                       | 392        |     | $          | 525 |   |

 

**Revenue Recognition**

Revenue is recognized when product has been shipped,risk of loss has passed to the purchaser and Fargo has fulfilled all of itsobligations. The company provides for promotional discounts, estimated earlypayment discounts, estimated warranty costs and estimated returns in the periodthe related revenue is recognized. Certain of the Company’s customers havearrangements, which include limited stock balancing return provisions. Thecompany provides an allowance for stock balancing based on estimated expectedreturns. Sales to these customers represented 14.0%, 17.3% and 11.7% of netsales for the years ended December 31, 2004, 2003 and 2002, respectively. Underthe terms of the stock balancing agreements, the maximum amount of returns isapproximately $193,000 at December 31, 2004, of which the Company hasrecorded an allowance of $137,000 for estimated returns. This reserve isincluded in our allowance for doubtful accounts and sales returns.

Fargo makes marketingdevelopment funds available to its resellers to support demand generationactivity by the resellers. Fargo treats payment of these funds as marketingcosts up to the fair value of the benefit received where it receives an identifiablebenefit and can reasonably estimate the fair value of the benefit received inaccordance with the requirements of EITF 01-9, *Accountingfor Consideration Given by a Vendor to a Customer (Including a Reseller of theVendor’s Products)*. Any payments to resellers that do not meet theserequirements, including any promotional discounts for the purchase of product,are recorded as reductions to revenue.

**Research and Development**

Research and developmentcosts are charged to expense as incurred.

**Income Taxes**

Deferred income taxes arecomputed using the asset and liability method, such that deferred tax assetsand liabilities are recognized for the expected future tax consequences oftemporary differences between financial reporting amounts and the tax basis ofexisting assets and liabilities based on currently enacted tax laws and taxrates in effect for the periods in which the differences are expected toreverse. Income tax expense is the tax payable for the period plus the changeduring the period in deferred income taxes. Valuation allowances areestablished when necessary to reduce deferred tax assets to the amount expectedto be realized.

F-9

----

**Fair Value of Financial Instruments**

The Company considers thatthe carrying amount of financial instruments, including accounts receivable,accounts payable and accrued liabilities, approximates fair value due to theirshort maturities.

**Reclassifications**

Certain amounts in theprior years’ financial statements have been reclassified to conform to thecurrent year’s presentation.

**Segment Information**

The Company’s business isorganized, managed and internally reported as a single segment.

**Stock-Based Compensation**

The Company measures compensation expense for itsstock-based compensation plan using the intrinsic value method. Accordingly,compensation cost for stock options granted to employees is measured as theexcess, if any, of the value of the Company’s stock at the date of the grantover the amount an employee must pay to acquire the stock. The Company providesdisclosure of the effect on net income as if the fair value-based method hadbeen applied in measuring compensation expense.

Hadcompensation cost for the plan been determined based on the fair value ofoptions at the date of grant, the Company’s net income available to commonstockholders and basic and diluted net income per share would have been reducedto the following pro forma amounts:
| ** **                                                                                                                         | ** ** | **2004**                | ** ** | **2003** | ** ** | **2002** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|----------|------------|----------|------------|
| ** **                                                                                                                         | ** ** | **(in thousands)** | ** ** |
| Net income  available to common stockholders                                                                                       |       |                    |       |     |       |     |       |
| As reported                                                                                                                        |       | $                       | 7,716      |     | $          | 7,240    |       | $ | 6,736 |   |
| Deduct: Total stock-based employee compensation  expense determined under fair value based method, net of related tax effects |       | (606                    | )          | (1,705   | )          | (1,447   | )          |
| Pro forma                                                                                                                          |       | $                       | 7,110      |     | $          | 5,535    |       | $ | 5,289 |   |
| Basic earnings  per common share                                                                                                   |       |                    |       |     |       |     |       |
| As reported                                                                                                                        |       | $                       | .62        |     | $          | .58      |       | $ | .56 |   |
| Pro forma                                                                                                                          |       | $                       | .57        |     | $          | .45      |       | $ | .44 |   |
| Diluted earnings  per common share                                                                                                 |       |                    |       |     |       |     |       |
| As reported                                                                                                                        |       | $                       | .60        |     | $          | .57      |       | $ | .55 |   |
| Pro forma                                                                                                                          |       | $                       | .55        |     | $          | .43      |       | $ | .43 |   |

 

**Earnings per Share**

Basic earnings per share is computed by dividing netincome available to common stockholders by the weighted average number ofcommon shares outstanding. Diluted earnings per share is computed by dividingnet income available to common stockholders by the weighted average number ofoutstanding common shares and potentially dilutive shares relating to stockoptions.

F-10

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Thefollowing provides a reconciliation of shares used in the computation of basicand diluted earnings per share:
| ** **                                  | ** ** | **2004**                | ** ** | **2003** | ** ** | **2002** | ** ** |
|---------------------------------------------|------------|-------------------------|------------|----------|------------|----------|------------|
| ** **                                  | ** ** | **(in thousands)** | ** ** |
| Weighted average common  shares outstanding |       |                    |       |     |       |     |       |
| Basic                                       |       | 12,515                  |       | 12,397   |       | 12,048   |       |
| Effect of dilutive stock options            |       | 354                     |       | 402      |       | 283      |       |
| Diluted                                     |       | 12,869                  |       | 12,799   |       | 12,331   |       |

 

Options to purchase45,000, 45,000 and 362,000 shares of common stock were outstanding at December 31,2004, 2003 and 2002, respectively, but were not included in the computations ofdiluted earnings per share because the exercise prices were greater than theaverage market prices of the common shares for the periods.

**Use of Estimates**

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States of America requires management to make estimatesand assumptions that affect the reported amounts of assets and liabilities asof the date of the financial statements and disclosure of contingent assets andliabilities at the date of the financial statements. Estimates also affect thereported amounts of revenues and expenses during the periods reported. Actualresults could differ from those estimates.

**RecentlyIssued Accounting Standards**

In November 2004, the Financial AccountingStandards Board (“FASB”) issued Statement of Financial Accounting Standards No. 151,“Inventory Costs. An Amendment of ARB No. 43, Chapter 4” (“SFAS 151”),which is effective for fiscal years beginning after June 15, 2005. SFAS151 amends the guidance in ARB No. 43 to clarify the accounting forabnormal amounts of idle facility expense, freight, handling costs, and wastedmaterial (spoilage). Among other provisions, SFAS 151 requires that items suchas idle facility expense, excessive spoilage, double freight, and rehandlingcosts be recognized as current-period charges regardless of whether they meetthe criterion of “so abnormal” as stated in ARB No. 43. In addition, SFAS151 requires that allocation of fixed production overheads to the costs ofconversion be based on the normal capacity of the production facilities. Webelieve the adoption of SFAS 151 will not have any material effect on theCompany’s financial statements.

In December 2004, the FASB issued Statement ofFinancial Accounting Standards No. 123R, “Share-Based Payment” (“SFAS 123R”),which replaces SFAS 123 and supersedes APB Opinion No. 25, “Accounting forStock Issued to Employees”. SFAS 123R requires that the cost of all share-basedpayments to employees, including grants of employee stock options, berecognized in the financial statements based on their fair values. That costwill be recognized as an expense over the vesting period of the award. The proforma disclosures previously permitted under SFAS 123 (which are shown above)no longer will be an alternative to financial statement recognition. Inaddition, the Company will be required to determine fair value in accordancewith SFAS 123R. SFAS 123R is effective for reporting periods beginning with thefirst interim or annual period after June 15, 2005, with early adoptionencouraged, and requires the application of a transition methodology for stockoptions that have not vested as of the date of adoption. The Company iscurrently evaluating the impact of SFAS 123R on our financial statements.

In December 2004, theFASB issued FSP FAS 109-1, *Application of FASBNo. 109, Accounting for Income Taxes, to the Tax Deduction on QualifiedProduction Activities Provided by the American Jobs Creation Act of 2004*.FSP FAS No. 109-1 clarifies SFAS No. 109’s guidance that applies tothe new tax 

F-11

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deductionfor qualified domestic production activities. FSP No. 109-1 becameeffective upon issuance and the Company believes that this pronouncement willhave an insignificant impact on its effective tax rate in 2005.

**2.   Public Offering**

In July 2002, the Companyand certain selling stockholders completed a secondary public offering of2,587,500 shares of common stock at $7.50 per share. The Company’s twoprincipal stockholders at that time sold 2,062,500 previously issued andoutstanding shares, and the Company sold 525,000 newly issued shares. Theaggregate offering price of the shares sold by the Company was $3,937,500. Theproceeds to the Company from the offering were approximately $3,137,000 afterdeducting the underwriting discounts and commissions of approximately $236,500and other direct offering costs of approximately $564,000. The Company used thenet proceeds from the offering to pay down its outstanding debt.

**3.   Tender Offer**

On March 27, 2002, the Company and ZebraTechnologies Corporation (“Zebra”) announced that the companies mutually agreedto terminate the acquisition agreement whereby Zebra would acquire alloutstanding shares of the Company’s common stock for $7.25 per share in cash. Thetransaction had been under Hart-Scott-Rodino antitrust review by the FederalTrade Commission (“FTC”). Based on discussion with representatives of the FTC,the companies believed it was unlikely that the FTC would have approved theproposed transaction. Accordingly, the companies agreed to a mutual terminationof their acquisition agreement. Neither party paid a break-up fee. During 2002and 2001, acquisition related costs of $552,000 and $1,434,000, respectively,were expensed as incurred.

The acquisition wasannounced on July 31, 2001. A tender offer for all outstanding shares ofthe Company’s stock commenced on August 3, 2001, and was terminated on March 27,2002. None of the Company’s shares tendered in the tender offer were acceptedfor payment and paid for, and Zebra returned all shares of the Company’s commonstock tendered and not withdrawn in the tender offer.

**4.   SelectedFinancial Statement Information**

**AccountsReceivable, Net**
| ** **                                               | ** ** | **2004**                | ** ** | **2003** | ** ** |
|----------------------------------------------------------|------------|-------------------------|------------|----------|------------|
| ** **                                               | ** ** | **(in thousands)** | ** ** |
| Trade accounts  receivable                               |       | $                       | 10,052     |     | $          | 7,415 |   |
| Less: Allowance  for doubtful accounts and sales returns |       | (350                    | )          | (400     | )          |
|                                                     |       | $                       | 9,702      |     | $          | 7,015 |   |

 

For the years ended December 31, 2004, 2003 and2002, one customer accounted for approximately 10.6%, 12.8% and 9.3% of netsales, respectively.

The Company’s ten largestdistributors and resellers accounted for a combined total of 48.5%, 44.7% and42.8% of net sales in 2004, 2003 and 2002, respectively. These distributorsaccounted for 50.8% and 47.8% of trade accounts receivable at December 31,2004 and 2003, respectively.

F-12

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**Inventories, Net**
| ** **                                           | ** ** | **2004**                | ** ** | **2003** | ** ** |
|------------------------------------------------------|------------|-------------------------|------------|----------|------------|
| ** **                                           | ** ** | **(in thousands)** | ** ** |
| Raw materials and  purchased parts                   |       | $                       | 4,597      |     | $          | 3,381 |   |
| Finished goods                                       |       | 2,036                   |       | 2,238    |       |
|                                                 |       | 6,633                   |       | 5,619    |       |
| Less: Allowance  for excess and obsolete inventories |       | (414                    | )          | (771     | )          |
|                                                 |       | $6,219                  |       | $        | 4,848      |   |
|                                                      |            |                         |            |          |            |  |  |

 

The Company buys itsribbons, an important component of its revenue, from two suppliers. Inaddition, the Company buys printheads for its dye sublimation printers from onesupplier.

**Equipmentand Leasehold Improvements, Net**
| ** **                                       | ** ** | **2004**                | ** ** | **2003** | ** ** |
|--------------------------------------------------|------------|-------------------------|------------|----------|------------|
| ** **                                       | ** ** | **(in thousands)** | ** ** |
| Tooling and  manufacturing equipment             |       | $                       | 6,535      |     | $          | 5,844 |   |
| Office equipment  and other                      |       | 4,960                   |       | 4,645    |       |
| Leasehold  improvements                          |       | 488                     |       | 488      |       |
|                                             |       | 11,983                  |       | 10,977   |       |
| Less: Accumulated  depreciation and amortization |       | (9,957                  | )          | (8,870   | )          |
|                                             |       | $                       | 2,026      |     | $          | 2,107 |   |

 

**Accrued Liabilities**
| ** **            | ** ** | **2004**                | ** ** | **2003** | ** ** |
|-----------------------|------------|-------------------------|------------|----------|------------|
| ** **            | ** ** | **(in thousands)** | ** ** |
| Accrued  warranties   |       | $                       | 392        |     | $          | 525 |   |
| Accrued  compensation |       | 682                     |       | 393      |       |
| Accrued vacation      |       | 442                     |       | 450      |       |
| Customer advances     |       | 312                     |       | 362      |       |
| Income taxes  payable |       | 263                     |       | 541      |       |
| Other                 |       | 715                     |       | 494      |       |
|                  |       | $                       | 2,806      |     | $          | 2,765 |   |

 

**5.   Financing Arrangements**

In April 2004, we amended our $5.0 million revolvingcredit facility, on which there was no outstanding balance at December 31,2004 or at any point during 2004 and 2003. As a result of this amendment, thecredit facility will automatically renew at the end of its term for a period of364 days unless either party delivers a non-renewal notice. The amendment alsoeliminated the unused commitment fee. Borrowings under the revolving creditfacility are limited to eligible accounts receivable and inventories, asdefined by the agreement. Under the terms of the amendment, we may borrow atthe prime rate of interest or LIBOR plus a margin of 1.5%.

**6.   Stock Options**

In May 2003, the Board of Directors andstockholders adopted the Fargo Electronics, Inc. 2003 Stock Incentive Plan(the “2003 Plan”), which authorizes and reserves a maximum of 1,000,000 sharesof common stock available for issuance. The 2003 Plan is administered by theCompensation Committee of the Board of Directors and provides for the grant of:(a) incentive stock options; (b) nonqualified stock 

F-13

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options; and (c) restrictedstock awards to employees, officers, directors and others, subject to certainlimitations, as defined by the 2003 Plan. Stock options issued under the 2003Plan generally have an exercise price equal to the fair market value on thedate of grant, vest and become exercisable ratably over four years, and expireno later than ten years from the date of grant. If a change in control occurs,as defined by the 2003 Plan, the Board of Directors, or a committee thereof, atits sole discretion, may determine that all stock options that have beenoutstanding for at least six months will become immediately exercisable in fullfor the remainder of their terms and all restricted stock awards that have beenoutstanding for at least six months will become immediately 100% vested. Unlessterminated earlier, the 2003 Plan will terminate on April 30, 2013.

In February 1998, the Board of Directors andstockholders adopted the Fargo Electronics, Inc. 1998 Stock Option andGrant Plan (the “1998 Plan”) which, as amended, authorized and reserved amaximum number of shares for issuance equal to 15% of the outstanding commonstock. The 1998 Plan was terminated, and no new awards were issued thereunder,following approval of the 2003 Plan in May 2003.

Shares of restricted stock were awarded to certaindirectors and employees in 1998 and 1999 at an exercise price which was equalto the fair market value on the date of grant. Sales of the restricted stockwere paid for by means of recourse promissory notes with payment terms of fiveyears. The restricted stock had a weighted average exercise price of $1.60. At December 31,2002, all restricted shares were vested or cancelled, and the promissory noteswere repaid. There were no restricted shares outstanding at December 31,2004 or 2003.

Stockoption and restricted stock activity for 2004, 2003 and 2002 was as follows:
| ** **                                              | ** ** | **Shares  Available  for Grant**                              | ** ** | **Options  Outstanding** | ** ** | **Restricted  Stock   Outstanding** | ** ** | **Weighted  Average  Exercise Price  Per Share  of Options** | ** ** |
|---------------------------------------------------------|------------|--------------------------------------------------------------------|------------|--------------------------|------------|------------------------------------------|------------|-----------------------------------------------------------------------------|------------|
| ** **                                              | ** ** | **(in thousands, except per share data)** | ** ** |
| Balances at  December 31, 2001                          |       |                                                               | 481        |                     |       |                                     | 781        |                                                                        |       |   | 390 |   |   |   | $ | 6.42 |   |   |
| Increase in shares available due to secondary  offering |       |                                                               | 86         |                     |       |                                     | —     |                                                                        |       |   | — |   |   |   | — |   |   |
| Granted                                                 |       |                                                               | (373       | )                        |       |                                     | 373        |                                                                        |       |   | — |   |   |   | 7.55 |   |   |
| Cancelled                                               |       |                                                               | 58         |                     |       |                                     | (58        | )                                                                           |       |   | — |   |   |   | 5.18 |   |   |
| Exercised                                               |       |                                                               | —     |                     |       |                                     | (31        | )                                                                           |       |   | (390 | ) |   |   | 1.88 |   |   |
| Balances at  December 31, 2002                          |       |                                                               | 252        |                     |       |                                     | 1,065      |                                                                        |       |   | — |   |   |   | 7.01 |   |   |
| Termination of the 1998 Plan                            |       |                                                               | (271       | )                        |       |                                     | —     |                                                                        |       |   | — |   |   |   | — |   |   |
| Adoption of the 2003 Plan                               |       |                                                               | 1,000      |                     |       |                                     | —     |                                                                        |       |   | — |   |   |   | — |   |   |
| Granted                                                 |       |                                                               | (74        | )                        |       |                                     | 74         |                                                                        |       |   | — |   |   |   | 12.83 |   |   |
| Cancelled                                               |       |                                                               | 48         |                     |       |                                     | (48        | )                                                                           |       |   | — |   |   |   | 7.44 |   |   |
| Exercised                                               |       |                                                               | —     |                     |       |                                     | (91        | )                                                                           |       |   | — |   |   |   | 4.20 |   |   |
| Balances at  December 31, 2003                          |       |                                                               | 955        |                     |       |                                     | 1,000      |                                                                        |       |   | — |   |   |   | 7.68 |   |   |
| Granted                                                 |       |                                                               | (30        | )                        |       |                                     | 30         |                                                                        |       |   | — |   |   |   | 9.84 |   |   |
| Cancelled                                               |       |                                                               | —     |                     |       |                                     | (60        | )                                                                           |       |   | — |   |   |   | 7.96 |   |   |
| Exercised                                               |       |                                                               | —     |                     |       |                                     | (131       | )                                                                           |       |   | — |   |   |   | 5.44 |   |   |
| Balances at December 31,  2004                          |       |                                                               | 925        |                     |       |                                     | 839        |                                                                        |       |   | — |   |   |   | $ | 8.08 |   |   |

 

F-14

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Information related tostock options outstanding and exercisable at December 31, 2004, is asfollows:

**Options Outstanding**
| **Range of  Exercise Prices** | ** ** | ** **              | ** ** | **Number  Outstanding** | ** ** | **Weighted  Average  Remaining  Contractual  Life** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
|-----------------------------------------|------------|-------------------------|------------|-------------------------|------------|-----------------------------------------------------|------------|----------------------------------------|------------|
| ** **                              | ** ** | **(in thousands)** | ** ** | ** **              | ** ** | ** **                                          | ** ** |
| $  1.60-$  2.40     |       |                    | 27         |                    |       |                                                | 1.8 years  |                                   |       |   | $ | 1.60 |   |   |
| $  2.75-$  4.13     |       |                    | 132        |                    |       |                                                | 5.1 years  |                                   |       |   | 2.88 |   |   |
| $  4.81-$  7.22     |       |                    | 58         |                    |       |                                                | 4.6 years  |                                   |       |   | 6.16 |   |   |
| $  7.30-$10.95                |       |                    | 333        |                    |       |                                                | 5.3 years  |                                   |       |   | 7.97 |   |   |
| $11.00-$15.41                           |       |                    | 289        |                    |       |                                                | 3.0 years  |                                   |       |   | 11.60 |   |   |
|                                    |       |                    | 839        |                    |       |                                                |       |                                   |       |   | $ | 8.09 |   |   |

 

**Options Exercisable**
| **Range of  Exercise Prices** | ** ** | ** **              | ** ** | **Number  Exercisable** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
|-----------------------------------------|------------|-------------------------|------------|-------------------------|------------|----------------------------------------|------------|
| ** **                              | ** ** | **(in thousands)** | ** ** | ** **              | ** ** |
| $  1.60-$  2.40     |       |                    | 27         |                    |       |                                   | $          | 1.60 |   |   |
| $  2.75-$  4.13     |       |                    | 129        |                    |       |                                   | 2.85       |   |   |
| $  4.81-$  7.22     |       |                    | 57         |                    |       |                                   | 6.16       |   |   |
| $  7.30-$10.95                |       |                    | 140        |                    |       |                                   | 7.80       |   |   |
| $11.00-$15.41                           |       |                    | 255        |                    |       |                                   | 11.17      |   |   |
|                                    |       |                    | 608        |                    |       |                                   | $          | 7.74 |   |   |

 

For the years ended December 31, 2004, 2003 and2002, the Company recorded deferred compensation expense of $0, $16,000 and$28,000, respectively, for 8,750 options granted in 1999 at a discount from theestimated fair market value of the Company’s common stock.

Theweighted average grant-date fair value of options granted during 2004, 2003 and2002 was $5.86, $6.18 and $5.30, respectively, which was determined using theBlack-Scholes method and the following key assumptions:
| **Assumptions**           | ** ** | ** **  | ** ** | **2004**        | ** ** | **2003**        | ** ** | **2002** | ** ** |
|---------------------------|------------|-------------|------------|-----------------|------------|-----------------|------------|----------|------------|
| Volatility                |       | 68.05%      |       | 70.29%          |       | 77.35%          |       |
| Risk-free  interest rates |       | 3.82%       |       | 3.03%  to 3.48% |       | 4.02%  to 4.92% |       |
| Expected life             |       | Five  years |       | Five  years     |       | Six  years      |       |
| Expected dividends        |       | None        |       | None            |       | None            |       |

 

**Employee Stock Purchase Plan**

In January 2001, theCompany’s Board of Directors adopted a noncompensatory Employee Stock PurchasePlan (“Purchase Plan”). Under the Purchase Plan, participating employees aregranted options to purchase common stock at a 15% discount from the lower ofthe fair market value on the first day or last day of each calendar quarter. ThePurchase Plan permits an enrolled employee to make contributions to purchaseshares of common stock through payroll deductions between 1% and 10% ofcompensation. The number of shares that may be purchased by any single employeeduring a calendar quarter is limited to 250 shares and total shares with amaximum fair market value of $25,000 in each calendar year. The 

F-15

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Compensationand Human Resources Committee of the Board of Directors administers thePurchase Plan. The total number of shares of common stock that may be issuedpursuant to options granted under the Purchase Plan is 250,000 shares of commonstock. At December 31, 2004, approximately 72,000 shares of common stockhave been issued under the Purchase Plan.

**7.   Benefit Plan**

The Company has a 401(k) retirementsavings plan whereby eligible employees may contribute up to 15% of theirearnings either before taxes (subject to Internal Revenue Service limitation)or after tax, not to exceed annual amounts allowed under the Internal RevenueCode (“IRC”). In addition, the Company may also make discretionary matchingcontributions. Company matching contributions for the years ended December 31,2004, 2003 and 2002, were $176,000, $169,000 and $164,000, respectively.

**8.   Income Taxes**

Thecomponents of the provision for income taxes are as follows:
| ** **                  | ** ** | **2004**                | ** ** | **2003** | ** ** | **2002** | ** ** |
|-----------------------------|------------|-------------------------|------------|----------|------------|----------|------------|
| ** **                  | ** ** | **(in thousands)** | ** ** |
| Current                     |       |                    |       |     |       |     |       |
| Federal                     |       | $                       | 416        |     | $          | 1,235    |       | $ | 467 |   |
| State                       |       | 5                       |       | 5        |       | 5        |       |
|                        |       | 421                     |       | 1,240    |       | 472      |       |
| Deferred                    |       |                    |       |     |       |     |       |
| Federal                     |       | 2,776                   |       | 1,977    |       | 2,664    |       |
| State                       |       | 141                     |       | 127      |       | 129      |       |
|                        |       | 2,917                   |       | 2,104    |       | 2,793    |       |
| Provision for income  taxes |       | $                       | 3,338      |     | $          | 3,344    |       | $ | 3,265 |   |

 

Temporarydifferences comprising the net deferred tax assets recognized in theaccompanying balance sheets at December 31, 2004 and 2003, are as follows:
| ** **                                         | ** ** | **2004**                | ** ** | **2003** | ** ** |
|----------------------------------------------------|------------|-------------------------|------------|----------|------------|
| ** **                                         | ** ** | **(in thousands)** | ** ** |
| Tax goodwill,  current portion                     |       | $                       | 2,371      |     | $          | 2,372 |   |
| Accrued  liabilities, including accrued warranties |       | 423                     |       | 346      |       |
| Inventories                                        |       | 171                     |       | 312      |       |
| Other                                              |       | 294                     |       | 382      |       |
| Current deferred income taxes                      |       | 3,259                   |       | 3,412    |       |
| Tax goodwill, net  of current portion              |       | 16,922                  |       | 19,297   |       |
| Depreciation and  amortization                     |       | (158                    | )          | 205      |       |
| Other                                              |       | 202                     |       | 228      |       |
| Long-term deferred income taxes                    |       | 16,966                  |       | 19,730   |       |
| Total deferred  income taxes                       |       | $                       | 20,225     |     | $          | 23,142 |   |

 

F-16

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Areconciliation between the Company’s effective tax and the federal statutorytax is as follows:
| ** **                                            | ** ** | **2004**                | ** ** | **2003** | ** ** | **2002** | ** ** |
|-------------------------------------------------------|------------|-------------------------|------------|----------|------------|----------|------------|
| ** **                                            | ** ** | **(in thousands)** | ** ** |
| Provision for  federal income taxes at statutory rate |       | $                       | 3,758      |     | $          | 3,599    |       | $ | 3,400 |   |
| State income  taxes, net of federal benefit           |       | 192                     |       | 184      |       | 177      |       |
| Research and  experimentation credits                 |       | (603                    | )          | (456     | )          | (300     | )          |
| Other                                                 |       | (9                      | )          | 17       |       | (12      | )          |
|                                                  |       | $                       | 3,338      |     | $          | 3,344    |       | $ | 3,265 |   |

 

The realization of thedeferred tax assets is dependent upon the Company’s ability to generatesufficient future taxable income which management believes is more likely thannot. Historically, the Company has generated operating income and the Companyanticipates future taxable income sufficient to realize the recorded deferredtax assets. Future taxable income is based on management’s forecasts of theoperating results of the Company, and there can be no assurance that suchresults will be achieved.

**9.   Commitments and Contingencies**

TheCompany leases office, warehouse and manufacturing space under an operatinglease that expires in December 2006. Future minimum lease payments,excluding common area maintenance expenses, at December 31, 2004, consistof the following:
| ** **                    | ** ** | **(in thousands)** | ** ** |
|-------------------------------|------------|-------------------------|------------|
| 2005                          |       |                    | $          | 518 |   |   |
| 2006                          |       |                    | 518        |   |   |
| Total minimum lease  payments |       |                    | $          | 1,036 |   |   |

 

Total rent expense, including common area maintenance expenses,for the years ended December 31, 2004, 2003 and 2002, was $857,000,$918,000 and $940,000, respectively.

The Company has entered into unconditional purchaseagreements with certain suppliers which may require the Company to purchase upto $2,080,000 of inventories. The agreements are reviewed on a semi-annualbasis, and unless terminated by either party, automatically renew for anadditional six-month period. The agreements may be terminated by either partywith a 30-day written notice. In 2002, the Company entered into anagreement with Sony Chemical Corporation, a subsidiary of Sony Corporation. Underthis agreement, the Company agreed to purchase from Sony, and Sony has agreedto sell to the Company on an exclusive, worldwide basis, Sony’s dye-sublimationprinter ribbons for its products for a ten-year period. The company’sobligations under this agreement, which include a requirement to purchase $4million of printer ribbons each year, are conditional upon Sony continuing tomeet a number of obligations set forth in the agreement.

On June 19, 2001 (the “Effective Date”) theCompany entered into a management and employment agreement with its ChiefExecutive Officer (“CEO”), which provides certain benefits to the CEO upontermination, as defined in the agreement. The agreement had an initial termexpiring in December 2003 and was renewed automatically. The agreementrenews automatically thereafter on the anniversary of the Effective Date (the “RenewalDate”) unless either party gives the other written notice prior to such RenewalDate of his or its determination not to extend the agreement, whereupon thisagreement shall terminate on the anniversary of such Renewal Date. Theagreement was renewed automatically in June 2004. Under the agreement,upon termination without cause, certain events defined as good cause for theCEO to terminate or a change in control, the CEO will be entitled to receive alump sum cash payment of up to 250% of base salary plus accrued bonus amountsand full vesting of any restricted stock or stock 

F-17

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options held, grouphealth, dental and life insurance benefits and a monthly cash allowance of$1,000 for a period of 30 months.

In December 2004, all other Company’s executiveofficers other than the CEO executed Officers Agreements pursuant to which theCompany agreed to provide certain benefits to these executives if they areterminated in connection with a change in control of the Company. Theseagreements are effective until December 31, 2005 and are substantiallysimilar to, and replace, the agreements executed in December 2003. Underthe agreements, these individuals will be entitled to receive a lump sum cashpayment of up to 150% of their base salary plus full vesting of any restrictedstock or stock options held.

The Company is party tovarious litigation matters arising from time to time in the ordinary course ofbusiness. Management does not believe that any legal matters exist that wouldhave a material adverse effect on the Company’s financial position, results ofoperations, or cash flows.

**10.   Segment Data and Export Sales**

The Company’s business is organized in one businessunit and is managed and internally reported as a single segment. All of thecompany’s long-lived assets are located in the United States.

Thefollowing table presents revenues by geographic region.
| ** **                                              | ** ** | **2004**                | ** ** | **2003** | ** ** | **2002** | ** ** |
|---------------------------------------------------------|------------|-------------------------|------------|----------|------------|----------|------------|
| ** **                                              | ** ** | **(in thousands)** | ** ** |
| United States                                           |       | $                       | 40,544     |     | $          | 37,717   |       | $ | 39,672 |   |
| Europe                                                  |       | 9,751                   |       | 9,408    |       | 9,669    |       |
| Asia and  Australia                                     |       | 7,881                   |       | 6,569    |       | 6,715    |       |
| North and South  America (other than the United States) |       | 8,212                   |       | 7,795    |       | 6,998    |       |
| Middle East and  Africa                                 |       | 6,005                   |       | 4,002    |       | 2,981    |       |
|                                                    |       | $                       | 72,393     |     | $          | 65,491   |       | $ | 66,035 |   |

 

Sales are based on contractual shipment destinationsby customer, as determined by their distributor agreement.

Thefollowing table presents revenue by product type.
| ** **      | ** ** | **2004**                | ** ** | **2003** | ** ** | **2002** | ** ** |
|-----------------|------------|-------------------------|------------|----------|------------|----------|------------|
| ** **      | ** ** | **(in thousands)** | ** ** |
| Equipment sales |       | $                       | 28,944     |     | $          | 25,925   |       | $ | 28,559 |   |
| Supplies sales  |       | 43,449                  |       | 39,566   |       | 37,476   |       |
|            |       | $                       | 72,393     |     | $          | 65,491   |       | $ | 66,035 |   |

 

 

F-18

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**FARGOELECTRONICS, INC.Exhibit Index to Annual Reporton Form 10-KFor the fiscal year ended December 31, 2004**
| Item No. | ** ** | **Description**                                                                                                                                              | ** ** | **Method of Filing**                                                                                                                                           |
|----------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 2.2      |       | Certificate of Ownership  and Merger between Fargo Electronics, Inc., a Minnesota corporation and  Fargo Electronics, Inc., a Delaware corporation |       | Incorporated by  reference to Exhibit 2.2 to Fargo’s Form 10-K for the fiscal year  ended December 31, 1999 (File No. 333-90937) |
| 2.3      |       | Articles of Merger                                                                                                                                           |       | Incorporated by  reference to Exhibit 2.3 to Fargo’s Form 10-K for the fiscal year  ended December 31, 1999 (File No. 333-90937) |
| 2.4      |       | Agreement and Plan of  Merger, between Fargo Electronics, Inc., a Minnesota corporation and  Fargo Electronics, Inc., a Delaware corporation       |       | Incorporated by  reference to Exhibit 2.4 to Fargo’s Form 10-K for the fiscal year  ended December 31, 1999 (File No. 333-90937) |
| 3.1      |       | Amended and Restated  Certificate of Incorporation                                                                                                           |       | Incorporated by  reference to Exhibit 3.1 to Fargo’s Form 10-K for the fiscal year  ended December 31, 1999 (File No. 333-90937) |
| 3.2      |       | Bylaws, as amended on  August 3, 2000                                                                                                                   |       | Incorporated by  reference to Exhibit 3.1 to Fargo’s 10-Q for the quarter ended  September 30, 2000 (File No. 333-90937).             |
| 4.1      |       | Stockholder Rights  Agreement                                                                                                                                |       | Incorporated by  reference to Exhibit 4.1 to Fargo’s Form 10-K for the fiscal year  ended December 31, 1999 (File No. 333-90937) |
| 4.2      |       | Amended and Restated  Certificate of Incorporation                                                                                                           |       | Incorporated by  reference to Exhibit 3.1 to Fargo’s Form 10-K for the fiscal year  ended December 31, 1999 (File No. 333-90937) |
| 10.1     |       | Office/Warehouse Lease,  dated June 15, 1996, between Fargo Electronics, Inc. and Opus  Northwest L.L.C., as amended                               |       | Incorporated by  reference to Exhibit 10.1 to Fargo’s Registration Statement on  Form S-1 (File No. 333-90937).                       |
| 10.2     |       | Amended and Restated  1998 Stock Option and Grant Plan, as amended                                                                                           |       | Incorporated by  reference to Appendix C to Fargo’s 2001 Proxy Statement.                                                                                 |
| 10.3     |       | Form of Restricted  Stock Agreement under the Amended and Restated 1998 Stock Option and Grant  Plan                                                    |       | Incorporated by  reference to Exhibit 10.3 to Fargo’s Registration Statement on  Form S-1 (File No. 333-90937).                       |
| 10.4     |       | Form of  Non-qualified Stock Option Agreement under the Amended and Restated 1998  Stock Option and Grant Plan                                          |       | Incorporated by  reference to Exhibit 10.4 to Fargo’s Registration Statement on  Form S-1 (File No. 333-90937).                       |
| 10.5     |       | Form of Incentive  Stock Option Agreement under the Amended and Restated 1998 Stock Option and  Grant Plan                                              |       | Incorporated by  reference to Exhibit 10.5 to Fargo’s Registration Statement on  Form S-1 (File No. 333-90937).                       |
| 10.6     |       | Technology and Trademark  License Agreement, dated February 17, 1998, between Fargo  Electronics, Inc. and Primera Technology, Inc.           |       | Incorporated by  reference to Exhibit 10.6 to Fargo’s Registration Statement on  Form S-1 (File No. 333-90937).                       |

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| 10.7  |   | Form of  Indemnification Agreement for directors and executive officers of Fargo  Electronics, Inc.                                                                                                                                                                |   | Incorporated by  reference to Exhibit 10.9 to Fargo’s Registration Statement on  Form S-1 (File No. 333-90937).                          |
|-------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.8  |   | Stockholders’ Agreement,  dated February 18, 1998, between Fargo Electronics, Inc., Robert  Cummins and certain Investors, as amended                                                                                                                         |   | Incorporated by  reference to Exhibit 10.10 to Fargo’s Registration Statement on  Form S-1 (File No. 333-90937).                         |
| 10.9  |   | Non-Compete Agreement  dated Feb. 18, 1998 between Fargo Electronics, Inc., Robert Cummins  and Primera Technology, Inc.                                                                                                                                      |   | Incorporated by  reference to Exhibit 10.17 to Fargo’s Registration Statement on  Form S-1 (File No. 333-90937).                         |
| 10.10 |   | Amended and Restated  Consulting Agreement, dated February 18, 1998, between Fargo  Electronics, Inc. and Primera Technology, Inc.                                                                                                                            |   | Incorporated by  reference to Exhibit 10.18 to Fargo’s Registration Statement on  Form S-1 (File No. 333-90937).                         |
| 10.11 |   | 2001 Employee Stock  Purchase Plan                                                                                                                                                                                                                                           |   | Incorporated by  reference to Exhibit 10.20 to Fargo’s Form 10-K for the fiscal year  ended December 31, 2000 (File No. 333-90937). |
| 10.12 |   | Amended and Restated  Employment Agreement dated June 19, 2001 between Fargo  Electronics, Inc. and Gary R. Holland, as amended                                                                                                                                    |   | Incorporated by  reference to Exhibit 99(e)(6) of Fargo’s Schedule 14D-9 filed on  August 3, 2001 (File No. 005-59663).        |
| 10.13 |   | Control Agreement with a  Securities Intermediary among Fargo Electronics, Inc., LaSalle Bank, NA  and Wells Fargo Brokerage Services, LLC                                                                                                                              |   | Incorporated by  reference to Exhibit 10.2 to Fargo’s 10-Q for the quarter ended  June 30, 2001 (File No. 333-90937)                |
| 10.14 |   | Control Agreement  (Deposit Account), dated as of June 8, 2001, among Fargo Electronics, Inc.,  LaSalle Bank National Association, as agent for the banks party to that  certain Credit Agreement dated as of September 15, 2000, and Wells Fargo  Bank, N.A. |   | Incorporated by  reference to Exhibit 10.3 to Fargo’s 10-Q for the quarter ended  June 30, 2001 (File No. 333-90937).               |
| 10.15 |   | Lease, dated  February 28, 2001, between Fargo Electronics, Inc. and AETNA Life  Insurance Company                                                                                                                                                                 |   | Incorporated by  reference to Exhibit 10.1 to Fargo’s 10-Q for the quarter ended  September 30, 2001 (File No. 333-90937).          |
| 10.16 |   | Conditional Release from  Pledge Agreement, dated August 27, 2002, between Fargo  Electronics, Inc. and William H. Gibbs                                                                                                                                           |   | Incorporated by  reference to Exhibit 10.1 to Fargo’s 10-Q for the quarter ended  September 30, 2002 (File No. 333-90937)           |
| 10.17 |   | Conditional Release from  Pledge Agreement, dated October 28, 2002, between Fargo  Electronics, Inc. and Gary R. Holland                                                                                                                                           |   | Incorporated by  reference to Exhibit 10.2 to Fargo’s 10-Q for the quarter ended  September 30, 2002 (File No. 333-90937)           |
| 10.18 |   | Amended and Restated  Credit Agreement, dated December 18, 2002, between Fargo  Electronics, Inc. and LaSalle Bank National Association                                                                                                                            |   | Incorporated by  reference to Exhibit 10.37 to Fargo’s Form 10-K for the fiscal year  ended December 31, 2002 (File No. 333-90937). |

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| 10.19 |   | Amended and  Restated Security Agreement, dated December 18, 2002, between Fargo  Electronics, Inc. and LaSalle Bank National Association                                                |   | Incorporated by  reference to Exhibit 10.38 to Fargo’s Form 10-K for the fiscal year  ended December 31, 2002 (File No. 333-90937). |
|-------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.20 |   | Note, dated  December 18, 2002, payable to LaSalle Bank National Association                                                                                                                  |   | Incorporated by  reference to Exhibit 10.39 to Fargo’s Form 10-K for the fiscal year  ended December 31, 2002 (File No. 333-90937). |
| 10.21 |   | 2003 Stock Incentive  Plan                                                                                                                                                                         |   | Incorporated by  reference to Exhibit 10.1 to Fargo’s Form 10-Q for the quarter  ended September 30, 2003 (File No. 000-29029).     |
| 10.22 |   | Form of  Non-qualified Stock Option agreement under the 2003 Stock Incentive Plan                                                                                                             |   | Incorporated by  reference to Exhibit 10.30 to Fargo’s Form 10-K for the fiscal year  ended December 31, 2003 (File No. 000-29029). |
| 10.23 |   | Form of Direct  Reports Agreement dated December 15, 2003 between Fargo  Electronics, Inc. and each of Scott Ackerman, Kathleen L. Phillips,  Thomas C. Platner and Jeffrey D. Upin |   | Incorporated by  reference to Exhibit 10.31 to Fargo’s Form 10-K for the fiscal year  ended December 31, 2003 (File No. 000-29029). |
| 10.24 |   | Form of Direct  Reports Agreement dated December 15, 2003 between Fargo  Electronics, Inc. and Paul W.B. Stephenson                                                                 |   | Incorporated by  reference to Exhibit 10.11 to Fargo’s Form 10-Q for the quarter  ended June 30, 2004 (File No. 000-29029).         |
| 10.25 |   | Amendment No. 1 to  Amended and Restated Credit Agreement, dated as of April 1, 2004 between  Fargo Electronics, Inc. and LaSalle Bank National Association                         |   | Incorporated by  reference to Exhibit 10.31 to Fargo’s Form 10-K for the fiscal year  ended December 31, 2003 (File No. 000-29029). |
| 10.26 |   | Form of Officers  Agreement dated December 8, 2004                                                                                                                                       |   | Incorporated by  reference to Exhibit 10.1 of Fargo’s Form 8-K filed on  December 13, 2004 (File No. 000-29029).               |
| 10.27 |   | 2005 Non-Employee  Director Compensation                                                                                                                                                           |   | Incorporated by  reference to Exhibit 10.2 of Fargo’s Form 8-K filed on  December 13, 2004 (File No. 000-29029).               |
| 23.1  |   | Consent of  PricewaterhouseCoopers LLP                                                                                                                                                             |   | Filed electronically  herewith.                                                                                                                                   |
| 31.1  |   | Certification of Gary R.  Holland Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                   |   | Filed electronically  herewith.                                                                                                                                   |
| 31.2  |   | Certification of Paul  W.B. Stephenson Pursuant to Section 302 of the Sarbanes-Oxley Act of  2002                                                                                             |   | Filed electronically  herewith.                                                                                                                                   |
| 32.1  |   | Certification of  Gary R. Holland Pursuant to 18 U.S.C Section 1350, as Adopted Pursuant  to Section 906 of the Sarbanes-Oxley Act of 2002.                                              |   | Filed  electronically herewith.                                                                                                                                   |
| 32.2  |   | Certification of Paul  W.B. Stephenson Pursuant to 18 U.S.C Section 1350, as Adopted Pursuant  to Section 906 of the Sarbanes-Oxley Act of 2002.                                         |   | Filed electronically  herewith.                                                                                                                                   |

 

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