Table of Contents





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|----------------------------------
|UNITED STATES                     
|SECURITIES AND EXCHANGE COMMISSION
|Washington,
  DC 20549            

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FORM 10-Q

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|           |                                                                                                                                                     
|---------- | ----------------------------------------------------------------------------------------------------------------------------------------------------
|(Mark One)
|x          | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
  THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED
September 30, 2006; OR     
|           |                                                                                                                                                     
|o          | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
  THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM
  __________TO __________.

Commission File Number: 0-20728

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|                                                      
|------------------------------------------------------
|RIMAGE CORPORATION                                    
|(Exact name of Registrant as specified in its charter)

|                                                                 |                                     
|---------------------------------------------------------------- | ------------------------------------
|Minnesota                                                        | 41-1577970                          
|(State or other jurisdiction of
  incorporation or organization) | (I.R.S. Employer Identification No.)

|                                                                                                 
|-------------------------------------------------------------------------------------------------
|7725 Washington Avenue South, Edina, MN 55439                                                    
|(Address of principal executive offices)                                                         
|                                                                                                 
|952-944-8144                                                                                     
|(Registrants telephone number, including area code)                                             
|                                                                                                 
|NA                                                                                               
|(Former
  name, former address, and former fiscal year, if changed since last report.)           
|                                                                                                 
|Common Stock outstanding at October 31, 2006  9,880,596 shares
  of $.01 par value Common Stock.

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Indicate by
check mark whether the Registrant (1) has filed all reports required to be
filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes x No o

Indicate by
checkmark whether the registrant is a large accelerated filer, an accelerated
filer, or a non-accelerated filer (as defined in Rule 12b-2 of the Exchange
Act):

Large Accelerated
Filer o
Accelerated Filerx
Non-Accelerated Filero

Indicate by
checkmark whether the registrant is a shell company (as defined in Rule 12b-2
of the Exchange Act): Yes o No x





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RIMAGE CORPORATION
FORM 10-Q
TABLE OF CONTENTS
FOR THE QUARTER ENDED SEPTEMBER 30, 2006

|           |                       |                                  |                                                                                                                     |  |      
|---------- | --------------------- | -------------------------------- | ------------------------------------------------------------------------------------------------------------------- |  | -----
|           |                       |                                  | Description                                                                                                         |  | Page 
|           |                       |                                  |                                                                                                                     |  |      
|           |                       |                                  |                                                                                                                     |  |      
|PART
I     | FINANCIAL INFORMATION |                                  |                                                                                                                    
|           |                       |                                  |                                                                                                                    
|           | Item
  1.             | Financial Statements (unaudited) |                                                                                                                     | 
|           |                       |                                  |                                                                                                                     | 
|           |                       |                                  | Condensed
  Consolidated Balance Sheets as of September 30, 2006 and December 31, 2005                              |  | 3    
|           |                       |                                  |                                                                                                                     |  |      
|           |                       |                                  | Condensed
  Consolidated Statements of Income for the three and nine months ended
  September 30, 2006 and 2005     |  | 4    
|           |                       |                                  |                                                                                                                     |  |      
|           |                       |                                  | Condensed
  Consolidated Statements of Cash Flows for the three and nine months ended
  September 30, 2006 and 2005 |  | 5    
|           |                       |                                  |                                                                                                                     |  |      
|           |                       |                                  | Notes to
  Condensed Consolidated Financial Statements                                                              |  | 6-14 
|           |                       |                                  |                                                                                                                     |  |      
|           | Item
  2.             |                                  | Managements
  Discussion and Analysis of Financial Condition and Results of Operations                             |  | 15-24
|           |                       |                                  |                                                                                                                     |  |      
|           | Item
  3.             |                                  | Quantitative and
  Qualitative Disclosures about Market Risk                                                        |  | 24   
|           |                       |                                  |                                                                                                                     |  |      
|           | Item
  4.             |                                  | Controls and
  Procedures                                                                                           |  | 25   
|           |                       |                                  |                                                                                                                     | 
|PART
II    | OTHER
  INFORMATION   |                                  | 25                                                                                                                 
|           |                       |                                  |                                                                                                                    
|           |                       |                                  |                                                                                                                    
|           | Items
  1-5.          | None                             |                                                                                                                     | 
|           |                       |                                  |                                                                                                                     | 
|           | Item
  6.             | Exhibits                         |                                                                                                                     | 
|           |                       |                                  |                                                                                                                     | 
|SIGNATURES |                       |                                  | 26                                                                                                                 

2

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Table of Contents

RIMAGE CORPORATION AND SUBSIDIARIESCondensed Consolidated Balance Sheets 
September 30, 2006 and December 31, 2005(unaudited - in thousands, except share data)

|                                                                                                                               |  |                      |         |                     |   |        | 
|------------------------------------------------------------------------------------------------------------------------------ |  | -------------------- | ------- | ------------------- | - | ------ | 
|Assets                                                                                                                         |  | September 30,
  2006 |         | December 31,
  2005 |  
|                                                                                                                               |  |                      |         |                     |  
|Current assets:                                                                                                                |  |                      |         |                     |   |        | 
|Cash and cash equivalents                                                                                                      |  | $                    | 29,538  |                     | $ | 18,489 | 
|Marketable securities                                                                                                          |  |                      | 18,600  |                     |   | 45,982 | 
|Trade accounts receivable, net of allowance
  for doubtful accounts and sales returns of $609,000 and $854,000,
  respectively |  |                      | 14,892  |                     |   | 12,689 | 
|Inventories                                                                                                                    |  |                      | 6,496   |                     |   | 6,621  | 
|Prepaid expenses and other current assets                                                                                      |  |                      | 1,103   |                     |   | 1,284  | 
|Deferred income taxes - current                                                                                                |  |                      | 1,359   |                     |   | 1,379  | 
|                                                                                                                               |  |                      |         |                     |   |        | 
|Total current assets                                                                                                           |  |                      | 71,988  |                     |   | 86,444 | 
|                                                                                                                               |  |                      |         |                     |   |        | 
|Property and equipment, net                                                                                                    |  |                      | 3,924   |                     |   | 2,525  | 
|Marketable securities - non-current                                                                                            |  |                      | 25,135  |                     |   |       | 
|Deferred income taxes - non-current                                                                                            |  |                      | 120     |                     |   | 18     | 
|Other non-current assets                                                                                                       |  |                      |        |                     |   | 22     | 
|                                                                                                                               |  |                      |         |                     |   |        | 
|Total assets                                                                                                                   |  | $                    | 101,167 |                     | $ | 89,009 | 
|                                                                                                                               |  |                      |         |                     |   |        | 

|                                                                                                                             |  |   |         |  |   |        |  
|---------------------------------------------------------------------------------------------------------------------------- |  | - | ------- |  | - | ------ | -
|Liabilities
and Stockholders Equity                                                                                         |  |   |         |  |   |        |  
|                                                                                                                             |  |   |         |  |   |        |  
|Current liabilities:                                                                                                         |  |   |         |  |   |        |  
|Trade accounts payable                                                                                                       |  | $ | 3,901   |  | $ | 5,413  |  
|Accrued compensation                                                                                                         |  |   | 1,973   |  |   | 2,896  |  
|Other accrued expenses                                                                                                       |  |   | 1,054   |  |   | 1,332  |  
|Income taxes payable                                                                                                         |  |   | 291     |  |   | 283    |  
|Deferred income and customer deposits                                                                                        |  |   | 3,405   |  |   | 2,531  |  
|Other current liabilities                                                                                                    |  |   | 27      |  |   | 12     |  
|                                                                                                                             |  |   |         |  |   |        |  
|Total current liabilities                                                                                                    |  |   | 10,651  |  |   | 12,467 |  
|                                                                                                                             |  |   |         |  |   |        |  
|Long-term liabilities:                                                                                                       |  |   |         |  |   |        |  
|Other non-current liabilities                                                                                                |  |   | 12      |  |   | 13     |  
|                                                                                                                             |  |   |         |  |   |        |  
|Total long-term liabilities                                                                                                  |  |   | 12      |  |   | 13     |  
|                                                                                                                             |  |   |         |  |   |        |  
|Total liabilities                                                                                                            |  |   | 10,663  |  |   | 12,480 |  
|                                                                                                                             |  |   |         |  |   |        |  
|Stockholders equity:                                                                                                        |  |   |         |  |   |        |  
|                                                                                                                             |  |   |         |  |   |        |  
|Preferred stock, $.01 par value, authorized
  250,000 shares, no shares issued and outstanding                               |  |   |        |  |   |       |  
|                                                                                                                             |  |   |         |  |   |        |  
|Common stock, $.01 par value, authorized
  29,750,000 shares, issued and outstanding 9,880,596 and 9,630,324,
  respectively |  |   | 99      |  |   | 96     |  
|Additional paid-in capital                                                                                                   |  |   | 26,643  |  |   | 22,389 |  
|Retained earnings                                                                                                            |  |   | 63,699  |  |   | 54,240 |  
|Accumulated other comprehensive income
  (loss)                                                                              |  |   | 63      |  |   | (196   | )
|                                                                                                                             |  |   |         |  |   |        |  
|Total stockholders equity                                                                                                   |  |   | 90,504  |  |   | 76,529 |  
|                                                                                                                             |  |   |         |  |   |        |  
|                                                                                                                             |  |   |         |  |   |        |  
|Total liabilities and stockholders
equity                                                                                   |  | $ | 101,167 |  | $ | 89,009 |  
|                                                                                                                             |  |   |         |  |   |        |  

See
accompanying notes to condensed consolidated financial statements

3

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Table of Contents

RIMAGE CORPORATION AND SUBSIDIARIESCondensed Consolidated Statements of Income 
(unaudited - in thousands, except per share data)

|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|------------------------------------------- |  | ---------------------------------- | ------ | --------------------------------- | - | ------ | - | ---- | ------ |  | - | ------ | -
|                                            |  | Three Months Ended
  September 30, |        | Nine Months Ended
  September 30, |  
|                                            |  | 2006                               |        | 2005                              |   | 2006   |   | 2005 |       
|                                            |  |                                    |        |                                   |   |        |   |      |       
|Revenues                                    |  | $                                  | 24,777 |                                   | $ | 27,962 |   | $    | 72,733 |  | $ | 71,144 |  
|Cost of revenues                            |  |                                    | 12,517 |                                   |   | 14,571 |   |      | 39,158 |  |   | 38,498 |  
|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|Gross profit                                |  |                                    | 12,260 |                                   |   | 13,391 |   |      | 33,575 |  |   | 32,646 |  
|                                            |  |                                    |        |                                   |   |        |   |      |       
|Operating expenses:                         |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|Research and development                    |  |                                    | 1,459  |                                   |   | 1,399  |   |      | 4,781  |  |   | 4,177  |  
|Selling, general and administrative         |  |                                    | 5,032  |                                   |   | 5,937  |   |      | 16,115 |  |   | 15,084 |  
|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|Total operating expenses                    |  |                                    | 6,491  |                                   |   | 7,336  |   |      | 20,896 |  |   | 19,261 |  
|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|                                           
|Operating income                            |  |                                    | 5,769  |                                   |   | 6,055  |   |      | 12,679 |  |   | 13,385 |  
|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|Other income (expense):                     |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|Interest, net                               |  |                                    | 711    |                                   |   | 400    |   |      | 1,997  |  |   | 1,007  |  
|Gain (loss) on currency exchange            |  |                                    | 27     |                                   |   | (40    | ) |      |       |  |   | (113   | )
|Other, net                                  |  |                                    | 1      |                                   |   |       |   |      |       |  |   | 1      |  
|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|Total other income, net                     |  |                                    | 739    |                                   |   | 360    |   |      | 1,997  |  |   | 895    |  
|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|Income before income taxes                  |  |                                    | 6,508  |                                   |   | 6,415  |   |      | 14,676 |  |   | 14,280 |  
|Income tax expense                          |  |                                    | 2,067  |                                   |   | 2,330  |   |      | 5,217  |  |   | 5,216  |  
|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|Net income                                  |  | $                                  | 4,441  |                                   | $ | 4,085  |   | $    | 9,459  |  | $ | 9,064  |  
|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|                                           
|Net income per basic share                  |  | $                                  | 0.45   |                                   | $ | 0.43   |   | $    | 0.97   |  | $ | 0.95   |  
|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|                                           
|Net income per diluted share                |  | $                                  | 0.43   |                                   | $ | 0.39   |   | $    | 0.92   |  | $ | 0.88   |  
|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|                                           
|Basic weighted average shares outstanding   |  |                                    | 9,854  |                                   |   | 9,553  |   |      | 9,783  |  |   | 9,507  |  
|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  
|                                           
|Diluted weighted average shares outstanding |  |                                    | 10,375 |                                   |   | 10,380 |   |      | 10,336 |  |   | 10,250 |  
|                                            |  |                                    |        |                                   |   |        |   |      |        |  |   |        |  

See accompanying notes to
condensed consolidated financial statements

4

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Table of Contents

RIMAGE CORPORATION AND SUBSIDIARIESCondensed
Consolidated Statements of Cash Flows 
(unaudited - in thousands)

|                                                                                    |  |                                   |          |      |   |         |  
|----------------------------------------------------------------------------------- |  | --------------------------------- | -------- | ---- | - | ------- | -
|                                                                                    |  | Nine months ended
  September 30, |         
|                                                                                    |  | 2006                              |          | 2005 |  
|                                                                                    |  |                                   |          |      |  
|Cash flows from operating activities:                                               |  |                                   |          |      |   |         |  
|Net income                                                                          |  | $                                 | 9,459    |      | $ | 9,064   |  
|Adjustments to reconcile net income to net cash
provided by operating
  activities: |  |                                   |          |      |   |         |  
|Depreciation and amortization                                                       |  |                                   | 1,076    |      |   | 867     |  
|Deferred income tax benefit                                                         |  |                                   | (82      | )    |   | (110    | )
|Loss on sale of property and equipment                                              |  |                                   | 28       |      |   | 38      |  
|Stock-based compensation                                                            |  |                                   | 1,196    |      |   |        |  
|Excess tax benefits from stock-based
compensation                                   |  |                                   | (1,003   | )    |   |        |  
|Changes in operating assets and
liabilities:                                        |  |                                   |          |      |   |         |  
|Trade
  accounts receivable                                                         |  |                                   | (2,203   | )    |   | (4,618  | )
|Inventories                                                                         |  |                                   | 125      |      |   | 1,242   |  
|Prepaid
  income taxes / income taxes payable                                       |  |                                   | 1,289    |      |   | 862     |  
|Prepaid
  expenses and other current assets                                         |  |                                   | 182      |      |   | (535    | )
|Trade
  accounts payable                                                            |  |                                   | (1,512   | )    |   | 1,595   |  
|Accrued
  compensation                                                              |  |                                   | (923     | )    |   | 184     |  
|Other
  accrued expenses and other current liabilities                              |  |                                   | (279     | )    |   | 66      |  
|Deferred
  income and customer deposits                                             |  |                                   | 874      |      |   | 529     |  
|                                                                                    |  |                                   |          |      |   |         |  
|                                                                                   
|Net cash provided by operating
activities                                           |  |                                   | 8,227    |      |   | 9,184   |  
|                                                                                    |  |                                   |          |      |   |         |  
|                                                                                    |  |                                   |          |      |   |         |  
|Cash flows from investing activities:                                               |  |                                   |          |      |   |         |  
|Purchases of marketable securities                                                  |  |                                   | (106,118 | )    |   | (84,350 | )
|Maturities of marketable securities                                                 |  |                                   | 108,440  |      |   | 91,676  |  
|Purchases of property and equipment                                                 |  |                                   | (2,454   | )    |   | (1,133  | )
|Proceeds from sale of property and
equipment                                        |  |                                   | 4        |      |   | 5       |  
|Other non-current items                                                             |  |                                   | 92       |      |   | (119    | )
|                                                                                    |  |                                   |          |      |   |         |  
|                                                                                   
|Net
  cash provided by (used in) investing activities                               |  |                                   | (36      | )    |   | 6,079   |  
|                                                                                    |  |                                   |          |      |   |         |  
|                                                                                   
|Cash flows from financing activities:                                               |  |                                   |          |      |   |         |  
|Principal payments on capital lease
obligations                                     |  |                                   | (15      | )    |   | (8      | )
|Excess tax benefits from stock-based
compensation                                   |  |                                   | 1,003    |      |   |        |  
|Proceeds from employee stock plans                                                  |  |                                   | 1,779    |      |   | 1,330   |  
|                                                                                    |  |                                   |          |      |   |         |  
|                                                                                   
|Net cash provided by financing
activities                                           |  |                                   | 2,767    |      |   | 1,322   |  
|                                                                                    |  |                                   |          |      |   |         |  
|                                                                                   
|Effect of exchange rate changes on cash                                             |  |                                   | 91       |      |   | (154    | )
|                                                                                    |  |                                   |          |      |   |         |  
|                                                                                   
|Net increase in cash and cash equivalents                                           |  |                                   | 11,049   |      |   | 16,431  |  
|                                                                                   
|Cash and cash equivalents, beginning of period                                      |  |                                   | 18,489   |      |   | 13,321  |  
|                                                                                    |  |                                   |          |      |   |         |  
|                                                                                   
|Cash and cash equivalents, end of period                                            |  | $                                 | 29,538   |      | $ | 29,752  |  
|                                                                                    |  |                                   |          |      |   |         |  
|                                                                                   
|Supplemental disclosures of net cash paid during the period
for:                    |  |                                   |          |      |   |         |  
|Income taxes                                                                        |  | $                                 | 4,011    |      | $ | 4,464   |  
|                                                                                    |  |                                   |          |      |   |         |  
|Non-cash investing and financing activities:                                        |  |                                   |          |      |   |         |  
|Income tax reductions relating to exercise of stock
options                         |  | $                                 | 279      |      | $ | 467     |  
|Unrealized net gains from available-for-sale
securities                             |  | $                                 | 75       |      | $ | 50      |  
|Capital lease obligations                                                           |  | $                                 | 30       |      | $ | 12      |  

See accompanying notes to condensed consolidated financial statements

5

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Table of Contents

RIMAGE
CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)

|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Basis of Presentation and Nature of Business                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|    | Rimage Corporation (the
  Company) develops, manufactures and distributes high performance CD-Recordable
  (CD-R) and DVD-Recordable (DVD-R) publishing and duplication systems from its
  operations in the United States, Germany and Japan. The Company also
  distributes related consumables for use with its systems, consisting of media
  kits, ribbons, ink cartridges and blank CD-R and DVD-R media.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|    | The accompanying condensed
  consolidated financial statements of Rimage Corporation are unaudited and
  have been prepared by the Company in accordance with accounting principles
  generally accepted in the United States of America for interim financial
  information, pursuant to the rules and regulations of the Securities and
  Exchange Commission. Pursuant to such rules and regulations, certain
  financial information and footnote disclosures normally included in the
  financial statements have been condensed or omitted. However, in the opinion
  of management, the financial statements include all adjustments, consisting
  of normal recurring accruals, necessary for a fair presentation of the
  financial position and results of operations and cash flows of the interim
  periods presented. Operating results for these interim periods are not
  necessarily indicative of results to be expected for the entire year, due to
  seasonal, operating and other factors. These condensed consolidated financial
  statements should be read in conjunction with the consolidated financial
  statements and notes thereto included in the Companys Annual Report on Form
  10-K for the year ended December 31, 2005.                                                                                                                                                                                         
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|    | The preparation of
  financial statements in conformity with accounting principles generally
  accepted in the United States of America requires management to make
  estimates and assumptions that affect the reported amounts of assets and
  liabilities at the date of the financial statements and the reported amounts
  of revenues and expenses during the reporting period. Actual results could
  differ from those estimates.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|(2) | Stock-Based Compensation                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|    | In
  December 2004, the Financial Accounting Standards Board (FASB) issued
  Statement of Financial Accounting Standard (SFAS) No. 123R, Share-Based
  Payment. SFAS 123R is a revision of FASB Statement No. 123, Accounting for
  Stock-Based Compensation, and supersedes Accounting Principles Board (APB)
  Opinion No. 25, Accounting for Stock Issued to Employees, and amends SFAS
  95, Statement of Cash Flows, and its related implementation guidance. SFAS
  123R focuses primarily on accounting for transactions in which an entity
  obtains employee services through share-based payment transactions. SFAS 123R
  requires a public entity to measure the cost of employee services received in
  exchange for the award of equity instruments based on the fair value of the
  award at the date of grant. The cost is to be recognized over the period
  during which an employee is required to provide services in exchange for the
  award. SFAS 123R also requires the benefits of tax deductions in excess of
  recognized compensation expense to be reported as a financing cash flow,
  rather than as an operating cash flow as prescribed under the prior accounting
  rules. This requirement reduces net operating cash flows and increases net
  financing cash flows in periods after adoption. Total cash flow remains
  unchanged from what would have been reported under prior accounting rules.

6

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Table of Contents

RIMAGE
CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)

The Company implemented the
provisions of SFAS 123R effective January 1, 2006 using the modified
prospective method, and therefore has not restated prior periods results.
Under this method, the Company recognizes compensation expense for all
stock-based awards granted on or after January 1, 2006, and for previously
granted awards not yet vested as of January 1, 2006. Under the provisions of
SFAS 123R, the Company recognizes stock-based compensation net of an estimated
forfeiture rate, resulting in the recognition of compensation cost for only
those shares expected to vest. Prior to the adoption of SFAS 123R, the Company
followed the intrinsic value method in accordance with APB 25 to account for
the issuance of stock incentives to employees and directors. Accordingly, no
compensation expense was recognized for share purchase rights granted in
connection with the Companys Amended and Restated 1992 Stock Option Plan (the
Stock Option Plan) or the Companys Employee Stock Purchase Plan (the
Employee Stock Purchase Plan). The Stock Option Plan,
initially approved by shareholders in September 1992, and with the latest
amendments approved by shareholders in May 2005, provides for the grant of
incentive stock options, non-qualified stock options, restricted stock awards,
deferred stock awards, stock appreciation rights and performance stock to
certain key administrative, managerial and executive employees and the
automatic periodic grants of stock options to non-employee directors. At
September 30, 2006, a total of 211,621 shares were available for future grant
under the plan. The exercise price of stock options granted under the Stock
Option Plan is equal to the market value on the date of grant. Options issued
to employees through March 31, 2006 generally become exercisable over a
two-year period and terminate ten years from the date of grant. Options issued
to employees after March 31, 2006 generally become exercisable over a four-year
period and terminate ten years from the date of grant. Stock options granted to
non-employee directors vest six months from the date of grant and terminate ten
years from the date of grant. Performance shares granted to employees under the
Stock Option Plan are issued contingent on the Companys achievement of revenue
and operating income performance goals for the calendar year which follows two
years after the grant date. Shares of the Companys common stock are issued to
employees for the performance shares only if the Company achieves the performance
goals during the applicable performance period. If the performance goals are
not achieved at the end of the performance period, all performance shares will
be canceled and the employees will receive no common stock for the canceled
performance shares. The Employee Stock Purchase
Plan was approved by shareholders in May 2001. Under this plan, employees were
entitled to purchase the Companys common stock at 85% of the lower of the
market price of such shares on the first or last business day of each one-year
period. The Employee Stock Purchase Plan was terminated effective July 1, 2006,
and no additional shares will be issued under that plan. Shares originally
authorized and reserved for issuance under the Employee Stock Purchase Plan and
remaining unissued after its termination amounted to 165,126 shares. Such
shares are no longer reserved for issuance under the Employee Stock Purchase
Plan.


7

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Table of Contents

RIMAGE CORPORATION AND
SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)

Amounts
recognized in the financial statements with respect to the Companys
share-based payment arrangements are as follows: Three Months Ended 
  September 30, 2006
  
  Nine Months Ended
  September 30, 2006(in thousands)Total stock-based compensation
cost
  
  $
  637
  
  $
  1,197Amounts capitalized in inventory
  
  
  (1
  )
  
  (1
  )Amounts recognized in income for amounts
previously capitalized in
  inventory
  
  
  1
  
  
  Amounts charged against income, before
income tax benefit
  
  
  637
  
  
  1,196Income tax benefit related to stock-based
compensation included in
  net income
  
  
  (212
  )
  
  (328
  )Net
compensation expense included in net income
  
  $
  425
  
  $
  868Impact on net income per share:Basic
  
  $
  0.04
  
  $
  0.09Diluted
  
  $
  0.04
  
  $
  0.08 Total stock-based
compensation cost of $1,197,000 for the nine months ended September 30, 2006
reflected in the preceding table consists of $1,170,000 and $5,000 of expense
associated with stock options and performance shares, respectively, both issued
under the Stock Option Plan (including $322,000 related to options granted
prior to January 1, 2006), and $22,000 of expense associated with the Employee
Stock Purchase Plan. The fair value of each
option award is estimated at the date of grant using the Black-Scholes option
pricing model. No option awards were granted during the three months ended
September 30, 2006. The following key assumptions were utilized in valuing
option awards issued during the nine months ended September 30, 2006: Nine Months Ended
  September 30, 2006Expected life of options
  in years
  
  
  5.0
  - 6.0Risk-free interest rate
  
  
  4.3
  - 5.0
  %Volatility
  
  
  37.8
  - 50.4
  %Expected dividend yield
  
  
  0.0
  % In accordance with SFAS
123R, the Company reviews these assumptions at the time of each new option
award and adjusts them as necessary to ensure proper option valuation. The
expected life of each award was determined based on an analysis of historical
exercise behavior. The risk-free


8

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Table of Contents

RIMAGE CORPORATION AND
SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)

interest rate is based on
the yield of constant maturity U.S. treasury bonds with a remaining term equal
to the expected life of the awards. The Company estimated the stock price
volatility using historical weekly price observations over the expected life of
the awards. The expected dividend yield is zero, as the Company has not paid or
declared any cash dividends on its common stock, and does not currently have
plans to pay dividends. A summary of share option
activity under the Stock Option Plan as of and for the nine months ended
September 30, 2006 is presented in the table below (in thousands, except per
share data): Shares
  
  WAEP*
  
  Weighted
  Average
  Remaining
  Contractual Term
  (in years)
  
  Aggregate
  Intrinsic
  Value**Options outstanding at
  December 31, 2005
  
  
  1,340
  
  $
  10.67Granted
  
  
  265
  
  
  22.02Exercised
  
  
  (231
  )
  
  6.27Canceled
  
  
  (5
  )
  
  24.46Options outstanding at
  September 30, 2006
  
  
  1,369
  
  $
  13.56
  
  
  6.30
  
  $
  12,246Options subject to
  exercise at September 30, 2006
  
  
  1,025
  
  $
  11.02
  
  
  5.28
  
  $
  11,737 *Weighted Average Exercise
Price **Aggregate
intrinsic value includes only those options with intrinsic value (options where
the exercise price is below the market value). A summary of the status of
the Companys nonvested option shares as of September 30, 2006 and changes
during the nine months ended September 30, 2006 is presented in the table below
(in thousands, except per share data): Number of Shares
  
  Weighted Average
  Grant-Date Fair ValueNonvested at December 31,
  2005
  
  
  206
  
  $
  5.88Granted
  
  
  265
  
  
  11.82Vested
  
  
  (121
  )
  
  5.68Cancelled
  
  
  (4
  )
  
  10.76Nonvested at September 30,
  2006
  
  
  346
  
  $
  10.44 As of
September 30, 2006, there was $2,369,000 of total stock option compensation
expense not yet recognized related to non-vested option awards, which is
expected to be recognized over a weighted average period of 1.27 years.


9

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Table of Contents

RIMAGE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)

| |                                                         
| | --------------------------------------------------------
| | Other information
  pertaining to options is as follows:

| |                                                          |  |                                       |     |                      |   |                      |  |                      |       |  |   |       | 
| | -------------------------------------------------------- |  | ------------------------------------- | --- | -------------------- | - | -------------------- |  | -------------------- | ----- |  | - | ----- | 
| |                                                          |  | Three Months Ended                    |     | Nine Months Ended    |  
| |                                                          |  |                                       |     |                      |   |                      |  |                      |      
| |                                                          |  | September
  30, 2006                  |     | September
  30, 2005 |   | September
  30, 2006 |  | September
  30, 2005 |      
| |                                                          |  |                                       |     |                      |   |                      |  |                      |      
| |                                                          |  | (in thousands, except per share data) |    
| |                                                          |  |                                       |     |                      |   |                      |  |                      |       |  |   |       | 
| | Number of options granted                                |  |                                       |    |                      |   | 18                   |  |                      | 265   |  |   | 314   | 
| | Fair value of options granted                            |  | $                                     |    |                      | $ | 224                  |  | $                    | 3,132 |  | $ | 1,978 | 
| | Per share weighted average fair value of options granted |  | $                                     |    |                      | $ | 12.44                |  | $                    | 11.82 |  | $ | 6.31  | 
| | Total fair value of stock options vested                 |  | $                                     | 105 |                      | $ | 162                  |  | $                    | 679   |  | $ | 891   | 
| | Total intrinsic value of stock options exercised         |  | $                                     | 775 |                      | $ | 817                  |  | $                    | 3,963 |  | $ | 2,734 | 

| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Cash received from the
  exercise of stock options was $1,450,000 and $997,000 for the nine months
  ended September 30, 2006 and 2005, respectively. The income tax benefit
  realized from the exercise of stock options was $1,283,000 and $467,000 for
  the nine months ended September 30, 2006 and 2005, respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| | Performance
  Shares:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|
| | During the three months
  ended September 30, 2006, the Company granted 16,967 performance shares to
  certain managerial and executive employees under the Stock Option Plan. The
  issuance of shares of the Companys common stock for the performance shares
  is contingent on the Companys achievement of revenue and operating income
  performance goals established for fiscal year 2008. If the performance goals
  are not achieved during the performance period, all performance shares will
  be canceled and the employees will receive no common stock for the canceled
  performance shares. An employee must also remain employed by the Company as
  of the end of the performance period to be eligible to receive common stock
  for the performance shares. During the period, 283 performance shares were
  canceled, leaving 16,684 outstanding performance shares as of September 30,
  2006.
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| | The valuation of the
  performance shares was based on the closing market price of the Companys
  common stock on the date of grant of $21.152, resulting in a total valuation
  of $359,000. Stock-based compensation expense charged against pre-tax income
  totaled $5,000 for the three and nine months ended September 30, 2006. Total
  stock-based compensation expense not yet recognized related to performance
  shares as of September 30, 2006 totaled $308,000, which is expected to be
  recognized over a weighted average period of 2.21 years, assuming the
  Companys achievement of the established performance goals for fiscal year
  2008.                                                                                                                                                                                                                                                    
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| | Results of operations for
  periods prior to 2006 have not been restated to reflect recognition of
  stock-based compensation expense. Had compensation costs for the Companys
  stock-based compensation been determined based on the fair value of the
  awards on the date of grant, consistent with the provisions of SFAS No. 123,
  the Companys net income and basic and diluted earnings per share for                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       

10

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Table of Contents

RIMAGE CORPORATION AND SUBSIDIARIES 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)

| |                                                                                                                                                                                 
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | the three and nine months
  ended September 30, 2005 would have been adjusted to the proforma amounts
  stated in the following table (in thousands, except for per share data):

| |                                                 |  |                       |       |                       |   |       |  
| | ----------------------------------------------- |  | --------------------- | ----- | --------------------- | - | ----- | -
| |                                                 |  | Three
  Months        |       | Nine
  Months         |  
| |                                                 |  | Ended September
  30, |       | Ended
  September 30, |  
| |                                                 |  | 2005                  |       | 2005                  |  
| |                                                 |  |                       |       |                       |  
| | Net income:                                     |  |                       |       |                       |   |       |  
| | As reported                                     |  | $                     | 4,085 |                       | $ | 9,064 |  
| |                                                 |  |                       |       |                       |   |       |  
| | Stock-based employee
  compensation, net of tax |  |                       | (416  | )                     |   | (977  | )
| |                                                 |  |                       |       |                       |   |       |  
| |                                                 |  |                       |       |                       |   |       |  
| | Proforma                                        |  | $                     | 3,669 |                       | $ | 8,087 |  
| |                                                 |  |                       |       |                       |   |       |  
| |                                                 |  |                       |       |                       |  
| | Basic net income per share:                     |  |                       |       |                       |   |       |  
| | As reported                                     |  | $                     | 0.43  |                       | $ | 0.95  |  
| |                                                 |  |                       |       |                       |   |       |  
| | Stock-based employee
  compensation, net of tax |  |                       | (0.05 | )                     |   | (0.10 | )
| |                                                 |  |                       |       |                       |   |       |  
| |                                                 |  |                       |       |                       |   |       |  
| | Proforma                                        |  | $                     | 0.38  |                       | $ | 0.85  |  
| |                                                 |  |                       |       |                       |  
| | Diluted net income per
  share:                 |  |                       |       |                       |   |       |  
| | As reported                                     |  | $                     | 0.39  |                       | $ | 0.88  |  
| |                                                 |  |                       |       |                       |   |       |  
| | Stock-based employee
  compensation, net of tax |  |                       | (0.03 | )                     |   | (0.08 | )
| |                                                 |  |                       |       |                       |   |       |  
| |                                                 |  |                       |       |                       |   |       |  
| | Proforma                                        |  | $                     | 0.36  |                       | $ | 0.80  |  
| |                                                 |  |                       |       |                       |  

|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(3) | Marketable
  Securities                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | Marketable securities
  consist primarily of municipal securities, U.S. government agency securities
  and commercial paper with long-term credit ratings of AAA and short-term
  credit ratings of A-1. Marketable securities are classified as short-term or
  long-term in the balance sheet based on their effective maturity date. All
  marketable securities have maturities ranging from three to 36 months and are
  classified as available-for-sale. Available-for-sale securities are recorded
  at fair value and any unrealized holding gains and losses, net of the related
  tax effect, are excluded from earnings and are reported as a separate component
  of accumulated other comprehensive income (loss) until realized.
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|(4) | Inventories                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | Inventories consisted of
  the following (in thousands):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       

| |                                              |  |                 |       |                |   |       |  | 
| | -------------------------------------------- |  | --------------- | ----- | -------------- | - | ----- |  | 
| |                                              |  | September
  30, |       | December
  31, |   |      
| |                                              |  | 2006            |       | 2005           |   |      
| |                                              |  |                 |       |                |   |      
| |                                              |  |                 |       |                |   |       |  | 
| | Finished goods and
  demonstration equipment |  | $               | 1,281 |                | $ | 1,562 |  | 
| | Work-in-process                              |  |                 |      |                |   | 290   |  | 
| | Purchased parts and
  subassemblies          |  |                 | 5,215 |                |   | 4,769 |  | 
| |                                              |  |                 |       |                |   |       |  | 
| |                                              |  | $               | 6,496 |                | $ | 6,621 |  | 
| |                                              |  |                 |       |                |   |       |  | 

11

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Table of Contents

RIMAGE CORPORATION AND SUBSIDIARIES 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)

|    |                                                                                                                                                                                                                                                                                         
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(5) | Comprehensive
  Income                                                                                                                                                                                                                                                                  
|    |                                                                                                                                                                                                                                                                                         
|    | Comprehensive income
  consists of the Companys net income, foreign currency translation
  adjustments and unrealized holding gains (losses) from available for sale
  investments. The components of and changes in other comprehensive income
  (loss) are as follows (in thousands):

| |                                               |  |                      |       |                     |   |       |   |      |       |  |   |       |  
| | --------------------------------------------- |  | -------------------- | ----- | ------------------- | - | ----- | - | ---- | ----- |  | - | ----- | -
| |                                               |  | Three
  Months Ended |       | Nine
  Months Ended |  
| |                                               |  | September
  30,      |       | September
  30,     |  
| |                                               |  |                      |       |                     |  
| |                                               |  | 2006                 |       | 2005                |   | 2006  |   | 2005 |      
| |                                               |  |                      |       |                     |   |       |   |      |      
| | Net income                                    |  | $                    | 4,441 |                     | $ | 4,085 |   | $    | 9,459 |  | $ | 9,064 |  
| | Other comprehensive income (loss):            |  |                      |       |                     |   |       |   |      |       |  |   |       |  
| | Net changes in:                               |  |                      |       |                     |   |       |   |      |       |  |   |       |  
| | Foreign currency translation adjustments      |  |                      | 37    |                     |   | (12   | ) |      | 184   |  |   | (273  | )
| | Net unrealized gains on marketable
securities |  |                      | 100   |                     |   | 37    |   |      | 75    |  |   | 50    |  
| |                                               |  |                      |       |                     |   |       |   |      |       |  |   |       |  
| | Total other comprehensive income              |  | $                    | 4,578 |                     | $ | 4,110 |   | $    | 9,718 |  | $ | 8,841 |  
| |                                               |  |                      |       |                     |   |       |   |      |       |  |   |       |  

|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(6) | Foreign
  Currency Contracts                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|    | The Company enters into
  forward foreign exchange contracts to hedge intercompany receivables
  denominated in Euros arising from sales to its subsidiary in Germany. Gains
  or losses on forward foreign exchange contracts are calculated at each period
  end and are recognized in net income in the period in which they arose. The
  fair value of forward foreign exchange contracts is recorded in other current
  assets or other current liabilities depending on whether the net amount is a
  gain or a loss.                                                                                                                                                                                           
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|    | As of September 30, 2006,
  the Company had seventeen outstanding foreign currency contracts totaling
  $3,573,000. These contracts mature in 2006 and early 2007 and bear rates
  ranging from 1.2516 to 1.29 U.S. Dollars per Euro. As of September 30, 2006,
  the fair value of foreign currency contracts is a net gain position of
  $21,000, recorded in other current assets.                                                                                                                                                                                                                                                                                                                                 
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|    | As of December 31, 2005,
  the Company had twenty three outstanding foreign currency contracts totaling
  $4,578,000, all maturing during 2006 at rates ranging from 1.1724 to 1.2155
  U.S. Dollars per Euro. As of December 31, 2005, the fair value of foreign
  currency contracts was a net gain position of $25,000, recorded in other
  current assets.                                                                                                                                                                                                                                                                                                                                                        
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|(7) | Recently
  Issued Accounting Standards                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|    | In June 2006, the FASB
  issued Interpretation No. 48, Accounting for Uncertainty in Income Taxesan interpretation
  of FASB Statement No. 109. This interpretation clarifies the accounting for
  uncertainty in income taxes recognized in an enterprises financial
  statements in accordance with FASB Statement No. 109, Accounting for Income
  Taxes. This interpretation prescribes a recognition threshold and
  measurement attribute for the financial statement recognition and measurement
  of a tax position taken or expected to be taken in a tax return. It also
  provides guidance on derecognition, classification, interest and penalties,
  accounting in interim periods, disclosure and

12

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RIMAGE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)

|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    | transition. This
  Interpretation is effective for the Company beginning in fiscal year 2007.
  The Company is currently evaluating the impact of adopting this pronouncement
  on its consolidated financial statements and related disclosures.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|    | In September 2006, the
  FASB issued Statement of Financial Accounting Standard (SFAS) No. 157, Fair
  Value Measurements. SFAS No. 157 establishes a single authoritative
  definition of fair value, sets out a framework for measuring fair value and
  requires additional disclosures about fair-value measurements. This Statement
  applies only to fair-value measurements that are already required or
  permitted by other accounting standards, except for measurements of
  share-based payments and measurements that are similar to, but not intended
  to be, fair value. This statement is expected to increase the consistency of
  fair value measurements, but imposes no requirements for additional
  fair-value measures in financial statements. The provisions under SFAS No.
  157 are effective for the Company beginning January 1, 2008, and are expected
  to be applied prospectively. The Company is currently evaluating the impact
  of adopting this pronouncement on its consolidated financial statements and
  related disclosures.                                                            
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|    | In September 2006, the
  Securities and Exchange Commission issued Staff Accounting Bulletin (SAB) No.
  108, Considering the Effects of Prior Year Misstatements when Quantifying
  Misstatements in Current Year Financial Statements. SAB 108 addresses how
  the effects of prior year uncorrected misstatements should be considered when
  quantifying misstatements in current year financial statements. SAB 108
  requires registrants to quantify misstatements using both the balance sheet
  and income statement approaches and to evaluate whether either approach
  results in quantifying an error that is material in light of relevant
  quantitative and qualitative factors. When the effect of initial adoption is
  determined to be material, SAB 108 allows registrants to record that effect
  as a one-time cumulative-effect adjustment to beginning-of-year retained
  earnings. The requirements under the SAB are effective for the Company for
  its 2006 annual financial statements. The Company is currently evaluating the
  impact of adopting SAB 108 on its consolidated financial statements.
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|(8) | Warranty
  Reserve                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|    | The warranty reserve
  rollforward, including provisions and claims, is as follows:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   

| |                    |  |           |     |            |  |          |  |                   |      |         |  |    |   |   |     | 
| | ------------------ |  | --------- | --- | ---------- |  | -------- |  | ----------------- | ---- | ------- |  | -- | - | - | --- | 
| |                    |  | Beginning |     | Warranty   |  | Warranty |  | Foreign           |      | Ending  | 
| | Nine Months Ended: |  | Balance   |     | Provisions |  | Claims   |  | Exchange
  Impact |      | Balance | 
| |                    |  |           |     |            |  |          |  |                   |      |         | 
| |                    |  |           |     |            |  |          |  |                   |      |         |  |    |   |   |     | 
| | September 30, 2006 |  | $         | 317 |            |  | 551      |  |                   | (525 | )       |  | 8  |   | $ | 351 | 
| |                    |  |           |     |            |  |          |  |                   |      |         |  |    |   |   |     | 
| | September 30, 2005 |  | $         | 187 |            |  | 699      |  |                   | (583 | )       |  | (6 | ) | $ | 297 | 

|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(9) | Computation
  of Net Income Per Share of Common Stock                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|    | Basic net income per
  common share is determined by dividing net income by the weighted average
  number of shares of common stock outstanding. Diluted net income per common
  share includes the potentially dilutive effect of common shares issued in
  connection with outstanding stock options using the treasury stock method.
  Options to acquire 290,000 and 157,000 weighted average common shares have
  been excluded from the computation of diluted weighted average shares
  outstanding for the three

13

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RIMAGE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)

| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | and nine months ended
  September 30, 2006, respectively, as their effect is anti-dilutive.
  Similarly, options to acquire less than 1,000 and 4,000 weighted average
  common shares were excluded from the computation of diluted weighted average
  shares outstanding for the three and nine months ended September 30, 2005,
  respectively, as their effect was anti-dilutive. The following is a summary
  of the weighted average common shares outstanding and diluted potential
  common shares (in thousands, except for per share data):

| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| | ------------------------------------------------- |  | -------------------- | ------ | ------------------- | - | ------ |  | ---- | ------ |  | - | ------ | 
| |                                                   |  | Three
  Months Ended |        | Nine
  Months Ended |  
| |                                                   |  | September
  30,      |        | September
  30,     |  
| |                                                   |  |                      |        |                     |  
| |                                                   |  | 2006                 |        | 2005                |   | 2006   |  | 2005 |       
| |                                                   |  |                      |        |                     |   |        |  |      |       
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| | Shares outstanding at end of period               |  |                      | 9,881  |                     |   | 9,580  |  |      | 9,881  |  |   | 9,580  | 
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| | Weighted average shares outstanding               |  |                      | 9,854  |                     |   | 9,553  |  |      | 9,783  |  |   | 9,507  | 
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| | Weighted average potential common shares          |  |                      | 521    |                     |   | 827    |  |      | 553    |  |   | 743    | 
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| | Total diluted weighted average shares
outstanding |  |                      | 10,375 |                     |   | 10,380 |  |      | 10,336 |  |   | 10,250 | 
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| | Net income                                        |  | $                    | 4,441  |                     | $ | 4,085  |  | $    | 9,459  |  | $ | 9,064  | 
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| | Basic net income per common share                 |  | $                    | 0.45   |                     | $ | 0.43   |  | $    | 0.97   |  | $ | 0.95   | 
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 
| | Diluted net income per common share               |  | $                    | 0.43   |                     | $ | 0.39   |  | $    | 0.92   |  | $ | 0.88   | 
| |                                                   |  |                      |        |                     |   |        |  |      |        |  |   |        | 

|     |                                                                                                                                                                                                                                                                                               
|---- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(10) | Contingencies                                                                                                                                                                                                                                                                                 
|     |                                                                                                                                                                                                                                                                                               
|     | The Company is exposed to
  a number of asserted and unasserted claims encountered in the normal course
  of business. In the opinion of management, the resolution of these matters
  will not have a material adverse effect on the Companys financial position
  or results of operations.

14

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Table of Contents

Item 2. Managements Discussion and Analysis of
Financial Condition and Results of Operations

The following table sets forth,
for the periods indicated, selected items from the Companys consolidated
statements of income.

|                             |  |                                                                     |     |                                                            |  |                                                                    |   |                                                            |     |      |  |                 |   |  |     |   |  |     |  
|---------------------------- |  | ------------------------------------------------------------------- | --- | ---------------------------------------------------------- |  | ------------------------------------------------------------------ | - | ---------------------------------------------------------- | --- | ---- |  | --------------- | - |  | --- | - |  | --- | -
|                             |  |                                                                     |    
|                             |  | Percentage
  (%)
  of Revenues
  Three Months Ended
  September 30, |     | Percentage
  (%)
  Increase/(Decrease)
  Between
  Periods |  | Percentage
  (%)
  of Revenues
  Nine Months Ended
  September 30, |   | Percentage
  (%)
  Increase/(Decrease)
  Between
  Periods |    
|                             |  |                                                                     |    
|                             |  | 2006                                                                |     | 2005                                                       |  | 2006
  vs. 2005                                                    |   | 2006                                                       |     | 2005 |  | 2006
  vs. 2005 |  
|                             |  |                                                                     |    
|                             |  |                                                                     |     |                                                            |  |                                                                    |   |                                                            |     |      |  |                 |  
|Revenues                     |  |                                                                     | 100 |                                                            |  | 100                                                                |   |                                                            | (11 | )    |  | 100             |   |  | 100 |   |  | 2   |  
|Cost of revenues             |  |                                                                     | (51 | )                                                          |  | (52                                                                | ) |                                                            | (14 | )    |  | (54             | ) |  | (54 | ) |  | 2   |  
|                             |  |                                                                     |    
|Gross profit                 |  |                                                                     | 49  |                                                            |  | 48                                                                 |   |                                                            | (8  | )    |  | 46              |   |  | 46  |   |  | 3   |  
|Operating
  expenses:        |  |                                                                     |     |                                                            |  |                                                                    |   |                                                            |     |      |  |                 |   |  |     |   |  |     |  
|Research and
  development   |  |                                                                     | (6  | )                                                          |  | (5                                                                 | ) |                                                            | 4   |      |  | (7              | ) |  | (6  | ) |  | 14  |  
|Selling, general
  and admin |  |                                                                     | (20 | )                                                          |  | (21                                                                | ) |                                                            | (15 | )    |  | (22             | ) |  | (21 | ) |  | 7   |  
|                             |  |                                                                     |    
|Operating income             |  |                                                                     | 23  |                                                            |  | 22                                                                 |   |                                                            | (5  | )    |  | 17              |   |  | 19  |   |  | (5  | )
|Other income,
  net          |  |                                                                     | 3   |                                                            |  | 1                                                                  |   |                                                            | 105 |      |  | 3               |   |  | 1   |   |  | 123 |  
|                             |  |                                                                     |    
|Income before
  income taxes |  |                                                                     | 26  |                                                            |  | 23                                                                 |   |                                                            | 1   |      |  | 20              |   |  | 20  |   |  | 3   |  
|Income tax
  expense         |  |                                                                     | (8  | )                                                          |  | (8                                                                 | ) |                                                            | (11 | )    |  | (7              | ) |  | (7  | ) |  |    |  
|                             |  |                                                                     |    
|Net income                   |  |                                                                     | 18  |                                                            |  | 15                                                                 |   |                                                            | 9   |      |  | 13              |   |  | 13  |   |  | 4   |  
|                             |  |                                                                     |    

OverviewRimage develops, manufactures and distributes
CD-Recordable (CD-R) and DVD-Recordable (DVD-R) publishing and duplication
systems from its operations in the United States, Germany and Japan. These
systems allow customers to benefit from cost savings by reducing their manual
labor efforts in industries such as photography, medical, banking and
government. Rimage anticipates increased future sales and marketing
expenditures as a result of increased resources focused on developing these
markets.  As Rimages sales within North
America and Europe have averaged 94% of total sales over the past three years, the
strength of the economies in each of these regions plays an important role in
determining the success of Rimage.

Rimage earns revenues through the sale of equipment,
consumables (ribbons, ink cartridges, media kits and Rimage-branded blank CD-R
and DVD-R media), maintenance contracts, parts and repair services. Rimages recurring
revenues (consumables, maintenance contracts, parts and service) comprised
approximately 46% and 37% of consolidated revenues during the nine months ended
September 30, 2006 and 2005, respectively. Exclusive of a small amount of
capital lease obligations, Rimage has no long-term debt and does not require
significant capital investments as all fabrication of its products is
outsourced to vendors.

Stock-Based CompensationThe Company implemented the provisions of Statement of
Financial Accounting Standard (SFAS) No. 123R, Share-Based Payment
effective January 1, 2006, using the modified prospective method, and therefore
has not restated prior periods results.
Prior to the adoption of SFAS 123R, the Company followed the intrinsic
value method in accordance with Accounting Principles Board (APB) Opinion No.
25, Accounting for Stock Issued to Employees to account for the issuance

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Table of Contents

Managements Discussion and Analysis of Financial Condition
and Results of Operations (Continued)

of stock incentives to employees and directors.
Accordingly, no compensation expense was recognized for equity compensation
awards granted with no intrinsic value and the proforma disclosures required by
SFAS 123 were presented in the notes to the Companys consolidated financial
statements.

As a result of the adoption of SFAS 123R, the
Companys income before taxes as reported in the Consolidated Statements of
Income for the three and nine months ended September 30, 2006, was $0.6 million
and $1.2 million lower, respectively, than under the previous accounting method
for stock-based compensation.  In
addition, basic net income per share for the three and nine months ended September
30, 2006 was $.04 and $.09 lower, respectively, and diluted net income per
share was $.04 and $.08 lower, respectively, than under the previous accounting
method.   SFAS 123R also requires that
the benefits of tax deductions in excess of recognized compensation expense be
reported as a component of cash flows from financing activities in the Consolidated
Statements of Cash Flows.  This change increased
cash flows provided by financing activities by $1.0 million and reduced cash
flows provided by operating activities by the same amount during the nine
months ended September 30, 2006.
Compensation cost not yet recognized as of September 30, 2006 related to
nonvested awards totaled $2.4 million, which is expected to be recognized over
a weighted average period of 1.27 years.

Results
of Operations

Revenues.  Revenues decreased 11% to $24.8 million and increased
2% to $72.7 million for the three and nine months ended September 30, 2006,
respectively, from $28.0 million and $71.1 million for the respective prior-year
periods. Revenues for the both the quarterly and year-to-date periods were
impacted by a decrease in the volume of sales of Producer product line
equipment of $4.3 million and $5.1 million, respectively.  Driving the decline in Producer product line
sales was the shipment in the prior years third quarter of a $6.0 million Producer
equipment order related to the Companys product rollout into the U.S. retail
market. The volume of recurring revenues, consisting of sales of media kits, blank
CD-R and DVD-R media, printer ribbons, ink cartridges, parts and maintenance
contracts, increased $1.5 million and $6.9 million for the three and nine
months ended September 30, 2006, respectively, offsetting the year-to-date
decline in Producer product equipment sales.  The strong growth in recurring revenues was primarily due to the
continued expansion of the Companys worldwide installed base of CD-R and DVD-R
publishing systems, and the Companys increased emphasis on promoting this
portion of its business. Sales of desktop product line equipment decreased $0.3
million and $0.2 million in the third quarter and year-to-date periods in 2006,
respectively, impacted by a stronger volume of sales in the prior year periods
of the Rimage 360i desktop product, released in April 2005.

International sales decreased 9% for the third quarter
and increased 4% for the year-to-date period compared to the same prior year
periods.  The third quarter reduction in
international sales was impacted primarily by lower sales in Latin America, due
to stronger than normal sales in the prior years third quarter.   International sales comprised 29% and 33% of
total sales for the three and nine months ended September 30, 2006, respectively,
compared with 28% and 33% for the same periods in the prior year.  The European market continued to generate
the majority of international sales.
Sales in Asian markets continue to increase, reflecting increased sales
efforts in this region

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Table of Contents

Managements Discussion and Analysis of Financial Condition
and Results of Operations (Continued)

with the establishment of a subsidiary operation in
Japan in 2005.  Currency fluctuations affecting
the Companys European and Japanese operations increased reported consolidated revenues
for the three months ended September 30, 2006 by 1%, and decreased
reported consolidated revenues for the nine months ended September 30, 2006 by less
than 1%.

As of and for the nine months ended September 30, 2006,
foreign revenues from unaffiliated customers generated by the Companys German and
Japanese operations and the operating income and net identifiable assets of such
operations were $20.9 million, $0.3 million and $7.5 million, respectively. These
amounts related primarily to the Companys German operations, as the
establishment of subsidiary operations in Japan occurred in June 2005.  Comparable amounts for the Companys German and
Japanese operations as of and for the nine months ended September 30, 2005 were
revenues of $19.3 million, operating income of $0.6 million and net
identifiable assets of $6.9 million.
The growth in revenues and assets is due to increasing penetration in
foreign markets of sales of CD-R and DVD-R products.

The Company is estimating that fourth quarter 2006 consolidated
revenues will range between $23 million and $25 million.

Gross profit.  Gross profit as a percentage of revenues was
49% and 46% for the three and nine months ended September 30, 2006,
respectively, compared to 48% and 46% for the respective prior year periods. The
volume and concentration of Producer product line equipment sales, which
generally carry higher margins than desktop product line equipment or recurring
revenues, decreased during the three and nine months ended September 30, 2006,
due primarily to the impact of the large shipment of Producer product line
equipment into the U.S. retail market during the third quarter of 2005.  Producer product line equipment sales
comprised 46% and 44% of total sales for the three and nine months ended
September 30, 2006, compared to 56% and 52% in the same prior year periods. The
volume and concentration of recurring revenues, which generally carry lower
margins than equipment sales, increased during the current year periods, comprising
45% and 46% of total revenues for the three and nine months ended September 30,
2006, compared to 35% and 37% in the same prior year periods.  In spite of the described changes in product
mix, the third quarter gross margin improved by one percentage point relative
to the same prior year period as a result of the benefit of reduced
manufacturing overhead costs and improved service related margins. Additionally,
equipment revenues in the current years third quarter were more concentrated
in higher margin transactions, some of which were impacted by higher average
selling prices for some Producer equipment configurations.   The third
quarter change in revenue mix and higher average selling prices for Producer
product line equipment also favorably impacted gross profit as a percentage of
revenues for the year-to-date period.
Offsetting this benefit was the impact of increased manufacturing and
service labor and overhead costs for the year-to-date period stemming from
increased investments in these areas to support an expected continued growth in
total sales.  Stock-based compensation expense
included in cost of revenue for the three and nine months ended September 30,
2006 had a minimal impact on gross profit as a percentage of revenues, and amounted
to $25,000 and $57,000, respectively.

Future gross profit margins will continue to be
affected by many factors, including product mix, the timing of new product
introductions, changes in material costs, manufacturing volume, the rate of

17

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Table of Contents

Managements Discussion and Analysis of Financial Condition
and Results of Operations (Continued)

growth of service related revenues relative to
associated service support costs, foreign currency exchange rate fluctuations
and levels of sales returns.

Operating
expenses.  Research
and development expenses totaled $1.5 million and $4.8 million for the three
and nine months ended September 30, 2006, respectively, representing
approximately 6% and 7% of revenues, respectively.  Expenses for the same prior year periods totaled $1.4 million and
$4.2 million, representing 5% and 6% of revenues, respectively.  The 4% and 14% respective increases in
expenses for the three and nine months ended September 30, 2006 were primarily
due to continued development of new products and enhancements to existing
products.  Research and development
expenses for the three and nine months ended September 30, 2006 were minimally impacted
by stock-based compensation expense of $41,000 and $122,000, respectively.

Rimage anticipates continued expenditures in research
and development in 2006 to support new product development initiatives and to improve
existing products.

Selling, general and administrative expenses for the three
and nine months ended September 30, 2006 were 20% and 22% of revenues at $5.0
million and $16.1 million, respectively, compared to expenses in the same prior
year periods at 21% of revenues, or $5.9 million and $15.1 million,
respectively.

The net changes in selling, general and administrative
expenses for the three and nine months ended September 30, 2006 reflect sales
and marketing expenses decreasing $0.5 million and $0.7 million, respectively,
and general and administrative expenses declining $0.4 million in the third
quarter and increasing $1.7 million in the year-to-date period, respectively.  The decline in sales and marketing expenses
is primarily the result of reduced costs for advertising and promotional
activities due to implementation of programs in the prior years second quarter
to support the launch of the Rimage 360i desktop product, and a reduction in cooperative
marketing program costs resulting from the Companys transition to an
alternative program format with its distributors.  The decrease in general and administrative expenses in the quarterly
period resulted from $1.1 million of consulting expenses incurred in the prior
years third quarter for the initiation of a strategic analysis of the
Companys operations.  The strategic
analysis continued into and was completed during the first quarter 2006, and
$1.2 million of expenses incurred in the first quarter are reflected in
year-to-date expenses. Partially offsetting the impact of the reduction in consulting
expenses during the three months ended September 30, 2006, and contributing to
the growth in year-to-date expenses were $0.3 million and $0.8 million of
expenses incurred during the respective periods to support the implementation
of a new enterprise resource planning system.
Also contributing to the growth in general and administrative expenses
for both current year periods were stock-based compensation expenses.  Such expenses increased aggregate selling,
general and administrative expenses by $0.6 million and $1.0 million for the
three and nine months ended September 30, 2006, respectively.

Other income,
net.  The Company
recognized net interest income on cash investments of $0.7 million and $2.0
million for the three and nine months ended September 30, 2006, compared to $0.4
million and $1.0 million for the same prior year periods. The increase in the
quarterly and year-to-date periods was due to a $13 million increase in both
periods in average cash equivalent and marketable securities balances and an
increase in effective yields.

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Table of Contents

Managements Discussion and Analysis of
Financial Condition and Results of Operations (Continued)

Income taxes.
The provision for income taxes represents federal, state and foreign income
taxes on income. Income tax expense for the three and nine months ended
September 30, 2006 amounted to $2.1 million and $5.2 million, or 31.8% and 35.5%
of income before taxes, respectively. Income tax expense for the three and nine
months ended September 30, 2005 was $2.3 million and $5.2 million, or 36.3% and
36.5% of income before taxes, respectively. The decrease in the effective tax
rates for the three and nine months ended September 30, 2006 primarily reflects
the benefit of increased tax-exempt interest income, including the impact of
out-of-period tax adjustments for such interest income approximating $0.2
million, and reductions in the tax contingency reserve for the elimination of
exposure items included in prior years tax reserves. The Company
anticipates its effective tax rate will range between 36% and 37% for the full
year 2006.

Net income / net
income per share.Resulting net income for the three
and nine months ended September 30, 2006 was $4.4 million, or 18% of revenues,
and $9.5 million, or 13% of revenues, respectively. Comparable amounts for the
three and nine months ended September 30, 2005 were net income of $4.1 million,
or 15% of revenues, and $9.1 million, or 13% of revenues, respectively. Related
net income per diluted share amounts for the three and nine months ended
September 30, 2006 were $0.43 and $0.92, respectively, compared to $0.39 and
$0.88 per diluted share for the respective prior year periods. The Company
expects fourth quarter 2006 net income to range from $0.23 to $0.28 per diluted
share.

Liquidity and Capital
Resources

The Company
expects it will be able to maintain current operations, including anticipated
capital expenditure requirements, through its internally generated funds and,
if required, from Rimages existing credit agreement. This credit agreement
allows for advances under an unsecured revolving loan up to a maximum advance
of $10 million. At September 30, 2006, no amounts were outstanding under the
credit agreement.

At September
30, 2006, the Company had working capital of $61.3 million, a decrease of $12.7
million from working capital reported at December 31, 2005. The decline was
primarily impacted by the purchase of $25.1 million of non-current marketable
securities and capital expenditures of $2.5 million, partially offset by
year-to-date net income of $9.5 million and proceeds from employee stock plans
of $1.8 million. The Company intends on utilizing its current assets primarily
for its continued organic growth. To help strengthen the Companys ability to
manage anticipated future growth, the Company expects to invest approximately $4
million in 2006 and early 2007 for the implementation of an enterprise resource
planning system in its U.S. and German operations. Additionally, the Company
may use its available cash for potential future strategic initiatives or
alliances.

Net cash provided
by operating activities totaled $8.2 million for the nine months ended
September 30, 2006, compared to $9.2 million in the same prior year period. The
$1.0 million decrease in cash generated from operations was primarily impacted
by a $1.8 million increase in net income adjusted for non-cash items, offset by
a $1.8 million larger use of cash from changes in operating assets and
liabilities and the impact of a $1.0 million non-cash reduction in operating
cash flows associated with excess tax benefits recognized as an addition to the
APIC (additional paid-in capital) pool

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Table of Contents

Managements
Discussion and Analysis of Financial Condition and Results of Operations
(Continued)

under SFAS
123R. SFAS 123R requires such amounts to be reported as an addition to
financing activities and a reduction in operating activities in the Statements
of Cash Flows. Primarily contributing to the change in operating assets and
liabilities compared to the prior years year-to-date period was a $4.5
million variation in the change in accounts payable, accrued compensation and
accrued expenses, partially offset by a $2.4 million smaller increase in
accounts receivable. The change in accounts payable, accrued compensation and
accrued expenses resulted from a $2.7 million reduction in these accounts in
the current years period, compared to a $1.8 million increase in the prior
years period. The current period reductions in the accounts payable and
accrued expense accounts were impacted by the payment of $1.8 million of
consulting fees accrued at December 31, 2005, and the timing of payroll and
vendor payments. Additionally, accounts payable at September 30, 2005 included
an accrual for $1.1 million of consulting fees incurred in the third quarter
2005. The smaller increase in accounts receivable in the current years period
was impacted by a $3.2 million reduction in revenue in the third quarter 2006
relative to the prior years third quarter.

Investing
activities resulted in a small net use of cash of $0.03 million for the nine months
ended September 30, 2006, and provided a net increase in cash of $6.1 million
for the same prior year period. The decrease in cash from investing activities
relative to the prior years period was the result of a $5.0 million increase
in purchases of marketable securities, net of related maturities of marketable
securities, and a $1.3 million increase in capital expenditures. Capital
expenditures for the nine months ended September 30, 2006 totaled $2.5 million,
and consisted primarily of costs capitalized as part of the implementation of
an enterprise resource planning system and purchases of furniture and leasehold
improvements for a new leased facility for the Companys operations in Germany.
Costs capitalized during the year-to-date period for the enterprise resource
planning system amounted to $1.6 million, and consisted of system software,
hardware and software development costs required to be capitalized under
Statement of Position 98-1, Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use.

Net cash
provided by financing activities totaled $2.8 million and $1.3 million for the
nine months ended September 30, 2006 and 2005, respectively. Financing
activities in each period included proceeds from stock option exercises and
purchases under the Companys Employee Stock Purchase Plan of $1.8 million and
$1.3 million, respectively. Additionally, the current year period includes $1.0
million associated with excess tax benefits recognized as an addition to the
APIC pool, which as discussed above, are required to be reported as an addition
to financing activities in the Statements of Cash Flows under the provisions of
SFAS 123R.

Critical Accounting Policies.

Management
utilizes its technical knowledge, cumulative business experience, judgment and
other factors in the selection and application of the Companys accounting
policies. The accounting policies described below are considered by management
to be the most critical to the presentation of the consolidated financial statements
because they require the most difficult, subjective and complex judgments.
Given the implementation effective January 1, 2006 of SFAS 123R, Share-Based
Payment, in the second quarter 2006 the Company added a new critical
accounting policy for its accounting for stock-based compensation, discussed
below. Management made no changes to the Companys critical accounting policies
during the third quarter 2006.

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Managements
Discussion and Analysis of Financial Condition and Results of Operations (Continued)

In applying
the critical accounting policies described below, management reassesses its
estimates each reporting period based on available information. Changes in such
estimates did not have a significant impact on earnings for the three and nine months
ended September 30, 2006.

Revenue Recognition.
Revenue for product sales (including hardware and consumables), which do not
include any requirement for installation or training, is recognized on
shipment, at which point the following criteria of SAB Topic 13(A)(1) have been
satisfied:

| |   |                                                                                                                                                                                                                                                             
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Persuasive
  evidence of an arrangement exists. Orders are received for all sales and
  sales invoices are mailed on shipment.                                                                                                                              
| |  | Delivery has
  occurred. Product has been transferred to the customer or the customers
  designated delivery agent, at which time title and risk of loss transfers.                                                                                        
| |  | The vendors
  price is fixed or determinable. All sales prices are fixed at the time of the
  sale (shipment).                                                                                                                                             
| |  | Collectibility
  is probable. All sales are made on the basis that collection is expected in
  line with the Companys standard payment terms, which are consistent with
  industry practice in the geographies in which the Company markets its
  products.

A standard
product sale by the Company does not require a commitment on the Companys part
to provide installation, set-up or training. When such services are requested,
value-added resellers generally arrange and perform the service directly with
the customer, with no financial interest or obligation on the part of the Company.
In the limited situations in which the Company does provide installation or
training services for customers, the Company charges separately for the service
based upon its published list prices, and recognizes the associated service
revenue upon the successful completion of the service.

The Company
records a reserve for sales returns from its customers. The amount of the
reserve is based upon historical trends, timing of new product introductions
and other factors. A return policy is in place with the Companys distributors
to restrict the volume of returned products, and the Company reviews the
distributors inventory to insure compliance with the return policy.

Revenue for
maintenance agreements is recognized on a straight-line basis over the life of
the contracts (commencing once the period covered by standard warranty
expires).

Emerging
Issues Task Force (EITF) Issue No. 00-21, Revenue Arrangements with Multiple
Deliverables provides revenue recognition guidance for arrangements with
multiple deliverables, and the criteria to determine if items in a multiple
deliverable agreement should be accounted for separately. The elements of the
Companys sales transactions are clearly and separately stated and sufficient
evidence of their fair value exists to separately account for the elements.

Allowance For
Doubtful Accounts And Sales Returns. The Company
records a reserve for accounts receivable that are potentially uncollectible.
The reserve is established based on a specific assessment of accounts with known
collection exposure, based upon a review of the age of the receivable, the
customers payment history, the customers financial condition and industry and
general economic conditions, as well as a general assessment of collection
exposure in the remaining receivable population based upon bad debt history.
Actual bad debt exposure could differ

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Managements
Discussion and Analysis of Financial Condition and Results of Operations
(Continued)

significantly
from managements estimates if economic conditions worsened for the Companys
customers. As described above under Revenue Recognition, the Company also
records a reserve for sales returns from its customers. The amount of the
reserve is based upon historical trends, timing of new product introductions
and other factors.

Inventory Reserves.
The Company records reserves for inventory shrinkage and for potentially
excess, obsolete and slow moving inventory. The amounts of these reserves are
based upon historical loss trends, inventory levels, expected product lives and
forecasted sales demand. Results could be materially different if demand for
the Companys products decreased because of economic or competitive conditions,
or if products became obsolete because of technical advancements in the industry
or by the Company.

Deferred Tax Assets.
The Company recognizes deferred tax assets for the expected future tax impact
of temporary differences between book and taxable income. A valuation allowance
and income tax charge are recorded when, in managements judgment, realization
of a specific deferred tax asset is uncertain. Income tax expense could be
materially different from actual results because of changes in managements
expectations regarding future taxable income, the relationship between book and
taxable income and tax planning strategies employed by the Company.

Warranty Reserves.
The Companys non-consumable products are warranted to the end-user to ensure
end-user confidence in design, workmanship and overall quality. Warranty
lengths vary by product type, ranging from periods of six to twelve months.
Warranty covers parts, labor and other associated expenses. The Company
performs the majority of warranty work, while authorized distributors and
dealers also perform some warranty work. The Company records a liability for
warranty claims at the time of sale. The amount of the liability is based on an
analysis of historical claims experience, which includes labor, parts and
freight costs and consideration of the proportion of parts that can be re-used.
Also considered are the anticipated impact of product improvements, releases of
new products and other factors. Claims experience could be materially different
from actual results because of the introduction of new, more complex products;
a change in the Companys warranty policy in response to industry trends,
competition or other external forces; or manufacturing changes that could
impact product quality.

Stock-Based
Compensation. The Company implemented the fair
value recognition provisions of SFAS No. 123R effective January 1, 2006 using
the modified prospective method. Under this method, the Company recognizes
compensation expense for all stock-based awards granted on or after January 1,
2006, and for previously granted awards not yet vested as of January 1, 2006.

The Company
utilizes a Black-Scholes option pricing model to estimate the fair value of
each award on the date of grant. The Black-Scholes model requires the input of
certain assumptions that involve management judgment. Key assumptions that affect
the calculation of fair value include the expected life of stock-based awards
and the Companys stock price volatility. Additionally, the Company is required
to estimate the expected forfeiture rate of unvested awards and recognize
expense for only those shares expected to vest. The assumptions used in
calculating the fair value of stock-based awards and the forfeiture rate of
such awards reflect managements best estimates. However, circumstances may
change and additional data may become available over time, which could result
in changes to these assumptions that materially impact the fair value
determination of

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Managements
Discussion and Analysis of Financial Condition and Results of Operations
(Continued)

future awards
or their estimated rate of forfeiture. If factors change and the Company uses
different
assumptions in
the application of SFAS 123R in future periods, the compensation expense
recorded under SFAS 123R may differ significantly from the expense recorded in
the current period. See Note 2 under the Notes to Condensed Consolidated
Financial Statements in this Form 10Q for additional information on stock-based
compensation.

Recently Issued
Accounting Standards

In June 2006,
the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income
Taxesan interpretation of FASB Statement No. 109. This interpretation
clarifies the accounting for uncertainty in income taxes recognized in an
enterprises financial statements in accordance with FASB Statement No. 109,
Accounting for Income Taxes. This interpretation prescribes a recognition
threshold and measurement attribute for the financial statement recognition and
measurement of a tax position taken or expected to be taken in a tax return. It
also provides guidance on derecognition, classification, interest and
penalties, accounting in interim periods, disclosure and transition. This
Interpretation is effective for the Company beginning in fiscal year 2007. The
Company is currently evaluating the impact of adopting this pronouncement on
its consolidated financial statements and related disclosures.

In September
2006, the FASB issued Statement of Financial Accounting Standard (SFAS) No.
157, Fair Value Measurements. SFAS No. 157 establishes a single authoritative
definition of fair value, sets out a framework for measuring fair value and
requires additional disclosures about fair-value measurements. This Statement
applies only to fair-value measurements that are already required or permitted
by other accounting standards, except for measurements of share-based payments
and measurements that are similar to, but not intended to be, fair value. This
statement is expected to increase the consistency of fair value measurements,
but imposes no requirements for additional fair-value measures in financial
statements. The provisions under SFAS No. 157 are effective for the Company
beginning January 1, 2008, and are expected to be applied prospectively. The
Company is currently evaluating the impact of adopting this pronouncement on
its consolidated financial statements and related disclosures.

In September
2006, the Securities and Exchange Commission issued Staff Accounting Bulletin
(SAB) No. 108, Considering the Effects of Prior Year Misstatements when
Quantifying Misstatements in Current Year Financial Statements. SAB 108
addresses how the effects of prior year uncorrected misstatements should be
considered when quantifying misstatements in current year financial statements.
SAB 108 requires registrants to quantify misstatements using both the balance
sheet and income statement approaches and to evaluate whether either approach
results in quantifying an error that is material in light of relevant
quantitative and qualitative factors. When the effect of initial adoption is
determined to be material, SAB 108 allows registrants to record that effect as
a one-time cumulative-effect adjustment to beginning-of-year retained earnings.
The requirements under the SAB are effective for the Company for its 2006
annual financial statements. The Company is currently evaluating the impact of
adopting SAB 108 on its consolidated financial statements.

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Table of Contents

Managements
Discussion and Analysis of Financial Condition and Results of Operations
(Continued)

Cautionary Note Regarding Forward-Looking
Statements

This report
contains forward-looking statements that involve risks and uncertainties. For
this purpose, any statements contained in this report that are not statements
of historical fact may be deemed to be forward-looking statements. Without
limiting the foregoing, words such as may, will, expect, believe,
anticipate, estimate or continue or comparable terminology are intended
to identify forward-looking statements. These statements by their nature
involve substantial risks and uncertainties. The Companys actual results could
differ significantly from those discussed in the forward-looking statements.

Factors that
could cause or contribute to such differences include, but are not limited to,
the following, as well as other factors not now identified: the Companys
ability to keep pace with changes in technology in the computer and storage
media industries as well as technology changes in the retail, medical, banking,
government and office markets; increasing competition and the ability of the Companys
products to successfully compete with products of competitors and newly
developed media storage products; the ability of the Companys newly developed
products to gain acceptance and compete against products in their markets, the
significance of the Companys international operations and the risks associated
with international operations including currency fluctuations, local economic
health and management of these operations over long distances; the Companys
ability to protect its intellectual property and to defend claims of others
relating to its intellectual property; the Companys dependence upon the
selling efforts of the Companys key channel partners; the Companys ability to
maintain adequate inventory of products; the Companys  reliance on
single source suppliers; the ability of the Companys products to operate
effectively with the computer products developed and to be developed by other
manufacturers; the negative effect upon the
Companys business from manufacturing or design defects; the effect of U.S. and
international regulation, including the costs of implementing and complying
with new regulations enacted in various countries requiring the reduction of
hazardous substances in electrical and electronic equipment, including the European
Union Waste Electrical and Electronic Equipment Directive and Restriction of
Hazardous Substances Directive; fluctuations in the Companys operating
results; the Companys dependence upon its key personnel; the volatility of the
price of the Companys common stock; provisions governing the Company relating
to a change of control, compliance with corporate governance and securities
disclosures rules and other risks, including those set forth in the Companys
reports filed with the Securities and Exchange Commission, including Item 1A of
Part I of the Companys Annual Report on Form 10-K for the year ended December
31, 2005. These forward-looking statements are made as of the date of this
report and the Company assumes no obligation to update such forward-looking
statements, or to update the reasons why actual results could differ materially
from those anticipated in such forward-looking statements.

Item 3.   Quantitative and Qualitative
Disclosures about Market Risk

The Company is
exposed to market risk from foreign exchange rate fluctuations of the European
Euro and Japanese Yen to the U.S. dollar as the financial position and
operating results of the Companys German and Japanese subsidiaries, Rimage
Europe and Rimage Japan, respectively, are translated into U.S. dollars for
consolidation. Resulting translation adjustments are recorded as a separate
component of stockholders equity.

The Company
enters into forward exchange contracts principally to hedge inter-company
receivables denominated in Euros arising from sales to its subsidiary in
Germany. Gains or losses on forward exchange contracts are calculated at each
period end and are recognized in net income in the period in which they arose.
The Company records the fair value of its open forward foreign exchange
contracts in other current assets or other current liabilities depending on
whether the net amount is a gain or a loss. The Company does not utilize
financial instruments for trading or other speculative purposes.

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Item 4.   Controls and Procedures

(a) Evaluation of Disclosure Controls and Procedures

The Companys
Chief Executive Officer, Bernard P. Aldrich, and the Companys Chief Financial
Officer, Robert M. Wolf, have evaluated the Companys disclosure controls and procedures
as of the end of the period covered by this report. Based upon such evaluation,
they have concluded that these disclosure controls and procedures are
effective.

(b) Changes in Internal Control Over Financial Reporting

There have
been no changes in internal controls over financial reporting that occurred
during the fiscal quarter covered by this report that have materially affected,
or are reasonably likely to materially affect, the Companys internal control
over financial reporting.

PART II  OTHER
INFORMATION

|         |                                                    
|-------- | ---------------------------------------------------
|Item 1.  | Legal Proceedings                                  
|         |                                                    
|         | Not Applicable.                                    
|         |                                                    
|Item 1A. | Risk Factors                                       
|         |                                                    
|         | Not Applicable.                                    
|         |                                                    
|Item 2.  | Changes in Securities and Use of Proceeds          
|         |                                                    
|         | Not Applicable.                                    
|         |                                                    
|Item 3.  | Defaults Upon Senior Securities                    
|         |                                                    
|         | Not Applicable.                                    
|         |                                                    
|Item 4.  | Submission of Matters to a Vote of Security Holders
|         |                                                    
|         | Not Applicable.                                    
|         |                                                    
|Item 5.  | Other Information                                  
|         |                                                    
|         | Not Applicable                                     
|         |                                                    
|Item 6.  | Exhibits                                           

| |     |                                             |                                                                                                  
| | --- | ------------------------------------------- | -------------------------------------------------------------------------------------------------
| | (a) | The following exhibits are included herein:
| |     |                                             |                                                                                                  
| |     | 31.1                                        | Certificate of Chief Executive Officer pursuant to Rules 13a-14 and
  15d-14 of the Exchange Act.
| |     |                                             |                                                                                                  
| |     | 31.2                                        | Certificate of Chief Financial Officer pursuant to Rules 13a-14 and
  15d-14 of the Exchange Act.
| |     |                                             |                                                                                                  
| |     | 32                                          | Certifications pursuant to 18 U.S.C. §1350.                                                      

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SIGNATURES

In accordance with the Exchange Act, the registrant has duly caused
this report to be signed on its behalf by the undersigned thereto duly
authorized.

|                         |     |                                    |  |  |  | 
|------------------------ | --- | ---------------------------------- |  |  |  | 
|                         |     | RIMAGE CORPORATION                 | 
|                         |     | Registrant                         | 
|                        
|                         |     |                                    | 
|Date:   November 7, 2006 | By: | /s/ Bernard P. Aldrich             | 
|                         |     |                                    |  | 
|                         |     | Bernard P. Aldrich                 | 
|                         |     | Director, Chief Executive Officer, | 
|                         |     | and President                      | 
|                         |     | (Principal Executive Officer)      | 
|                         |     |                                    | 
|                        
|Date:   November 7, 2006 | By: | /s/ Robert M. Wolf                 | 
|                         |     |                                    |  | 
|                         |     | Robert M. Wolf                     | 
|                         |     | Chief Financial Officer            | 
|                         |     | (Principal Financial Officer)      | 
|                         |     | (Principal Accounting Officer)     | 

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