Nice find, markyb86! That firmware update is in the exact same format as my Blue and White G3's firmware updater. I'm trying to go back in time to see if I can figure out which firmware version initially added the floppy incompatibility. Here's a MacFixit article dated April 14, 1999 that says the "iMac Firmware Update" broke the floppy compatibility, but they don't mention a version:

after installing the iMac Firmware Update, these drives will no longer work. Apparently, the update removes the needed floppy disk drivers.

Click to expand...

Then I found a couple of more articles:

Apple posts iMac Firmware Update 1.0 and iMac Update 1.1 (dated December 18, 1998)

Apple Posts iMac Firmware Update 1.2 (dated February 1, 1999)

So the discovery of the floppy breaking was definitely reported after version 1.2. We just have to hope that the problem also didn't exist in firmware update 1.0 Otherwise the only fix would be to find an original iMac that never had any firmware updates installed and dump its firmware, then put it into a firmware update file.

Hopefully downgrading doesn't have any adverse effects--there's always that risk! I'll look at the updater and see if I can force it to allow installing over newer firmware (I'd assume max1zzz's computer currently has Firmware Update 1.2 installed?)

There are three known firmware versions that iMac Firmware Update 1.0 from markyb86's link knows about:

Apple iMac Open Firmware 3.0.f8 built on 08/06/98 at 12:04:16

Apple iMac Open Firmware 3.0.b2 built on 09/17/98 at 15:19:23

Apple iMac Open Firmware 3.0.f3 built on 12/02/98 at 10:25:41

I'm not sure if 3.0.f3 is the version it installs or not...I'd have to do more checking later.