The unaudited Condensed Consolidated Financial Statements include the accounts of Hurco Companies, Inc. and its consolidated subsidiaries. As used in this report, and unless the context indicates otherwise, the terms “we”, “us”, “our” and similar language refer to Hurco Companies, Inc. and its consolidated subsidiaries. We design and produce computerized machine tools, interactive computer control systems and software for sale through our distribution network to the worldwide metal cutting market. We also provide software options, computer control upgrades, accessories and replacement parts for our products, as well as customer service and training support.

The condensed financial information as of January 31,April 30, 2006 and for the three and six months ended January 31,April 30, 2006 and January 31,April 30, 2005 is unaudited; however, in our opinion, the interim data includeincludes all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement of our operating results for, and our financial position at the end of the interim periods. We suggest that you read these condensed consolidated financial statements in conjunction with the consolidated financial statements and the notes thereto included in our Annual Report on Form 10-K for the year ended October 31, 2005.

We enter into foreign currency forward exchange contracts periodically to hedge certain forecast inter-company sales and forecast inter-company and third party purchases denominated in foreign currencies (the Pound Sterling, Euro and New Taiwan Dollar). The purpose of these instruments is to mitigate the risk that the U.S. Dollar net cash inflows and outflows resulting from sales and purchases denominated in foreign currencies will be adversely affected by changes in exchange rates. These forward contracts have been designated as cash flow hedge instruments and are recorded in the Condensed Consolidated Balance SheetSheets at fair value in Other Current Assets and Accrued Expenses. Gains and losses resulting from changes in the fair value of these hedge contracts are deferred in Accumulated Other Comprehensive Income (Loss) and recognized as an adjustment to Cost of Sales in the period that the sale that is the subject of the related hedgehedged contract is recognized, thereby providing an offsetting economic impact against the corresponding change in the U.S. Dollar value of the inter-company sale or purchase being hedged.

We also enter into foreign currency forward exchange contracts to protect against the effects of foreign currency fluctuations on receivables and payables denominated in foreign currencies. These derivative instruments are not designated as hedges under Statement of Financial Accounting Standards No. 133, “Accounting Standards for Derivative Instruments and Hedging Activities” (SFAS 133), and, as a result, changes in their fair value are reported currently as Other Expense (Income)Income (Expense), Net in the Consolidated StatementStatements of OperationsIncome consistent with the transaction gain or loss on the related foreign denominated receivable or payable. We recordedSuch net transaction losses of $40,000were $71,000 and $13,000$334,000 for the quarters ended January 31,April 30, 2006 and 2005, respectively.

Prior to fiscal 2006, we applied the provisions of Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees,” in accounting for stock-based compensation. As a result, no compensation expense was recognized for stock options havinggranted with exercise prices equalequivalent to the fair market value of underlying sharesthe stock on the date of grant. Effective November 1, 2005, we adopted SFAS No. 123(R), “Share Based Payment,” using the modified prospective method, andmethod. As of November 1, 2005 we began applying itsthe provisions of SFAS No. 123(R) to all options grantedoption grants (of which there have been none), as well as to the nonvested portion of previouslyoutstanding options granted options outstanding atbefore that date. Compensation expense was determined at the date of grant using the Black-Scholes valuation model. We expect to record additional compensation expense of approximately $15,000 ratably through the first quarter of fiscal 2007 for the remaining options that vest during the period April 30, 2006 through January 31, 2007.

As a result of our adoption ofadopting SFAS No. 123(R), we recorded compensation expense ofour income before taxes and net income for the quarter ended April 30, 2006 were reduced by approximately $5,000 which reduced net income by approximately $3,000. The impact ofand $3,000, respectively, as compared to the adoption of SFASamounts that would have been reported if we continued to account for share-based compensation under APB Opinion No. 123(R)25. There was not significant and, therefore, did not have anno effect on basic and diluted earnings per share.share as a result of the adoption of SFAS No. 123(R).

Prior to theour adoption of SFAS No. 123(R), we presented all tax benefits of deductions resulting from the exercise of stock options as operating cash flows in the Condensed Consolidated Statements of Cash Flows. SFAS 123(R) requires cash flows resulting from tax deductions in excess of recognized compensation cost from the exercise of stock options (excess tax benefits) to be classified as financing cash flows.

OurThe adoption of SFAS No. 123(R)this pronouncement had no effect on compensation expensecost recorded in fiscal 2005. Accordingly,2005 related to stock options, which will continue to be disclosed on a pro forma basis only.

Basic and diluted earnings per common share areis based on the weighted averageweighted-average number of our shares of our common stock outstanding. Diluted earnings per common share givegives effect to outstanding stock options using the treasury method. The numberimpact of sharesstock options for the three months ended January 31,April 30, 2006 and 2005 was 86,000 and 199,000,177,000, respectively.

Inventories, priced at the lower of cost or market (first-in, first-out method) or market,, are summarized below (in thousands):

We operate in a single segment: industrial automation systems. We design and produce computerized machine tools, interactive computer control systems and software for sale through our distribution network to the worldwide machine tool metal cuttingmetalworking market. We also provide software options, computer control upgrades, accessories and replacement parts for our products, as well as customer service and training support.

From time to time, our European subsidiaries guarantee third party lease financing residuals in connection with the sale of certain machines in Europe.to customers that use lease financing. At January 31,April 30, 2006, there were outstanding 38 such51 third party guarantees, totaling approximately $1.5$1.7 million. A retention of title clause allows us to recoverobtain the machine if the customer defaults on its lease. We believe that the proceeds obtained from liquidation of the machine would coverexceed our exposure.

We provide warranties on our products with respect to defects in material and workmanship. The terms of these warranties are generally one year for machines and shorter periods for service parts. We recognize a reserve with respect to this obligation at the time of product sale, with subsequent warranty claims recorded against the reserve. The amount of the warranty reserve is determined based on historical trend experience and any known warranty issues that could cause future warranty costs to differ from historical experience. A reconciliation of the changes in our warranty reserve is as follows (in thousands):

The following discussion should be read in conjunction with the Condensed Consolidated Financial Statements and Notes thereto appearing elsewhere herein. Certain statements made in this discussion may constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from those expressed or implied by such forward-looking statements. These factors include, among others, changes in general economic and business conditions that affect market demand for machines tools and related computer control systems, software products, and replacement parts, changes in manufacturing markets, adverse currency movements, innovations by competitors, quality and delivery performance by our contract manufacturers and governmental actions and initiatives including import and export restrictions and tariffs.

Hurco Companies, Inc. is an industrial technology company operatingoperation in a single segment. We design and produce computerized machine tools, featuring our proprietary computer control systems and software, for sale through our own distribution network to the worldwide metal cuttingworking market. We also provide software options, control upgrades, accessories and replacement parts for our products, as well as customer service and training support.

Our computerized metal cutting machine tools are manufactured in Taiwan to our specifications by our wholly owned subsidiary, Hurco Manufacturing Limited (HML), and an affiliate. We sell our products through approximately 230 independent agents and distributors in approximately 50 countries throughout North America, Europe and Asia. We also have our own direct sales and service organizations in England, France, Germany, Italy, Singapore and China.

The primary drivers of our improved performance in the last threetwo years arehave been improved worldwide demand for our products, our expanded product line and the impact of changes in the exchange rate between the U.S. Dollar and various foreign currencies.

The machine tool industry is highly cyclical and changes in demand can occur abruptly. There was a significant decline in global demand that continued through the fourth quarter of fiscal 2003. During the downturn, we took actions to discontinuediscontinued the production and sale of underperforming products, refocused on our core product lines and significantly reduced our operating costs. We also began introducing new product models in late fiscal 2002 and have continued this process since then. OurThese new models, together with an increase in worldwide demand for machine tools, are largely responsible for the continuing increase in our sales during the last two fiscal years.

Approximately 89% of worldwide demand for machine tools comes from outside the United States. During fiscal 20042006 and 2005, approximately two-thirds of our sales and service fees were attributable to customers located abroad. Our sales to foreign customers are denominated, and payments by those customers are made, in the prevailing currencies—currencies - primarily the Euro and Pound Sterling—Sterling - in the countries in which those customers are located, and our product costs are incurred and paid primarily in the New Taiwan Dollar and U.S. Dollars. Changes in currency exchange rates can have a material effect on our operating results as reported under generally accepted accounting principles.principles in the United States of America. For example, when a foreign currency increases in value relative to the U.S. Dollar, sales made (and expenses incurred) in that currency, when translated to U.S. Dollars for reporting in our financial statements, are higher than would be the case when that currency has a lower value relative to the U.S. Dollar. In our comparison of period-to-period results, we discuss not only the increases or decreases in those results as reported in our financial statements (which reflect

translation to U.S. Dollars at prevailing exchange rates), but also the effect that changes in exchange rates had on those results.

Our high levels of foreign manufacturing and sales also subject us to cash flow risks due to changes influctuating currency exchange rates. We seek to mitigate those risks through the use of various hedging instruments - principally foreign currency forward exchange contracts.

The volatility of demand for machine tools can significantly impact our working capital requirements and, therefore, our cash flow from operations and our operating profits. Because our products are manufactured in Taiwan, manufacturing and ocean transportation lead times require that we schedule machine tool production based on forecasts of customer orders for a future period of four or five months. We continually monitor market and order activity levels and adjust future production schedules to reflect changes in demand, but a significant unexpected decline in customer orders from forecasted levels can temporarily increase our finished goods inventories and our use of working capital.