-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, NLiDomZ7xQ7dCU/acX0mT8ZIeA6ta3Xe1gzzhe9nR1ducLa0UlZrP8iJeK3OZApK v/Ro6BRmY1BgnXe1CO0Czg== 0000897101-05-000732.txt : 20050316 0000897101-05-000732.hdr.sgml : 20050316 20050316170038 ACCESSION NUMBER: 0000897101-05-000732 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 9 CONFORMED PERIOD OF REPORT: 20041231 FILED AS OF DATE: 20050316 DATE AS OF CHANGE: 20050316 FILER: COMPANY DATA: COMPANY CONFORMED NAME: RIMAGE CORP CENTRAL INDEX KEY: 0000892482 STANDARD INDUSTRIAL CLASSIFICATION: COMPUTER PERIPHERAL EQUIPMENT, NEC [3577] IRS NUMBER: 411577970 STATE OF INCORPORATION: MN FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-20728 FILM NUMBER: 05686269 BUSINESS ADDRESS: STREET 1: 7725 WASHINGTON AVE S CITY: EDINA STATE: MN ZIP: 55439 BUSINESS PHONE: 6129448144 MAIL ADDRESS: STREET 1: 7725 WASHINGTON AVENUE SOUTH CITY: EDINA STATE: MN ZIP: 55439 10-K 1 rimage051268_10-k.htm Rimage Corporation Form 10-K dated 12-31, 2004
FORM 10-K
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
 
x ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2004
 
or
 
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
 
COMMISSION FILE NO. 0-20728

 
RIMAGE CORPORATION
(Exact name of registrant as specified in its charter)
 
Minnesota      41-1577970
State or other jurisdiction of    
(I.R.S. Employer
incorporation or organization     Identification No.)
       
7725 Washington Avenue South, Minneapolis,     55439
(Address of principal executive offices)      (Zip Code)
       
Registrant’s telephone number:      (952) 944 - 8144
       
Securities registered pursuant to Section 12(b) of the Act: None  
     
Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.01 par value  
     
  Preferred Stock Purchase Rights  
 
Indicate by checkmark 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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o
 
Indicate by checkmark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes x No o
 
The aggregate market value of common stock held by non-affiliates of the registrant, computed by reference to the last quoted price at which such stock was sold on such date as reported by the Nasdaq Stock Market as of the last business day of the registrant’s most recently completed second fiscal quarter was approximately $137,464,000.
 
As of February 28, 2005, 9,454,587 shares of the registrant’s common stock were outstanding.
 
DOCUMENTS INCORPORATED BY REFERENCE
 
Portions of the registrant’s definitive proxy statement for its 2005 Annual Meeting of Shareholders, to be filed within 120 days after the end of the fiscal year covered by this report, are incorporated by reference into Part III hereof.
 

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General Information
 
 
 
 
Rimage Corporation (“Rimage”) is a leading provider of CD recordable (“CD-R”) and DVD recordable (“DVD-R”) publishing systems required for producing discs with customized digital content on an on-demand basis. Rimage’s publishing systems, which include equipment to handle a full range of low-to-high production volumes, incorporate robotics, software and custom printing technology for disc labeling. Rimage focuses its CD-R and DVD-R publishing solutions on a set of vertical markets with special needs for customized, on-demand digital information, including digital photography, medical imaging, banking and finance, government, and business offices.

Incorporated as IXI, Inc. in Minnesota in February 1987, Rimage has focused on digital storage production equipment since its inception. From 1987 until the introduction of its first CD-R production equipment in 1995, most of Rimage’s products consisted of diskette and tape duplication equipment. Rimage also generated a significant portion of its revenue from CD-ROM and diskette duplication and production services from 1993 until 1999. From 1994 to 1997, Rimage also engaged in other lines of business, including development of browser and archiving software and distribution of CD-ROM stamping presses.

Since 1995, Rimage has focused its business on development and sale of its CD-R publishing systems, and since 2000, its DVD-R publishing systems. In 1997, Rimage ceased distribution activities for CD-ROM stamping presses and terminated browser and archiving software development. During the third quarter of 1998, Rimage ceased operations of its Minnesota services business and sold the equipment and inventory associated with that business. On June 30, 1999, Rimage ceased operations of its Colorado services business and sold all the assets associated with that business. The resources previously applied to these businesses were instead applied to development and sales of CD-R and DVD-R products for commercial applications.

On March 1, 2000, Rimage acquired Cedar Technologies, Inc. (“Cedar”) and issued 497,496 shares of its common stock for all of the outstanding shares of Cedar. Cedar had developed and manufactured CD-R publishing and duplication equipment for desktop applications that sold at a lower price point than the higher volume systems sold by Rimage. Cedar products formed the basis for the introduction of Rimage’s desktop line of products.
 
Rimage’s products are designed to enable the automation of data distribution and archiving processes. In some cases this results in a reduction of labor and training costs for users of the products, in other cases it enables totally new and innovative applications. Rimage products provide compelling solutions for distribution and archiving of information on CDs and DVDs for just-in-time, on-demand and mass customization applications.

The principal benefits to users of Rimage’s products include unattended operation, reduced labor costs, higher throughput than alternative systems and higher quality. One of the essential elements of Rimage’s marketing and development is to provide users with a path for future product upgrades for improved products or products with additional capabilities, such as drives with faster recording speeds. Rimage has made a long-term commitment to its customers by providing maintenance service contracts, replacement parts and repair service to customers for current, as well as past products.

Sales of CD-R/DVD-R production equipment comprised 62%, 70%, and 74% of Rimage’s revenue from operations during the 2004, 2003, and 2002 calendar years, respectively. Rimage’s other major sources of revenue are recurring in nature and consist of consumables (ribbons, ink cartridges and Rimage-branded blank CD-R and DVD-R media), parts and maintenance contract sales.

Since the acquisition of Cedar, Rimage’s CD-R and DVD-R hardware products have been divided into two primary product lines: the Producer line of higher volume equipment for CD-R and DVD-R production, and the Desktop line of lower-cost products for office and other desktop applications. The Producer line of products continue to generate the majority of Rimage’s revenue, contributing $36,186,000 and $31,133,000, or 51% and 58% of Rimage’s revenue during the years ended December 31, 2004 and 2003, respectively. The Desktop line contributed $7,887,000 or 11% of revenue during 2004, compared to $6,403,000, or 12% of revenue during 2003. The balance of revenue in each year was generated through sale of Rimage-branded blank CD-R/DVD-R media, ribbons, ink cartridges, parts, repair services and

3

 

maintenance contracts. Such recurring revenues contributed $26,775,000 or 38% of total revenue for 2004, compared to $16,261,000 or 30% of revenue, in 2003. The growth in recurring revenues has been spurred by the expansion of the Company’s worldwide installed base of CD-R/DVD-R publishing systems as well as the Company’s introduction in 2004 of its new consumable supplies strategy involving media kits. Through this strategy, the Company assembles Rimage-branded blank CD-R and DVD-R discs with replacement printer ribbons and cartridges into kits to simplify the customer’s purchase and use of these consumable products in the production process.

The Producer II Series. The Producer II Series of CD-R/DVD-R publishing systems represents the current generation of the Producer line and consists of a growing family of products that cover a broad range of applications for the publishing and duplication of CD-R’s and DVD-R’s. Each Producer II product incorporates CD-R or DVD-R recorders, or both, with customized robotics, a thermal or thermal re-transfer printer for on-disc color printing, software, and computer hardware components.

Rimage offers its Producer II line of products in four basic configurations to meet the varying needs of its commercial customers. The Autostar II provides industry leading speed and throughput for on-demand CD-R/DVD-R production, utilizing up to four simultaneous data streams. The Autostar can contain any combination of CD-R/DVD-R recorders and provides for a capacity of 300 discs. The Protégé II system comes standard with two CD-R recorders that may be interchanged with DVD-R recorders and the Amigo II comes with one recorder. The Autostar II, Protégé II and Amigo II are all available with either Rimage’s Everest or Prism printers. The DiscLab system was introduced in 2004, replacing its predecessor, the Endeavor. Designed as a network attached publishing system, the DiscLab features an embedded host PC, two CD-R or DVD-R recorders, an Everest printer and a small product size and footprint. The markets served by Rimage’s Producer line of products include the digital photography, medical, banking and government industries. Prices of the Producer II line of products range from $10,000 to $30,000.

The Everest printer was developed to meet the need of customers for an on-demand surface printer able to produce color and monochrome labels with quality similar to offset and silkscreen printing systems. Everest produces images on CD-R and DVD-R media that are indelible and cover the full surface of the media. Rimage’s Prism Printer provides high-speed, laser quality monochrome and spot color printing on standard CD-R/DVD-R media for in-house, customized printing. The Producer line also includes Autoprinters that incorporate either an Everest or Prism printer.

The Desktop Series. Originally established through the acquisition of Cedar Technologies, Inc., Rimage’s Desktop Series of CD-R/DVD-R products features economical pricing, a compact “desktop” design, software, network compatibility and stand-alone, plug-and-play technology ideal for office environments. For low-volume users, the Desktop line of products offers a two-drive recorder unit. Complete four-drive publishing systems are available for higher-volume users. In June 2004, the Company introduced its next-generation Desktop product line, the Rimage 2000i publishing system and Rimage 480i inkjet printer. Co-developed by the Company and Hewlett-Packard, the Rimage 480i inkjet printer features 4800 dpi resolution for high clarity color printing on CD-R/DVD-R discs.
 
Rimage utilizes the following principal means of distributing its products: Direct sales using its own sales force, primarily in Europe; a two tier distribution system of distributors to value added resellers in Europe, the U.S. and Latin America; and a distributor to end-user system in Asia Pacific and in some areas in Europe. Rimage’s channel partners, primarily consisting of distributors, value added resellers and other strategic partners, currently generate the majority of the Company’s sales.

Rimage has historically focused its sales and marketing efforts on high-volume CD-R and DVD-R publishing solutions for its Producer product line in such areas as banking and finance and wholesale photo processing labs. Rimage plans to continue to expand its position in many of its traditional markets. Additionally, Rimage is focusing on new applications with high-growth potential in retail photography, medical imaging and business offices. This has led to the expansion of the Company’s sales and marketing organization during 2004 to help penetrate these targeted markets and strengthen marketing support for new products.

During 2004, Rimage derived approximately 13% and 12% of its revenues from one of its distributors and a strategic partner, respectively. Two distributors generated more than 10% of revenues in 2003, at 16% and 12% of revenues, respectively. In 2002, two distributors also generated more than 10% of revenues, at 17% and 16%, respectively.

Rimage conducts foreign sales through its U.S. operation and its subsidiary in Germany, Rimage Europe GmbH. Foreign sales constituted approximately 38%, 42%, and 39% of Rimage’s revenue for the years ended December 31, 2004, 2003, and 2002, respectively.
 

4

 
Rimage competes with a number of manufacturers of CD-R/DVD-R production equipment and related products. Primary competitors of the Company currently include Primera Technology, Inc., Microtech Systems, Inc. and LSK Data Systems GmbH. Rimage is able to compete effectively in the sale of CD-R/DVD-R production equipment because of technological leadership in automated solutions and its early start within the CD-R/DVD-R production equipment industry. Rimage believes that the quality printing capabilities for CD-R/DVD-R, its transporter mechanisms and its software differentiate its products from those of competitors. Rimage also competes with alternative technologies in the storage media industry such as high capacity hard drives, new CD-R/DVD-R technologies, file servers accessible through computer networks and the Internet, and additional media is under development. Rimage believes its technology has advantages over these alternative technologies in terms of reliability, high performance, cost and ease of use.
 
Rimage’s manufacturing operations consist primarily of the assembly of products from components purchased from third parties. Some parts are standard components and others are manufactured to Rimage’s specifications. Rimage’s employees at its facility in Edina, Minnesota conduct assembly and testing operations. Components include CD-R/DVD-R drives, circuit boards, electric motors, machined and molded parts, precision sheet metal assemblies, and other mechanical parts.

Although Rimage believes it has identified alternative assembly contractors for most of its subassemblies, an actual change in such contractors would likely require a period of training and testing. Accordingly, a sudden interruption in a supply relationship or the production capacity of one or more of such contractors could result in Rimage’s inability to deliver one or more products for a period of several months.
 
At December 31, 2004, 29 employees were involved in research and development at Rimage. This staff, with software, electrical, mechanical and drafting capabilities, engages in research and development of new products, and development of enhancements to existing products.

The industries served by Rimage are subject to rapid technological changes. Alternate data storage media exist or are under development, including high capacity hard drives, new CD-R/DVD-R technologies, file servers accessible through computer networks, and the Internet. All these forces may affect the usage of CD-R and DVD-R media. Rimage believes that it must continue to innovate and anticipate advances in the storage media industry in order to remain competitive.

Rimage’s expenditures for research and development were $4,529,000, $3,766,000, and $3,602,000 in 2004, 2003 and 2002, representing 6.4%, 7.0% and 7.7% of revenues, respectively. Rimage anticipates maintaining its expenditures in research and development within the range of 7% to 8% of revenues during 2005.
 
Rimage currently maintains fourteen U.S. patents and has a total of fifteen U.S. and foreign patents pending. In addition, Rimage protects the proprietary nature of its software primarily through copyright and license agreements and through close integration with its hardware offerings. It is Rimage’s policy to protect the proprietary nature of its new product developments whenever they are likely to become significant sources of revenue. No guarantee can be given that Rimage will be able to obtain patent or other protection for its products.

As the number of Rimage’s products increase and the functionality of those products expands, Rimage believes that it may become increasingly subject to attempts by others to duplicate its proprietary technology and to the possibility of infringement of Rimage patents. In addition, although Rimage does not believe that any of its products infringe the rights of others, third parties may nonetheless assert infringement claims against Rimage in the future. Rimage may litigate such infringement claims or settle such claims through license or other royalty arrangement.

The FCC requires some of Rimage’s equipment meet radio frequency emission standards. Rimage takes steps to ensure proper compliance of all products.
 
At December 31, 2004, Rimage had 184 full-time employees, of which 29 were involved in research and development, 88 in assembly, testing, repair and customer service, and 67 in sales, marketing, administration and management. None of Rimage’s employees are represented by a labor union or covered by a collective bargaining agreement. Rimage believes it maintains good relations with its employees.

5

 
ITEM 2.
 
Rimage headquarters are located in a leased facility of 58,500 square feet at 7725 Washington Avenue South, Edina, Minnesota 55439. The Company rents this facility under a noncancellable 48-month lease initiated August 1, 2004, from a corporation owned by two former directors of the Company. Monthly base rent is $33,394 for the first year, with 2% inflationary increases each subsequent year of the lease. This facility is used for manufacturing, engineering, service, sales, marketing and administration. Rimage also leases a facility of approximately 2,400 square feet in Dietzenbach, Germany used for service, sales and light assembly. The current term of the lease in Germany expires in December 2007. The lease of a small facility in Campbell, CA used for engineering was allowed to lapse as of February 28, 2005. Rimage believes its current facilities will accommodate operations through 2005, and continues to assess options to meet its future space requirements.

 
 
Rimage may become involved in various legal actions in the ordinary course of its business.  Although the outcome of any such legal actions cannot be predicted, management believes that there are no pending legal proceedings against or involving Rimage for which the outcome is likely to have a material adverse effect upon its financial position or results of operations.
 
 
 
Rimage did not submit any matters to a vote of security holders during the last quarter of the fiscal year covered by this report.
 
 
 
 
Rimage’s common stock is traded on the Nasdaq National Market under the symbol “RIMG”. The following table sets forth, for the periods indicated, the range of low and high prices for Rimage’s common stock as reported on The Nasdaq Stock Market.
 
   
Low
  
High
  
Calendar Year 2003:
          
1st Quarter
  
$
7.86
  
$
9.30
  
2nd Quarter
    
8.95
    
12.99
  
3rd Quarter
    
12.02
    
15.68
  
4th Quarter
    
13.03
    
16.20
  
Calendar Year 2004:
              
1st Quarter
    
13.56
    
17.50
  
2nd Quarter
    
13.11
    
17.40
  
3rd Quarter
    
12.02
    
15.21
  
4th Quarter
    
13.06
    
16.29
  
 
As of February 28, 2005, there were 90 shareholders of record of Rimage’s common stock.
 

6

 
Rimage has never paid or declared any cash dividends on its common stock. Rimage presently expects to retain its earnings to finance the development and expansion of its business. The payment by Rimage of dividends, if any, on its common stock in the future is subject to the discretion of the Board of Directors and will depend on Rimage’s continued earnings, financial condition, capital requirements and other relevant factors.
 
 
The selected consolidated financial data below should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7 below and the Consolidated Financial Statements and the Notes thereto included in Item 8 below. Amounts are shown in 000’s (except per share data).
 
Consolidated Statements of Operations Information:

 
   
 Year ended December 31
  
   
 2004 
  
 2003 
  
 2002 
  
 2001 
  
 2000 
  
                                 
Revenues
  
$
70,848
  
$
53,797
  
$
46,581
  
$
38,894
  
$
49,792
  
Cost of revenues
    
38,027
    
27,399
    
23,986
    
19,669
    
23,254
  
Gross profit
    
32,821
    
26,398
    
22,595
    
19,225
    
26,538
  
Operating expenses
    
19,386
    
14,841
    
13,176
    
12,760
    
14,250
  
Operating income
    
13,435
    
11,557
    
9,419
    
6,465
    
12,288
  
Other income, net
    
608
    
515
    
760
    
972
    
1,017
  
Income tax expense
    
4,971
    
4,406
    
3,715
    
2,628
    
5,056
  
Net income
    
9,072
    
7,666
    
6,464
    
4,809
    
8,249
  
                                 
Basic net income per share
  
$
0.98
  
$
0.86
  
$
0.74
  
$
0.55
  
$
0.98
  
Diluted net income per share
  
$
0.91
  
$
0.79
  
$
0.68
  
$
0.51
  
$
0.85
  
Weighted average shares and assumed conversion shares:
                                
    Basic
    
9,290 
    
8,931
    
8,703
    
8,701
    
8,417
  
    Diluted
    
9,932 
    
9,743
    
9,497
    
9,509
    
9,673
  

 
Consolidated Balance Sheet Information:

 
   
 Balances as of December 31
  
   
 2004
  
 2003
  
 2002
    2001  
 2000
  
                                 
Cash and cash equivalents
  
$
13,321
  
$
26,742
  
$
17,339
  
$
14,767
  
$
21,225
  
Marketable securities
    
39,175
    
21,855
    
18,998
    
13,343
    
—
  
Trade accounts receivables, net
    
10,184
    
6,243
    
6,644
    
5,008
    
9,013
  
Inventories
    
7,396
    
3,334
    
3,042
    
3,625
    
2,936
  
Current assets
    
71,665
    
59,849
    
47,337
    
38,783
    
35,744
  
Property and equipment, net
    
2,386
    
1,137
    
1,314
    
1,608
    
652
  
Total assets
    
74,138
    
61,024
    
48,709
    
40,454
    
36,555
  
Current liabilities
    
11,277
    
9,013
    
6,552
    
5,151
    
5,594
  
Long-term liabilities
    
139
    
—
    
—
    
68
    
—
  
Stockholders’ equity
    
62,721
    
52,011
    
42,157
    
35,235
    
30,961
  
 

7


 
 
The percentage relationships to revenues of certain income and expense items for the three years ended December 31, 2004 and the percentage changes in these income and expense items between years are contained in the following table:
 
 
Percentage (%) of Revenues
    
Percent (%) Increase (Decrease)
Between Period 
  
     
2004 
    
2003 
    
2002 
    
2004 vs. 2003 
    
2003 vs. 2002 
  
Revenues
    
100.0
   
100.0
   
100.0
   
31.7
   
15.5
 
Cost of revenues
    
(53.7
)
  
(50.9
)
  
(51.5
)
  
38.8
   
14.2
 
Gross profit
    
46.3
   
49.1
   
48.5
   
24.3
   
16.8
 
Operating expenses:
                                
Research and development
    
(6.4
)
  
(7.0
)
  
(7.7
)
  
20.3
   
4.5
 
Selling, general and administrative
    
(20.9
)
  
(20.6
)
  
(20.6
)
  
34.1
   
15.7
 
Operating income
    
19.0
   
21.5
   
20.2
   
16.2
   
22.7
 
Other income, net
    
0.8
   
0.9
   
1.7
   
18.1
   
(32.2
)
Income before income taxes
    
19.8
   
22.4
   
21.9
   
16.3
   
18.6
 
Income tax expense
    
(7.0
)
  
(8.2
)
  
(8.0
)
  
12.8
   
18.6
 
Net income
    
12.8
   
14.2
   
13.9
   
18.3
   
18.6
 
 
Rimage develops, manufactures and distributes CD-Recordable (CD-R) and DVD-Recordable (DVD-R) publishing and duplication systems from its operations in the United States and Germany. These systems allow customers to benefit from cost savings by eliminating their manual labor efforts in industries such as photography, medical, banking and government. Rimage anticipates increased 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 these regions plays an important role in determining the success of Rimage.

Rimage earns revenues through the sale of equipment, consumables (ribbons, ink cartridges 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 38% of its consolidated revenues in 2004, compared to 30% in 2003. Rimage has no long-term debt and does not require significant capital investment as all fabrication of its products is outsourced to vendors.
 
Revenues. Revenues were $70.8 million, $53.8 million, and $46.6 million for 2004, 2003, and 2002, respectively, reflecting increases of 31.7%, 15.5%, and 19.8%, respectively, over the prior years. The growth in revenues from 2003 to 2004 was primarily impacted by an increase of 65% or $10.5 million in the volume of recurring revenues, including sales of blank CD-R and DVD-R media, printer ribbons and ink cartridges, parts and maintenance contracts. The strong growth in recurring revenues was particularly impacted by $6.5 million in sales of Rimage-branded media kits, which the Company began to sell in 2004, and the continued expansion of the Company’s worldwide installed base of CD-R and DVD-R publishing systems. Also contributing to 2004 revenue growth was an increase in the volume of Producer product line equipment sales of $4.8 million, largely impacted by the introduction of the DiscLab system in 2004. International sales rose 18% in 2004 and comprised 38% of total sales, compared to 42% in 2003 and 39% in 2002. The impact of currency fluctuations on the Company’s European operations increased reported 2004 revenues by approximately $2.1 million, or 3% of consolidated revenues.

The increase in revenues from 2002 to 2003 was due to an increased volume of recurring sales totaling $4.1 million, increased Producer line equipment sales totaling $2.6 million and increased Desktop line equipment sales, impacted by a new product release during the year, totaling $.5 million. The growth was in part facilitated by the addition of fifty-five value added resellers (VARs) to the worldwide distribution channel during 2003. The increase in sales was partially offset by an increase in the allowance for sales returns of $.3 million due to increased sales return activity as a result of planned new product introductions. The impact of currency fluctuations on the Company’s

8

 

European operations increased reported 2003 revenues by approximately $3.3 million, or 6% of consolidated revenues.

The Company expects to achieve continued revenue growth in 2005, the rate at which will be dependent upon many factors, including the effectiveness of the Company’s channel partners, the timing of new product introductions, the rate of adoption of new applications for the Company’s products in its targeted markets and the impact of foreign currency exchange rate fluctuations.

Gross Profit. Gross profit as a percentage of revenues was 46.3% for the year ended December 31, 2004, compared to 49.1%, and 48.5% for the years ended December 31, 2003, and 2002, respectively.

The decline in gross profit as a percentage of revenues from 2003 to 2004 primarily reflects increased sales of, as well as a higher concentration of, consumable products, particularly CD-R and DVD-R media, which generally carry lower margins than equipment sales. Sales of CD-R and DVD-R media and related media kits increased to approximately 15% of total revenues in 2004, compared to 6% in 2003. Additionally, Producer equipment sales, which generally carry the highest margins among all product offerings, declined to 51% of total revenues from 58% in the prior year. The decline was also impacted by additional manufacturing costs associated with the Company’s introduction of its new Desktop product line, and inventory costs associated with the discontinuation of the previous Desktop product line.

The increase in gross profit as a percentage of revenues from 2002 to 2003 was primarily due to an increased volume of sales of Producer line equipment and consumable products such as printer ribbons and parts. Rimage generates slightly higher margins on these products as compared to its Desktop line of products. Also, Rimage’s European operation increased sales within Germany by 48% from 2002 to 2003. Sales within Germany are made directly to customers instead of through distributors, thus generating higher gross profits. The impact of foreign currency exchange rate fluctuations partially offset the noted improvements in 2003 gross profit.

Rimage anticipates that its gross profit percentage in 2005 will be in the low to mid-40% range. Actual margins will continue to be affected by many factors, including product mix, the timing of new product introductions, manufacturing volume, foreign currency exchange rate fluctuations and levels of sales returns.

Operating Expenses. Research and development expenses were $4.5 million, $3.8 million, and $3.6 million for the years ended December 31, 2004, 2003, and 2002, respectively, representing 6.4%, 7.0%, and 7.7% of revenues, respectively.

The dollar increase in research and development spending in 2004 relative to 2003 was due to increased costs for materials and resources to support a higher level of new product development related to the Company’s Desktop and Producer product lines. Such development activities led to the Company’s introduction during 2004 of the Rimage 2000i, part of its next-generation Desktop Series, and the DiscLab system, a new addition to its Producer Series of products. Additionally, the Company continued development work on other new-generation products, with product introductions anticipated in 2005.
 
The dollar increase from 2002 to 2003 was primarily due to software enhancements made to the Company’s entire product line and materials and resources required to develop its Desktop line of products, including development of a new thermal inkjet CD-R/DVD-R label printer launched during June 2003.

Rimage anticipates its research and development expenditures to be within the range of 7% to 8% of revenues during 2005. These expenditures will be made to support new product development initiatives and improve existing products.

Selling, general and administrative expenses for the years ended December 31, 2004, 2003, and 2002 were $14.9 million, $11.1 million, and $9.6 million, respectively, representing 20.9%, 20.6%, and 20.6% of revenues, respectively.

The dollar growth in selling, general and administrative expenses in 2004 relative to 2003 primarily reflects the implementation of sales and marketing initiatives to support new product introductions and expansion of the Company’s sales and marketing organization. Sales and marketing expenses grew $2.7 million in 2004, affected by a 21% increase in average headcount between periods, increased travel related costs and increased costs associated

9

 

with product marketing and promotion, including expenses associated with the Company’s co-op marketing program. The Company expects continued growth in spending on sales and product marketing during 2005. General and administrative expenses contributed the remaining $1.1 million of growth in expenses, impacted primarily by incremental expenses associated with Sarbanes-Oxley related compliance, an increase in management compensation and increased costs for expanded coverage under the Company’s Directors’ and Officers’ liability insurance.

The dollar increase from 2002 to 2003 reflects an increase in sales and marketing costs of $.9 million and an increase in general and administrative costs of $.6 million. The growth in sales and marketing expenses primarily reflect costs to support the Company’s revenue growth, including increased commissions and costs to support the Company’s co-op marketing program. The rise in general and administrative expenses was impacted by additional services obtained to ensure compliance with new corporate governance requirements under Sarbanes-Oxley regulations.

Other Income, Net. For 2004, 2003, and 2002, Rimage recognized interest income on cash investments of $657,000, $519,000, and $780,000, respectively. While average cash and investment balances increased each successive year, average effective yields decreased from 2002 to 2003, followed by a slight increase from 2003 to 2004, creating the variation in interest income levels. See “Liquidity and Capital Resources” below for a discussion of cash levels. Other income in each year was affected by the impact of gains or losses on foreign currency transactions, with net gains of $18,000 and $30,000 in 2004 and 2003, respectively, and a net loss of $28,000 in 2002. Other net expense in 2004 includes a loss on disposal of property and equipment of approximately $100,000.

Income Before Income Taxes. For 2004, 2003, and 2002, income before income taxes was $14.0 million, $12.1 million, and $10.2 million, respectively, representing 19.8%, 22.4%, and 21.9% of revenues, respectively.

The dollar growth in income before taxes in 2004 from 2003 was primarily attributed to an increase in recurring revenues and Producer line equipment sales. Partially offsetting the impact of the revenue growth was a decline in gross margin impacted by the higher concentration of lower margin consumable product sales and increased operating expenses to support the Company’s development and introduction of new products and expansion of its sales and marketing organization.

The increase from 2002 to 2003 is primarily due to an increase in Producer line equipment sales and recurring revenues, which also generated slightly higher margins relative to the mix of products sold in 2002.

Income Taxes. The provision for income taxes represents federal, state, and foreign income taxes on income. For the years ended December 31, 2004, 2003, and 2002, income tax expense amounted to $5.0 million, $4.4 million and $3.7 million, respectively, representing 35.4%, 36.5%, and 36.5% of income before income taxes, respectively. The lower effective tax rate in 2004 reflects the impact of adjustments to the tax provision made as a result of a reassessment of the Company’s tax exposures as of December 31, 2004. The Company anticipates its effective tax rate will range between 35% and 36% for the full year 2005.

Net Income / Net Income Per Share. Resulting net income for the years ended December 31, 2004, 2003 and 2002 amounted to $9.1 million, $7.7 million and $6.5 million, representing 12.8%, 14.2% and 13.9% of revenues, respectively. Related net income per diluted share amounts were $.91 in 2004, $.79 in 2003 and $.68 in 2002. 
 
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 agreement allows for advances under an unsecured revolving loan up to a maximum advance of $10 million. At December 31, 2004, no amounts were outstanding under the credit agreement.

Current assets increased to $71.7 million as of December 31, 2004 from $59.8 million as of December 31, 2003, primarily reflecting an increase in levels of cash and marketable securities ($3.9 million), accounts receivable ($3.9 million), and inventory ($4 million) stemming from strong sales growth during the year. The growth in accounts receivable was further impacted by a concentration of fourth quarter sales in December 2004, and the related timing of cash collections from customers. The allowance for doubtful accounts and sales returns as a percentage of receivables was 6% at December 31, 2004, compared to 14% at the prior year-end. The reduction in 2004 reserve levels is primarily due to decreased sales return activity and an improvement in the aging of the Company’s receivables. The increase in inventories also reflects a build-up of inventory for long lead-time parts as well as a
 

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need to stock additional inventory of CD-R and DVD-R media, printer ribbons and cartridges as a result of expected growth in consumable product sales. The Company intends on utilizing its current assets primarily for its continued organic growth. In addition, the Company may use its available cash for potential future acquisitions or strategic alliances. Current liabilities increased to $11.3 million as of December 31, 2004 from $9.0 million as of December 31, 2003, primarily reflecting an increase in accounts payable, impacted largely by the increase in inventories described above.

Net cash provided by operating activities was $5.0 million, $11.9 million, and $8.2 million for the years ended December 31, 2004, 2003, and 2002, respectively. The decline from 2003 to 2004 was primarily impacted by significant increases in accounts receivable and inventories, partially offset by an increase in accounts payable, described above. The increase from 2002 to 2003 was primarily due to the timing of cash collections from customers, impacted by a reduction in day’s sales outstanding from 57 to 48 days, and lower quarterly estimated tax payments.

Net cash used in investing activities amounted to $19.5 million, $3.6 million, and $6.1 million for the years ended December 31, 2004, 2003, and 2002, respectively. Cash used in investing activities for each year primarily reflects purchases of marketable securities, net of maturities of marketable securities. Investing activities also include purchases of property and equipment of $2.2 million in 2004, $.8 million in 2003 and $.5 million in 2002. Purchases in 2004 consisted primarily of tooling for the Company’s Desktop Series of products, leasehold improvements and computer related equipment. In 2005, the Company expects total capital expenditures to range between $1 million and $2 million, primarily reflecting investments to support the Company’s information technology requirements, the product development and production processes and leasehold improvements.

Net cash provided by financing activities totaled $1.0 million in both 2004 and 2003 and $.4 million in 2002. Amounts in each year reflect proceeds from stock option exercises.

A summary of Rimage’s contractual cash obligations at December 31, 2004 is as follows:

   
Payments due by period
  
Contractual Obligations
  
Total
  
2005
  
2006
  
2007
  
2008
  
2009
  
Operating leases
    
2,411,726
    
818,051
    
697,983
    
580,423
    
286,477
    
28,792
  
Capital leases (1)
    
25,869
    
8,623
    
8,623
    
8,623
    
—
    
—
  
                                       
Total contractual cash obligations
    
2,437,595
    
826,674
    
706,606
    
589,046
    
286,477
    
28,792
  

(1) Amounts include principal and interest.
 
Management utilizes its technical knowledge, cumulative business experience, judgment and other factors in the selection and application of the Company’s accounting policies. The following accounting policies 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:

Revenue Recognition. Revenue for product sales, 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.
·  
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

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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 revenue upon the successful completion of the service.

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).

EITF 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. In some arrangements, the different revenue-generating activities are sufficiently separable and there exists sufficient evidence of their fair values to separately account for some or all of the activities. This issue does not change otherwise applicable revenue recognition criteria. The adoption of EITF 00-21 did not have any impact on the financial position or results of operations of the Company, because the elements of the Company’s sale transactions are clearly and separately stated and sufficient evidence of their fair value exists to account for the elements.

Allowance For Doubtful Accounts And Sales Returns. The Company records a reserve for accounts receivable that are potentially uncollectible due to customer default. The reserve is estimated based on a review of customer accounts, the age of the receivables, customers’ financial condition, and general economic conditions. 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 allowances given to VARs for demo products. Distributors are provided strict guidelines for the return of product that limits returns. The Company reviews the distributor’s inventory to insure compliance to the Company’s return policy.

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, physical inventory and cycle count adjustments, 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. Warranty expense is accrued at the time of sale based on analysis of historical claims experience, which includes labor and parts costs and the proportion of parts that can be re-used.
 
In December 2004, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standard (SFAS) No. 123 (Revised 2004), “Share-Based Payment.” SFAS No 123R is a revision of SFAS No. 123, “Accounting for Stock-Based Compensation” and supersedes Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees” and its related implementation guidance. SFAS No. 123R focuses primarily on accounting for transactions in which an entity obtains employee services through share-based payment transactions. SFAS No 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 will be recognized over the period during which an employee is required to provide services in exchange for the award. SFAS No. 123R is effective for the Company beginning July 1, 2005. While the Company cannot precisely determine the impact on net earnings as a result of the adoption of SFAS No 123R, estimated compensation expense related to prior periods can be found in Note 1 in the Consolidated Financial Statements included in this Form 10-K. The ultimate amount of increased compensation expense will be dependent on whether the Company adopts SFAS

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123R using the modified prospective or retrospective method, the number of option shares granted during the year, their timing and vesting period, and the method used to calculate the fair value of the awards, among other factors.

FIN 46, “Consolidation of Variable Interest Entities”, was issued by the FASB in January 2003, and the interpretation was revised in December 2003 (“FIN 46-R”). FIN 46-R provides accounting requirements for business enterprises to consolidate related entities in which they are determined to be the primary beneficiary as a result of their variable economic interests. The interpretation provides guidance in judging multiple economic interests in an entity and in determining the primary beneficiary. The interpretation is effective for all such interests entered into after December 31, 2003, and for all others at the beginning of the fiscal year commencing after December 15, 2004. Adoption of the interpretation has not affected, and is not expected to affect, the Company’s consolidated financial statements.

In November 2004, the FASB issued SFAS No. 151, “Inventory Costs, an amendment of ARB No. 43, Chapter 4.” SFAS No. 151 amends the guidance in ARB No. 43, Chapter 4, “Inventory Pricing,” to clarify the accounting for abnormal amounts of idle facility expense, freight, handling charges and spoilage. This statement requires that those items be recognized as current period charges regardless of whether they meet the criterion of “so abnormal” which was the criterion specified in ARB No. 43. In addition, this Statement requires that allocation of fixed production overheads to the cost of production be based on normal capacity of the production facilities. The provisions under SFAS No. 151 are effective for the Company beginning January 1, 2006, and shall be applied prospectively. The Company does not expect that the adoption of this pronouncement will have a significant impact on its consolidated financial statements.

In December 2004, the FASB issued SFAS No. 153, “Exchanges of Nonmonetary Assets, an amendment of APB Opinion No. 29, Accounting for Nonmonetary Transactions.” The guidance in APB No. 29 is based on the principle that exchanges of nonmonetary assets should be measured based upon the fair value of the assets exchanged. SFAS No. 153 amends APB No. 29 to eliminate the narrow exception for nonmonetary exchanges of similar productive assets and replaces it with a broader exception for exchanges of nonmonetary assets that do not have commercial substance. This Statement is effective for the Company for nonmonetary asset exchanges beginning July 1, 2005. The provisions of this Statement shall be applied prospectively. The Company does not expect the adoption of this pronouncement to have a significant impact on its consolidated financial statements.
 
Rimage maintains a website at www.rimage.com. Its annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, are available on its website, as soon as reasonably practicable after these documents are filed with the SEC. To obtain copies of these reports, go to www.rimage.com and click on “Investor Relations,” then click on “EDGAR Filings.” A copy of any report filed by the Company with the SEC will also be furnished without charge to any shareholder who requests it in writing to: Secretary, Rimage Corporation 7725 Washington Avenue South, Minneapolis, Minnesota 55439.
 
 
We make written and oral statements from time to time regarding our business and prospects, such as projections of future performance, statements of management’s plans and objectives, forecasts of market trends, and other matters that are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Statements containing the words or phrases “will likely result,” “are expected to,” “will continue,” “is anticipated,” “estimates,” “projects,” “believes,” “expects,” “anticipates,” “intends,” “target,” “goal,” “plans,” “objective,” “should” or similar expressions identify forward-looking statements, which may appear in documents, reports, filings with the Securities and Exchange Commission, news releases, written or oral presentations made by our authorized officers or other representatives. For such statements, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995.
 

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Our future results, including results related to forward-looking statements, involve a number of risks and uncertainties. No assurance can be given that the results reflected in any forward-looking statements will be achieved. Any forward-looking statement made by or on behalf of us speaks only as of the date on which such statement is made. We do not undertake any obligation to update or keep current either (i) any forward-looking statement to reflect events or circumstances arising after the date of such statement, or (ii) the important factors that could cause our future results to differ materially from historical results or trends, results anticipated or planned by us, or which are reflected from time to time in any forward-looking statement which may be made by or on behalf of us.
 
In addition to other matters identified or described by us from time to time in filings with the SEC, there are several important factors that could cause our future results to differ materially from historical results or trends, results anticipated or planned by us, or results that are reflected from time to time in any forward-looking statement that may be made by or on behalf of us. Some of these important factors include the following:

Technology in our industry evolves rapidly, potentially causing our products to become obsolete, and we must continue to enhance existing systems and develop new systems or we will lose sales.
 
Rapid technological advances, rapidly changing customer requirements and fluctuations in demand characterize the current market for our products. Further, there are alternative data storage media and additional media is under development, including high capacity hard drives, new CD-R/DVD-R technologies, file servers accessible through computer networks and the Internet. Our existing and development-stage products may become obsolete if our competitors introduce newer or more appealing technologies. If these technologies are patented or proprietary to our competitors, we may not be able to access these technologies. We believe that we must continue to innovate and anticipate advances in the storage media industry in order to remain competitive. If we fail to anticipate or respond to technological developments or customer requirements, or if we are significantly delayed in developing and introducing products, our business will suffer lost sales.

Our market is becoming more competitive. Competition may result in price reductions, lower gross profits and loss of market share.
 
The storage media industry is becoming more competitive and we face the potential for increased competition in developing and selling our CD-R and DVD-R publishing systems in both the U.S. and in foreign markets. Our competitors may have or could develop or acquire significant marketing, financial, development and personnel resources. Our current primary competitors include Primera Technology, Inc., Microtech Systems, Inc. and LSK Data Systems GmbH. To remain competitive, we believe that we must continue to provide:

§  
technologically advanced systems that satisfy the demands of end-users;
§  
continuing advancements in our CD-R and DVD-R products;
§  
a dependable and efficient distribution and reseller network;
§  
superior customer service; and
§  
high levels of quality and reliability.

We cannot assure you that we will be able to compete successfully against our current or future competitors. The storage media industry has increased visibility, which may lead to large, well-known, well-financed companies entering into this market. Increased competition from manufacturers of systems or consumable supplies may result in price reductions, lower gross profit margins, increased discounts to distribution and loss of market share and could require increased spending by us on research and development, sales and marketing and customer support.
 

14

 
If our products fail to compete successfully with other existing publishing systems or newly-developed products for the storage media industry, our business will suffer.

The success of our products depends upon our end users choosing our CD-R and DVD-R technology for their storage media needs. However, alternative data storage media exist, such as high capacity hard drives, new CD-R/DVD-R technologies, file servers accessible through computer networks and the Internet, and additional media is under development. If end users perceive any technology that is competing with ours as more reliable, higher performing, less expensive or having other advantages over our technology, the demand for our CD-R and DVD-R products could decrease. Further, some of our competitors may make strategic acquisitions or establish cooperative relationships with suppliers or companies that produce complementary products such as cameras, computer equipment, software or biometric applications. Competition from other publishing systems or other storage media is likely to increase. If our products do not compete successfully with existing or new competitive products, our business will suffer.

We sell a significant portion of our products internationally, which exposes us to risks associated with foreign operations.

We sell a significant amount of our products to customers outside the United States, particularly in Europe, Asia and Latin America. International sales accounted for 38%, 42%, and 39% of our revenue for the years ended December 31, 2004, 2003 and 2002, respectively. We expect that shipments to international customers, including customers in Europe, Asia and Latin America, will continue to account for a significant portion of our net sales. Sales outside the United States involve the following risks, among others:
 
§  
foreign governments may impose tariffs, quotas and taxes;
§  
the demand for our products will depend, in part, on local economic health;
§  
political and economic instability may reduce demand for our products;
§  
restrictions on the export or import of technology may reduce or eliminate our ability to sell in certain markets;
§  
potentially limited intellectual property protection in certain countries may limit our recourse against infringing products or cause us to refrain from selling in certain markets;
§  
we may face difficulties in managing our international operations;
§  
the burden and cost of complying with a variety of foreign laws;
§  
we may decide to price our products in foreign currency denominations;
§  
our contracts with foreign distributors and resellers cannot fully protect us against political and economic instability;
§  
we may face difficulties in collecting receivables; and
§  
we may not be able to control our international distributors’ efforts on our behalf.

The financial results of our German subsidiary, Rimage Europe, are translated into U.S. dollars for consolidation with our overall financial results. Additionally, we hedge against currency fluctuations associated with foreign currency denominated transactions (principally European Euro) with Rimage Europe. Despite our hedging activity, currency fluctuations may adversely affect the financial performance of our consolidated operations. Currency fluctuations also may increase the relative price of our product in foreign markets and thereby could also cause our products to become less affordable or less price competitive than those of foreign manufacturers. These risks associated with foreign operations may have a material adverse effect on our revenue from or costs associated with international sales.
 
If our domestic or international intellectual property rights are not adequately protected, others may offer products similar to ours which could depress our product selling prices and gross profit margins or result in loss of market share.
 
We believe that protecting our proprietary technology is important to our success and competitive positioning. In addition to common law intellectual property rights, we rely on patents, trade secrets, trademarks, copyrights, know-how, license agreements and contractual provisions to establish and protect our intellectual property rights. However, these legal means afford us only limited protection and may not adequately protect our rights or remedies to gain or keep any advantages we may have over our competitors.

15

 
We cannot assure you that others may not independently develop the same or similar technologies or otherwise obtain access to our technology and trade secrets. Our competitors, who may have or could develop or acquire significant resources, may make substantial investments in competing technologies, may apply for and obtain patents that will prevent, limit, or interfere with our ability to manufacture or market our products. Further, while we do not believe that any of our products or processes interfere with the rights of others, third parties may nonetheless assert patent infringement claims against us in the future.

Costly litigation may be necessary to enforce patents issued to us, to protect trade secrets or “know-how” we own, to defend us against claimed infringement of the rights of others or to determine the ownership, scope, or validity of our proprietary rights and the rights of others. Any claim of infringement against us may involve significant liabilities to third parties, could require us to seek licenses from third parties, and could prevent us from manufacturing, selling, or using our products. The occurrence of this litigation, or the effect of an adverse determination in any of this type of litigation, could have a material adverse effect on our business, financial condition and results of operations. Further, the laws of some of the countries in which our systems are or may be sold may not protect our systems and intellectual property to the same extent as the United States or at all. Our failure to protect or enforce our intellectual property rights could have a material adverse effect on our business, results of operations and financial condition.

Our sales will decline and our business will be materially harmed if our key channel partners do not effectively market or sell our products or if there is a significant reduction, delay or cancellation of orders from such channel partners.
 
We distribute our products to end users through our own sales force, through distributors and through a two-tier system of distributors and resellers.  Although certain distributors and resellers have made certain contractual commitments to us, they are independent businesses that we do not control.  We cannot be certain that our distribution channel will continue to market or sell our systems effectively. Our agreements with distributors and resellers do not contain requirements that a certain percentage of such parties’ sales are of our products nor do the agreements restrict their ability to choose alternative sources for CD-R or DVD-R publishing systems. 

During 2004, we derived approximately 13% and 12% of our revenues from a single distributor and a strategic partner, respectively. Two of our distributors generated more than 10% of revenues in 2003, at 16% and 12% of our revenues for 2003, respectively. In 2002, two distributors also generated more than 10% of our revenues, at 17% and 16% of our revenues for 2002, respectively. A significant reduction, delay or cancellation of orders from our key channel partners or the loss of any of them could have a negative impact upon our operating results. Further, some of our channel partners are small organizations with limited capital and our success in distributing our products to end users will depend upon the continued viability and financial stability of these entities. These channel partners may choose to devote their efforts to other products in different markets or reduce or fail to devote the necessary resources to provide effective sales and marketing support of our product. We believe that our future growth and success will continue to depend in large part upon the success of our channel partners in operating their businesses.

If we do not maintain adequate inventories of component parts or finished goods or if we fail to adequately forecast demand, the likely resulting delays in producing our publishing systems products would damage our business.
 
Because most of our systems are built upon order, we do not maintain a significant inventory of completed systems. We assemble the Producer II Series and Desktop Series systems as they are ordered, which causes us to forecast production based on past sales and our estimates of future demand. In the event that we significantly underestimate our needs or encounter an unexpectedly high level of demand for our systems or our suppliers are unable to deliver our orders of components in a timely manner, we may be unable to fill our product orders on time which could harm our reputation and result in reduced sales.
 

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We rely on single-source suppliers, which could cause delays, increases in costs or prevent us from completing customer orders, all of which could materially harm our business.
 
We assemble our Producer II Series and Desktop Series products using materials and components supplied by various subcontractors and suppliers. We purchase critical components for our systems, including CD-R/DVD-R drives, circuit boards, electric motors, machined and molded parts, precision sheet metal assemblies and mechanical parts, from third parties, some of whom are single-source suppliers of these components. If any of our suppliers is unable to ship critical components, we would be unable to manufacture and ship products to our end-users, distributors or resellers. If the price of these components increases for any reason, or if these suppliers are unable or unwilling to deliver, we may have to find another source, which could result in interruptions, increased costs, delays, loss of sales and quality control problems.

The termination or interruption of any of these relationships, or the failure of these manufacturers or suppliers to supply products or components to us on a timely basis or in sufficient quantities, likely would cause us to be unable to meet orders for our products and harm our reputation and our business. Identifying and qualifying alternative suppliers of components would take time, involve significant additional costs and may delay the production of our products. Further, if we obtain a new supplier for a component or assemble our product using an alternative component, we may need to conduct additional testing of our products to ensure the product meets our quality and performance standards. Any delays in delivery of our product to end-users, distributors or resellers could be extended and our costs associated with the change in product manufacturing could increase.

The failure of our third-party manufacturers to manufacture the products for us, and the failure of our components suppliers to supply us with the components, consistent with our requirements as to quality, quantity and timeliness could materially harm our business by causing delays, loss of sales, increases in costs and lower gross profit margins.
 
Our products must be compatible with products designed and manufactured by others and, in the event of design changes or the introduction of new products by them or us, our products must continue to be compatible with products of others.

Our Producer II Series and Desktop Series of our CD-R/DVD-R publishing systems incorporate computer and related computer equipment, hardware and software manufactured by others. Our products are designed to provide end users with a fully-integrated publishing system, and therefore, our products must operate with the computer and related equipment of others to function properly for end users. Problems with the products of others may adversely affect the performance and reliability of our publishing system products and damage our reputation with end users. Further, if there are changes in our products, changes in the computer or computer related equipment integrated into our products or if we offer new products, we must maintain compatibility and interoperability of our products with the products of others. We cannot assure you that we will be able to adapt our products to be compatible with any newly designed product of another party. We would likely incur substantial costs to test and “de-bug” any newly designed product that we integrate into our products. Further, our new product development efforts may be hampered by our need to maintain compatibility with the products of others and we may incur additional expense designing for compatibility.

Our publishing systems may have manufacturing or design defects that we discover after shipment, which could negatively affect our revenues, increase our costs and harm our reputation.
 
Our publishing systems are complex and may contain undetected and unexpected defects, errors or failures. If these product defects are substantial, the result could be product recalls, an increased amount of product returns, loss of market acceptance and damage to our reputation, all of which could increase our costs and cause us to lose sales. We carry general commercial liability insurance covering our products with policy limits per occurrence and in the aggregate that we have deemed to be sufficient. We cannot predict, however, whether this insurance is sufficient, or if not, whether we will be able to obtain sufficient insurance to cover the risks associated with our business or whether such insurance will be available at premiums that are commercially reasonable. In addition, these insurance policies must be renewed annually. Although we have been able to obtain liability insurance, such insurance may not be available in the future on acceptable terms, if at all. A successful claim against us or settlement by us in excess of our insurance coverage or our inability to maintain insurance in the future could have a material adverse effect on our business, results of operations, liquidity and financial condition.

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If our systems fail to comply with domestic and international government regulations, or if these regulations result in a barrier to our business, we could lose sales.
 
Our systems must comply with various domestic and international laws, regulations and standards. In the event that we are unable or unwilling to comply with any such laws, regulations or standards, we may decide not to conduct business in certain markets. Particularly in international markets, we may experience difficulty in securing required licenses or permits on commercially reasonable terms, or at all. Failure to comply with existing or evolving laws or regulations, including export and import restrictions and barriers, or to obtain timely domestic or foreign regulatory approvals or certificates could result in lost sales.

Fluctuations in our future operating results may negatively affect the market price of our common stock.
 
We have experienced fluctuations in our quarterly operating results and we expect those fluctuations to continue due to a variety of factors. Some of the factors that influence our quarterly operating results include:
 
§  
the number and mix of products sold in the quarter;
§  
the timing of major projects;
§  
the availability and cost of components and materials;
§  
timing, costs and benefits of new product introductions;
§  
customer order size and shipment timing;
§  
seasonal factors affecting timing of purchase orders;
§  
promotions by ourselves or competitors, and the timing of the promotion;
§  
the impact to the marketplace of competitive products and pricing; and
§  
the timing and level of operating expenses.
 
Because of these factors, our quarterly operating results are difficult to predict and are likely to vary in the future. If our operating results are below financial analysts’ or investors’ expectations, the market price of our common stock may fall abruptly and significantly.

If we fail to retain and attract highly skilled managerial and technical personnel, we may fail to remain competitive.
 
Our future success depends, in significant part, upon the continued service and performance of our senior management and other key personnel. The loss of the services of our management team, some of whom have significant experience in our industry, and other key personnel, could impair our ability to effectively manage our company and to carry out our business plan.  We do not carry key person life insurance on any of our executive officers.  In addition, competition for skilled employees in our industry is intense. Our future success also depends on our continuing ability to attract, retain and motivate highly qualified managerial, technical and sales personnel. Our inability to retain or attract qualified personnel could have a significant negative effect and thereby materially harm our business and financial condition.
 
Our stock price may be volatile and a shareholder’s investment could decline in value.

Our stock price has fluctuated in the past and may continue to fluctuate significantly, making it difficult for an investor to resell shares or to resell shares at an attractive price. The market prices for securities of emerging companies have historically been highly volatile. Future events concerning us or our competitors could cause such volatility, including:

§  
actual or anticipated variations in our operating results,
§  
technological innovations or new commercial products introduced by us or our competitors,
§  
developments concerning proprietary rights,
§  
changes in senior management,
§  
investor perception of us and our industry,
§  
general economic and market conditions including market uncertainty
§  
national or global political events, and
§  
public confidence in the securities markets and regulation by or of the securities markets.
 

18

 
In addition, the stock market is subject to price and volume fluctuations that affect the market prices for companies in general, and small-capitalization, high-technology companies in particular, which are often unrelated to the operating performance of these companies. Any failure by us to meet or exceed estimates of financial analysts is likely to cause a decline in our common stock price.

Future sales of shares of our common stock in the public market may negatively affect our stock price.
 
Future sales of our common stock, or the perception that these sales could occur, could have a significant negative effect on the market price of our common stock. In addition, upon exercise of outstanding options and warrants, the number of shares outstanding of our common stock could increase substantially. This increase, in turn, could dilute future earnings per share, if any, and could depress the market value of our common stock. Dilution and potential dilution, the availability of a large amount of shares for sale, and the possibility of additional issuances and sales of our common stock may negatively affect both the trading price of our common stock and the liquidity of our common stock. These sales also might make it more difficult for us to sell equity securities or equity-related securities in the future at a time and price that we would deem appropriate.

Provisions of Minnesota law, our bylaws and other agreements may deter a change of control of our company and may have a possible negative effect on our stock price.

Certain provisions of our Minnesota law, our bylaws and other agreements may make it more difficult for a third party to acquire, or discourage a third party from attempting to acquire, control of our company, including:

§  
the provisions of Minnesota law relating to business combinations and control share acquisitions;
§  
the provisions of our bylaws regarding the business properly brought before shareholders;
§  
the right of our board of directors to establish more than one class or series of shares and to fix the relative rights and preferences of any such different classes or series;
§  
our shareholder rights plan, which would cause substantial dilution to any person or group attempting to acquire our company on terms not approved in advance by our board of directors; and
§  
the provisions of our stock option plans allowing for the acceleration of vesting or payments of awards granted under the plans in the event of specified events that result in a “change in control.”

These measures could discourage or prevent a takeover of our company or changes in our management, even if an acquisition or such changes would be beneficial to our shareholders. This may have a negative effect on the price of our common stock.

Compliance with changing regulation of corporate governance and public disclosure may result in additional expenses.
 
Keeping abreast of, and in compliance with, changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002 and in particular Section 404 of that act relating to management certification of internal controls, the regulations of the Securities and Exchange Commission and the rules of the Nasdaq Stock Market, have required an increased amount of management attention and external resources. We intend to invest all reasonably necessary resources to comply with evolving corporate governance and public disclosure standards, and this investment may result in increased general and administrative expenses and a diversion of management time and attention from revenue-generating activities to compliance activities.
 
ITEM 7A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
Foreign Currency Translation. The Company is exposed to market risk from foreign exchange rate fluctuations of the European Euro to the U.S. dollar as the financial position and operating results of the Company’s German subsidiary, Rimage Europe, are translated into U.S. dollars for consolidation. Resulting translation adjustments are recorded as a separate component of stockholders’ equity.
 
Derivative financial instruments. The Company enters into forward exchange contracts principally to hedge the eventual dollar cash flow of foreign currency denominated transactions (principally European Euro) with Rimage Europe. Gains or losses on forward exchange contracts are recognized in income on a current basis over the term of the contracts. The Company records the fair value of its open forward foreign exchange contracts in other current assets
 

19

 

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.

Exchange Rate Sensitivity. The table below summarizes information on foreign currency forward exchange agreements that are sensitive to foreign currency exchange rates. For these foreign currency forward exchange agreements, the table presents the notional amounts and weighted average exchange rates by expected (contractual) maturity dates. These notional amounts generally are used to calculate the contractual payments to be exchanged under the contract.
 
   
 Expected Maturity or Transaction Date
  
                               
   
 2005
  
 2006
  
 2007
  
 2008 
  
 There-
after
  
 Total   
  
 Fair
Value 
  
                               
Anticipated Transactions and   
(US$ Equivalent in Thousands)
  
Related Derivatives
                              
                               
Forward Exchange Agreements
                              
(Receive $US/Pay €)
                              
Contract Amount
    
3,623
    
—
    
—
    
—
    
—
    
3,623
    
(210
)
Average Contractual
                                           
Exchange Rate
    
1.2796
    
—
    
—
    
—
    
—
    
1.2796
        

20

 
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
 
Financial Statements
 
 

21

 
 
The Board of Directors and Stockholders
Rimage Corporation:
 
Management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a15-(f) and 15d-15(f) under the Securities Exchange Act of 1934. The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that:
 
 
(i)
pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company;
 
 
(ii)
provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and
 
 
(iii)
provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements.
 
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
 
Under the supervision of our chief executive officer and our chief financial officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on our assessment and those criteria, management believes that the Company maintained effective internal control over financial reporting as of December 31, 2004.
 
KPMG LLP, the independent registered public accounting firm that audited the financial statements in this Form 10-K, has issued an attestation report on management’s assessment of the effectiveness of the Company’s internal control over financial reporting, which report is included in this Form 10-K.
 

22

 
 
The Board of Directors and Stockholders
Rimage Corporation:

We have audited the accompanying consolidated balance sheets of Rimage Corporation and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of operations, stockholders’ equity and comprehensive income, and cash flows for each of the years in the three-year period ended December 31, 2004. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Rimage Corporation and subsidiaries as of December 31, 2004 and 2003, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2004, in conformity with U.S. generally accepted accounting principles.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Rimage Corporation’s internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March 14, 2005 expressed an unqualified opinion on management’s assessment of, and the effective operation of, internal control over financial reporting.


/s/ KPMG LLP

Minneapolis, Minnesota
March 14, 2005
 

23

 
Report of Independent Registered Public Accounting Firm
 

 
The Board of Directors and Stockholders
Rimage Corporation:

We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting, that Rimage Corporation maintained effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Rimage Corporation’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.
 
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
 
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
 
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
 
In our opinion, management’s assessment that Rimage Corporation maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Also, in our opinion, Rimage Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
 
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Rimage Corporation and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of operations, stockholders’ equity and comprehensive income, and cash flows for each of the years in the three-year period ended December 31, 2004, and our report dated March 14, 2005 expressed an unqualified opinion on those consolidated financial statements.
 
 
/s/ KPMG LLP


Minneapolis, Minnesota
March 14, 2005
 
 
RIMAGE CORPORATION AND SUBSIDIARIES
December 31, 2004 and 2003

           
   
December 31,
  
December 31,
  
Assets
  
2004
  
2003
  
           
Current assets:
          
Cash and cash equivalents
  
$
13,320,681
  
$
26,741,627
  
Marketable securities
    
39,174,799
   
21,855,434
 
Trade accounts receivable, net of allowance for doubtful accounts
              
and sales returns of $600,000 and $887,000, respectively
    
10,183,814
   
6,242,516
 
Inventories
    
7,395,689
   
3,334,370
 
Prepaid expenses and other current assets
    
462,214
   
473,053
 
Deferred income taxes-current
    
1,127,642
   
1,202,329
 
Total current assets
    
71,664,839
   
59,849,329
 
               
Property and equipment, net
    
2,386,494
   
1,137,446
 
Deferred income taxes - non-current
    
— 
    
36,676
 
Other non-current assets
    
86,667
   
906
 
Total assets
  
$
74,138,000
  
$
61,024,357
  
               
               
Liabilities and Stockholders’ Equity
              
               
Current liabilities:
              
Trade accounts payable
  
$
4,717,073
  
$
2,365,213
  
Accrued compensation
    
2,300,009
   
1,658,741
 
Other accrued expenses
    
1,121,370
   
1,102,925
 
Income taxes payable
    
1,100,257
   
1,768,710
 
Deferred income and customer deposits
    
1,821,057
   
1,793,725
 
Other current liabilities
    
217,640
   
323,915
 
Total current liabilities
    
11,277,406
   
9,013,229
 
               
Long-term liabilities:
              
Deferred taxes
    
122,932
   
—
  
Other non-current liabilities
    
16,317
   
—
  
Total long-term liabilities
    
139,249
   
—
  
Total liabilities
    
11,416,655
   
9,013,229
 
               
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 9,365,479 and 9,110,246, respectively
    
93,655
   
91,102
 
Additional paid-in capital
    
19,677,692
   
18,156,735
 
Retained earnings
    
42,871,670
   
33,799,709
 
Accumulated other comprehensive income (loss)
    
78,328
   
(36,418
)
Total stockholders’ equity
    
62,721,345
   
52,011,128
 
               
Commitments and contingencies (notes 8 and 12)
              
Total liabilities and stockholders’ equity
  
$
74,138,000
  
$
61,024,357
  
               
See accompanying notes to consolidated financial statements
              
 

25

 
RIMAGE CORPORATION AND SUBSIDIARIES
Years Ended December 31, 2004, 2003 and 2002

               
   
2004
  
2003
  
2002
  
               
Revenues
  
$
70,847,930
  
$
53,797,164
  
$
46,581,069
  
Cost of revenues
    
38,027,320
   
27,399,219
   
23,985,704
 
Gross profit
    
32,820,610
   
26,397,945
   
22,595,365
 
                     
Operating expenses:
                    
Research and development
    
4,529,324
   
3,765,556
   
3,602,117
 
Selling, general and administrative
    
14,856,217
   
11,075,879
   
9,574,110
 
Total operating expenses
    
19,385,541
   
14,841,435
   
13,176,227
 
                     
Operating income
    
13,435,069
   
11,556,510
   
9,419,138
 
                     
Other income (expense):
                    
Interest, net
    
657,468
   
518,846
   
780,273
 
Gain (loss) on currency exchange
    
17,983
   
30,331
   
(27,658
)
Other, net
    
(67,236
)
  
(33,836
)
  
7,326
 
Total other income, net
    
608,215
   
515,341
   
759,941
 
                     
Income before income taxes
    
14,043,284
   
12,071,851
   
10,179,079
 
Income tax expense
    
4,971,323
   
4,406,226
   
3,715,364
 
Net income
  
$
9,071,961
  
$
7,665,625
  
$
6,463,715
  
                     
                     
Net income per basic share
  
$
0.98
  
$
0.86
  
$
0.74
  
                     
                     
Net income per diluted share
  
$
0.91
  
$
0.79
  
$
0.68
  
                     
                     
Basic weighted average shares outstanding
    
9,289,553
   
8,931,084
   
8,702,552
 
                     
Diluted weighted average shares and
                    
assumed conversion shares
    
9,931,687
   
9,743,104
   
9,496,723
 
 
See accompanying notes to consolidated financial statements
 

26

 
RIMAGE CORPORATION AND SUBSIDIARIES
Years Ended December 31, 2004, 2003, and 2002

           
Additional
     
Accumulated
other
     
   
Common Stock
 
paid-in
 
Retained
 
comprehensive
     
   
Shares
 
Amount
 
capital
 
earnings
 
income (loss)
 
Total
 
                           
 
Balance at December 31, 2001
    
8,635,537
 
$
86,355
  
$
15,779,533
  
$
19,670,369
  
$
(301,616
)
$
35,234,641
  
                                       
Stock issued in warrant and stock
                                      
option exercises
    
83,874
   
839
   
377,726
   
—
    
—
    
378,565
 
Comprehensive income:
                                      
Net income
    
—
    
—
    
—
    
6,463,715
   
—
    
6,463,715
 
Translation adjustment
    
—
    
—
    
—
    
—
    
158,278
   
158,278
 
Unrealized loss from available-
                                      
for-sale securities
    
—
    
—
    
—
    
—
    
(78,067
)
  
(78,067
)
Total comprehensive income
                                  
6,543,926
 
                                       
 
Balance at December 31, 2002
    
8,719,411
   
87,194
   
16,157,259
   
26,134,084
   
(221,405
)
  
42,157,132
 
                                       
Stock issued in warrant and stock
                                      
option exercises
    
390,835
   
3,908
   
947,999
   
—
    
—
    
951,907
 
Income tax benefit arising from
                                      
exercising non-qualifying stock
                                      
options
    
—
    
—
    
1,051,477
   
—
    
—
    
1,051,477
 
Comprehensive income:
                                      
Net income
    
—
    
—
    
—
    
7,665,625
   
—
    
7,665,625
 
Translation adjustment
    
—
    
—
    
—
    
—
    
178,298
   
178,298
 
Unrealized gain from available-
                                      
for-sale securities
    
—
    
—
    
—
    
—
    
6,689
   
6,689
 
Total comprehensive income
                                  
7,850,612
 
                                       
Balance at December 31, 2003
    
9,110,246
   
91,102
   
18,156,735
   
33,799,709
   
(36,418
)
  
52,011,128
 
                                       
Stock issued in stock option
                                      
exercises
    
255,233
   
2,553
   
991,131
   
—
    
—
    
993,684
 
Income tax benefit arising from
                                      
exercising non-qualifying stock
                                      
options
    
—
    
—
    
521,679
   
—
    
—
    
521,679
 
Accelerated vesting of stock
                                     
options
    
—
    
—
    
8,147
   
—
    
—
    
8,147
 
Comprehensive income:
                                      
Net income
    
—
    
—
    
—
    
9,071,961
   
—
    
9,071,961
 
Translation adjustment
    
—
    
—
    
—
    
—
    
170,500
   
170,500
 
Unrealized loss from available-
                                      
for-sale securities
    
—
    
—
    
—
    
—
    
(55,754
)
  
(55,754
)
Total comprehensive income
                                  
9,186,707
 
                                       
Balance at December 31, 2004
    
9,365,479
 
$
93,655
  
$
19,677,692
  
$
42,871,670
  
$
78,328
  
$
62,721,345
  
 
See accompanying notes to consolidated financial statements.
 

27

 
Consolidated Statements of Cash Flows
Years ended December 31, 2004, 2003, and 2002

                  
   
 2004
  
 2003
  
 2002
  
Cash flows from operating activities:
                 
Net income
  
$
9,071,961
  
$
7,665,625
  
$
6,463,715
  
    Adjustments to reconcile net income to net cash
                  
   provided by operating activities:
                  
Depreciation and amortization 
    
918,945
   
930,480
   
794,745
 
Deferred income tax expense (benefit) 
    
234,295
   
(254,452
)
  
136,023
 
Change in allowance for doubtful accounts and sales returns 
    
(286,774
)
  
251,446
   
(79,561
)
Loss (gain) on sale of property and equipment 
    
106,291
   
28,404
   
(3,370
)
Stock-based compensation 
    
8,147
   
— 
    
— 
  
Changes in operating assets and liabilities: 
    
   
   
 
 Trade accounts receivable
    
(3,654,524
)
  
149,651
   
(1,555,876
)
 Inventories
    
(4,061,319
)
  
(292,542
)
  
582,873
 
 Prepaid income taxes
    
—
    
— 
    
764,523
 
 Prepaid expenses and other current assets
    
10,839
   
(87,848
)
  
(173,264
)
 Other non-current assets
    
(160,275
)
  
33,535
   
(17,995
)
 Trade accounts payable
    
2,351,860
   
(111,086
)
  
488,121
 
 Income taxes payable
    
(146,774
)
  
2,625,214
   
194,973
 
 Accrued compensation
    
641,268
   
371,156
   
192,031
 
 Other accrued expenses and other current liabilities
    
(95,302
)
  
156,304
   
235,139
 
 Other non-current liabilities
    
— 
    
— 
    
(68,750
)
 Deferred income and customer deposits
    
27,332
   
470,996
   
290,867
 
                     
Net cash provided by operating activities
    
4,965,970
   
11,936,883
   
8,244,194
 
                     
Cash flows from investing activities:
                  
Purchases of marketable securities
    
(194,300,156
)
  
(52,470,170
)
  
(30,285,191
)
Maturity of marketable securities
    
176,980,791
   
49,612,723
   
24,630,342
 
Purchase of property and equipment
    
(2,206,336
)
  
(781,650
)
  
(497,532
)
Proceeds from the sale of property and equipment
    
80
   
1,347
   
3,425
 
                   
Net cash used in investing activities
    
(19,525,621
)
  
(3,637,750
)
  
(6,148,956
)
                     
Cash flows from financing activities:
                  
Proceeds from stock option exercises
    
993,684
   
951,907
   
378,565
 
Net cash provided by financing activities
    
993,684
   
951,907
   
378,565
 
                     
Effect of exchange rate changes on cash
    
145,021
   
151,452
   
98,206
 
                     
Net increase (decrease) in cash and cash equivalents
    
(13,420,946
)
  
9,402,492
   
2,572,009
 
                     
Cash and cash equivalents, beginning of year
    
26,741,627
   
17,339,135
   
14,767,126
 
                     
Cash and cash equivalents, end of year
  
$
13,320,681
  
$
26,741,627
  
$
17,339,135
  
                     
Supplemental disclosures of net cash paid during the period for:
                    
Income taxes
  
$
4,883,801
  
$
1,808,754
  
$
2,619,846
  
                     
- The Company entered into capital lease obligations of $23,789 for the year ended December 31, 2004.
    
                     
See accompanying notes to the consolidated financial statements.
                    
 

28

 
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 

1)  Nature of Business and Summary of Significant Accounting Policies


Basis of Presentation and Nature of Business
The consolidated financial statements include the accounts of Rimage Corporation and its subsidiaries, collectively hereinafter referred to as “Rimage” or the “Company.” All material intercompany accounts and transactions have been eliminated upon consolidation.
 
The Company develops, manufactures and distributes high performance CD-Recordable (CD-R) and DVD-Recordable (DVD-R) publishing and duplication systems.
 
Revenue Recognition
Revenue for product sales, 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.
·  
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 revenue upon the successful completion of the service.
 
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).
 
EITF 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. In some arrangements, the different revenue-generating activities are sufficiently separable and there exists sufficient evidence of their fair values to separately account for some or all of the activities. This issue does not change otherwise applicable revenue recognition criteria. The adoption of EITF 00-21 did not have any impact on the financial position or results of operations of the Company, because the elements of the Company’s sale transactions are clearly and separately stated and sufficient evidence of their fair value exists to account for the elements.
 
Sales Returns
An allowance for sales returns is recorded by the Company based upon an analysis of new product introductions, historical trends, and other factors. A return policy is in place with the Company’s distributors to restrict the volume of returned products.
 
Cash Equivalents
All short-term investments with original maturities of three months or less at date of purchase are considered cash equivalents.
 

29

 
Marketable Securities
Marketable securities generally consist of U.S. Treasury and money market securities, municipal securities and corporate securities 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 of twelve months or less 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.
 
Sources of Supply
Many of the purchased components used to assemble the Company’s products are standard parts and are readily available. Other components and subassemblies are manufactured to the Company’s specifications. Although the Company believes it has identified alternative assembly contractors for most of its subassemblies, an actual change in such contractors would likely require a period of training and test. Accordingly, a sudden interruption in a supply relationship or the production capacity of one or more of such contractors could result in the Company’s inability to deliver one or more products for a period of several months.
 
Inventories
Inventories are stated at the lower of cost or market. Cost is determined primarily on a first-in, first-out (FIFO) basis. The Company records reserves for potentially excess, obsolete and slow moving inventory based upon historical loss trends, expected product lives and forecasted sales demand.
 
Property and Equipment
Property and equipment are stated at cost and depreciated on a straight-line basis over periods of two to seven years. Leasehold improvements are amortized using the straight-line method over the shorter of the property’s useful life or term of the underlying lease. Repairs and maintenance costs are charged to operations as incurred.
 
Product Warranty
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. Warranty expense is accrued at the time of sale based on an analysis of historical claims experience, which includes labor and parts costs and the proportion of parts that can be re-used.
 
The warranty reserve rollforward, including provisions and claims, is as follows for the years ended December 31, 2004 and 2003:

 
Years ended:
  
Beginning
Balance
  
Warranty
Provisions
  
Warranty
Claims
  
Foreign
Exchange Impact
  
Ending
Balance
  
                       
December 31, 2004
  
$
172,000
  
$
510,000
  
$
(498,000
)
$
3,000
  
$
187,000
  
                                 
December 31, 2003
  
$
170,000
  
$
283,000
  
$
(287,000
)
$
6,000
  
$
172,000
  
 
Stock Based Compensation
As permitted by SFAS No. 123, “Accounting for Stock-Based Compensation,” the Company applies the intrinsic-value method prescribed in Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” to account for the issuance of stock incentives to employees and directors. Accordingly, no compensation expense related to employees’ and directors’ stock incentives has been recognized in the financial statements as all options granted under stock incentive plans had an exercise price equal to the market value of the underlying common stock on the date of grant. Had compensation costs for the Company’s stock incentive plans been determined based on the fair value of the awards on the date of grant, consistent with the provisions of SFAS
 

30

No. 123, the Company’s 2004, 2003 and 2002 net income and basic and diluted earnings per share would have been adjusted to the proforma amounts stated in the following table:

   
2004
  
2003
  
2002
  
Net income:
             
As reported
  
$
9,071,961
  
$
7,665,625
  
$
6,463,715
  
                     
Stock-based employee compensation, net of tax
    
(663,753
)
  
(443,720
)
  
(572,720
)
                     
Proforma
  
$
8,408,208
  
$
7,221,905
  
$
5,890,995
  
                     
                     
Basic net income per share:
  
$
0.98
  
$
0.86
  
$
0.74
  
As reported
                    
                     
Stock-based employee compensation, net of tax
    
(0.07
)
  
(0.05
)
  
(0.06
)
                     
Proforma
  
$
0.91
  
$
0.81
  
$
0.68
  
Diluted net income per share:
                    
As reported
  
$
0.91
  
$
0.79
  
$
0.68
  
                     
Stock-based employee compensation, net of tax
    
(0.05
)
  
(0.05
)
  
(0.06
)
                     
Proforma
  
$
0.86
  
$
0.74
  
$
0.62
  


The following table calculates the fair market value of options granted on the date of grant using the Black-Scholes option pricing model:
 

               
   
2004
  
2003
  
2002
  
               
Number of options granted
    
213,500
   
177,000
   
45,500
 
                     
Fair market value of options granted
   $
997,167 
  
$
618,480
  
$
188,645 
  
                     
Per share weighted average fair value
  
$
4.67
  
$
3.49
  
$
4.15
  
                     
Volatility range
    
26.9 to 34.6
%
  
34.8 to 39.2
%
  
37.0 to 56.0
%
                     
Risk-free interest rate range
    
2.96 to 3.93
%
  
2.30 to 2.98
%
  
2.78 to 4.50
%
                     
Expected life of options in years
    
5.0
    
5.0
    
5.0
  
 
Research and Development Costs
Research and development costs relate to hardware and software development and enhancements to existing products. All such costs are expensed as incurred.
 
Income Taxes
Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those
 

31

temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

Net Income Per Share
Basic income per share is calculated as income available to common stockholders divided by the weighted average number of common shares outstanding for the period. Diluted income per share is calculated by dividing income by the weighted average number of common and assumed conversion shares outstanding during each period. Assumed conversion shares result from dilutive stock options and are computed using the treasury stock method.
 
Foreign Currency Translation / Transactions
The assets and liabilities of the Company’s international subsidiary are translated into U.S. dollars using period-end exchange rates. Statement of operations items are translated at average exchange rates prevailing during the period. The resulting translation adjustments are recorded as a separate component of stockholders’ equity in accumulated other comprehensive income (loss).
 
The Company enters into forward foreign exchange contracts to hedge inter-company 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.
 
Comprehensive Income
Comprehensive income consists of the Company’s net income, foreign currency translation adjustment, and unrealized holding gains (losses) from available-for-sale investments and is presented in the consolidated statements of stockholders’ equity and comprehensive income.
 
Accounting Estimates
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 and disclosure of contingent 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 estimates on items such as allowance for doubtful accounts and sales returns, inventory reserves, deferred tax assets, and warranty reserves.
 
New Accounting Pronouncements
In December 2004, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standard (SFAS) No. 123 (Revised 2004), “Share-Based Payment.” SFAS No 123R is a revision of SFAS No. 123, “Accounting for Stock-Based Compensation” and supersedes Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees” and its related implementation guidance. SFAS No. 123R focuses primarily on accounting for transactions in which an entity obtains employee services through share-based payment transactions. SFAS No 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 will be recognized over the period during which an employee is required to provide services in exchange for the award. SFAS No. 123R is effective for the Company beginning July 1, 2005. While the Company cannot precisely determine the impact on net earnings as a result of the adoption of SFAS No 123R, estimated compensation expense related to prior periods can be found in Note 1 in the Consolidated Financial Statements included in this Form 10-K. The ultimate amount of increased compensation expense will be dependent on whether the Company adopts SFAS 123R using the modified prospective or retrospective method, the number of option shares granted during the year, their timing and vesting period, and the method used to calculate the fair value of the awards, among other factors.
 
FIN 46, “Consolidation of Variable Interest Entities”, was issued by the FASB in January 2003, and the interpretation was revised in December 2003 ("FIN 46-R"). FIN 46-R provides accounting requirements for business enterprises to consolidate related entities in which they are determined to be the primary beneficiary as a result of their variable economic interests. The interpretation provides guidance in judging multiple economic interests in an entity and in determining the primary beneficiary. The interpretation is effective for all such interests entered into after December 31, 2003, and for all others at the beginning of the fiscal year commencing
 

32

after December 15, 2004. Adoption of the interpretation has not affected, and is not expected to affect, the Company’s consolidated financial statements.

In November 2004, the FASB issued SFAS No. 151, “Inventory Costs, an amendment of ARB No. 43, Chapter 4.” SFAS No. 151 amends the guidance in ARB No. 43, Chapter 4, “Inventory Pricing,” to clarify the accounting for abnormal amounts of idle facility expense, freight, handling charges and spoilage. This statement requires that those items be recognized as current period charges regardless of whether they meet the criterion of “so abnormal” which was the criterion specified in ARB No. 43. In addition, this Statement requires that allocation of fixed production overheads to the cost of production be based on normal capacity of the production facilities. The provisions under SFAS No. 151 are effective for the Company beginning January 1, 2006, and shall be applied prospectively. The Company does not expect that the adoption of this pronouncement will have a significant impact on its consolidated financial statements.
 
In December 2004, the FASB issued SFAS No. 153, “Exchanges of Nonmonetary Assets, an amendment of APB Opinion No. 29, Accounting for Nonmonetary Transactions.” The guidance in APB No. 29 is based on the principle that exchanges of nonmonetary assets should be measured based upon the fair value of the assets exchanged. SFAS No. 153 amends APB No. 29 to eliminate the narrow exception for nonmonetary exchanges of similar productive assets and replaces it with a broader exception for exchanges of nonmonetary assets that do not have commercial substance. This Statement is effective for the Company for nonmonetary asset exchanges beginning July 1, 2005. The provisions of this Statement shall be applied prospectively. The Company does not expect the adoption of this pronouncement to have a significant impact on its consolidated financial statements.

2)  Marketable Securities

The amortized cost, gross unrealized holding gains, gross unrealized holding losses and fair value of available-for-sale securities by major security type and class of security at December 31, 2004 and 2003 are reflected in the following table. Unrealized holding gains and losses are included in accumulated other comprehensive income (loss) until realized.

   
 
Amortized
cost
  
Gross
unrealized
holding gains
  
Gross
unrealized
holding losses
  
 
Fair value
  
At December 31, 2004
                  
U.S. Treasury securities
  
$
13,772,973
    
—
    
(55,678
)
  
13,717,295
  
Municipal securities
    
10,223,926
    
651
    
(10,502
)
  
10,214,074
  
Money market securities
    
13,246,027
    
82
    
(4,670
)
  
13,241,440
  
Corporate securities
    
2,003,907
    
—
    
(1,917
)
  
2,001,990
  
                           
Total
  
$
39,246,833
    
733
    
(72,767
)
  
39,174,799
  
                           
At December 31, 2003
                          
U.S. Treasury securities
  
$
14,541,370
    
4,876
    
(1,367
)
  
14,544,879
  
Asset-backed securities
    
2,033,326
    
1,678
    
(19,448
)
  
2,015,556
  
Commercial paper
    
998,472
    
—
    
—
    
998,472
  
Corporate securities
    
4,298,251
    
774
    
(2,498
)
  
4,296,527
  
                           
Total
  
$
21,871,419
    
7,328
    
(23,313
)
  
21,855,434
  

3)  Inventories

Inventories consist of the following as of December 31:

   
2004
  
2003
  
 
          
Finished goods and demonstration equipment
  
$
1,385,148
  
$
899,962
  
Work-in-process
    
479,787
    
362,645
  
Purchased parts and subassemblies
    
5,530,754
    
2,071,763
  
   
$
7,395,689
  
$
3,334,370
  
               
 

33

 

4)  Credit Agreement

On March 29, 2004, the Company entered into a term note agreement (the Credit Agreement) with a bank. The Credit Agreement allows for advances under an unsecured revolving loan up to a maximum advance of $10 million and a foreign exchange facility which allows for foreign exchange contracts up to an aggregate of $5 million. The Credit Agreement is effective until June 30, 2005. The outstanding principal balance of the note bears interest at a fluctuating rate per annum at one and one-half percent (1.50%) above LIBOR in effect from time to time. No amounts were outstanding under the Credit Agreement at December 31, 2004.

The Credit Agreement contains various covenants pertaining to minimum tangible net worth, minimum EBITDA and minimum unencumbered liquid assets ratios.

5)  Income Taxes

The provision for income tax expense (benefit) consists of the following:

   
Year ended December 31
  
   
2004
  
2003
  
2002
  
               
Current:
              
U.S. Federal
  
$
3,816,759
    
3,685,766
    
2,887,333
  
State
    
611,351
    
690,146
    
524,696
  
Foreign
    
308,918
    
284,766
    
167,312
  
Total current
    
4,737,028
    
4,660,678
    
3,579,341
  
                     
Deferred:
                    
U.S. Federal
    
192,754
    
(205,053
)
  
117,789
  
State
    
41,541
    
(49,399
)
  
18,234
  
Total deferred
    
234,295
    
(254,452
)
  
136,023
  
                     
   
$
4,971,323
    
4,406,226
    
3,715,364
  

Actual current tax liabilities are lower than the associated expense reflected for 2004 and 2003 by $521,679 and $1,051,477, respectively, due to the impact of stock option deduction benefits recorded as credits to additional paid-in capital in equity.
 
Total tax expense differs from the expected tax expense, computed by applying the federal statutory rate of 35% to earnings before income taxes as follows:

   
Year ended December 31
  
   
2004
  
2003
  
2002
  
               
Expected income tax expense
  
$
4,915,149
    
4,225,148
    
3,562,678
  
State income taxes, net of federal tax effect
    
424,380
    
422,893
    
358,334
  
Extraterritorial income exclusion
    
(153,687
)
  
(138,201
)
  
(102,000
)
Foreign operation
    
31,342
    
27,734
    
(42,239
)
Benefit of lower federal tax bracket
    
(113,150
)
  
(120,719
)
  
(101,791
)
Other, net
    
(132,711
)
  
(10,629
)
  
40,382
  
                     
   
$
4,971,323
    
4,406,226
    
3,715,364
  
 

The tax effects of temporary differences that give rise to significant portions of deferred tax assets (liabilities) as of December 31, are presented below:

   
2004
  
2003
  
 
          
Inventory reserves
  
$
262,000
    
330,000
  
Accounts receivable reserves
    
203,000
    
290,000
  
Gross margin recognition on sale to foreign subsidiary
    
292,000
    
273,000
  
Unrealized foreign exchange loss
    
81,000
    
122,000
  
Deferred maintenance revenue
    
76,000
    
71,000
  
Accrued payroll
    
88,000
    
66,000
  
Warranty accrual
    
53,000
    
50,000
  
Amortization
    
16,000
    
10,000
  
Fixed assets
    
(138,000
)
  
6,000
  
Other
    
72,000
    
21,000
  
Total net deferred tax assets
  
$
1,005,000
    
1,239,000
  

 
The Company believes that is more likely than not that the results of future operations will generate sufficient taxable income to realize the net deferred tax assets.

6)  Stockholders’ Equity

Stock Options
Rimage has a stock option plan that provides for the grant of incentive stock options, non-qualified stock options or restricted stock awards to certain key administrative, managerial and executive employees and the automatic periodic grants of stock options to non-employee directors. Pursuant to this plan, the following options are currently issued and outstanding:

   
 
Shares
available for
grant
  
 
 
Options
outstanding
  
Weighted
average
exercise
price
  
               
Balance at December 31, 2001
    
231,736
    
1,500,366
  
$
4.69
  
Granted
    
(45,500
)
  
45,500
    
8.40
  
Exercised
    
—
    
(14,724
)
  
4.44
  
Canceled
    
107,272
    
(107,272
)
  
5.28
  
                     
Balance at December 31, 2002
    
293,508
    
1,423,870
  
$
4.76
  
Additional shares available
    
400,000
    
—
    
—
  
Shares eliminated due to plan consolidation
    
(25,000
)
  
—
    
—
  
Granted
    
(177,000
)
  
177,000
    
9.62
  
Exercised
    
—
    
(355,901
)
  
2.15
  
Canceled
    
9,733
    
(9,733
)
  
9.89
  
                     
Balance at December 31, 2003
    
501,241
    
1,235,236
  
$
6.17
  
Granted
    
(213,500
)
  
213,500
    
14.09
  
Exercised
    
—
    
(164,739
)
  
3.67
  
Canceled
    
3,999
    
(3,999
)
  
13.18
  
                     
Balance at December 31, 2004
    
291,740
    
1,279,998
  
$
7.79
  
 
 
The following table summarizes exercise prices of all outstanding options as of December 31, 2004:
 
         
Weighted
  
     
Number
 
Average
 
Exercise Price Range
    
Of Options
  
Exercise Price
  
$   1.33  —   $  1.33
  
 
  
192,175
 
$
1.33
  
                 
$   2.08  —   $  2.67
  
 
  
197,065
 
$
2.66
  
                 
$   6.50  —   $  9.00
  
 
  
366,591
 
$
7.86
  
                 
$ 10.00  —   $13.60
  
 
  
330,500
 
$
10.62
  
             
 
$ 14.09  —   $17.00
  
 
  
193,667
 
$
14.47
  
                 
       
1,279,998
 
$
7.79
  
                 
 
The outstanding options have a weighted average contractual life of 6.6 years. 
 
In connection with the acquisition of Cedar Technologies in March 2000, the Company assumed sponsorship of Cedar’s employee stock option plan. The plan was not approved by Rimage’s shareholders and no additional grants were issued from the plan subsequent to the acquisition. As of December 31, 2004, the plan was inactive and no shares were outstanding under the plan. Exercises of options and warrants originally issued and outstanding under the plan totaled 69,113 shares in 2004, 8,628 shares in 2003 and 37,078 shares in 2002. Additionally, 312 and 3,628 shares expired unexercised in 2004 and 2002, respectively.
 
Employee Stock Purchase Plan
In February 2001, the Company’s board of directors adopted, and in May 2001 the shareholders approved, the Employee Stock Purchase Plan (the “Plan”). A total of 300,000 common shares were reserved for issuance under the Plan. After a minimum six-month waiting period, the Plan allows employees to elect, at one year intervals, to contribute between 1 and 10% of their compensation, subject to certain limitations, to purchase shares of common stock at 85% of the lower of fair market value of such shares on the first or last business day of each one year period. As of December 31, 2004, 89,809 shares have been issued under the Plan.
 
Preferred Stock Purchase Rights
On September 16, 2003, the Company’s Board of Directors adopted a shareholder rights plan and declared a dividend of one preferred share purchase right (a “Right”) for each share of common stock of the Company outstanding on October 6, 2003 and with respect to each share of common stock issued thereafter. The rights become exercisable only after any person or group (the “Acquiring Person”) becomes or would become the beneficial owner of 15% or more of the Company’s outstanding common stock.
 
Each Right entitles the registered holder to purchase from the Company 1/100 of a Series A Junior Participating Preferred Share at a price of $100.00 per 1/100 of a Preferred Share, subject to adjustment. In the event that any person or group becomes an Acquiring Person, each holder of a Right, other than Rights that are or were beneficially owned by the Acquiring Person (which will thereafter be void), will thereafter have the right to receive, upon exercise thereof at the then current exercise price of the Right, that number of Common Shares having a market value of two times the exercise price of the Right, subject to certain possible adjustments. If the Company is acquired in certain mergers or other business combination transactions, or 50% or more of the assets or earning power of the Company and its subsidiaries (taken as a whole) are sold, each holder of a Right (other than Rights that have become void under the terms of the Rights Agreement) will thereafter have the right to receive, upon exercise of the Right at the then current exercise price of the Right, the number of common shares of the acquiring company (or, in certain cases, on of its affiliates) having a market value of two times the exercise price of the Right. At any time prior to the time that a person or group has become an Acquiring Person, the Company’s Board of Directors may redeem the Rights in whole, but not in part, at a price of $.001 per Right, subject to adjustment, payable in cash. The Rights will expire at the close of business on September 16, 2013, unless extended or earlier redeemed by the Company.
 

36

 

7)  Net Income Per Share

The following table identifies the components of net income per basic and diluted share. A total of 2,743, 6,274, and 58,519 assumed conversion shares during 2004, 2003, and 2002, respectively, were excluded from the net income per share computation as their effect was anti-dilutive.
 
   
 
 
 
Net Income
  
Weighted
Average Shares
Outstanding
  
 
 
Per Share
Amount
  
2004:
              
Basic
  
$
9,071,961
    
9,289,553
  
$
0.98
  
Dilutive effect of stock options
    
—
    
642,134
    
(.07
)
Diluted
  
$
9,071,961
    
9,931,687
  
$
0.91
  
2003:
                    
Basic
  
$
7,665,625
    
8,931,084
  
$
0.86
  
Dilutive effect of stock options
    
—
    
812,020
    
(.07
)
Diluted
  
$
7,665,625
    
9,743,104
  
$
0.79
  
2002:
                    
Basic
  
$
6,463,715
    
8,702,552
  
$
0.74
  
Dilutive effect of stock options
    
—
    
794,171
    
(.06
)
Diluted
  
$
6,463,715
    
9,496,723
  
$
0.68
  
 
8)  
Lease Commitments

The Company leases its facilities and some of its equipment under non-cancelable operating lease arrangements. The rental payments under these leases are charged to expense as incurred. The following is a schedule of future minimum lease payments, excluding property taxes and other operating expenses, required under all non-cancelable operating leases:

 
 
 
Year ending December 31
  
 
Total
operating
leases
  
       
2005
  
$
818,051
  
2006
    
697,983
  
2007
    
580,423
  
2008
    
286,477
  
2009
    
28,792
  
         
Net minimum lease payments
  
$
2,411,726
  
         

Rent expense under operating leases amounted to approximately $687,000, $673,000, and $567,000 for the years ended December 31, 2004, 2003, and 2002, respectively, which includes rent expense to a corporation owned by two former directors of $357,000, $326,000, and $326,000, respectively. The rent expense with the former directors relates to the lease of the Company’s corporate headquarters facility (see note 11).

9)  Profit Sharing and Savings Plan

Rimage has a profit sharing and savings plan under Section 401(k) of the Internal Revenue Code. The plan allows employees to contribute up to 16% of pretax compensation. The Company matches a percentage of employees’ contributions. Matching contributions totaled $235,250, $191,086, and $171,290 in 2004, 2003, and 2002, respectively.
 

37

 

10)  Business Segment Information / Major Customers

The Company has identified one reportable operating segment consisting of CD-R and DVD-R publishing systems required for producing discs with customized digital content on an on-demand basis. The Company’s publishing systems, which include equipment to handle a full range of low-to-high production volumes, incorporate robotics, software and custom printing technology for disc labeling. The Company’s hardware products consist of two primary product lines: The Producer line, which accommodates higher volume CD-R and DVD-R production requirements, and the Desktop line of lower-cost products for office and other desktop applications. Rimage focuses its CD-R and DVD-R publishing solutions on a set of vertical markets with special needs for customized, on-demand digital information, including digital photography, medical imaging, banking and finance, government and business offices. Rimage utilizes the following principal means of distributing its products: Direct sales using its own sales force, primarily in Europe; a two tier distribution system of distributors to value added resellers in Europe, the U.S. and Latin America; and a distributor to end-user system in Asia Pacific and in some areas in Europe. The Company’s hardware products are assembled from components purchased from third party suppliers. Components include CD-R/DVD-R drives, circuit boards, electric motors, machined and molded parts, precision sheet metal assemblies, and other mechanical parts.
 
Two of the Company’s unaffiliated customers provided more than 10% of consolidated revenues in 2004, generating approximately $8,914,000 and $8,793,000 of sales, respectively. Accounts receivable balances at December 31, 2004 from these customers amounted to $1,442,000 and $1,332,000, respectively. Two unaffiliated customers also generated more than 10% of consolidated revenues in 2003, generating approximately $8,379,000 and $6,276,000 of sales. Related accounts receivable balances with these customers totaled $652,000 and $402,000, respectively, as of December 31, 2003. The Company derived approximately $7,971,000 and $7,273,000 of its 2002 sales from two unaffiliated customers. Customers generating more than 10% of the Company’s revenues each year were distributors or strategic partners of the Company.
 
The Company’s revenues from each of its principal geographic regions were as follows (in thousands):
               
   
 Year Ended December 31,
   
2004
  
2003
  
2002
  
North America
  
$
43,864
  
$
30,938
  
$
28,612
  
Europe
    
23,144
   
19,888
   
14,818
 
Other (primarily Asia Pacific and Latin America)
    
3,840
   
2,971
   
3,151
 
                     
Total
  
$
70,848
  
$
53,797
  
$
46,581
  
 
The Company’s revenues from each of its principal products and services were as follows (in thousands):
   
 Year Ended December 31,
  
   
2004
  
2003
  
2002
  
Equipment:
              
Producer
  
$
36,186
  
$
31,133
  
$
28,385
  
Desktop
    
7,887
    
6,403
    
6,066
  
Total
    
44,073
    
37,536
    
34,451
  
                     
Consumables, parts and repairs
    
23,628
    
13,606
    
9,902
  
                     
Maintenance Contracts
    
3,147
    
2,655
    
2,228
  
                     
Total
  
$
70,848
  
$
53,797
  
$
46,581
  
 

38


Long-lived assets of the Company were located as follows (in thousands):
   
December 31, 2004
  
December 31, 2003
  
North America
  
$
2,151
  
$
954
  
Germany
    
235
   
183
 
Total
  
$
2,386
  
$
1,137
  
 
 

11)  Related Party Transactions

One of the Company’s non-employee directors is also a director of one of the Company’s vendors, a supplier of printed circuit boards used in the assembly of the Company’s CD-R and DVD-R publishing systems. The Company purchased component parts from this supplier approximating $1.5 million, $1.1 million and $.6 million for the years ended December 31, 2004, 2003 and 2002, respectively. Outstanding accounts payable with this supplier totaled approximately $206,000 and $178,000 at December 31, 2004 and 2003, respectively, payable under standard 30-day payment terms.
 
Over the past several years, the Company has rented its corporate headquarters facility from a corporation owned by two former directors of the Company. Both directors retired from the Company’s Board effective May 2003. One of the directors beneficially owned 9%, 11.5% and 12.9% of the Company’s outstanding common stock as of April 2004, 2003 and 2002, respectively. As of December 31, 2004, this director’s beneficial ownership had declined to 6.4%. The other director’s beneficial ownership in the Company’s outstanding common stock was 4% or less during each reporting period.
 
The Company currently rents its 58,500 square foot headquarters facility under a noncancellable 48-month lease initiated August 1, 2004 with the corporation owned by the former directors. Monthly base rent is $33,394 for the first year, with 2% inflationary increases each subsequent year of the lease. Rent expense paid to these parties amounted to $357,000 for the year ended December 31, 2004 and $326,000 in each of the years ended December 31, 2003 and 2002. No amounts were payable to these parties as of December 31, 2004 and 2003.

12)  Commitments and 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.

13)  Fair Value of Financial Instruments

The following methods and assumptions were used by the Company in estimating the fair value of its financial instruments.
 
Cash and cash equivalents: The carrying amount approximates fair value because of the short maturity of those instruments.
 
Marketable securities: The fair values are determined using quoted market prices.
 
Foreign currency forward exchange contracts: The fair value is the amount the Company would receive or pay to terminate the contracts at the reporting date. The fair value of foreign currency forward exchange contracts at December 31, 2004 and 2003 was a net loss of $210,000 and $324,000 respectively, recorded in other current liabilities.
 
Trade accounts receivable and accounts payable: The carrying amount approximates fair value because of the short maturity of those instruments.
 

39


14)  Supplemental Quarterly Data - Unaudited (dollars in thousands, except per share data)

   
2004
  
2003
  
   
Fourth
  
Third
  
Second
  
First
  
Fourth
  
Third
  
Second
  
First
  
                                   
Revenues
  
$
20,895
    
17,879
    
17,631
    
14,444
    
15,671
    
13,791
    
12,791
    
11,544
  
Cost of revenues
    
11,064
    
10,029
    
9,564
    
7,370
    
8,023
    
7,109
    
6,459
    
5,809
  
Gross profit
    
9,831
    
7,850
    
8,067
    
7,074
    
7,648
    
6,682
    
6,332
    
5,735
  
                                                   
Operating expenses:
                                                  
Research and development
    
1,168
    
1,010
    
1,227
    
1,125
    
1,123
    
867
    
926
    
848
  
Selling, general and administrative
    
4,279
    
3,708
    
3,658
    
3,211
    
2,821
    
2,798
    
2,823
    
2,634
  
Total operating expenses
    
5,447
    
4,718
    
4,885
    
4,336
    
3,944
    
3,665
    
3,749
    
3,482
  
                                                   
Operating income
    
4,384
    
3,132
    
3,182
    
2,738
    
3,704
    
3,017
    
2,583
    
2,253
  
                                                   
Other income (expense):
                                                  
Interest, net
    
215
    
174
    
124
    
143
    
121
    
127
    
134
    
138
  
Gain (loss) on currency exchange
    
42
    
—
    
(14
)
  
(10
)
  
55
    
(12
)
  
9
    
(22
)
Other, net
    
(4
)
  
17
    
(93
)
  
13
    
2
    
(14
)
  
(21
)
  
(1
)
Total other income, net
    
253
    
191
    
17
    
146
    
178
    
101
    
122
    
115
  
                                                   
Income before income taxes
    
4,637
    
3,323
    
3,199
    
2,884
    
3,882
    
3,118
    
2,705
    
2,368
  
Income tax expense
    
1,538
    
1,213
    
1,168
    
1,052
    
1,417
    
1,138
    
987
    
864
  
Net income
  
$
3,099
    
2,110
    
2,031
    
1,832
    
2,465
    
1,980
    
1,718
    
1,504
  
                                                   
Net income per basic share
  
$
0.33
    
0.23
    
0.22
    
0.20
    
0.27
    
0.22
    
0.20
    
0.17
  
                                                   
Net income per diluted share
  
$
0.31
    
0.21
    
0.20
    
0.18
    
0.25
    
0.20
    
0.18
    
0.16
  

 
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
 
None.
 
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 review, 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 reasonable likely to materially affect, the registrant’s internal control over financial reporting.

OTHER INFORMATION
 
On March 2, 2005, the Company filed a Current Report on Form 8-K reporting that on February 24, 2005, the Compensation Committee of the Board of Directors approved salaries for 2005 for the Company's executive officers. In the Form 8-K, the 2005 salary for Konrad Rotermund, the Company's Vice President, European Operations, should have been stated in Euros at 148,000€.
 
 
 
DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
 
The information required by this item is incorporated herein by reference to the following sections of the Company’s Proxy Statement for its 2005 Annual Meeting of Shareholders, which will be filed with the Securities and Exchange Commission pursuant to Regulation 14A within 120 days after the close of the fiscal year for which this report is filed (the “Proxy Statement”):

—  
Ownership of Voting Securities by Principal Holders and Management;
 
—  
Proposal 1—Election of Directors;
 
—  
Nominees for Election of Directors;
 
—  
Executive Officers of the Company;
 
—  
Executive Compensation;
 
—  
Section 16(a) Beneficial Ownership Reporting Compliance;
 
—  
Corporate Governance; and

—  
Code of Ethics.

 
EXECUTIVE COMPENSATION
 
The information required by this item is incorporated herein by reference to the section of the Company’s Proxy Statement entitled “Executive Compensation.”

 
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
 
The information required by this item is incorporated herein by reference to the section of the Company’s Proxy Statement entitled “Ownership of Voting Securities by Principal Holders and Management.”

 
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
 
The information required by this item is incorporated herein by reference to the section of the Company’s Proxy Statement entitled “Certain Relationships and Related Transactions.”

 
PRINCIPAL ACCOUNTANT FEES AND SERVICES
 
The information required by this item is incorporated herein by reference to the section of the Company’s Proxy Statement entitled “Relationship with Independent Accountants.”
 

41

 
 
EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
 
(a)
(1) Financial Statements. See Part II, Item 8 of this report.
     
 
(2) Financial Statement Schedules.
  
   
Page in this
Form 10-K
     
 
Report of Independent Registered Public Accounting Firm
  
 
on Financial Statement Schedule
     
 
(3) Exhibits. See Index to Exhibits on page 45 of this report.
  
     
(b)
See Index to Exhibits on page 45 of this report.
  

 

42

 
 
The Board of Directors and Stockholders
Rimage Corporation:
 
Under date of March 14, 2005, we reported on the consolidated balance sheets of Rimage Corporation and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of operations, stockholders’ equity and comprehensive income, and cash flows for each of the years in the three-year period ended December 31, 2004, as contained in the 2004 Annual Report to shareholders. These consolidated financial statements and our report thereon are incorporated by reference in the annual report on Form 10-K for the year 2004. In connection with our audits of the aforementioned consolidated financial statements, we also audited the related financial statement schedule as listed in the accompanying index. This financial statement schedule is the responsibility of the Company’s management. Our responsibility is to express an opinion on this financial statement schedule based on our audits.
 
In our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein.


/s/ KPMG LLP

Minneapolis, Minnesota
March 14, 2005
 

43

 
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange Act of 1934, the registrant caused this report to be signed on its behalf by the undersigned, thereto duly authorized.
 
     
  RIMAGE CORPORATION
 
 		  
 		  
 
Date: March 16, 2005 By:   /s/ Bernard P. Aldrich
 
Bernard P. Aldrich
  Chief Executive Officer

     
 
  By:   /s/ Robert M. Wolf
 
Robert M. Wolf
  Chief Financial Officer
 
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Each person whose signature appears below constitutes and appoints Bernard P. Aldrich and Robert M. Wolf as his true and lawful attorneys-in-fact and agents, each acting alone, with full power of substitution and re-substitution, for him and in his name, place and stead, in any and all capacities, to sign any and all amendments to this Annual Report on Form 10-K and to file the same, with all exhibits thereto, and other documents in connection therewith, with the U.S. Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, each acting alone, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully to all intents and purposes as he might or could do in person, hereby ratifying and confirming all said attorneys-in-fact and agents, each acting alone, or his substitute or substitutes, may lawfully do or cause to be done by virtue thereof.
 
Signature   Title Date
     
/s/ Bernard P. Aldrich   Chief Executive Officer, President and Director March 16, 2005
Bernard P. Aldrich  
(principal executive officer)
  
       
       
/s/ David J. Suden   Chief Technical Officer & Director   
David J. Suden    
March 16, 2005
       
       
/s/ Robert M. Wolf   
Chief Financial Officer (principal financial 
 
Robert M. Wolf   
and accounting officer) and Corporate Secretary
March 16, 2005
       
       
/s/ James L. Reissner     Director, Chairman of the Board    
James L. Reissner    
March 16, 2005
       
       
/s/ Thomas F. Madison    Director   
Thomas F. Madison    
March 16, 2005
       
       
/s/ Steven M. Quist    Director   
Steven M. Quist    
March 16, 2005
     
       
/s/ Lawrence M. Benveniste   Director    
Lawrence M. Benveniste    
March 16, 2005
       
       
/s/ Philip D. Hotchkiss   Director   
Philip D. Hotchkiss    
March 16, 2005
       

44

   
INDEX TO EXHIBITS
 
Exhibit No.
 
  
Description
 
3.1
 
  
1992 Restated Articles of Incorporation of Rimage Corporation (Incorporated herein by reference to Exhibit 3.1 to the Company’s Registration Statement on Form SB-2 (File No. 33-22558)).
 
3.2
 
  
Articles of Amendment to 1992 Restated Articles of Incorporation of Rimage Corporation (Incorporated herein by reference to Exhibit 4.2 to the Company’s Registration Statement on Form S-8 (File No. 333-69550)).
 
3.3
 
  
Bylaws of Rimage Corporation (Incorporated herein by reference to Exhibit 3.2 to the Company’s Registration Statement on Form SB-2 (File No. 33-22558)).
 
3.4
 
  
Rights Agreement dated as of September 17, 2003 between Rimage Corporation and Wells Fargo Bank, as Rights Agent (Incorporated by reference to Exhibit 1 to the Company’s Registration Statement on Form 8-A (File No. 000-20728)).
 
10.1
 
  
Rimage Corporation Amended and Restated 1992 Stock Option Plan * (Incorporated by reference to Exhibit 4.2 to the Company’s Registration Statement on Form S-8 (File No. 333-106901)).
 
10.2
 
  
Rimage Corporation 2001 Stock Option Plan for Non-Employee Directors * (Incorporated by reference to exhibit of same number to the Company’s Annual Report on Form 10-K for the year ended December 31, 2001).
 
10.3
 
  
Rimage Corporation 2001 Employee Stock Purchase Plan * (Incorporated by reference to exhibit of same number to the Company’s Annual Report on Form 10-K for the year ended December 31, 2001).
 
10.4
 
  
Lease dated July 31, 2004, between Rimage Corporation and 7725 Washington Avenue Corporation (Incorporated by reference to Exhibit 10.1 of the Company’s Quarterly Report on Form 10Q for the quarter ended June 30, 2004).
 
10.5
 
  
Form of Severance/Change in Control Letter Agreement dated November 5, 2004, between the Company and certain executive officers * (Incorporated by reference to Exhibit 10.1 of the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2004).
 
10.6
 
  
Credit Agreement, dated March 29, 2004, by and between the Company and Wells Fargo Bank, National Association.
 
10.7
 
  
Revolving Line of Credit Note, dated March 29, 2004, in the principal amount of $10,000,000 issued to the Company by Wells Fargo Bank, National Association.
 
21.1
 
  
Subsidiaries of Rimage Corporation.
 
23.1
 
  
Consent of Independent Registered Public Accounting Firm.
 
31.1
 
  
Certificate of Chief Executive Officer pursuant to Rules 13d-14(a) and 15d-14(a) of the Exchange Act.
 
31.2
 
  
Certificate of Chief Financial Officer Pursuant to Rules 13a-14(a) and 15d-14(a) of the Exchange Act.
 
32
 
  
Certification Pursuant to 18 U.S.C. §1350
 
 
* Indicates a management contract or compensatory plan or arrangement
 

45

 
Schedule II

 
RIMAGE CORPORATION
Valuation and Qualifying Accounts
 
Allowance for Doubtful Accounts      
Receivable and Sales Returns:       
    Years ended December 31,   
   
2004
  
2003
  
2002
  
               
Balance at beginning of year
  
$
886,828
  
$
635,382
  
$
714,943
  
                     
Write-offs and other adjustments
    
(165,795
)
  
1,282
    
(95,672
)
Recoveries
    
(158,456
)
  
(151,549
)
  
(90,551
)
Additions charged to costs and expenses
    
37,476
    
401,713
    
106,662
  
                     
Balance at end of year
  
$
600,053
  
$
886,828
  
$
635,382
  
                     


See accompanying report of Independent Registered Public Accounting Firm on page 44.

46

 EX-10.6 2 rimage051268_ex10-6.txt Exhibit 10.6 CREDIT AGREEMENT THIS AGREEMENT is entered into as of March 29,2004, by and between RIMAGE CORPORATION, a Minnesota corporation ("Borrower"), and WELLS FARGO BANK, NATIONAL ASSOCIATION ("Bank"). RECITALS -------- Borrower has requested that Bank extend or continue credit to Borrower as described below, and Bank has agreed to provide such credit to Borrower on the terms and conditions contained herein. NOW, THEREFORE, for valuable consideration, the receipt and sufficiency of which are hereby acknowledged, Bank and Borrower hereby agree as follows: ARTICLE I --------- CREDIT TERMS ------------ SECTION 1.1 LINE OF CREDIT. (a) Line of Credit. Subject to the terms and conditions of this Agreement, Bank hereby agrees to make advances to Borrower from time to time up to and including June 30, 2005, not to exceed at any time the aggregate principal amount of Ten Million Dollars ($10,000,000.00) ("Line of Credit"), the proceeds of which shall be used for general operating expenses. Borrower's obligation to repay advances under the Line of Credit shall be evidenced by a promissory note dated as of March 29, 2004 ("Line of Credit Note"), all terms of which are incorporated herein by this reference. (b) Borrowing and Repayment. Borrower may from time to time during the term of the Line of Credit borrow, partially or wholly repay its outstanding borrowings, and reborrow, subject to all of the limitations, terms and conditions contained herein or in the Line of Credit Note; provided however, that the total outstanding borrowings under the Line of Credit shall not at any time exceed the maximum principal amount available thereunder, as set forth above. SECTION 1.2 FOREIGN EXCHANGE FACILITY. (a) Foreign Exchange Facility. Subject to the terms and conditions of this Agreement, Bank hereby agrees to make available to Borrower a facility (the "Foreign Exchange Facility") under which Bank, from time to time up to and including June 30, 2005, will enter into foreign exchange contracts for the account of Borrower for the purchase and/or sale by Borrower in United States dollars of Euros; provided however, that the maximum amount of all outstanding foreign exchange contracts shall not at any time exceed an aggregate of Five Million United States Dollars (US$5,000,000.00). No foreign exchange contract shall be executed for a term in excess of twelve (12) months. Borrower shall have a "Delivery Limit" under the Foreign Exchange Facility not to exceed at any time the aggregate principal amount of One Million United States Dollars (US$1,000,000.00), which Delivery Limit reflects the maximum principal amount of Borrower's foreign exchange contracts which may mature during any two (2) day period. All foreign exchange transactions shall be subject to the additional terms of a Foreign Exchange Agreement dated as of March 3, 2004 ("Foreign Exchange Agreement"), all terms of which are incorporated herein by this reference. (b) Settlement. Each foreign exchange contract under the Foreign Exchange Facility shall be settled on its maturity date by Banks debit to any deposit account maintained by Borrower with Bank. SECTION 1.3 INTEREST/FEES. (a) Interest. The outstanding principal balance at each credit subject hereto shall bear interest at the rate of interest set forth in each promissory note or other instrument or document executed in connection therewith. (b) Computation and Payment. Interest shall be computed on the basis of a 360-day year, actual days elapsed. Interest shall be payable at the times and place set forth in each promissory note or other instrument or document required hereby. SECTION 1.4 COLLECTION OF PAYMENTS. Borrower authorizes Bank to collect all principal, interest and fees due under each credit subject hereto by charging Borrower's deposit account number 410-0163674 with Wells Fargo Bank, National Association, or any other deposit account maintained by Borrower with Bank, for the full amount thereof. Should there be insufficient funds in any such deposit account to pay all such sums when due, the full amount of such deficiency shall be immediately due and payable by Borrower. ARTICLE II ---------- REPRESENTATIONS AND WARRANTIES ------------------------------ Borrower makes the following representations and warranties to Bank, which representations and warranties shall survive the execution of this Agreement and shall continue in full force and effect until the full and final payment, and satisfaction and discharge, of all obligations of Borrower to Bank subject to this Agreement. SECTION 2.1 LEGAL STATUS. Borrower is a corporation, duly organized and existing and in good standing under the laws of the State of Minnesota, and is qualified or licensed to do business (and is in good standing as a foreign corporation, if applicable) in all jurisdictions in which such qualification or licensing is required or in which the failure to so qualify or to be so licensed could have a material adverse effect on Borrower. SECTION 2.2 AUTHORIZATION AND VALIDITY. This Agreement and each promissory note, contract, instrument and other document required hereby or at any time hereafter delivered to Bank in connection herewith (collectively, the "Loan Documents") have been duly authorized, and upon their execution and delivery in accordance with the provisions hereof will constitute legal, valid and binding agreements and obligations of Borrower or the party which executes the same, enforceable in accordance with their respective terms. SECTION 2.3 NO VIOLATION. The execution, delivery and performance by Borrower of each of the Loan Documents do not violate any provision of any law or regulation, or contravene any provision of the Articles of Incorporation or By-Laws of Borrower, or result in -2- any breach of or default under any contract, obligation, indenture or other instrument to which Borrower is a party or by which Borrower may be bound. SECTION 2.4 LITIGATION. There are no pending, or to the best of Borrower's knowledge threatened, actions, claims, investigations, suits or proceedings by or before any governmental authority, arbitrator, court or administrative agency which could have a material adverse effect on the financial condition or operation of Borrower other than those disclosed by Borrower to Bank in writing prior to the date hereof. SECTION 2.5 CORRECTNESS OF FINANCIAL STATEMENT. The financial statement of Borrower dated September 30, 2003, a true copy of which has been delivered by Borrower to Bank prior to the date hereof, (a) is complete and correct and presents fairly the financial condition of Borrower, (b) discloses all liabilities of Borrower that are required to be reflected or reserved against under generally accepted accounting principles, whether liquidated or unliquidated, fixed or contingent, and (c) has been prepared in accordance with generally accepted accounting principles consistently applied. Since the date of such financial statement there has been no material adverse change in the financial condition of Borrower, nor has Borrower mortgaged, pledged, granted a security interest in or otherwise encumbered any of its assets or properties except in favor of Bank or as otherwise permitted by Bank in writing. SECTION 2.6 INCOME TAX RETURNS. Borrower has no knowledge of any pending assessments or adjustments of its income tax payable with respect to any year. SECTION 2.7 NO SUBORDINATION. There is no agreement, indenture, contract or instrument to which Borrower is a party or by which Borrower may be bound that requires the subordination in right of payment of any of Borrower's obligations subject to this Agreement to any other obligation of Borrower. SECTION 2.8 PERMITS, FRANCHISES. Borrower possesses, and will hereafter possess, all permits, consents, approvals, franchises and licenses required and rights to all trademarks, trade names, patents, and fictitious names, if any, necessary to enable it to conduct the business in which it is now engaged in compliance with applicable law. SECTION 2.9 ERISA. Borrower Is In compliance in all material respects with all applicable provisions of the Employee Retirement Income Security Act of 1974, as amended or recodified from time to time ("ERISA); Borrower has not violated any provision of any defined employee pension benefit plan (as defined in ERISA) maintained or contributed to by Borrower (each, a "Plan"); no Reportable Event as defined in ERISA has occurred and is continuing with respect to any Plan initiated by Borrower; Borrower has met its minimum funding requirements under ERISA with respect to each Plan; and each Plan will be able to fulfill its benefit obligations as they come due in accordance with the Plan documents and under generally accepted accounting principles. SECTION 2.10 OTHER OBLIGATIONS. Borrower is not in default on any obligation for borrowed money, any purchase money obligation or any other material lease, commitment, contract, instrument or obligation. -3- SECTION 2.11 ENVIRONMENTAL MATTERS. Except as disclosed by Borrower to Bank in writing prior to the date hereof, Borrower is in compliance in all material respects with all applicable federal or state environmental, hazardous waste, health and safety statutes, and any rules or regulations adopted pursuant thereto, which govern or affect any of Borrower's operations and/or properties, including without limitation, the Comprehensive Environmental Response, Compensation and Liability Act of 1980, the Superfund Amendments and Reauthorization Act of 1986, the Federal Resource Conservation and Recovery Act of 1976, and the Federal Toxic Substances Control Act, as any of the same may be amended, modified or supplemented from time to time. None of the operations of Borrower is the subject of any federal or state investigation evaluating whether any remedial action involving a material expenditure is needed to respond to a release of any toxic or hazardous waste or substance into the environment. Borrower has no material contingent liability in connection with any release of any toxic or hazardous waste or substance into the environment. ARTICLE III ----------- CONDITIONS ---------- SECTION 3.1 CONDITIONS OF INITIAL EXTENSION OF CREDIT. The obligation of Bank to extend any credit contemplated by this Agreement is subject to the fulfillment to Bank's satisfaction of all of the following conditions: (a) Approval of Bank Counsel. All legal matters incidental to the extension of credit by Bank shall be satisfactory to Bank's counsel. (b) Documentation. Bank shall have received, in form and substance satisfactory to Bank, each of the following, duly executed: (i) This Agreement and each promissory note or other instrument or document required hereby. (ii) Certificate of Incumbency. (iii) Corporate Resolution: Borrowing. (iv) Such other documents as Bank may require under any other Section of this Agreement. (c) Financial Condition. There shall have been no material adverse change, as determined by Bank, in the financial condition or business of Borrower, nor any material decline, as determined by Bank, in the market value of any collateral required hereunder or a substantial or material portion of the assets of Borrower. SECTION 3.2 CONDITIONS OF EACH EXTENSION OF CREDIT. The obligation of Bank to make each extension of credit requested by Borrower hereunder shall be subject to the fulfillment to Bank's satisfaction of each of the following conditions: (a) Compliance. The representations and warranties contained herein and in each of the other Loan Documents shall be true on and as of the date of the signing of this Agreement -4- and on the date of each extension of credit by Bank pursuant hereto, with the same effect as though such representations and warranties had been made on and as of each such date, and on each such date, no Event of Default as defined herein, and no condition, event or act which with the giving of notice or the passage of time or both would constitute such an Event of Default, shall have occurred and be continuing or shall exist. (b) Documentation. Bank shall have received all additional documents which may be required in connection with such extension of credit. ARTICLE IV ---------- AFFIRMATIVE COVENANTS --------------------- Borrower covenants that so long as Bank remains committed to extend credit to Borrower pursuant hereto, or any liabilities (whether direct or contingent, liquidated or unliquidated) of Borrower to Bank under any of the Loan Documents remain outstanding, and until payment in full of all obligations of Borrower subject hereto, Borrower shall, unless Bank otherwise consents in writing: SECTION 4.1 PUNCTUAL PAYMENTS. Punctually pay all principal, interest, fees or other liabilities due under any of the Loan Documents at the times and place and in the manner specified therein. SECTION 4.2 ACCOUNTING RECORDS. Maintain adequate books and records in accordance with generally accepted accounting principles consistently applied, and permit any representative of Bank, at any reasonable time, to inspect, audit and examine such books and records, to make copies of the same, and to inspect the properties of Borrower. SECTION 4.3 FINANCIAL STATEMENTS. Provide to Bank all of the following, in form and detail satisfactory to Bank: (a) not later than 120 days after and as of the end of each fiscal year, a copy of Borrower's 10K report filed with the Securities Exchange Commission, prepared by a certified public accountant acceptable to Bank; (b) not later than 60 days after and as of the end of each quarter, a copy of Borrower's 10Q report filed with the Securities Exchange Commission, prepared by a certified public accountant acceptable to Bank; (c) contemporaneously with each annual and quarterly financial statement of Borrower required hereby, whenever an outstanding balance exist, a certificate of the president or chief financial officer of Borrower that said financial statements are accurate and that there exists no Event of Default nor any condition, act or event which with the giving of notice or the passage of time or both would constitute an Event of Default; (d) not later than 120 days after the end of each fiscal year, an annual projection of Budget of Borrower; (e) from time to time such other information as Bank may reasonably request. -5- SECTION 4.4 COMPLIANCE. Preserve and maintain all licenses, permits, governmental approvals, rights, privileges and franchises necessary for the conduct of its business; and comply with the provisions of all documents pursuant to which Borrower is organized and/or which govern Borrower's continued existence and with the requirements of all laws, rules, regulations and orders of any governmental authority applicable to Borrower and/or its business, SECTION 4.5 INSURANCE. Maintain and keep in force insurance of the types and in amounts customarily carried in lines of business similar to that of Borrower, including but not limited to fire, extended coverage, public liability, flood, property damage and workers' compensation, with all such insurance carried with companies and in amounts satisfactory to Bank, and deliver to Bank from time to time at Bank's request schedules setting forth all insurance then in effect. SECTION 4.6 FACILITIES. Keep all properties useful or necessary to Borrower's business in good repair and condition, and from time to time make necessary repairs, renewals and replacements thereto so that such properties shall be fully and efficiently preserved and maintained. SECTION 4.7 TAXES AND OTHER LIABILITIES. Pay and discharge when due any and all indebtedness, obligations, assessments and taxes, both real or personal, including without limitation federal and state income taxes and state and local property taxes and assessments, except such (a) as Borrower may in good faith contest or as to which a bona fide dispute may arise, and (b) for which Borrower has made provision, to Bank's satisfaction, for eventual payment thereof in the event Borrower is obligated to make such payment. SECTION 4.8 LITIGATION. Promptly give notice in writing to Bank of any litigation pending or threatened against Borrower with a claim in excess of $250,000.00. SECTION 4.9 FINANCIAL CONDITION. Maintain Borrower's financial condition as follows using generally accepted accounting principles consistently applied and used consistently with prior practices (except to the extent modified by the definitions herein): (a) Tangible Net Worth not at any time less than $30,000,000, with "Tangible Net Worth" defined as the aggregate of total stockholders' equity plus subordinated debt less any intangible assets. (b) EBITDA not less than $5,000,000 as of each fiscal year end, with "EBITDA" defined as net profit before tax plus interest expense (net of capitalized interest expense), depreciation expense and amortization expense. SECTION 4.10 NOTICE TO BANK. Promptly (but in no event more than thirty (30) days after the occurrence of each such event or matter) give written notice to Bank in reasonable detail of: (a) the occurrence of any Event of Default, or any condition, event or act which with the giving of notice or the passage of time or both would constitute an Event of Default; (b) any change in the name or the organizational structure of Borrower; (c) the occurrence and nature of any Reportable Event or Prohibited Transaction, each as defined in ERISA, or any funding deficiency with respect to any Plan; or (d) any termination or cancellation of any insurance -6- policy which Borrower is required to maintain, or any uninsured or partially uninsured loss through liability or property damage, or through fire, theft or any other cause affecting Borrower's property. SECTION 4.11 LIQUIDITY. Maintain unencumbered liquid assets (defined as cash, cash equivalents and/or publicly traded/quoted marketable securities acceptable to Bank in its sole discretion) with an aggregate fair market value not at any time less than Thirty Million Dollars ($30,000,000). ARTICLE V --------- NEGATIVE COVENANTS ------------------ Borrower further covenants that so long as Bank remains committed to extend credit to Borrower pursuant hereto, or any liabilities (whether direct or contingent, liquidated or unliquidated) of Borrower to Bank under any of the Loan Documents remain outstanding, and until payment in full of all obligations of Borrower subject hereto, Borrower will not without Bank's prior written consent: SECTION 5.1 USE OF FUNDS. Use any of the proceeds of any credit extended hereunder except for the purposes stated in Article I hereof. SECTION 5.2 OTHER INDEBTEDNESS. Create, incur, assume or permit to exist any indebtedness or liabilities resulting from borrowings, loans or advances, whether secured or unsecured, matured or unmatured, liquidated or unliquidated, joint or several, except (a) the liabilities of Borrower to Bank, and (b) any other liabilities of Borrower existing as of, and disclosed to Bank prior to, the date hereof, inclusive of lessor purchase money security interests limited to $500,000.00 annually. SECTION 5.3 MERGER, CONSOLIDATION, TRANSFER OF ASSETS. Merge into or consolidate with any other entity; make any substantial change in the nature of Borrower's business as conducted as of the date hereof; acquire all or substantially all of the assets of any other entity; nor sell, lease, transfer or otherwise dispose of all or a substantial or material portion of Borrower's assets except in the ordinary course of its business, except acquisitions and mergers exceeding $25,000,000 in purchase price, which will be subject to Bank's consent. ARTICLE VI ---------- EVENTS OF DEFAULT ----------------- SECTION 6.1 The occurrence of any of the following shall constitute an "Event of Default" under this Agreement: (a) Borrower shall fail to pay when due any principal, interest, fees or other amounts payable under any of the Loan Documents. (b) Any financial statement or certificate furnished to Bank in connection with, or any representation or warranty made by Borrower or any other party under this Agreement or any other Loan Document shall prove to be incorrect, false or misleading in any material respect when furnished or made. -7- (c) Any default in the performance of or compliance with any obligation, agreement or other provision contained herein or in any other Loan Document (other than those referred to in subsections (a) and (b) above), and with respect to any such default which by its nature can be cured, such default shall continue for a period of twenty (20) days from its occurrence. (d) Any default in the payment or performance of any obligation, or any defined event of default, under the terms of any contract or instrument (other than any of the Loan Documents) pursuant to which Borrower, any guarantor hereunder or any general partner or joint venturer in any Borrower which is a partnership or joint venture (with each such guarantor, general partner and/or joint venturer referred to herein as a "Third Party Obligor") has incurred any debt or other liability to any person or entity, including Bank. (e) The filing of a notice of judgment lien against Borrower or any Third Party Obligor; or the recording of any abstract of judgment against Borrower or any Third Party Obligor in any county in which Borrower or such Third Party Obligor has an interest in real property; or the service of a notice of levy and/or of a writ of attachment or execution, or other like process, against the assets of Borrower or any Third Party Obligor; or the entry of a judgment against Borrower or any Third Party Obligor. (f) Borrower or any Third Party Obligor shall become insolvent, or shall suffer or consent to or apply for the appointment of a receiver, trustee, custodian or liquidator of itself or any of its property, or shall generally fail to pay its debts as they become due, or shall make a general assignment for the benefit of creditors; Borrower or any Third Party Obligor shall file a voluntary petition in bankruptcy, or seeking reorganization, in order to effect a plan or other arrangement with creditors or any other relief under the Bankruptcy Reform Act, Title 11 of the United States Code, as amended or recodified from time to time ("Bankruptcy Code"), or under any state or federal law granting relief to debtors, whether now or hereafter in effect; or any involuntary petition or proceeding pursuant to the Bankruptcy Code or any other applicable state or federal law relating to bankruptcy, reorganization or other relief for debtors is filed or commenced against Borrower or any Third Party Obligor, or Borrower or any Third Party Obligor shall file an answer admitting the jurisdiction of the court and the material allegations of any involuntary petition; or Borrower or any Third Party Obligor shall be adjudicated a bankrupt, or an order for relief shall be entered against Borrower or any Third Party Obligor by any court of competent jurisdiction under the Bankruptcy Code or any other applicable state or federal law relating to bankruptcy, reorganization or other relief for debtors. (g) There shall exist or occur any event or condition which Bank in good faith believes impairs, or is substantially likely to impair, the prospect of payment or performance by Borrower of its obligations under any of the Loan Documents. (h) The death or incapacity of any individual Borrower or Third Party Obligor. The dissolution or liquidation of any Borrower or Third Party Obligor which is a corporation, partnership, joint venture or other type of entity; or Borrower or any such Third Party Obligor, or any of its directors, stockholders or members, shall take action seeking to effect the dissolution or liquidation of such Borrower or Third Party Obligor. -8- SECTION 6.2 REMEDIES. Upon the occurrence of any Event of Default: (a) all indebtedness of Borrower under each of the Loan Documents, any term thereof to the contrary notwithstanding, shall at Bank's option and without notice become immediately due and payable without presentment, demand, protest or notice of dishonor, all of which are hereby expressly waived by each Borrower; (b) the obligation, if any, of Bank to extend any further credit under any of the Loan Documents shall immediately cease and terminate; and (c} Bank shall have all rights, powers and remedies available under each of the Loan Documents, or accorded by law, including without limitation the right to resort to any or all security for any credit subject hereto and to exercise any or all of the rights of a beneficiary or secured party pursuant to applicable law. All rights, powers and remedies of Bank may be exercised at any time by Bank and from time to time after the occurrence of an Event of Default, are cumulative and not exclusive, and shall be in addition to any other rights, powers or remedies provided by law or equity. ARTICLE VII ----------- MISCELLANEOUS ------------- SECTION 7.1 NO WAIVER. No delay, failure or discontinuance of Bank in exercising any right, power or remedy under any of the Loan Documents shall affect or operate as a waiver of such right, power or remedy; nor shall any single or partial exercise of any such right, power or remedy preclude, waive or otherwise affect any other or further exercise thereof or the exercise of any other right, power or remedy. Any waiver, permit, consent or approval of any kind by Bank of any breach of or default under any of the Loan Documents must be in writing and shall be effective only to the extent set forth In such wilting. SECTION 7.2 NOTICES. All notices, requests and demands which any party is required or may desire to give to any other party under any provision of this Agreement must be in writing delivered to each party at the following address: BORROWER: RIMAGE CORPORATION 7725 Washington Avenue South Minneapolis, MN 55439 BANK: WELLS FARGO BANK, NATIONAL ASSOCIATION 7900 Xerxes Avenue South Bloomington, MN 55431 or to such other address as any party may designate by written notice to all other parties. Each such notice, request and demand shall be deemed given or made as follows: (a) if sent by hand delivery, upon delivery; (b) if sent by mail, upon the earlier of the date of receipt or three (3) days after deposit in the U.S. mail, first class and postage prepaid; and (c) if sent by telecopy, upon receipt. SECTION 7.3 COSTS, EXPENSES AND ATTORNEYS' FEES. Borrower shall pay to Bank immediately upon demand the full amount of all payments, advances, charges, costs and expenses, including reasonable attorneys' fees (to include outside counsel fees and all allocated costs of Bank's in-house counsel), expended or incurred by Bank in connection with (a) the negotiation and preparation of this Agreement and the other Loan Documents, Bank's continued -9- administration hereof and thereof, and the preparation of any amendments and waivers hereto and thereto, (b) the enforcement of Bank's rights and/or the collection of any amounts which become due to Bank under any of the Loan Documents, and (c) the prosecution or defense of any action in any way related to any of the Loan Documents, including without limitation, any action for declaratory relief, whether incurred at the trial or appellate level, in an arbitration proceeding or otherwise, and including any of the foregoing incurred in connection with any bankruptcy proceeding (including without limitation, any adversary proceeding, contested matter or motion brought by Bank or any other person) relating to any Borrower or any other person or entity. SECTION 7.4 SUCCESSORS, ASSIGNMENT. This Agreement shall be binding upon and inure to the benefit of the heirs, executors, administrators, legal representatives, successors and assigns of the parties; provided however, that Borrower may not assign or transfer its interest hereunder without Bank's prior written consent. Bank reserves the right to sell, assign, transfer, negotiate or grant participations in all or any part of, or any interest in, Bank's rights and benefits under each of the Loan Documents. In connection therewith, Bank may disclose all documents and information which Bank now has or may hereafter acquire relating to any credit subject hereto, Borrower or its business, or any collateral required hereunder. SECTION 7.5 ENTIRE AGREEMENT; AMENDMENT. This Agreement and the other Loan Documents constitute the entire agreement between Borrower and Bank with respect to each credit subject hereto and supersede all prior negotiations, communications, discussions and correspondence concerning the subject matter hereof. This Agreement may be amended or modified only in writing signed by each party hereto, SECTION 7.6 NO THIRD PARTY BENEFICIARIES. This Agreement is made and entered into for the sole protection and benefit of the parties hereto and their respective permitted successors and assigns, and no other person or entity shall be a third party beneficiary of, or have any direct or indirect cause of action or claim in connection with, this Agreement or any other of the Loan Documents to which it is not a party. SECTION 7.7 TIME. Time is of the essence of each and every provision of this Agreement and each other of the Loan Documents. SECTION 7.8 SEVERABILITY OF PROVISIONS. If any provision of this Agreement shall be prohibited by or invalid under applicable law, such provision shall be ineffective only to the extent of such prohibition or invalidity without invalidating the remainder of such provision or any remaining provisions of this Agreement. SECTION 7.9 COUNTERPARTS. This Agreement may be executed in any number of counterparts, each of which when executed and delivered shall be deemed to be an original, and all of which when taken together shall constitute one and the same Agreement. SECTION 7.10 GOVERNING LAW. This Agreement shall be governed by and construed In accordance with the laws of the State of Minnesota. -10- SECTION 7.11 ARBITRATION. (a) Arbitration. The parties hereto agree, upon demand by any party, to submit to binding arbitration all claims, disputes and controversies between or among them (and their respective employees, officers, directors, attorneys, and other agents), whether in tort, contract or otherwise arising out of or relating to in any way (i) the loan and related Loan Documents which are the subject of this Agreement and its negotiation, execution, collateralization administration, repayment, modification, extension, substitution, formation, inducement enforcement, default or termination; or (ii) requests for additional credit. (b) Governing Rules. Any arbitration proceeding will (i) proceed in a location in Minnesota selected by the American Arbitration Association ("AAA"); (ii) be governed by the Federal Arbitration Act (Title 9 of the United States Code), notwithstanding any conflicting choice of law provision in any of the documents between the parties; and (iii) be conducted by the AAA, or such other administrator as the parties shall mutually agree upon, in accordance with the AAA's commercial dispute resolution procedures, unless the claim or counterclaim is at least $1,000,000.00 exclusive of claimed interest, arbitration fees and casts in which case the arbitration shall be conducted in accordance with the AAA's optional procedures for large, complex commercial disputes (the commercial dispute resolution procedures or the optional procedures for large, complex commercial disputes to be referred to, as applicable, as the "Rules"). If there is any inconsistency between the terms hereof and the Rules, the terms and procedures set forth herein shall control. Any party who fails or refuses to submit to arbitration following a demand by any other party shall bear all costs and expenses incurred by such other party in compelling arbitration of any dispute. Nothing contained herein shall be deemed to be a waiver by any party that is a bank of the protections afforded to it under 12 U.S.C. ss.91 or any similar applicable state law. (c) No Waiver of Provisional Remedies, Self-Help and Foreclosure. The arbitration requirement does not limit the right of any party to (i) foreclose against real or personal property collateral; (ii) exercise self-help remedies relating to collateral or proceeds of collateral such as setoff or repossession; or (iii) obtain provisional or ancillary remedies such as replevin, injunctive relief, attachment or the appointment of a receiver, before during or after the pendency of any arbitration proceeding. This exclusion does not constitute a waiver of the right or obligation of any party to submit any dispute to arbitration or reference hereunder, including those arising from the exercise of the actions detailed in sections (i), (ii) and (iii) of this paragraph. (d) Arbitrator Qualifications and Powers. Any arbitration proceeding in which the amount in controversy is $5,000,000.00 or less will be decided by a single arbitrator selected according to the Rules, and who shall not render an award of greater than $5,000,000.00. Any dispute in which the amount in controversy exceeds $5,000,000.00 shall be decided by majority vote of a panel of three arbitrators; provided however, that all three arbitrators must actively participate in all hearings and deliberations. The arbitrator will be a neutral attorney licensed in the State of Minnesota or a neutral retired judge of the state or federal judiciary of Minnesota, in either case with a minimum of ten years experience in the substantive law applicable to the subject matter of the dispute to be arbitrated. The arbitrator will determine whether or not an issue is arbitratable and will give effect to the statutes of limitation in determining any claim. In -11- any arbitration proceeding the arbitrator will decide (by documents only or with a hearing at the arbitrator's discretion) any pre-hearing motions which are similar to motions to dismiss for failure to state a claim or motions for summary adjudication. The arbitrator shall resolve all disputes in accordance with the substantive law of Minnesota and may grant any remedy or relief that a court of such state could order or grant within the scope hereof and such ancillary relief as is necessary to make effective any award. The arbitrator shall also have the power to award recovery of all costs and fees, to impose sanctions and to take such other action as the arbitrator deems necessary to the same extent a judge could pursuant to the Federal Rules of Civil Procedure, the Minnesota Rules of Civil Procedure or other applicable law. Judgment upon the award rendered by the arbitrator may be entered in any court having jurisdiction. The institution and maintenance of an action for judicial relief or pursuit of a provisional or ancillary remedy shall not constitute a waiver of the right of any party, including the plaintiff, to submit the controversy or claim to arbitration if any other party contests such action for judicial relief. (e) Discovery. In any arbitration proceeding discovery will be permitted in accordance with the Rules. All discovery shall be expressly limited to matters directly relevant to the dispute being arbitrated and must be completed no later man 20 days before the hearing date and within 180 days of the filing of the dispute with the AAA. Any requests for an extension of the discovery periods, or any discovery disputes, will be subject to final determination by the arbitrator upon a showing that the request for discovery is essential for the party's presentation and that no alternative means for obtaining information is available. (f) Class Proceedings and Consolidations. The resolution of any dispute arising pursuant to the terms of this Agreement shall be determined by a separate arbitration proceeding and such dispute shall not be consolidated with other disputes or included in any class proceeding. (g) Payment Of Arbitration Costs And Fees. The arbitrator shall award all costs and expenses of the arbitration proceeding. (h) Miscellaneous. To the maximum extent practicable, the AAA, the arbitrators and the parties shall take all action required to conclude any arbitration proceeding within 180 days of the filing of the dispute with the AAA. No arbitrator or other party to an arbitration proceeding may disclose the existence, content or results thereof, except for disclosures of information by a party required in the ordinary course of its business or by applicable law or regulation. If more than one agreement for arbitration by or between the parties potentially applies to a dispute, the arbitration provision most directly related to the Loan Documents or the subject matter of the dispute shall control. This arbitration provision shall survive termination, amendment or expiration of any of the Loan Documents or any relationship between the parties. -12- Exhibit 10.6 IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed as of the day and year first written above. WELLS FARGO BANK, RIMAGE CORPORATION NATIONAL ASSOCIATION By: /s/ Bernard P. Alrich By: /s/ Jill S. Rhodes --------------------------------- --------------------------------- Bernard P. Aldrich, President and Jill S. Rhodes, Relationship Manager Chief Executive Officer By: /s/ Robert M. Wolf --------------------------------- Robert M. Wolf, Secretary and Chief Financial Officer EX-10.7 3 rimage051268_ex10-7.txt Exhibit 10.7 REVOLVING LINE OF CREDIT NOTE $10,000,000.00 Bloomington, Minnesota March 29, 2004 FOR VALUE RECEIVED, the undersigned RIMAGE CORPORATION ("Borrower") promises to pay to the order of WELLS FARGO BANK, NATIONAL ASSOCIATION ("Bank") at its office at Bloomington RCBO, 7900 Xerxes Ave S, Bloomington, MN 55431, or at such other place as the holder hereof may designate, in lawful money of the United States of America and in immediately available funds, the principal sum of Ten Million Dollars ($10,000,000.00), or so much thereof as may be advanced and be outstanding, with interest thereon, to be computed on each advance from the date of its disbursement as set forth herein. DEFINITIONS: As used herein, the following terms shall have the meanings set forth after each, and any other term defined in this Note shall have the meaning set forth at the place defined: (a) "Business Day" means any day except a Saturday, Sunday or any other day on which commercial banks in Minnesota are authorized or required by law to close. (b) "LIBOR" means the rate per annum (rounded upward, if necessary, to the nearest whole 1/8 of 1%) and determined pursuant to the following formula: LIBOR = Base LIBOR ------------------------------- 100% - LIBOR Reserve Percentage (i) "Base LIBOR" means the rate per annum for United States dollar deposits quoted by Bank as of 10:00 am. on each Business Day, as the Inter-Bank Market Offered Rate with the understanding that such rate is quoted by Bank for the purpose of calculating effective rates of interest for loans making reference thereto, for the delivery of funds on such Business Day for a period of time equal to one (1) month and in an amount equal to the outstanding principal balance of this Note. Borrower understands and agrees that Bank may base its quotation of the Inter-Bank Market Offered Rate upon such offers or other market indicators of the Inter-Bank Market as Bank in its discretion deems appropriate including, but not limited to, the rate offered for U.S. dollar deposits on the London Inter-Bank Market. (ii) "LIBOR Reserve Percentage" means the reserve percentage prescribed by the Board of Governors of the Federal Reserve System (or any successor) for "Eurocurrency Liabilities" (as defined in Regulation D of the Federal Reserve Board, as amended), adjusted by Bank for expected changes in such reserve percentage during the term of this Note. INTEREST: (a) Interest. The outstanding principal balance of this Note shall bear interest (computed on the basis of a 365-day year, actual days elapsed) at a fluctuating rate per annum determined by Bank to be one and one-half percent (1.50%) above LIBOR in effect from time to time. Each change in the rate of interest hereunder shall become effective on each Business Day a change in LIBOR is announced within Bank. Bank is hereby authorized to note the date, and interest rate applicable to this Note and any payments made thereon on Bank's books and records (either manually or by electronic entry) and/or on any schedule attached to this Note, which notations shall be prima facie evidence of the accuracy of the information noted. (b) Taxes and Regulatory Costs. Borrower shall pay to Bank immediately upon demand, in addition to any other amounts due or to become due hereunder, any and all (i) withholdings, interest equalization taxes, stamp taxes or other taxes (except income and franchise taxes) imposed by any domestic or foreign governmental authority and related in any manner to LIBOR, and (ii) future, supplemental, emergency or other changes in the LIBOR Reserve Percentage, assessment rates imposed by the Federal Deposit Insurance Corporation, or similar requirements or costs imposed by any domestic or foreign governmental authority or resulting from compliance by Bank with any request or directive (whether or not having the force of law) from any central bank or other governmental authority and related in any manner to LIBOR to the extent they are not included in the calculation of LIBOR. In determining which of the foregoing are attributable to any LIBOR option available to Borrower hereunder, any reasonable allocation made by Bank among its Operations shall be conclusive and binding upon Borrower. (c) Payment of Interest. Interest accrued on this Note shall be payable on the last day of each month, commencing March 31, 2004. (d) Default Interest. From and after the maturity date of this Note, or such earlier date as all principal owing hereunder becomes due and payable by acceleration or otherwise, the outstanding principal balance of this Note shall bear interest until paid in full at an increased rate per annum (computed on the basis of a 365-day year, actual days elapsed) equal to four percent (4%) above the rate of interest from time to time applicable to this Note. BORROWING AND REPAYMENT: (a) Borrowing and Repayment. Borrower may from time to time during the term of this Note borrow, partially or wholly repay its outstanding borrowings, and reborrow, subject to all of the limitations, terms and conditions of this Note and of any document executed in connection with or governing this Note; provided however, that the total outstanding borrowings under this Note shall not at any time exceed the principal amount stated above. The unpaid principal balance of this obligation at any time shall be the total amounts advanced hereunder by the holder hereof less the amount of principal payment made hereon by or for any Borrower, which balance may be endorsed hereon from time to time by the holder. The outstanding principal balance of this Note shall be due and payable in full on June 30, 2005. (b) Advances. Advances hereunder, to the total amount of the principal sum stated above, may be made by the holder at the oral or written request of (i) Robert M. Wolf or Bernard P. Aldrich or Scott Gulden, any one acting alone, who are authorized to request advances and direct the disposition of any advances until written notice of the revocation of such authority is received by the holder at the office designated above, or (ii) any person, with respect to advances deposited to the credit of any deposit account of any Borrower, which advances, when so deposited, shall be conclusively presumed to have been made to or for the benefit of each 2 Borrower regardless of the fact that persons other than those authorized to request advances may have authority to draw against such account. The holder shall have no obligation to determine whether any person requesting an advance is or has been authorized by any Borrower. (c) Application of Payments. Each payment made on this Note shall be credited first, to any interest then due and second, to the outstanding principal balance hereof. EVENTS OF DEFAULT: This Note is made pursuant to and is subject to the terms and conditions of that certain Credit Agreement between Borrower and Bank dated as of March 29, 2004, as amended from time to time (the "Credit Agreement"). Any default in the payment or performance of any obligation under this Note, or any defined event of default under the Credit Agreement, shall constitute an "Event of Default" under this Note. MISCELLANEOUS: (a) Remedies. Upon the occurrence of any Event of Default, the holder of this Note, at the holder's option, may declare all sums of principal and interest outstanding hereunder to be immediately due and payable without presentment demand, notice of nonperformance, notice of protest, protest or notice of dishonor, all of which are expressly waived by each Borrower, and the obligation, if any, of the holder to extend any further credit hereunder shall immediately cease and terminate. Each Borrower shall pay to the holder immediately upon demand the full amount of all payments, advances, charges, costs and expenses, including reasonable attorneys' fees (to include outside counsel fees and all allocated costs of the holder's in-house counsel), expended or incurred by the holder in connection with the enforcement of the holder's rights and/or the collection of any amounts which become due to the holder under this Note, and the prosecution or defense of any action in any way related to this Note, including without limitation, any action for declaratory relief, whether incurred at the trial or appellate level, in an arbitration proceeding or otherwise, and including any of the foregoing incurred in connection with any bankruptcy proceeding (including without limitation, any adversary proceeding, contested matter or motion brought by Bank or any other person) relating to any Borrower or any other person or entity. (b) Obligations Joint and Several. Should more than one person or entity sign this Note as a Borrower, the obligations of each such Borrower shall be joint and several. (c) Governing Law. This Note shall be governed by and construed in accordance with the laws of the State of Minnesota. (d) Acknowledgment. Borrower acknowledges receipt of a copy of this Note signed by Borrower. 3 IN WITNESS WHEREOF, the undersigned has executed this Note as of the date first written above. RIMAGE CORPORATION By: /s/ Robert M. Wolf ------------------------------ Robert M. Wolf, Secretary and Chief Financial Officer By: /s/ Bernard P. Aldrich ------------------------------ Bernard P. Aldrich, President and Chief Executive Officer 4 EX-21.1 4 rimage051268_ex21-1.txt EXHIBIT 21.1 SUBSIDIARIES OF RIMAGE CORPORATION Name Jurisdiction of Incorporation Percent Owned - ---- ----------------------------- ------------- Cedar Technologies, Inc. Minnesota 100.0% Media Systems Technology, Inc. (Inactive) California 86.8% Rimage Europe GmbH Germany 100.0% EX-23.1 5 rimage051268_ex23-1.txt EXHIBIT 23.1 CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM The Board of Directors Rimage Corporation: We consent to incorporation by reference in the Registration Statements (Nos. 333-34788, 333-53875, 33-71472, 333-69550 and 333-106901) on Form S-8 of Rimage Corporation of our reports dated March 14, 2005, with respect to the consolidated balance sheets of Rimage Corporation and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of operations, stockholders' equity and comprehensive income, cash flows for each of the years in the three-year period ended December 31, 2004, as well as the related financial statement schedule, management's assessment of the effectiveness of internal control over financial reporting as of December 31, 2004 and the effectiveness of internal control over financial reporting as of December 31, 2004, which reports appear in the December 31, 2004 annual report on Form 10-K of Rimage Corporation. /s/ KPMG LLP Minneapolis, Minnesota March 16, 2005 EX-31.1 6 rimage051268_ex31-1.txt EXHIBIT 31.1 CERTIFICATIONS -------------- I, Bernard P. Aldrich, certify that: 1. I have reviewed this Form 10-K of Rimage Corporation; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; (c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: March 16, 2005 /s/ Bernard P. Aldrich President and Chief Executive Officer EX-31.2 7 rimage051268_ex31-2.txt EXHIBIT 31.2 CERTIFICATIONS -------------- I, Robert M. Wolf, certify that: 1. I have reviewed this Form 10-K of Rimage Corporation; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; (c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: March 16, 2005 /s/ Robert M. Wolf Chief Financial Officer EX-32 8 rimage051268_ex32.txt EXHIBIT 32 CERTIFICATION The undersigned certifies pursuant to 18 U.S.C. Section 1350, that: (1) The accompanying Rimage Corporation Annual Report on Form 10-K for the period ended December 31, 2004, fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the accompanying report fairly presents, in all material respects, the financial condition and results of operations of the Company. March 16, 2005 /s/ Bernard P. Aldrich President and Chief Executive Officer /s/ Robert M. Wolf Chief Financial Officer EX-99.1 9 rimage051268_ex99-1.txt RIMAGE CORPORATION 7725 Washington Avenue South Minneapolis, MN 55439 TEL: 952-944-8144 FAX: 952-944-7808 RIMAGE EUROPE, GMBH Hans - Boekler - Str. 7 6057 Dietzenbach, Germany TEL: 011-49-6074-8521-0 FAX: 011-49-6074-8521-21 -----END PRIVACY-ENHANCED MESSAGE-----