##### Table of Contents



UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, D.C. 20549
 FORM 10-Q
  þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For the quarterly period ended June 30, 2005
 OR
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934For the transition period from January 1, 2005 to June 30, 2005
 Commission file number: 1-31949
 I-Sector Corporation
  Delaware
    
    76-0515249(State of incorporation)
    
    (I.R.S. Employer Identification Number)
 6401 Southwest Freeway
Houston, Texas 77074
 (713) 795-2000
 þ o
 o þ




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##### Table of Contents



I-Sector Corporation
 FORM 10-Q for the Quarter Ended June 30, 2005
INDEX
 Part I. Financial InformationItem 1. Financial Statements (Unaudited):Condensed Consolidated Statements of Income for the three months ended June 30, 2004 and 2005Condensed Consolidated Statements of Income for the six months ended June 30, 2004 and 2005Condensed Consolidated Balance Sheets at December 31, 2004 and June 30, 2005Condensed Consolidated Statement of Stockholders Equity for the six months ended June 30, 2005Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2004 and 2005Notes to Condensed Consolidated Financial StatementsItem 2. Managements Discussion and Analysis of Financial Condition and Results of OperationsItem 3. Quantitative and Qualitative Disclosures about Market RiskItem 4. Controls and ProceduresPart II. Other InformationItem 1. Legal ProceedingsItem 4. Submission of Matters to a Vote of Security HoldersItem 5. Other InformationItem 6. ExhibitsSignatureEmployment Agreement - Larry LawhornRule 13a-14(a)/15d-14(a) Certification of Principal Executive OfficerRule 13a-14(a)/15d-14(a) Certification of Principal Financial OfficerSection 1350 Certification of Principal Executive OfficerSection 1350 Certification of Principal Financial Officer
 2




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##### Table of Contents



PART I. FINANCIAL INFORMATION
 
 Item 1. Financial Statements (Unaudited):
  
 
 Three months ended June 30,2004
    
    2005Revenue:Products
    
    $
    16,609
    
    
    $
    28,392Services
    
    
    3,109
    
    
    
    4,013Custom projects
    
    
    2,169
    
    
    
    1,943Total revenue
    
    
    21,887
    
    
    
    34,348Cost of goods and services:Products
    
    
    14,650
    
    
    
    24,920Services
    
    
    2,052
    
    
    
    2,579Custom projects
    
    
    886
    
    
    
    989Total cost of goods and services
    
    
    17,588
    
    
    
    28,488Gross profit
    
    
    4,299
    
    
    
    5,860Selling, general and administrative expenses
    
    
    4,236
    
    
    
    6,347Operating income (loss)
    
    
    63
    
    
    
    (487
    )Interest and other income (expense), net
    
    
    (26
    )
    
    
    (28
    )Income (loss) from continuing operations before income taxes
    
    
    37
    
    
    
    (515
    )Income tax benefit
    
    
    (7
    )
    
    
    (33
    )Net income (loss) from continuing operations before minority interest
    
    
    44
    
    
    
    (482
    )Minority interest
    
    
    (6
    )
    
    
    Net income (loss) from continuing operations
    
    
    38
    
    
    
    (482
    )Discontinued operations:Gain on disposal of discontinued operations, net of taxes
    
    
    13
    
    
    
    64Net income (loss)
    
    $
    51
    
    
    $
    (418
    )Net income (loss) per share:Basic:Income (loss) from continuing operations before minority interest
    
    $
    0.01
    
    
    $
    (0.09
    )Minority interest
    
    
    
    
    
    
    Gain on disposal of discontinued operations, net of taxes
    
    
    
    
    
    
    0.01Cumulative effect of change in accounting method
    
    
    
    
    
    
    Net income (loss) per share
    
    $
    0.01
    
    
    $
    (0.08
    )Diluted:Income (loss) from continuing operations before minority interest
    
    $
    0.01
    
    
    $
    (0.09
    )Minority interest
    
    
    
    
    
    
    Gain on disposal of discontinued operations, net of taxes
    
    
    
    
    
    
    0.01Cumulative effect of change in accounting method
    
    
    
    
    
    
    Net income (loss) per share
    
    $
    0.01
    
    
    $
    (0.08
    )Shares used in computing net income (loss) per share:Basic
    
    
    4,582,790
    
    
    
    5,621,589Diluted
    
    
    4,939,206
    
    
    
    5,621,589
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Six months ended June 30,2004
    
    2005Revenue:Products
    
    $
    26,803
    
    
    $
    51,926Services
    
    
    5,053
    
    
    
    6,806Custom projects
    
    
    4,306
    
    
    
    3,384Total revenue
    
    
    36,162
    
    
    
    62,116Cost of goods and services:Products
    
    
    23,142
    
    
    
    45,108Services
    
    
    3,338
    
    
    
    4,515Custom projects
    
    
    1,848
    
    
    
    1,721Total cost of goods and services
    
    
    28,328
    
    
    
    51,344Gross profit
    
    
    7,834
    
    
    
    10,772Selling, general and administrative expenses
    
    
    7,734
    
    
    
    17,131Operating income (loss)
    
    
    100
    
    
    
    (6,359
    )Interest and other income (expense), net
    
    
    (6
    )
    
    
    (75
    )Income (loss) from continuing operations before income taxes
    
    
    94
    
    
    
    (6,434
    )Income tax benefit
    
    
    (1
    )
    
    
    (33
    )Net income (loss) from continuing operations before minority interest
    
    
    95
    
    
    
    (6,401
    )Minority interest
    
    
    (6
    )
    
    
    (23
    )Net income (loss) from continuing operations
    
    
    89
    
    
    
    (6,424
    )Discontinued operations:Gain on disposal of discontinued operations, net of taxes
    
    
    2
    
    
    
    64Net income (loss) before cumulative effect of change in accounting method
    
    
    91
    
    
    
    (6,360
    )Cumulative effect of change in application of percentage of completion method
    
    
    
    
    
    
    (566
    )Net income (loss)
    
    $
    91
    
    
    $
    (6,926
    )Net income (loss) per share:Basic:Income (loss) from continuing operations before minority interest
    
    $
    0.02
    
    
    $
    (1.18
    )Minority interest
    
    
    
    
    
    
    Gain on disposal of discontinued operations, net of taxes
    
    
    
    
    
    
    0.01Cumulative effect of change in accounting method
    
    
    
    
    
    
    (0.10
    )Net income (loss) per share
    
    $
    0.02
    
    
    $
    (1.27
    )Diluted:Income (loss) from continuing operations before minority interest
    
    $
    0.02
    
    
    $
    (1.18
    )Minority interest
    
    
    
    
    
    
    Gain on disposal of discontinued operations, net of taxes
    
    
    
    
    
    
    0.01Cumulative effect of change in accounting method
    
    
    
    
    
    
    (0.10
    )Net income (loss) per share
    
    $
    0.02
    
    
    $
    (1.27
    )Shares used in computing net income (loss) per share:Basic
    
    
    4,280,599
    
    
    
    5,433,778Diluted
    
    
    4,658,296
    
    
    
    5,433,778
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December 31,
    
    June 30,2004
    
    2005(Unaudited)ASSETSCurrent Assets:Cash and cash equivalents
    
    $
    4,773
    
    
    $
    4,888Accounts and notes receivable, net of allowance of $2,146 and $2,992
    
    
    30,127
    
    
    
    34,124Inventory
    
    
    1,159
    
    
    
    8,711Cost and estimated earnings in excess of billings
    
    
    1,663
    
    
    
    935Other current assets
    
    
    310
    
    
    
    383Total current assets
    
    
    38,032
    
    
    
    49,041Property and equipment, net of accumulated depreciation of $2,397 and $2,652
    
    
    1,787
    
    
    
    2,597Notes receivable, long-term, net of allowance of $250 and $188
    
    
    207
    
    
    
    Goodwill
    
    
    
    
    
    
    7,100Intangible assets, net of accumulated amortization of $1,005 and $1,225
    
    
    1,113
    
    
    
    1,269Total Assets
    
    $
    41,139
    
    
    $
    60,007LIABILITIES AND STOCKHOLDERS EQUITYCurrent Liabilities:Notes payable and current portion of long-term debt
    
    $
    8,220
    
    
    $
    8,061Accounts payable
    
    
    10,675
    
    
    
    24,499Billings in excess of cost and estimated earnings
    
    
    63
    
    
    
    298Other current liabilities
    
    
    5,931
    
    
    
    8,127Total current liabilities
    
    
    24,889
    
    
    
    40,985Long-term debt
    
    
    122
    
    
    
    65Minority interest
    
    
    279
    
    
    
    Commitments and contingenciesStockholders Equity:Preferred stock, $.01 par value, 5,000,000 shares authorized, no shares issued
    
    
    
    
    
    
    Common stock, $.01 par value, 15,000,000 shares authorized, 5,201,354 and
5,965,426 shares issued
    
    
    52
    
    
    
    60Additional paid in capital
    
    
    17,513
    
    
    
    27,539Retained deficit
    
    
    (1,716
    )
    
    
    (8,642
    )Total stockholders equity
    
    
    15,849
    
    
    
    18,957Total Liabilities and Stockholders Equity
    
    $
    41,139
    
    
    $
    60,007
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$.01 par value
    
    AdditionalCommon Stock
    
    Paid-In
    
    RetainedShares
    
    Amount
    
    Capital
    
    Deficit
    
    TotalBalance at December 31, 2004
    
    
    5,201,354
    
    
    $
    52
    
    
    $
    17,513
    
    
    $
    (1,716
    )
    
    $
    15,849Exercise of common stock options
    
    
    145,914
    
    
    
    2
    
    
    
    203
    
    
    
    
    
    
    
    205Exchange of INX and I-Sector options
    
    
    
    
    
    
    
    
    
    
    5,729
    
    
    
    
    
    
    
    5,729Exchange of INX and I-Sector common stock
    
    
    244,890
    
    
    
    2
    
    
    
    1,528
    
    
    
    
    
    
    
    1,530Issuance of shares for Network Architects acquisition
    
    
    308,166
    
    
    
    3
    
    
    
    1,997
    
    
    
    
    
    
    
    2,000Issuance of shares for InfoGroup Northwest acquisition
    
    
    65,102
    
    
    
    1
    
    
    
    512
    
    
    
    
    
    
    
    513Issuance of stock options
    
    
    
    
    
    
    
    
    
    
    57
    
    
    
    
    
    
    
    57Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (6,926
    )
    
    
    (6,926
    )Balance at June 30, 2005
    
    
    5,965,426
    
    
    $
    60
    
    
    $
    27,539
    
    
    $
    (8,642
    )
    
    $
    18,957
  6




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Six months ended June 30,2004
    
    2005CASH FLOWS FROM OPERATING ACTIVITIES:Net income (loss)
    
    $
    91
    
    
    $
    (6,926
    )Adjustments to reconcile net income (loss) to net cash provided by (used in)
operating activities:Net (gain) loss from discontinued operations
    
    
    3
    
    
    
    (64
    )Tax benefit from discontinued operations
    
    
    (1
    )
    
    
    (33
    )Minority interest
    
    
    6
    
    
    
    23Depreciation and amortization
    
    
    444
    
    
    
    496Loss on retirement of assets
    
    
    23
    
    
    
    28Bad debt expense
    
    
    193
    
    
    
    481Exchange of INX and I-Sector options
    
    
    
    
    
    
    5,729Issuance of stock options
    
    
    
    
    
    
    57Changes in operating assets and liabilities:Accounts and notes receivable
    
    
    (4,434
    )
    
    
    (4,271
    )Inventory
    
    
    (699
    )
    
    
    (7,552
    )Accounts payable
    
    
    3,277
    
    
    
    13,824Other assets and liabilities
    
    
    626
    
    
    
    3,183Net cash provided by (used in) operating activities
    
    
    (471
    )
    
    
    4,975CASH FLOWS FROM INVESTING ACTIVITIES:Acquisition of Network Architects, Corp.
    
    
    
    
    
    
    (2,355
    )Acquisition of InfoGroup Northwest, Inc.
    
    
    
    
    
    
    (1,997
    )Capital expenditures
    
    
    (457
    )
    
    
    (317
    )Net cash used in investing activities
    
    
    (457
    )
    
    
    (4,669
    )CASH FLOWS FROM FINANCING ACTIVITIES:Exercise of stock options
    
    
    85
    
    
    
    205Transaction costs paid for acquisition of INX minority interest
    
    
    
    
    
    
    (180
    )Proceeds from Unit offering
    
    
    7,632
    
    
    
    Payments on notes payable
    
    
    (2,945
    )
    
    
    (57
    )Notes
payable  interest bearing borrowings on credit line
    
    
    1,204
    
    
    
    (159
    )Net cash provided by (used in) financing activities
    
    
    5,976
    
    
    
    (191
    )NET INCREASE IN CASH AND CASH EQUIVALENTS
    
    
    5,048
    
    
    
    115CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD
    
    
    2,172
    
    
    
    4,773CASH AND CASH EQUIVALENTS AT END OF PERIOD
    
    $
    7,220
    
    
    $
    4,888SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:Cash paid for interest
    
    $
    10
    
    
    $
    219SUPPLEMENTAL NONCASH INVESTING AND FINANCING ACTIVITIES:Acquisition of INX minority interest:Issuance of common stock
    
    
    
    
    
    
    1,530Minority interest acquired
    
    
    
    
    
    
    (302
    )Acquisition of Network Architects, Corp.:Fair value of assets acquired
    
    
    
    
    
    
    4,355Common stock issued
    
    
    
    
    
    
    (2,000
    )Acquisition of InfoGroup Northwest, Inc.:Fair value of assets acquired
    
    
    
    
    
    
    2,510Common stock issued
    
    
    
    
    
    
    (513
    )Revaluation of options granted to consultants
    
    
    (163
    )
    
    
    Recognition of additional purchase price on Digital Precision acquisition
through issuance of INX common stock
    
    
    234
    
    
    
    
  7




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1. DESCRIPTION OF BUSINESS
  2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 Basis of Presentation
   Revenue Recognition
  Products Revenue.
 Services Revenue.
  8




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Custom Project Revenue.
 December 31,
    
    June 30,2004
    
    2005Costs incurred on uncompleted contracts
    
    $
    1,675
    
    
    $
    1,568Estimated earnings
    
    
    4,862
    
    
    
    3,098Less: billings to date
    
    
    (4,937
    )
    
    
    (4,029
    )Total
    
    $
    1,600
    
    
    $
    637Included in accompanying balance sheets under the following captions:Cost and estimated earnings in excess of billings
    
    $
    1,663
    
    
    $
    935Billings in excess of cost and estimated earnings
    
    
    (63
    )
    
    
    (298
    )Total
    
    $
    1,600
    
    
    $
    637
 Vendor Incentives
  Stock-Based Compensation
   9




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Three months ended
    
    Six months endedJune 30,
    
    June 30,2004
    
    2005
    
    2004
    
    2005Compensation cost recognized in reported net income (loss), net of tax
    
    $
    
    
    
    $
    57
    
    
    $
    
    
    
    $
    5,786Basic and diluted:Net income (loss) as reported
    
    $
    51
    
    
    $
    (418
    )
    
    $
    91
    
    
    $
    (6,926
    )Deduct: Total stock-based employee compensation determined under fair
value based method for all awards, net of related tax effects
    
    
    23
    
    
    
    500
    
    
    
    45
    
    
    
    540Pro forma net income (loss)
    
    $
    28
    
    
    $
    (918
    )
    
    $
    46
    
    
    $
    (7,466
    )Earnings per share:Basic  as reported
    
    $
    0.01
    
    
    $
    (0.07
    )
    
    $
    0.01
    
    
    $
    (1.27
    )Basic  pro forma
    
    $
    0.01
    
    
    $
    (0.16
    )
    
    $
    0.01
    
    
    $
    (1.33
    )Diluted  as reported
    
    $
    0.01
    
    
    $
    (0.07
    )
    
    $
    0.01
    
    
    $
    (1.27
    )Diluted  pro forma
    
    $
    0.01
    
    
    $
    (0.16
    )
    
    $
    0.01
    
    
    $
    (1.33
    )
   
    
    The modified prospective method, which results in the recognition of
compensation expense using SFAS No. 123(R) for all share-based awards
granted after the effective date and the recognition of compensation
expense using SFAS No. 123 for all previously granted share-based
awards that remain unvested at the effective date; or
    
    The modified retrospective method, which results in applying the
modified prospective method and restating prior periods by recognizing
the financial statement impact of share-based payments in a manner
consistent with the pro forma disclosure requirements of SFAS No. 123.
The modified retrospective method may be applied to all prior periods
presented or previously reported interim periods of the year of
adoption.
   3. ACQUISITIONS
  10




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Network Architects, Corp.
   InfoGroup Northwest, Inc.
    Network
    
    InfoGroupArchitects,
    
    Northwest,Corp.
    
    Inc.Allocated acquisition cost:Intangibles
 customer relationships and noncompete agreements amortized over 3 years
    
    $
    241
    
    
    $
    134Fixed assets
    
    
    500
    
    
    
    297Transaction costs
    
    
    55
    
    
    
    110Goodwill
    
    
    3,559
    
    
    
    1,969Total acquisition cost
    
    $
    4,355
    
    
    $
    2,510
  Pro Forma Summary (Unaudited)
  11




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Three months ended
    
    Six months endedJune 30,
    
    June 30,2004
    
    2005
    
    2004
    
    2005Revenues
    
    $
    28,788
    
    
    $
    40,064
    
    
    $
    48,438
    
    
    $
    76,038Net income (loss) before cumulative effect of change in accounting method
    
    $
    177
    
    
    $
    (271
    )
    
    $
    344
    
    
    $
    (5,794
    )Net income (loss)
    
    $
    177
    
    
    $
    (271
    )
    
    $
    344
    
    
    $
    (6,360
    )Earnings per share:Basic:Net income (loss) before cumulative effect of change in accounting
method
    
    $
    0.04
    
    
    $
    (0.05
    )
    
    $
    0.07
    
    
    $
    (1.00
    )Net income (loss)
    
    $
    0.04
    
    
    $
    (0.05
    )
    
    $
    0.07
    
    
    $
    (1.10
    )Diluted:Net income (loss) before cumulative effect of change in accounting
method
    
    $
    0.03
    
    
    $
    (0.05
    )
    
    $
    0.07
    
    
    $
    (1.00
    )Net income (loss)
    
    $
    0.03
    
    
    $
    (0.05
    )
    
    $
    0.07
    
    
    $
    (1.10
    )Weighted average shares used in calculation:Basic
    
    
    4,954,472
    
    
    
    5,993,271
    
    
    
    4,652,281
    
    
    
    5,805,460Diluted
    
    
    5,310,888
    
    
    
    5,993,271
    
    
    
    5,029,978
    
    
    
    5,805,460
 4. SEGMENT INFORMATION
   INX
    
    Stratasoft
    
    Valerent
    
    Corporate
    
    Eliminations
    
    ConsolidatedRevenue:Products
    
    $
    27,995
    
    
    $
    
    
    
    $
    398
    
    
    $
    
    
    
    $
    (1
    )
    
    $
    28,392Services
    
    
    2,822
    
    
    
    
    
    
    
    1,191
    
    
    
    
    
    
    
    
    
    
    
    4,013Custom projects
    
    
    
    
    
    
    1,943
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,943Total revenue
    
    
    30,817
    
    
    
    1,943
    
    
    
    1,589
    
    
    
    
    
    
    
    (1
    )
    
    
    34,348Gross profit:Products
    
    
    3,480
    
    
    
    
    
    
    
    (8
    )
    
    
    
    
    
    
    
    
    
    
    3,472Services
    
    
    976
    
    
    
    
    
    
    
    458
    
    
    
    
    
    
    
    
    
    
    
    1,434Custom projects
    
    
    
    
    
    
    954
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    954Total gross profit
    
    
    4,456
    
    
    
    954
    
    
    
    450
    
    
    
    
    
    
    
    
    
    
    
    5,860Selling, general and administrative expenses
    
    
    3,664
    
    
    
    1,723
    
    
    
    580
    
    
    
    380
    
    
    
    
    
    
    
    6,347Operating income (loss)
    
    $
    792
    
    
    $
    (769
    )
    
    $
    (130
    )
    
    $
    (380
    )
    
    $
    
    
    
    
    (487
    )Interest and other income (expense), net
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (28
    )Loss before income taxes and minority interest
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (515
    )Income tax benefit
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    33Net gain on disposal of discontinued operations, net of taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    64Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    (418
    )
  INX
    
    Stratasoft
    
    Valerent
    
    Corporate
    
    Eliminations
    
    ConsolidatedRevenue:Products
    
    $
    16,354
    
    
    $
    
    
    
    $
    505
    
    
    $
    
    
    
    $
    (250
    )
    
    $
    16,609Services
    
    
    1,625
    
    
    
    
    
    
    
    1,484
    
    
    
    
    
    
    
    
    
    
    
    3,109Custom projects
    
    
    
    
    
    
    2,169
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    2,169Total revenue
    
    
    17,979
    
    
    
    2,169
    
    
    
    1,989
    
    
    
    
    
    
    
    (250
    )
    
    
    21,887Gross profit:Products
    
    
    1,914
    
    
    
    
    
    
    
    45
    
    
    
    
    
    
    
    
    
    
    
    1,959Services
    
    
    480
    
    
    
    
    
    
    
    577
    
    
    
    
    
    
    
    
    
    
    
    1,057Custom projects
    
    
    
    
    
    
    1,283
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,283Total gross profit
    
    
    2,394
    
    
    
    1,283
    
    
    
    622
    
    
    
    
    
    
    
    
    
    
    
    4,299
 12




---



##### Table of Contents



INX
    
    Stratasoft
    
    Valerent
    
    Corporate
    
    Eliminations
    
    ConsolidatedSelling, general and administrative expenses
    
    
    2,318
    
    
    
    1,131
    
    
    
    486
    
    
    
    301
    
    
    
    
    
    
    
    4,236Operating income (loss)
    
    $
    76
    
    
    $
    152
    
    
    $
    136
    
    
    $
    (301
    )
    
    $
    
    
    
    
    63Interest and other income, net
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (26
    )Income from continuing operations
before income taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    37Income tax benefit
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    7Net income from continuing operations
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    44Minority interest
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (6
    )Net gain on disposal of discontinued
operations, net of taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    13Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    51
  INX
    
    Stratasoft
    
    Valerent
    
    Corporate
    
    Eliminations
    
    ConsolidatedRevenue:Products
    
    $
    51,148
    
    
    $
    
    
    
    $
    800
    
    
    $
    
    
    
    $
    (22
    )
    
    $
    51,926Services
    
    
    4,330
    
    
    
    
    
    
    
    2,476
    
    
    
    
    
    
    
    
    
    
    
    6,806Custom projects
    
    
    
    
    
    
    3,384
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,384Total revenue
    
    
    55,478
    
    
    
    3,384
    
    
    
    3,276
    
    
    
    
    
    
    
    (22
    )
    
    
    62,116Gross profit:Products
    
    
    6,817
    
    
    
    
    
    
    
    1
    
    
    
    
    
    
    
    
    
    
    
    6,818Services
    
    
    1,300
    
    
    
    
    
    
    
    991
    
    
    
    
    
    
    
    
    
    
    
    2,291Custom projects
    
    
    
    
    
    
    1,663
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,663Total gross profit
    
    
    8,117
    
    
    
    1,663
    
    
    
    992
    
    
    
    
    
    
    
    
    
    
    
    10,772Selling, general and administrative expenses
    
    
    6,622
    
    
    
    2,956
    
    
    
    1,120
    
    
    
    6,433
    
    
    
    
    
    
    
    17,131Operating income (loss)
    
    $
    1,495
    
    
    $
    (1,293
    )
    
    $
    (128
    )
    
    $
    (6,433
    )
    
    $
    
    
    
    
    (6,359
    )Interest and other income (expense), net
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (75
    )Loss before income taxes and minority interest
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (6,434
    )Income tax benefit
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    33Minority interest
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (23
    )Net gain on disposal of discontinued operations, net of taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    64Net loss before cumulative effect of change in accounting method
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (6,360
    )Cumulative effect of change in application of percentage of
completion method
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (566
    )Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    (6,926
    )
  INX
    
    Stratasoft
    
    Valerent
    
    Corporate
    
    Eliminations
    
    ConsolidatedRevenue:Products
    
    $
    26,415
    
    
    $
    
    
    
    $
    839
    
    
    $
    
    
    
    $
    (451
    )
    
    $
    26,803Services
    
    
    2,538
    
    
    
    
    
    
    
    2,515
    
    
    
    
    
    
    
    
    
    
    
    5,053Custom projects
    
    
    
    
    
    
    4,306
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4,306Total revenue
    
    
    28,953
    
    
    
    4,306
    
    
    
    3,354
    
    
    
    
    
    
    
    (451
    )
    
    
    36,162Gross profit:Products
    
    
    3,593
    
    
    
    
    
    
    
    68
    
    
    
    
    
    
    
    
    
    
    
    3,661Services
    
    
    803
    
    
    
    
    
    
    
    912
    
    
    
    
    
    
    
    
    
    
    
    1,715Custom projects
    
    
    
    
    
    
    2,458
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    2,458Total gross profit
    
    
    4,396
    
    
    
    2,458
    
    
    
    980
    
    
    
    
    
    
    
    
    
    
    
    7,834Selling, general and administrative expenses
    
    
    4,202
    
    
    
    2,150
    
    
    
    876
    
    
    
    506
    
    
    
    
    
    
    
    7,734Operating income (loss)
    
    $
    194
    
    
    $
    308
    
    
    $
    104
    
    
    $
    (506
    )
    
    $
    
    
    
    
    100Interest and other income, net
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (6
    )Income from continuing operations
before income taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    94Income tax benefit
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1Net income from continuing operations
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    95Minority interest
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (6
    )Net gain on disposal of discontinued
operations, net of taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    2Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    91
 5. CHANGE IN APPLICATION OF ACCOUNTING METHOD
  13




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##### Table of Contents



6. EARNINGS PER SHARE
   Three months ended June 30,
    
    Six months ended June 30,2004
    
    2005
    
    2004
    
    2005Numerator for basic earnings per share:Net income (loss) from continuing operations before minority interest
    
    $
    44
    
    
    $
    (482
    )
    
    $
    95
    
    
    $
    (6,401
    )Minority interest
    
    
    (6
    )
    
    
    
    
    
    
    (6
    )
    
    
    (23
    )Gain on disposal of discontinued operations, net of taxes
    
    
    13
    
    
    
    64
    
    
    
    2
    
    
    
    64Cumulative effect of change in accounting method
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (566
    )Net income (loss)
    
    $
    51
    
    
    $
    (418
    )
    
    $
    91
    
    
    $
    (6,926
    )Numerator for diluted earnings per share:Net income (loss) from continuing operations before minority interest
    
    $
    44
    
    
    $
    (482
    )
    
    $
    95
    
    
    $
    (6,401
    )Minority interest
    
    
    (6
    )
    
    
    
    
    
    
    (6
    )
    
    
    (23
    )INX income attributable to potential minority interest net income
(loss) from continuing operations used in computing loss per share
    
    
    
    
    
    
    
    
    
    
    (5
    )
    
    
    Gain on disposal of discontinued operations, net of taxes
    
    
    13
    
    
    
    64
    
    
    
    2
    
    
    
    64Cumulative effect of change in accounting method
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (566
    )Net income (loss)
    
    $
    51
    
    
    $
    (418
    )
    
    $
    86
    
    
    $
    (6,926
    )Denominator
for basic earnings per share  weighted-average shares
outstanding
    
    
    4,582,790
    
    
    
    5,621,589
    
    
    
    4,280,599
    
    
    
    5,433,778Effect of dilutive securities  shares issuable from assumed
conversion of common stock options and restricted stock
    
    
    356,416
    
    
    
    
    
    
    
    377,697
    
    
    
    Denominator
for diluted earnings per share  weighted-average shares
outstanding
    
    
    4,939,206
    
    
    
    5,621,589
    
    
    
    4,658,296
    
    
    
    5,433,778
 7. STOCKHOLDERS EQUITY
 Elimination of Minority Interest in INX
  14




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##### Table of Contents



Common Stock Repurchase Plan
  Warrants
   8. STOCK OPTION PLANS
   15




---



##### Table of Contents



Weighted AveShares
    
    Exercise PriceOptions outstanding at beginning of the period
    
    
    652,921
    
    
    $
    3.37Granted during the period
    
    
    218,500
    
    
    $
    6.25INX options assumed at conversion rate
    
    
    1,123,103
    
    
    $
    1.15Exercised during the period
    
    
    (145,914
    )
    
    $
    1.41Cancelled during the period
    
    
    (10,000
    )
    
    $
    8.06Options outstanding at end of period
    
    
    1,838,610
    
    
    $
    2.54Options exercisable at end of period
    
    
    1,546,262
    
    
    $
    1.83Options outstanding price range
    
    $
    0.01 to $7.76Weighted average fair value of options granted during the period
    
    $
    6.25Options weighted average remaining life
    
    
    7.32 Years
 Outstanding
    
    
    
    
    
    ExercisableWeightedAverage
    
    Weighted
    
    
    
    
    
    WeightedRemaining
    
    Average
    
    
    
    
    
    AverageOutstanding
    
    Contractual
    
    Exercise
    
    Exercisable
    
    ExerciseShares
    
    Life
    
    Price
    
    Shares
    
    Price$0.01 to $0.99
    
    
    108,747
    
    
    
    5.53
    
    
    $
    0.10
    
    
    
    103,747
    
    
    $
    0.11$1.00 to $1.99
    
    
    1,167,750
    
    
    
    6.78
    
    
    
    1.33
    
    
    
    1,154,517
    
    
    
    1.33$2.00 to $3.99
    
    
    96,680
    
    
    
    7.61
    
    
    
    2.61
    
    
    
    96,530
    
    
    
    2.61$4.00 to $6.99
    
    
    231,933
    
    
    
    8.52
    
    
    
    4.62
    
    
    
    139,801
    
    
    
    4.56$7.00 to $7.76
    
    
    233,500
    
    
    
    9.53
    
    
    
    7.59
    
    
    
    51,667
    
    
    
    7.57Total
    
    
    1,838,610
    
    
    
    7.32
    
    
    $
    2.54
    
    
    
    1,546,262
    
    
    $
    1.83
 9. DEBT
  10. DISCONTINUED OPERATIONS
  11. RECLASSIFICATIONS
  16




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
  Special notice regarding forward-looking statements
  General
   Acquisitions
  Network Architects, Corp.
   17




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##### Table of Contents



InfoGroup Northwest, Inc.
   Elimination of Minority Interest in INX
      Change in the Application of Accounting Method for Stratasoft Projects
  18




---



##### Table of Contents



Results Of Operations
 Overview
 Sources of Revenue.
   19




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##### Table of Contents



Gross Profit and Gross Profit Margin
   20




---



##### Table of Contents



Selling, General and Administrative Expenses
  Tax Loss Carryforward.
 Period Comparisons.
 Three months ended June 30,2004
    
    2005Amount
    
    %
    
    Amount
    
    %(Dollars in thousands)RevenueINX product
    
    $
    16,354
    
    
    
    74.7
    
    
    $
    27,995
    
    
    
    81.5INX service
    
    
    1,625
    
    
    
    7.4
    
    
    
    2,822
    
    
    
    8.2Total INX revenue
    
    
    17,979
    
    
    
    82.1
    
    
    
    30,817
    
    
    
    89.7Stratasoft  Custom projects
    
    
    2,169
    
    
    
    9.9
    
    
    
    1,943
    
    
    
    5.7Valerent product
    
    
    505
    
    
    
    2.3
    
    
    
    398
    
    
    
    1.2Valerent service
    
    
    1,484
    
    
    
    6.8
    
    
    
    1,191
    
    
    
    3.5Total Valerent revenue
    
    
    1,989
    
    
    
    9.1
    
    
    
    1,589
    
    
    
    4.6Eliminations revenue
    
    
    (250
    )
    
    
    (1.1
    )
    
    
    (1
    )
    
    
    0.0Total revenue
    
    
    21,887
    
    
    
    100.0
    
    
    
    34,348
    
    
    
    100.0Gross profit:INX product
    
    
    1,914
    
    
    
    11.7
    
    
    
    3,480
    
    
    
    12.4INX service
    
    
    480
    
    
    
    29.5
    
    
    
    976
    
    
    
    34.6Total INX gross profit
    
    
    2,394
    
    
    
    13.3
    
    
    
    4,456
    
    
    
    14.5Stratasoft  Custom projects
    
    
    1,283
    
    
    
    59.2
    
    
    
    954
    
    
    
    49.1Valerent product
    
    
    45
    
    
    
    8.9
    
    
    
    (8
    )
    
    
    (2.0
    )Valerent service
    
    
    577
    
    
    
    38.9
    
    
    
    458
    
    

    
    38.5Total Valerent gross profit
    
    
    622
    
    
    
    31.3
    
    
    
    450
    
    
    
    28.3Total gross profit
    
    
    4,299
    
    
    
    19.6
    
    
    
    5,860
    
    
    
    17.1Selling, general and administrative expenses:INX
    
    
    2,318
    
    
    
    12.9
    
    
    
    3,664
    
    
    
    11.9Stratasoft
    
    
    1,131
    
    
    
    52.1
    
    
    
    1,723
    
    
    
    88.7Valerent
    
    
    486
    
    
    
    24.4
    
    
    
    580
    
    
    
    36.5Corporate
    
    
    301
    
    
    
    N/A
    
    
    
    380
    
    
    
    N/A
 21




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##### Table of Contents



Three months ended June 30,2004
    
    2005Amount
    
    %
    
    Amount
    
    %(Dollars in thousands)Total selling, general and administrative expenses
    
    
    4,236
    
    
    
    19.4
    
    
    
    6,347
    
    
    
    18.5Operating income (loss):INX
    
    
    76
    
    
    
    0.4
    
    
    
    792
    
    
    
    2.6Stratasoft
    
    
    152
    
    
    
    7.0
    
    
    
    (769
    )
    
    
    (39.5
    )Valerent
    
    
    136
    
    
    
    6.8
    
    
    
    (130
    )
    
    
    (8.2
    )Corporate
    
    
    (301
    )
    
    
    N/A
    
    
    
    (380
    )
    
    
    N/ATotal operating (loss) income
    
    
    63
    
    
    
    0.3
    
    
    
    (487
    )
    
    
    (1.4
    )Interest and other income (expense), net
    
    
    (26
    )
    
    
    (0.1
    )
    
    
    (28
    )
    
    
    (0.1
    )Income (loss) from continuing operations before income taxes
    
    
    37
    
    
    
    0.2
    
    
    
    (515
    )
    
    
    (1.5
    )Income tax benefit
    
    
    (7
    )
    
    
    0.0
    
    
    
    (33
    )
    
    
    (0.1
    )Net income (loss) from continuing operations before minority interest
    
    
    44
    
    
    
    0.2
    
    
    
    (482
    )
    
    
    (1.4
    )Minority interest
    
    
    (6
    )
    
    
    0.0
    
    
    
    
    
    
    
    Gain on disposal of discontinued operations, net of taxes
    
    
    13
    
    
    
    (0.0
    )
    
    
    64
    
    
    
    0.2Net income (loss) before change in accounting method
    
    
    51
    
    
    
    0.2
    
    
    
    (418
    )
    
    
    (1.2
    )Cumulative effect of change in application of percentage of completion method
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Net income (loss)
    
    $
    51
    
    
    
    0.2
    
    
    $
    (418
    )
    
    
    (1.2
    )
 Three Months Ended June 30, 2004 Compared To the Three Months Ended June 30, 2005
 Revenue
     Gross Profit
   22




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##### Table of Contents



Selling, General and Administrative Expenses
  
    
    Selling, general, and administrative expenses of locations acquired in the second quarter
of 2005 were $224 and primarily consisted of sales and administrative wages, commissions,
and related payroll taxes.
    
    Sales compensation increased $571 exclusive of expenses at acquired locations due to
increased commissions related to the increased gross profit dollars generated and additional
personnel hired to generate continued revenue growth.
    
    Management and administrative compensation expense increased $379 exclusive of
expenses at acquired locations due to increased administrative and management salaries and
wages of $240 related primarily to hiring additional personnel, acquisition related bonuses
of $60, and nonqualified stock option expense of $57.
    
    Bad debt expense increased $388 primarily due to an increase in the allowance in the
Stratasoft segment.
    
    General office expenses increased $200 exclusive of expenses at acquired locations due to
increased printing, advertising, and office supplies costs directly related to the generally
increased size of the organization.
    
    Professional fees increased $139 primarily due to Sarbanes-Oxley consulting services of $106.
    
    Telephone, communication, and utility expenses increased $89 primarily due to INX office growth and relocation.
    
    Travel increased $34 primarily due to increased INX travel related to acquisitions activity.
  Operating Profit (Loss)
 Interest and Other Income (Expense), Net
 Gain on disposal of discontinued operations, net of tax.
 Net income (loss)
 23




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##### Table of Contents



Six months ended June 30,2004
    
    2005Amount
    
    %
    
    Amount
    
    %(Dollars in thousands)RevenueINX product
    
    $
    26,415
    
    
    
    73.0
    
    
    $
    51,148
    
    
    
    82.3INX service
    
    
    2,538
    
    
    
    7.0
    
    
    
    4,330
    
    
    
    7.0Total INX revenue
    
    
    28,953
    
    
    
    80.0
    
    
    
    55,478
    
    
    
    89.3Stratasoft
 Custom projects
    
    
    4,306
    
    
    
    11.9
    
    
    
    3,384
    
    
    
    5.4Valerent product
    
    
    839
    
    
    
    2.3
    
    
    
    800
    
    
    
    1.3Valerent service
    
    
    2,515
    
    
    
    7.0
    
    
    
    2,476
    
    
    
    4.0Total Valerent revenue
    
    
    3,354
    
    
    
    9.3
    
    
    
    3,276
    
    
    
    5.3Eliminations revenue
    
    
    (451
    )
    
    
    (1.2
    )
    
    
    (22
    )
    
    
    (0.0
    )Total revenue
    
    
    36,162
    
    
    
    100.0
    
    
    
    62,116
    
    
    
    100.0Gross profit:INX product
    
    
    3,593
    
    
    
    13.6
    
    
    
    6,817
    
    
    
    13.3INX service
    
    
    803
    
    
    
    31.6
    
    
    
    1,300
    
    
    
    30.0Total INX gross profit
    
    
    4,396
    
    
    
    15.2
    
    
    
    8,117
    
    
    
    14.6Stratasoft
 Custom projects
    
    
    2,458
    
    
    
    57.1
    
    
    
    1,663
    
    
    
    49.1Valerent product
    
    
    68
    
    
    
    8.1
    
    
    
    1
    
    
    
    0.1Valerent service
    
    
    912
    
    
    
    36.3
    
    
    
    991
    
    
    
    40.0Total Valerent gross profit
    
    
    980
    
    
    
    29.2
    
    
    
    992
    
    
    
    30.3Total gross profit
    
    
    7,834
    
    
    
    21.7
    
    
    
    10,772
    
    
    
    17.3Selling, general and administrative expenses:INX
    
    
    4,202
    
    
    
    14.5
    
    
    
    6,622
    
    
    
    11.9Stratasoft
    
    
    2,150
    
    
    
    49.9
    
    
    
    2,956
    
    
    
    87.4Valerent
    
    
    876
    
    
    
    26.1
    
    
    
    1,120
    
    
    
    34.2Corporate
    
    
    506
    
    
    
    N/A
    
    
    
    6,433
    
    
    
    N/ATotal selling, general and administrative expenses
    
    
    7,734
    
    
    
    21.4
    
    
    
    17,131
    
    
    
    27.6Operating income (loss):INX
    
    
    194
    
    
    
    0.7
    
    
    
    1,495
    
    
    
    2.7Stratasoft
    
    
    308
    
    
    
    7.2
    
    
    
    (1,293
    )
    
    
    (38.2
    )Valerent
    
    
    104
    
    
    
    3.1
    
    
    
    (128
    )
    
    
    (3.9
    )Corporate
    
    
    (506
    )
    
    
    N/A
    
    
    
    (6,433
    )
    
    
    N/ATotal operating (loss) income
    
    
    100
    
    
    
    0.3
    
    
    
    (6,359
    )
    
    
    (10.2
    )Interest and other income (expense), net
    
    
    (6
    )
    
    
    0.0
    
    
    
    (75
    )
    
    
    (0.1
    )Income (loss) from continuing operations before income taxes
    
    
    94
    
    
    
    0.3
    
    
    
    (6,434
    )
    
    
    (10.3
    )Income tax benefit
    
    
    (1
    )
    
    
    0.0
    
    
    
    (33
    )
    
    
    (0.1
    )Net income (loss) from continuing operations before minority interest
    
    
    95
    
    
    
    0.3
    
    
    
    (6,401
    )
    
    
    (10.4
    )Minority interest
    
    
    (6
    )
    
    
    0.0
    
    
    
    (23
    )
    
    
    (0.0
    )Gain on disposal of discontinued operations, net of taxes
    
    
    2
    
    
    
    0.0
    
    
    
    64
    
    
    
    0.1Net income (loss) before change in accounting method
    
    
    91
    
    
    
    0.3
    
    
    
    (6,360
    )
    
    
    (10.3
    )Cumulative effect of change in application of percentage of completion method
    
    
    
    
    
    
    
    
    
    
    (566
    )
    
    
    (0.9
    )Net income (loss)
    
    $
    91
    
    
    
    0.3
    
    
    $
    (6,926
    )
    
    
    (11.2
    )
 Six Months Ended June 30, 2004 Compared To the Six Months Ended June 30, 2005
 Revenue
  24




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##### Table of Contents



Gross Profit
    Selling, General and Administrative Expenses
  
    
    Selling, general, and administrative expenses of locations acquired in the second quarter
of 2005 were $224 and primarily consisted of sales and administrative wages, commissions,
and related payroll taxes.
    
    Management and administrative compensation expense increased $6,593 exclusive of
expenses at acquired locations due to the one-time noncash charge of $5,729 related to
option remeasurement associated with the INX minority interest exchange, increased
administrative and management salaries and wages of $586 related primarily to hiring
additional personnel, acquisition related bonuses of $60, and nonqualified stock option
expense of $57.
    
    Sales compensation increased $1,083 exclusive of expenses at acquired locations due to
increased commissions generated from the increased gross profit dollars and additional
personnel hired to generate continued revenue growth.
    
    Bad debt expense increased $600 primarily due to an increase in the allowance in the
Stratasoft segment.
    
    General office expenses increased $233 exclusive of expenses at acquired locations due to
increased printing, advertising, and office supplies costs directly related to the generally
increased size of the organization.
    
    Professional fees increased $167 primarily due to Sarbanes-Oxley consulting services of
$131.
    
    Telephone, communication, and utility expenses increased $141 exclusive of expenses at
acquired locations primarily due to INX office growth and relocation.
 25




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##### Table of Contents




    
    Shareholder relations increased $116 primarily due to costs associated with printing and
mailing proxy statements related to the INX minority interest conversion, and due to
increased attendance at investor conferences and investor group visits.
    
    Travel increased $106 primarily due to increased INX travel related to acquisitions
activity.
    
    Rent increased $68 exclusive of expenses at acquired locations primarily due to the
relocation of our Dallas, Texas office facility and the addition of the San Antonio, Texas
office in mid-2004.
  Operating Profit (Loss)
 Interest and Other Income (Expense), Net
 Minority interest
 Gain on disposal of discontinued operations, net of tax.
 Cumulative Effect of Change in Accounting Method.
 Net income (loss)
 Liquidity and Capital Resources
 Sources of Liquidity
  Accounts and Notes Receivable.
 26




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##### Table of Contents



Inventory.
 Contractual Obligations
  Payments Due by PeriodLess
    
    
    
    
    
    
    
    
    
    AfterThan
    
    13
    
    45
    
    5Contractual Obligations
    
    Total
    
    1 Year
    
    Years
    
    Years
    
    Years(Dollars in thousands)Lease obligations
    
    $
    2,283
    
    
    $
    877
    
    
    $
    1,163
    
    
    $
    243
    
    
    $
    Other debt obligations
    
    
    151
    
    
    
    87
    
    
    
    64
    
    
    
    
    
    
    
    Total contractual cash obligations
    
    $
    2,434
    
    
    $
    964
    
    
    $
    1,227
    
    
    $
    243
    
    
    $
    
 27




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##### Table of Contents



Textron Facility.
      
    
    maintain Minimum Tangible Capital Funds of $9.5 million, which is defined to be the sum
of cash, receivables, inventory and fixed net assets, minus total liabilities, with total
liabilities being defined as accounts payable, accrued expenses and short- and long-term
notes payable;
    
    maintain a maximum Debt to Tangible Capital Funds ratio of 4.0 to 1;
    
    maintain Minimum Working Capital of not less than $8.0 million;
    
    maintain Minimum Cash on Hand of not less than $2.0 million;
    
    maintain a Current Ratio of not less than 1.25 to 1.0; and
    
    achieve Earnings before Interest Expense, Taxes, Depreciation and Amortization (EBITDA) exceeding $100,000.
  28




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##### Table of Contents



Cash Flows.
 Operating Activities.
  
    
    Increases in accounts payable of $13,824, which related primarily to increased purchases
of Cisco products for sales by INX, which was partially offset by the $7,552 increase in
inventory for customer orders shipped in the third quarter.
    
    Contracts in progress which, increased $963 due to a $728 decrease in the cost and
estimated earnings in excess of billings and an $235 increase in billings in excess of cost
and estimated earnings, which was primarily due to the lower Stratasoft revenues discussed
above .
    
    The $2,293 increase in accrued expense is primarily related to accruing for sales
commissions, wages and bonuses; third party commissions and professional fees, which
increased consistent with the increase in sales.
  Investing Activities.
 Financing Activities.
 Related Party Transactions
   
 Item 3. Quantitative and Qualitative Disclosures about Market Risk
   29




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##### Table of Contents



Item 4. Controls and Procedures
   
 PART II. OTHER INFORMATION
 
 Item 1. Legal Proceedings
   
 Item 4. Submission of Matters to a Vote of Security Holders
  30




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##### Table of Contents



Number of Votes
    
    Number of Votes
    
    Number of Votes
    
    BrokerVoted For
    
    Voted Against
    
    Withheld
    
    Non-VoteElection of Directors:James H. Long
    
    
    4,887,935
    
    
    
    
    
    
    
    142,249
    
    
    
    Donald R. Chadwick
    
    
    4,887,435
    
    
    
    
    
    
    
    142,749
    
    
    
    Cary M. Grossman
    
    
    4,966,234
    
    
    
    
    
    
    
    63,950
    
    
    
    John B. Cartwright
    
    
    4,954,343
    
    
    
    
    
    
    
    75,841
    
    
    
    Amend the I-Sector Corporation Incentive Plan
    
    
    2,684,131
    
    
    
    205,283
    
    
    
    13,885
    
    
    
    2,126,885
 
 Item 5. Other Information
 None
 
 Item 6. Exhibits
 10.1
    
    Employment Agreement by and between I-Sector Corp. and Larry Lawhorn dated April 5, 200531.1
    
    Rule 13a-14(a)/15d-14(a) Certification of Principal Executive Officer31.2
    
    Rule 13a-14(a)/15d-14(a) Certification of Principal Financial Officer32.1
    
    Section 1350 Certification of Principal Executive Officer32.2
    
    Section 1350 Certification of Principal Financial Officer
 
   I-Sector Corporation.Date: August 15, 2005
    By:
    /s/ BRIAN FONTANABrian Fontana, Vice Presidentand Chief Financial Officer 31




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##### Table of Contents



Index to Exhibits
 10.1
    
    Employment Agreement by and between I-Sector Corp. and Larry Lawhorn dated April 5, 200531.1
    
    Rule 13a-14(a)/15d-14(a) Certification of Principal Executive Officer31.2
    
    Rule 13a-14(a)/15d-14(a) Certification of Principal Financial Officer32.1
    
    Section 1350 Certification of Principal Executive Officer32.2
    
    Section 1350 Certification of Principal Financial Officer
 32