**U.S.
      SECURITIES AND EXCHANGE COMMISSION**


**WASHINGTON,
      D.C. 20549**





**FORM
      10-KSB/A**


**(Mark
      one)**




x
            ANNUAL
                REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
                1934




For
                the fiscal year ended December 31,
                2006




OR




o
            TRANSITION
                REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
                1934




For
      the
      transition period from ____________ to _______________





Commission
      File No. **814-00631**





**Homeland
      Security Capital Corporation**


(Exact
      Name of Registrant as Specified in Charter)





**Delaware**
            **52-2050585**
            **4100
                North Fairfax Drive, Suite 1150,**
              **Arlington,
                Virginia 22203-1664**(State
                or other jurisdiction
                of
                  incorporation)
            (IRS
                Employer
                Identification
                  No.)
            (Address
                of principal executive offices) (Zip
                Code)





Registrant’s
                telephone number, including area code:**(703)
                528-7073****Common
                Stock, par value $.001 per share**(Title
                of Class)




Securities
      Registered Under Section 12(b) of the Exchange Act: Common Stock, $0.001 par
      value





Securities
      Registered Under Section 12(g) of the Exchange Act: None





Indicate
      by check mark if the issuer is not required to file reports pursuant to section
      13 or 15(d) of the Exchange Act.


Yes o No þ





Check
      whether the issuer (1) filed all reports required to be filed by Section 13
      or
      15(d) of the Securities Exchange Act, as amended (the “Exchange Act”) during the
      past 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 þ No o





Check
      if
      there is no disclosure of delinquent filers in response to Item 405 of
      Regulation S-B contained in this form, and no disclosure will 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-KSB or any
      amendment to this Form 10-KSB/A. þ





Indicate
      by check mark whether the registrant is a shell company (as defined in Rule
      12b-2 of the Act). Yes o No þ





State
      registrant’s revenues for the fiscal year ended December 31, 2006 were:
      $8,682,245.




The
      aggregate market value of common stock held by non-affiliates of the registrant
      as of March 26, 2007, was approximately $2,280,000 based on the
      closing price on the Over-The-Counter Bulletin Board market. For purposes of
      this computation, shares held by certain stockholders and by directors and
      executive officers of the registrant have been excluded. Such exclusion of
      shares held by such persons is not intended, nor shall it be deemed, to be
      an
      admission that such persons are affiliates of the Registrant. There were
      4,175,525,035 shares of the Registrant’s common stock, par value $.001 per share
      (the “Common Stock”) outstanding at March 26, 2007.




**DOCUMENTS
      INCORPORATED BY REFERENCE**




[Not
      applicable]









**TABLE
      OF CONTENTS**


FORWARD-LOOKING
                  STATEMENTS AND ASSOCIATED RISKS
              
              1PART
                  I
              
              2Item
                  1. Business
              
              2Item
                  2. Properties
              
              23Item
                  3. Legal Proceedings
              
              23Item
                  4. Submission Of Matters To A Vote Of Security Holders
              
              23PART
                  II
              
              24Item
                  5. Market For Common Equity, Related Stock Holder Matters and Issuer
                  Purchases Of Equity Securities
              
              24Item
                  6. Management’s Discussion And Analysis Of Financial Condition and Results
                  Of Operations
              
              26Item
                  7. Financial Statements
              
              30Item
                  8. Changes In And Disagreements With Accountants On Accounting
                  And
                  Financial Disclosure
              
              30Item
                  8A. Controls And Procedures
              
              30Item
                  8B. Other Information
              
              31PART
                  III
              
              32Item
                  9. Directors And Executive Officers
              
              32Item
                  10. Executive Compensation
              
              34Item
                  11. Security Ownership Of Certain Beneficial Owners And Management
                  And
                  Related Stockholder
              
              36Item
                  12. Certain Relationships And Related Transactions and Director
                  Independence
              
              37Item
                  13. Exhibits
              
              39Item
                  14. Principal Accountant Fees And Services
              
              41SIGNATURES
              
              43EXHIBIT
                  31.1EXHIBIT
                  32.1




This
      Annual Report on Form 10-KSB/A contains forward-looking statements that involve
      certain risks and uncertainties. Homeland Security Capital Corporation’s actual
      results could differ materially from the results discussed in the
      forward-looking statements. See “Description of Business”, “Risk Factors” and
“Forward-Looking Statements and Associated Risks.”




**Explanatory
      Note:**




Subsequent
      to the filing of its annual report on Form
      10KSB for the year ended December 31, 2006, Homeland Security Capital
      Corporation determined that the allocation of accumulated deficit and
      operational losses to minority interest was incorrect. Accordingly, this Annual
      Report on Form 10KSB/A and the revised financial statements included herein
      are being filed to reflect correction of the accounting error.




i




**FORWARD-LOOKING
      STATEMENTS AND ASSOCIATED RISKS**




Information
      included or incorporated by reference in this filing may contain forward-looking
      statements within the meaning of Section 27A of the Securities Act of 1933,
      as
      amended (the “Securities Act”) and Section 21E of the Securities Exchange Act of
      1934, as amended (the “Exchange Act”). This information may involve known and
      unknown risks, uncertainties and other factors which may cause our actual
      results, performance or achievements to be materially different from the future
      results, performance or achievements expressed or implied by any forward-looking
      statements. Forward-looking statements, which involve assumptions and describe
      our future plans, strategies and expectations, are generally identifiable by
      use
      of the words “may,” “will,” “should,” “expect,” “anticipate,” “estimate,”
“believe,” “intend” or “project” or the negative of these words or other
      variations on these words or comparable terminology.




This
      filing contains forward-looking statements, including statements regarding,
      among other things, our (a) projected revenues and profitability, (b) growth
      strategies, (c) future financing plans and (d) anticipated needs for working
      capital. These statements may be found under “Management’s Discussion and
      Analysis of Financial Condition and Results of Operations” and “Business,” as
      well as in this prospectus generally. Actual events or results may differ
      materially from those discussed in forward-looking statements as a result of
      various factors, including, without limitation, the risks outlined under “Risk
      Factors” beginning on page 14 and matters described in this filing generally. In
      light of these risks and uncertainties, there can be no assurance that the
      forward-looking statements contained in this filing will in fact
      occur.




1




**PART
      I**




**I** **TEM
        1.** **B** **USINESS**




**History**




Homeland
      Security Capital Corporation (together with any subsidiaries shall be referred
      to as the “Company,” “we,” “us” and “our”) is a consolidator in the fragmented
      homeland security industry. The Company is focused on creating long-term value
      by taking a controlling interest in and developing its subsidiary companies
      through superior operations and management. We intend to operate businesses
      that
      provide homeland security products and services solutions, growing organically
      and by acquisitions. The Company is targeting emerging companies that are
      generating revenues but face challenges in scaling their businesses to
      capitalize on homeland security opportunities. The Company will enhance the
      operations of these companies by helping them generate new business, grow
      revenues and improve cash flows.




The
      Company was incorporated in Delaware in August 1997 under the name “Celerity
      Systems, Inc.” The Company’s original business was to develop and manufacture
      digital set top boxes and digital video servers for interactive television
      and
      high speed internet networks ("interactive video"). The Company also designed, developed, installed, and
      supported CD-ROM software products for business applications. In February 2001,
      the Company completed the sale of its CD-ROM segment. The sales of interactive
      video products were made direct to its customers, except for the education
      market which was conducted through a network of distributors.





On
      June
      3, 2003, the Company elected to become a business development company (“BDC”),
      to be regulated pursuant to Section 54 of the Investment Company Act of 1940,
      as
      amended (the “Investment Company Act”). A business development company is an
      investment company designed to assist eligible portfolio companies with capital
      formation and management advice. Accordingly, the Company changed its business
      plan to primarily seek investments in developing companies.




As
      a BDC,
      the Company had three investments. First, the Company entered into a business
      development agreement with Sagamore Holdings,
      Inc. ("Sagamore")  and
      received 7,500,000 shares of Sagamore common stock as consideration for its
      agreement to provide future services regarding capital formation and management
      advice. These shares no longer have any value. Second, the Company had direct
      investments in two companies, the first being in a wholly-owned subsidiary
      named
      Celerity Systems,
      Inc., a Nevada corporation ("Celerity-Nevada"), and the other a minority
      interest in Yorkville Advisors Management, LLC ("Yorkville"). In the
      fourth quarter of 2004, Celerity-Nevada was closed with the business and related
      assets sold. Yorkville returned the Company’s investment in Yorkville to the
      Company as a liquidating distribution.





On
      December 30, 2005, at a special stockholders meeting, the stockholders of the
      Company voted to amend the Certificate of Incorporation of the Company to change
      the corporate name to “Homeland Security Capital Corporation” and voted to
      withdraw the Company’s election as a BDC. Accordingly, the Company changed its
      business plan to primarily seek acquisition of, and joint ventures with,
      companies that provide homeland security products and services.




**Business
      Overview**




We
      are
      seeking to build consolidated enterprises through the acquisition and
      integration of multiple businesses in the homeland security industry. We are
      seeking to create long-term stockholder value by taking controlling interests
      in
      companies that provide homeland security products and services and helping
      them
      develop through superior operations, management and acquisitions. Our value
      creation strategy is designed to foster significant growth at our platform
      companies by providing leadership and counsel, capital support and financial
      expertise, strategic guidance and operating discipline, access to best practices
      and industry knowledge. We are targeting emerging and established companies
      in
      fragmented sectors of the homeland security industry. These target companies
      are
      generating revenues from promising technologies and security products and
      services but face challenges in scaling their businesses to capitalize on
      opportunities in the homeland security industry.




Our
      goal
      is to become the leading consolidator of product and service companies in the
      fragmented homeland security industry. We believe that our strong
      intergovernmental relationships, the operating and acquisition expertise of
      our
      management team, and our ability to address the needs of our subsidiary
      management teams will allow us to achieve our goal of being the “consolidator of
      choice” of acquisition candidates in the homeland security
      industry.




2




In
      order
      to achieve our goal, we will focus on:




·
            identifying
                acquisition candidates which meet our consolidation criteria, including
                the presence of a strong management team as a platform
                company;




·
            attracting
                and acquiring companies through implantation of our decentralized
                management approach coupled with strong performance incentives, including
                the use of earnouts and contingent purchase payments for selling
                managers;




·
            achieving
                operating efficiencies and synergies by combining non-customer related
                administrative functions, implementing system and technology improvements
                and purchasing products and services in large volumes;
                and




·
            acquiring
                follow-on companies that provide complementary products or services
                to our
                platform companies.




We
      offer
      a range of operational and management services to each of our companies through
      a team of dedicated professionals. Our subsidiaries will compensate our holding
      company for such services. We engage in an ongoing planning and assessment
      process through our involvement and engagement in the development of our
      platform companies, and our executives provide mentoring, advice and guidance
      to
      develop the management of these companies.




In
      general, we expect to hold our ownership interest in our platform companies
      as
      long as we believe that such companies meet our strategic criteria and that
      we
      can leverage our resources to assist them in achieving superior financial
      performance and value growth. When a platform company or other subsidiary no
      longer meets our strategic criteria, we will consider divesting the company
      and
      redeploying the capital realized in other acquisition and development
      opportunities. We may achieve liquidity events through a number of means,
      including sales of an entire company or sales of our interest in a company,
      which may include, in the case of public companies owned by us, sales in the
      open market or in privately negotiated sales and public offerings of the
      company’s securities. We may, in certain cases, take our platform companies
      public through a registered spinoff or stock dividend distribution by
      distributing our subsidiary’s stock held by us to our public stockholders and
      subsequently registering such shares with the United States Securities and
      Exchange Commission (the “SEC”). Alternatively, we may utilize a rights offering
      with respect to particular platform company. A rights offering is an initial
      public offering of a company directed to our stockholders. It involves the
      grant
      by a company to our stockholders of transferable rights to buy shares of the
      company’s stock at a price established by the company, us, and the underwriter,
      and supported by two independent valuations. Our stockholders are able to
      exercise the rights, thereby participating in the initial public
      offering.




**The
      Industry**




We
      believe the homeland security industry is among the fastest growing industries
      in the United States. We believe that the billions of dollars of governmental
      and private sector expenditures for homeland security should result in increased
      demand for homeland security products and services. We also believe that this
      anticipated growth should create attractive acquisition opportunities with
      significant potential for capital appreciation.




The
      homeland security industry is not an easily defined market. In July 2002, the
      Department of Homeland Security published the National Strategy for the Homeland
      Security, which defines homeland security as “a concerted national effort to
      prevent terrorist attacks within the United States, reduce America’s
      vulnerability to terrorism, and minimize the damage and recover from attacks
      that do occur.” It identifies six mission areas:




·
            Intelligence
                and Warning




·
            Border
                and Transportation Security




·
            Domestic
                Counterterrorism




·
            Protection
                of Critical Infrastructure and Key
                Assets




3




·
            Defense
                Against Catastrophic Threats




·
            Emergency
                Preparedness and Response




According
      to Homeland Security Research Corporation, a market research firm, assuming
      no
      new major terrorist attack, the worldwide homeland security market, including
      private sector expenditures, is forecasted to grow by nearly 100% from $231
      billion in 2006 to $518 billion in 2015. According to USBX Advisory Services,
      an
      investment bank serving the security industry, the overall security industry
      is
      highly fragmented with over 130 large, public players and thousands of emerging
      private companies in the industry. Another significant trend impacting the
      homeland security industry is the growing decentralized procurement for homeland
      security products and services between federal, state and local levels. We
      believe that the highly fragmented nature of the homeland security industry,
      and
      of its procurement, is driving growth and consolidation of the
      industry.




**Our
      Solution**




We
      offer
      the financial, managerial and operational resources to address the challenges
      facing our companies. We believe that our experience in developing and operating
      companies enables us to identify and attract companies with the greatest
      potential for success and to create value for our stockholders.




**Management
      and Operational Support**




We
      offer
      management and operational support to our platform companies. We believe these
      services provide our companies with significant competitive advantages in their
      individual markets. The resources that we can provide our companies in order
      to
      accelerate their development include the following:




·
            ***Marketing.***The identification of the company’s market position and the development
                and implementation of effective market penetration, branding and
                marketing
                strategies.




·
            ***Business
                Development.***Providing access to the initial reference customers and external
                marketing
                channels that generate growth opportunities through strategic
                partnerships, joint ventures or
                acquisitions.




·
            ***Technology.***The
                strategic assessment of technology market opportunities and trends;
                the
                design, development and commercialization of proprietary technology
                solutions; and access to complementary technologies and strategic
                partnerships.




·
            ***Operations.***Significant management interaction to optimize a company’s business,
                ranging from the establishment of facilities and administrative processes
                to the operations and financial infrastructure a growing enterprise
                requires.




·
            ***Legal
                and Financial.***The development of appropriate corporate, legal and financial structures
                and the expertise to execute a wide variety of corporate and financial
                transactions.




We
      engage
      in an ongoing planning and assessment process through our involvement and
      engagement in the development of our companies. Our executives provide
      mentoring, advice and guidance to develop the management of our companies.
      Our
      executives will generally serve on the boards of directors of our companies
      and
      work with them to develop and implement strategic and operating plans.
      Achievement of these plans is measured and monitored through reporting of
      performance measurements and financial results.




We
      believe our business model provides us with competitive advantages. Our
      decentralized management approach allows managers of our acquired companies
      to
      benefit from the economies of a larger organization while simultaneously
      retaining local operational control, enabling them to provide flexible and
      responsive service to customers. Such an approach could, however, limit possible
      consolidation efficiencies and integration efforts. In addition, although our
      management team has experience in acquiring and consolidating businesses, we
      are
      unlikely to have experience in the specific sectors of the homeland security
      industry that we select for consolidation. We, therefore, expect to rely in
      part
      upon management of acquired companies or other individuals who are experienced
      in the sectors which we pursue for consolidation.




4




**Operating
      Strategy**




***Capitalize
      on Cross-Selling Opportunities.*** We
      leverage our current client relationships by cross-selling the range of products
      and services offered by our various platform companies. For example, we believe
      cross-selling opportunities will increase as we acquire businesses in other
      sectors of the homeland security industry.




***Achieve
      Operating Efficiencies.*** We
      intend to achieve operating efficiencies within our various platform companies.
      For example, as new businesses are acquired, we believe our existing technology
      infrastructure can support additional customers. At the corporate level, we
      will
      also seek to combine certain administrative functions, such as financial
      reporting, insurance, employee benefits and legal support and to realize volume
      purchasing advantages with respect to travel and other purchases across the
      Company.




***Leverage
      Platform Company Autonomy.*** We
      conduct our operations on decentralized basis whereby management of each
      platform company will be responsible for its day-to-day operations, sales and
      service relationships and the identification of additional acquisition
      candidates in their respective sectors. Our senior management will provide
      the
      platform companies with strategic oversight and guidance with respect to
      acquisitions, financing, marketing, operations and cross selling opportunities.
      We believe that a decentralized management approach will result in better
      customer service by allowing management of each platform company the flexibility
      to implement policies and make decisions based on the needs of customers. This
      management approach is in contrast to the traditional consolidation approach
      used by other consolidators in which the owners/operators and their employees
      are often relieved of management responsibility as a result of complete
      centralization of management in the consolidated enterprises.




***Implement
      Technology.*** We
      utilize technology to enhance our efficiency and ability to monitor our various
      companies. We believe we will be able to increase the operating margin of
      combined acquired companies by using operating and technology systems to improve
      and enhance the operations of the combined acquired companies. We believe that
      many of our acquired companies have not made material investments in such
      operating and technology systems because, as independent entities, they lack
      the
      necessary scale to justify the investment. We believe the implantation of such
      systems may significantly increase the efficiency of our acquired
      companies.




**Acquisition
      Strategy**




***Identify
      and Pursue Strategic Consolidation Opportunities.*** We seek
      to capitalize upon consolidation opportunities in the homeland security industry
      by acquiring companies in growing sectors that will benefit from economies
      of
      scale having some or all of the following characteristics:




·
            generating
                revenues and preferably profits with established
                customers;




·
            long-term
                growth prospects for products and services
                offered;




·
            experienced
                management team willing to continue managing the
                enterprise;




·
            significant
                acquisition consideration that is performance-based;
                and




·
            a
                highly fragmented sector of the homeland security industry characterized
                by significant potential smaller acquisition targets with few market
                leaders in the sector.




We
      believe that the homeland security sectors in which we will pursue consolidation
      opportunities are fragmented and often headed by owners/operators who desire
      some liquidity and may be unable to gain the scale necessary to access the
      capital markets effectively. These owner/operators also may not have access
      to
      the government markets that are characterized by complex and bureaucratic
      processes, protracted sales cycles, and diffused procurement between federal,
      state and local levels.




***Acquire
      Complementary Businesses.*** We
      intend to acquire businesses that offer additional expertise and cross-selling
      opportunities for our platform companies' operations. We also believe that
      adding complementary businesses may offer geographic breadth and expand our
      target markets. Increasing our presence within geographic regions will allow
      us
      to service our clients more efficiently and cost effectively. As our customers’
industries continue to consolidate, we believe that national coverage and
      technology capabilities will become increasingly important.




5




***Acquire
      Strategic New Businesses.*** We
      believe that there are numerous attractive fragmented sectors within the
      homeland security industry, such as products and services for the intelligence
      industry, medical and public health disaster management, surveillance and
      monitoring or remote sensing. By entering any one or more of these sectors,
      we
      may realize additional operating and revenue synergies across our platform
      companies, and may leverage existing relationships to create cross-selling
      opportunities.




**Our
      Platform Companies**




We
      currently conduct our operations through three majority-owned subsidiaries.
      The
      following chart provides certain information about those subsidiaries at
      December 31, 2006:




**Name,
                Address And Headquarters**
            
            **Place
                Of Formation**
            
            **Ownership
                Percentage**
            
            **Business**Nexus
                Technologies Group, Inc.
              7
                West Cross Street
              Hawthorne,
                NY 10532
              www.nexusna.com
            
            Delaware,
                USA
            
            93%
              (remaining
                7% owned by Nexus management and directors)
            
            Nexus
                Technologies Group, Inc. (“Nexus”) was formed in February 2006 and
                designs, develops and installs integrated security systems in the
                Mid-Atlantic region.Security
                Holding Corp.
              10125
                S. 52ndStreet
              Franklin,
                WI 53132
              www.securityinc.com
            
            Delaware,
                USA
            
            61%
              (remaining
                39% owned by SHC management and directors)
            
            Security
                Holding Corp. (“SHC”) was formed in August 2006 and develops,
                manufactures and distributes proprietary radio frequency identification
                (“RFID”) products, access control devices and security
                software.Polimatrix,
                Inc.
              4100
                N. Fairfax Drive
              Suite
                1150
              Arlington,
                VA 22203
              www.polimatrix.com
            
            Virginia,
                USA
            
            51%
              (remaining
                49% owned by Polimaster, Inc.)
            
            Polimatrix,
                Inc. (“PMX”) was formed in September 2006 and designs and manufactures
                proprietary network capable nuclear and radiological detection and
                isotope
                identification devices and distributes other nuclear and radiological
                detection equipment.





As
      a
      result of our ownership percentage and control of the boards of directors of
      the
      above subsidiaries, we consolidate the results of operations, excluding the
      minority interests.




**Platform
      Company Businesses and Products**




During
      2006, our revenues were generated from (1) sales of RFID products, access
      control panels and software products (SHC) and (2) engineering, design and
      installation of security systems and related services (Nexus). We believe that
      sales from these products and services, as well as nuclear
      and radiological
      detection products sold through PMX, will continue to increase during 2007,
      due
      mainly to the (i) increase in the number of products being offered through
      SHC
      and the new customers being attracted by that subsidiary; (ii) the introduction
      of the RadFlash radiological detection device sold by PMX; and (iii) the growth
      in our backlog of services provided by Nexus to approximately $10,000,000.
      Additionally, in 2007 each of these platform companies will have been in
      operation as a subsidiary of the Company on a continuous basis, which we believe
      will enable them to better estimate staffing needs, inventory levels and
      products and services offered.




**Nexus
      Technologies Group, Inc.**




In
      February 2006, the Company organized Nexus as a new subsidiary and purchased
      $3,400,000 of Nexus’ convertible preferred stock. Simultaneously with its
      formation, Nexus acquired 100% of the outstanding common stock of Corporate
      Security Solutions, Inc. (“CSS”), a Pennsylvania corporation doing business as
      Nexus Technologies Group. Nexus, through CSS, provides integrated security
      systems for the corporate and governmental security markets. CSS, organized
      in
      2004, provides its own brand of security integration, taking advantage of the
      rapidly growing field of electronic security. CSS currently has a strong
      presence in the Mid-Atlantic region ** with
      a
      focus on the New York City market.




6




The
      market for integrated security applications is one that is rapidly growing
      as
      the business and public sectors continue to recognize the importance and
      benefits of protecting their personnel, facilities and assets. Nexus is
      positioned to capitalize on this trend and lead the industry in system design
      and innovation. By leveraging a unique combination of the latest technology
      and
      50 years of industry experience, Nexus
      provides innovative, engineered and scaleable solutions to effectively protect
      people, property and assets for regional, national and international
      organizations. Based on a solid reputation for excellence, Nexus is typically
      contracted for the more technically challenging security integration projects.





Nexus
      has
      developed a strong niche in the electronic security market through its ability
      to engineer an open-ended system which combines previously separated systems
      into one. This enables clients to utilize open-ended technology between existing
      security technology and newly developed technology in the security
      sector.




As
      a
      systems integrator, Nexus primarily designs, customizes, installs, connects
      and
      maintains closed circuit television and access control systems for customers
      in
      the private and public sectors. Either together or on a stand-alone basis,
      these
      systems detect and/or reduce crime, prevent unauthorized entry and record
      evidence of infractions or incidents. These systems have proven to be an
      effective tool in improving building and facility security
      management.




Nexus
      has
      also utilized its security engineering capabilities to expand regionally in
      the
      multi-billion dollar electronic security market by contracting for more
      technically challenging projects initiated by medium- to larger-sized clients.
      Recently, Nexus has undertaken projects in a variety of markets, including:
      financial services, corporate and commercial, healthcare, government, utility
      services, public transportation, airports, industrial complexes, museums,
      prisons, higher education and data centers, as well as a national accounts
      program, geared for Fortune 500 companies.




Nexus
      builds partnerships with customers by working closely with them to completely
      understand their specific needs. Security system solutions are a business
      process that impacts all departments in the complex organizations we serve. Nexus understands that to achieve the proper system, an in-depth understanding of
      the
      client’s business and their management information systems is vital. By taking
      the time to achieve a clear understanding of the client’s objectives, Nexus is
      able to maximize return on investment, system performance and customer
      satisfaction. Key tenets of the Nexus delivery program include:




·
            Provide
                excellent care and superior service to our
                customers




·
            Deliver
                consistency and uniformity for each
                project




·
            Put
                forth fully engineered solutions




·
            Engineer
                technology-driven and scalable
                solutions




·
            Possess
                in-house technical knowledge of all the technologies
                utilized




·
            Provide
                professional project management for all
                projects




The
      objective of Nexus is to become a leading systems integrator in security that
      extends its customer base across the country. The key elements of the Company’s
      strategy involve:




·
            Continued
                application of new proven technological solutions for customer security
                needs




·
            Aggressive
                marketing to larger customers and projects regionally and
                nationally




·
            Growth
                by acquisitions of, and joint ventures with, selected systems integrators
                in complimentary geographic areas of the
                country




·
            Expansion
                of our work force in technical, marketing and managerial fields as
                well as
                our dealer network to capitalize on emerging business
                opportunities




7




·
            Establishment
                of additional offices in strategic business
                locations




To
      maintain Nexus’ competitive edge, it is our policy to consistently seek and
      utilize nationally recognized third parties’ advanced technologies applicable to
      our customers’ and the marketplace’s evolving needs.




Nexus
      is
      a non-proprietary provider of integrated security solutions including access
      control, alarm/intrusion, CCTV, communication, perimeter protection and bomb
      and
      metal detection security systems. Nexus is aligned with most of the major
      industry Original Equipment Manufacturers (OEMs), which provides our clients
      with flexibility and cost efficiency. This is a key aspect of the Nexus business
      model. While the technology that Nexus incorporates into its integrated
      electronic security systems is highly sophisticated and proprietary, Nexus
      has
      followed a policy of using commercial off-the-shelf technology (COTS) for the
      individual components that make up a system. This minimizes development costs
      on
      the front-end and ensures and provides the system with scalability and lower
      maintenance costs on the back-end.




The
      systems developed by Nexus pull together all core facility security systems
      and
      seamlessly integrate information from these different enterprise subsystems.
      Ultimately, its engineered solutions enable its customers to have information
      they need to make critical decisions quickly and correctly.




Information
      technology and networking always are critically important to corporate security
      infrastructure. Nexus products and services are grounded in IT standards. By
      utilizing the latest software industry practices and standards in the selection
      of its strategic partners, Nexus’ efforts bring the power of leading-edge
      technology and flexibility of open systems architecture to a previously
      proprietary security market.




Nexus
      maintains the highest standards by continually reviewing and improving all
      of
      our work processes, procedures and policies to ensure our internal and external
      customer requirements are completely satisfied. The success of Nexus is measured
      by the satisfaction of its customers and subsequently, by the growth of its
      customer base.




**Security
      Holding Corp.**




In
      August
      2006, we acquired a majority interest in SHC, through the purchase of $3,000,000
      of SHC’s convertible preferred stock. Simultaneous with our acquisition of SHC,
      SHC acquired 100% of the outstanding stock of Security Holdings Enterprises,
      Inc. (“SHEI”), a Wisconsin corporation, through a merger with SHC. SHEI owned
      100% of the outstanding equity of each of Auto Access Identification, Inc.
      (“AAID”), SecurityInc, LLC (“SI”) and Cyberlynk (“CL”). Upon the consummation of
      the acquisition, SHEI ceased operations, leaving its aforementioned subsidiaries
      wholly owned by SHC. Also, in August 2006, SHC acquired substantially all of
      the
      assets of Compass Technologies Inc. (“CTI”), a Delaware company, for $500,000 in
      cash.




SHC’s
      and
      its subsidiaries’ strategy includes the following principles:




·
            Provide
                products that integrate new technologies and exclusive features when
                doing
                so enhances the safety and security of our customers’ people, property,
                information, and business mission




·
            Create
                high-value products and market them at a more competitive price and
                superior performance levels than our
                competitors




·
            Commit
                to providing the best possible service and continually strive to
                exceed
                our customers’ expectations




·
            Offer
                a customer-centered provider of products and services committed to
                solutions that meet our customers’ specific
                needs




·
            Provide
                the performance, reliability, and scalability that customers expect
                from a
                dedicated leader




SHC,
      through its subsidiaries, provides numerous products and services to a variety
      of corporate and government customers. The following is a brief description
      of
      each subsidiary:




**SecurityInc,
      LLC.** SecurityInc,
      LLC is a Milwaukee-based company that includes a management and engineering
      team
      with more than 100 years of combined experience in the RFID, security and access
      control industries. SI offers full solutions for access control, asset
      protection and asset tracking for commercial, institutional and government
      clients. It sells, through its internal sales force and national distributors,
      electronic access control panels used to secure entry points in buildings,
      active and passive RFID components and systems used in tracking people, vehicles
      and high-value assets, enterprise software used for electronically coordinating
      security, environmental and electrical systems in single or multi-building
      environments and specialty designed and engineered products for custom
      applications.




8





**Auto
      Access Identification.** Auto
      Access Identification is a Peachtree City, Georgia-based value added
      manufacturer and master distributor of RFID-enabled solutions for the
      residential, commercial and government markets. AAID markets its products
      through an internal sales force as well as a network of strategic partners
      including OEMs, distributors, VARs, system integrators and installing dealers.
      For more than six years, AAID has been supplying its strategic partners with
      ultra long-range tags and readers, typically used in a specially designed and
      engineered configuration, and AAID has more than 2,000 worldwide installations.
      AAID primarily performs installations at corporate facilities, parking
      facilities, military bases and gated residential communities.





**Compass
      Technologies, Inc.** Compass
      Technologies, Inc is an Exton, Pennsylvania-based technology company which
      designs, manufactures and supports forward-thinking access control and security
      management software systems designed to control and integrate multiple
      disciplines of electronic security, environmental and operational systems for
      virtually any size facility. CTI currently has approximately 130 installations
      in state and federal government locations and institutions of higher
      learning. Based on .Net technology, a complete solution for access control
      applications is available incorporating video badging, global interlocks, touch
      screen and peer-to-peer capabilities. With an architecture providing easy
      expansion from the smallest system to the largest enterprise application, a
      simple building block approach to complete security integration can be
      achieved.





**CyberLynk,
      Inc.**  CyberLynk,
      Inc. is a Milwaukee-based provider of redundant server applications, IT and
      router support infrastructure, FTP site hosting and spam and virus removal
      services. Founded in 1995, CL currently serves over 1,500 customers with a
      variety of products, services and support.




**Polimatrix,
      Inc.**




In
      September 2006, we formed Polimatrix, Inc., a U.S.-based joint venture with
      Polimaster, Inc. (“Polimaster”), a company involved in the field of nuclear
      and radiological detection and isotope identification. Polimaster has been in the nuclear
      and  radiological
      detection business for several years, with their technology widely in use in
      the
      U.S. Department of State, US Secret Service, Coast Guard and the New York Police
      Department.




Major
      threats to national security are the potential detonation of a nuclear bomb
      with
      its significant economic and human costs or, alternatively, the potential
      detonation of a “dirty bomb”, a radiological dispersion device (“RDD”) that is
      not a nuclear bomb and does not result in a nuclear explosion. Rather, a RDD
      is
      a device that contains radioactive materials attached to explosive materials
      that, when detonated, releases radiation over a wide area causing physical
      and
      environmental contamination, economic damage, and physical harm.




The
      current deployment of nuclear and radiological detection devices around the
      world has been compared to a “Maginot line of defense.” Most of the current
      detection devices are fixed as to location and are deployed at perimeter borders
      and ports. The current non-perimeter devices are located at obvious, easily
      avoided, areas such as New York’s Times Square, bridges and tunnels. The vast
      majority of these devices are “dumb” devices and are not networked and many of
      them are without isotope identification capability. Many of these devices are
      easily defeated if the nuclear or radiological materials are lightly
      shielded.




Although
      PMX had no material operations in 2006, we were able to identify several
      potential governmental and commercial customers, who are concerned with nuclear
      and radiological terrorist threats, and to start preliminary development on
      a
      proprietary line of products, whose technology is licensed from Polimaster,
      to
      be used in portable handheld devices for networked nuclear and radiological
      detection and isotope identification. In December 2006, this line of devices,
      named RadFlash, was demonstrated to potential commercial customers and several
      government agencies at both the federal and state levels. We are currently
      field-testing this line of products across several types of communication and
      IT
      networks.




RadFlash
      is an exclusive line of devices which are highly cost effective, networked
      and
      capable of rapid isotope identification, while eliminating many of the false
      positives inherent in most of our competition’s products. The unique advantages
      allow rapid low cost deployment of a distributed detection network that is
      randomized and layered. A major deployment of the RadFlash system will cost
      less
      than the competitors’ systems, systems that only have a fraction of the
      capabilities of the RadFlash system. The RadFlash network also provides
      real-time situational awareness and empowers command, control and
      communications.




9




Accordingly,
      the PMX strategy includes:




·
            Widespread
                deployment of a small, smart, networked isotope identification device
                that
                is comparably inexpensive




·
            Deploy
                devices with governmental and nongovernmental individuals where
                interactions with terrorists are most likely to occur (postal workers,
                rental car agencies, toll booths and law enforcement
                agencies)




·
            Saturate
                cities with networked devices effectively creating a randomized,
                layered
                and distributed network putting terrorists constantly at risk, degrading
                their ability to act, move, operate and attack (taxi cabs, subways,
                courier services and police and fire
                departments)




·
            Keep
                devices small, scaleable, simple to use and understand and enabling
                real-time networked communications for command and control
                tracking




**Significant
      Customers**




As
      of
      December 31, 2006, we did not have a concentration of customers in any of
      our subsidiaries that accounted for a material portion of our consolidated
      revenues or consolidated net accounts receivable.




**Significant
      Suppliers**




As
      of
      December 31, 2006 our AAID subsidiary purchased substantially all of its RFID
      tags, readers and associated components from Wavetrend Technologies Limited
      (“Wavetrend”), a foreign company whose primary manufacturing facilities are
      located in South Africa. If our relationship with Wavetrend were to terminate
      or
      if AAID were unable to purchase RFID products from them, for any reason, our
      business could be materially adversely affected.




**Research
      and Development**




Consistent
      with our product development strategy, we are seeking to identify and evaluate
      new products and services in all our subsidiaries. During 2006, research and
      development expenses were approximately $130,000, all of which was expended
      for
      RFID and software technologies in our SHC subsidiaries.




During
      2007, we expect to continue to focus our research and development efforts on
      existing and new products for homeland security applications. These efforts
      will
      continue the research and development we performed in 2006. Although we have
      made promising advances during 2006, we did not develop any new products as
      of
      December 31, 2006 which materially added to our revenues. While we continue
      to
      move forward with our research and development programs and to pursue the
      establishment of additional proprietary patented, copyrighted or trademarked
      products, we do not expect at this time to receive significant revenues in
      2007
      from these products.




**Patents
      and Proprietary Rights**




We
      rely
      primarily on a combination of patents, copyrights and trademarks, trade secrets,
      confidentiality procedures and contractual provisions to protect our technology.
      Despite our efforts to protect our rights, unauthorized parties may attempt
      to
      copy aspects of our products or to obtain and use information that we regard
      as
      proprietary. Policing unauthorized use of our technology and products is
      difficult. In addition, the laws of many countries do not protect our rights
      in
      information, materials and intellectual property that we regard as proprietary
      to as great an extent as do the laws of the United States. There can be no
      assurance that our means of protecting our rights in proprietary information,
      processes and technology will be adequate or that our competitors will not
      independently develop similar information, technology or intellectual property.
      See “Risk Factors” on page 14.




SHC’s
      subsidiary, CTI, currently has two U.S. patents (US Patent No. 6,529,137 dated
      March 4, 2003 and US Patent No. 6,925,337 dated August 2, 2005). We also have
      two U.S. registered trademarks issued in the name of CTI (Registration Nos.
      2369958 and 2807071) in addition to several copyrights also issued in that
      name.
      Ongoing work in the area of our RFID and security software (some of which is
      currently being performed by outside entities) may also lead to patentable
      inventions.




10




In
      January 2006, we entered into an exclusive licensing agreement with Innovative
      Control Systems, Inc. ("ICS") that entitles ICS to exclusive intellectual
      property rights, including all patents and patent applications, know-how,
      utility models, rights in industrial designs, trademarks and service marks,
      covering a specialized line of RFID tags and readers. The license requires
      payment by ICS of a royalty based on a percentage of its or its
      sublicensees’ net sales of products derived from the technology covered by the
      licensing agreement.




In
      July
      2005, we entered into an exclusive licensing agreement with Accuteck, LLC that
      entitles us to the sole license of the know-how, as well as all processes and
      trademarks which relate to the products sold by us designated SDC, TAG and
      READER which have been or will be developed by or in conjunction with related
      group companies and contractors. In consideration of the payment of $180,000,
      we
      received a perpetual, exclusive, transferable, assignable right and license
      with
      the right to grant sublicenses of the know-how to manufacture the
      products.




In
      September 2006, we entered into an exclusive licensing agreement with Polimaster
      that entitles us to the exclusive intellectual property rights of the RadFlash
      product (other than in Japan, Egypt and the countries that comprised the former
      Soviet Union). The licensing agreement has a term that expires on December
      31,
      2007 but automatically renews for 10 one-year periods. The licensing agreement
      may be terminated by Polimaster if certain contractual milestones are not
      achieved by the end of the 2008 and 2009 calendar years. Polimaster is entitled
      to receive a 5% royalty fee based on gross revenues for the sale of the product.
      Polimaster has filed a patent application on the RadFlash product. We can offer
      no assurances that any patents will be awarded related to the product.




**Competition**




Many
      of
      our potential competitors are larger and have significantly greater financial,
      technical, marketing and other resources than we. Some of our competitors may
      form partnerships or alliances with other large homeland security companies,
      with the resulting entity possessing greater market strength than we have.
      Many
      of the areas in which we either compete or intend to compete are rapidly
      evolving. Competition may develop a patentable product or process that may
      prevent us from competing in our intended markets. While we expect to compete
      primarily on the basis of product performance, proprietary position and price
      and performance, in many cases the first company to introduce a product to
      the
      market will obtain at least a temporary competitive advantage over subsequent
      market entrants. We face competition in all of our subsidiaries as described
      below.




***Nexus.*** A
      large
      number of companies are involved in the security integration industry, an
      industry that received a significant impetus from the events of
      September 11, 2001. Many of these companies (such as Henry Brothers
      Electronics, Inc. and Diebold, Inc.) are significantly larger than Nexus
      and generally have greater financial resources at their disposal. We believe
      that our unique approach to business in this sector of the industry coupled
      with
      our highly engineered security system design and installation and our management
      teams’ many years of experience will be attractive to the marketplace. Given the
      size and importance of the homeland security market, we anticipate that even
      greater competition will emerge. Additionally, within the services segment
      of
      homeland security, there will continue to be significant additions to security
      services required. There will be continued pressure within this business segment
      by larger service providers such as Henry Brothers Electronics, Inc.;
      however, there are niche segments that provide us significant
      opportunities.




***Security
      Holding Corp.*** A
      large
      number of domestic and international companies are involved in the RFID, access
      control and security software industries. Many of these companies (such as
      Access International, Inc., Savi Technology, DSX Access Systems, Inc. and
      IDenticard Systems) are significantly larger than SHC and generally have greater
      financial resources at their disposal. We believe that we are well-positioned
      in
      each of these security industry segments in that we are able to design,
      manufacture and deliver complete security solutions, to a variety of OEMs,
      distributors, VARs, system integrators and installing dealers at a lower cost
      when compared to our competitors. Our low cost manufacturing and distribution
      process is a result of efficiencies obtained through a streamlined approach
      to
      employment levels, sub-contract agreements and inventory management.
      Additionally, we design and manufacture non-standard products for our customers,
      products our competitors typically will not make.




***Polimatrix.*** The
      market for nuclear, radiological and isotope detection devices as applied to
      homeland security is new but rapidly  growing.
      Many large domestic and international companies (such as Thermo Scientific
      and
      Canberra) have  recently
      added a nuclear and radiological detection product line, either through
      acquisition or development. These companies are significantly larger than PMX
      and have greater financial resources than PMX. Our recent entry into this
      industry segment is through a joint venture with a long established, well
      respected company. We believe that through our partners’ past success in this
      industry and our financial resources and management expertise, we will be able
      to gain a significant foothold in this emerging industry. Also, our development
      efforts have been concentrated primarily in handheld networked nuclear and
      radiological detection equipment. This niche segment of the market has less
      competitors and has no clear leader.




11




**Manufacturing
      and Supply**




We
      do not
      have any written agreements with our suppliers. Although we attempt to reduce
      our dependence on our suppliers, disruption or termination of any of the sources
      could occur, and such disruptions or terminations could have at least a
      temporary, materially adverse effect on our business, financial condition, and
      results of operations. Moreover, a prolonged inability to obtain alternative
      sources of supply could have a materially adverse affect on our relations with
      our customers.




Generally,
      with the exception of our RFID products, we find the products necessary for
      our
      operations to be readily available, either from the general marketplace for
      raw
      materials that are commonly available or through our suppliers.




**Government
      Regulation**




Regulation
      by government authorities or international agencies in the United States and
      other countries is a significant consideration in the research, development,
      production, distribution and marketing of our RFID and radiological detection
      products. In order to test, manufacture, distribute, market and sell products,
      we must follow safety and other standards established by applicable regulatory
      authorities. We may be subject to various laws, regulations and requirements
      relating to such matters as the import and export of our products, ensuring
      safe
      working conditions and manufacturing practices, and the use, storage and
      disposal of hazardous or potentially hazardous substances used in connection
      with our research, development and manufacturing activities. The regulations
      potentially material to our business are summarized below.




**RFID
      Products.** Federal
      Communications Commission (“FCC”) regulations in the U.S. are applicable to all
      RFID devices manufactured and sold.  The only exemptions are government
      applications and those places that are exempt because of a site license that
      may
      be issued on request and inspection by an FCC authorized facility. Currently,
      active readers, which we sell, have been focused on specifically by the FCC
      because they emit large amounts of energy as they search for passive tags in
      their range. All products sold and purchased from Wavetrend are marked with
      appropriate FCC labeling. In this case, because a passive reader is used, there
      is no transmission of energy from the reader. Regardless, the reader must still
      be FCC approved. The manufacturer is responsible for accurate testing and
      labeling. Active tags produce little energy therefore they generally do not
      interfere with other electronic devices. If our RFID products were to be found
      unacceptable by the FCC, our operations would be adversely effected, likely
      to a
      material degree.





**Nuclear
      and** **Radiological Detection.** The
      federal government does not specifically regulate performance of our nuclear
      and
      radiological detection devices.  However, in developing and testing our
      devices we use a number of radiological isotopes and materials to verify product
      effectiveness. Many of these isotopes are regulated by the IAEA and require
      the
      users to obtain and maintain a current license to possess these materials.
      Also
      the IAEA regulates the purchase, shipment and storage of such materials and
      we
      are subject to random inspection to assure compliance with specific regulations.
      If we fail to comply with the appropriate regulations or are not granted a
      renewal of our license, for any reason, the development of our products could
      be
      adversely effected. Additionally, there are American National Standards
      Institute (“ANSI”) standards that our devices must meet in order to meet the
      requirements for federal grant funds.  PMX devices have been tested by
      Department of Homeland Security and other third-party validators and have been
      shown to meet these standards.  As a result, our devices are listed on the
      Responder Knowledge Base list of available products and can be procured with
      such grant funds.  Similar standards exist through the IAEA, and our
      devices also comport with these international standards.  Beyond these
      general standards, individual procurements typically include qualifications
      that
      devices must meet to be procured.  These procurement standards by necessity
      must be evaluated on a case by case basis.




**Product
      Liability and Insurance**




Our
      business exposes us to substantial product, occupational and other liability
      risks. These risks are inherent in product research and development,
      manufacturing, installation, marketing, distribution, and in the use of our
      products and operations. We have, and will attempt to renew, product liability
      insurance in order to protect ourselves from such potential exposures; however
      there can be no guarantee that upon expiration of our current coverage, adequate
      insurance coverage will be available, or, if available, that the cost will
      be
      acceptable. Furthermore, a product liability or other claim could materially
      and
      adversely affect our business or financial condition. The terms of our customer
      agreements provide that liability is limited to our standard warranty to replace
      non-conforming product, and liability for consequential damages caused by the
      improper use of our products is limited by contractual terms. Nevertheless,
      one
      or more third parties could file suit against us based on product liability,
      breach of warranty or other claims. The foregoing contract clauses might
      effectively limit our liability in any such actions. Additionally, we intend
      to
      apply for “Homeland Security product coverage” under the United States Safety
      Act. If this application is accepted, we, our manufactures and our customers
      would be covered for liability of that product in the event the specified
      product was in place during an occurrence defined as a terrorism
      attack.




12




**Employees**




As
      of
      March 26, 2007, we had 58  full-time
      employees. We have:




21
      employees in our Nexus subsidiary;




34
      employees in our SHC subsidiary (including SI, CTI, AAID and CL);
      and




3
      employees in our corporate offices.




We
      consider our relations with our employees to be good. None of our employees
      are
      covered by a collective bargaining agreement. We also employ a number of
      contractors or consultants on a regular basis.




The
      address of our principal executive offices and our telephone and facsimile
      numbers at that address and our website address are:




Homeland
                Security Capital Corporation
              4100
                N. Fairfax Drive, Suite 1150
              Arlington,
                VA 22203
              Telephone
                No.: (703) 528-7073
              Facsimile
                No.: (703) 528-0956
              www.hscapcorp.com




Our
      Common Stock trades under the symbol “HMSC.OB.”




13




**RISK
      FACTORS**




**WE
      ARE SUBJECT TO VARIOUS RISKS, WHICH MAY MATERIALLY HARM OUR BUSINESS, FINANCIAL
      CONDITION AND RESULTS OF OPERATIONS. YOU SHOULD CAREFULLY CONSIDER THE RISKS
      AND
      UNCERTAINTIES DESCRIBED BELOW AND THE OTHER INFORMATION IN THIS FILING BEFORE
      DECIDING TO PURCHASE OUR COMMON STOCK. IF ANY OF THESE RISKS OR UNCERTAINTIES
      ACTUALLY OCCURS, OUR BUSINESS, FINANCIAL CONDITION OR OPERATING RESULTS COULD
      BE
      MATERIALLY HARMED. IN THAT CASE, THE TRADING PRICE OF OUR COMMON STOCK COULD
      DECLINE AND YOU COULD LOSE ALL OR PART OF YOUR INVESTMENT.**






***We
      Have A Limited Operating History Which Makes It Difficult To Evaluate Our
      Current Business And Future Prospects And May Cause Our Revenues To
      Decline***




The
      Company consolidates companies in the homeland security industry. Until its
      acquisitions of Nexus and Security Holding Corp. in 2006, the Company had not
      generated any revenues other than interest income on its cash since 2002. The
      Company’s ability to generate revenues and earnings (if any) will be directly
      dependent upon the operating results of such acquired business and any
      additional acquisitions, and the successful integration and consolidation of
      those businesses. No assurances can be given that we will be successful in
      generating revenues and earnings based on our business model.




***We
      Are Dependent Upon Key Personnel Who Would Be Difficult To Replace And Whose
      Loss Could Impede Our Development***




The
      Company believes that its success depends principally upon the experience of
      C.
      Thomas McMillen, its Chairman and Chief Executive Officer. Although Mr. McMillen
      has substantial experience in acquiring and consolidating businesses, our other
      personnel do not have significant experience in managing companies formed for
      the specific purpose of consolidating one or more industries (other than
      McMillen’s experience in managing Fortress America Acquisition Corporation
      (“FAAC”)) or in managing businesses in the homeland security industry. As a
      result, the Company likely will rely significantly on the senior management
      of
      any significant businesses it acquires in the future. Such acquired senior
      management may not be suitable to the Company’s business model or combined
      operations.




If
      the
      Company loses the services of one or more of its current executives, the
      Company’s business could be adversely affected. The Company may not successfully
      recruit additional personnel and any additional personnel that are recruited
      may
      not have the requisite skills, knowledge or experience necessary or desirable
      to
      enhance the incumbent management. The Company does maintain key man life
      insurance with respect to Mr. McMillen in amount of $5 million. See
“Management.”




***Appropriate
      Acquisitions May Not Be Available Which May Adversely Effect Our
      Growth***




The
      results of the Company’s planned operations are dependent upon the Company’s
      ability to identify, attract and acquire additional desirable acquisition
      candidates, which may take considerable time. The Company may not be successful
      in identifying, attracting or acquiring additional acquisition candidates,
      in
      integrating such candidates into the Company or in realizing profits from any
      acquisition candidates, if acquired. The failure to complete additional
      acquisitions or to operate the acquired companies profitably would have a
      material adverse effect on the Company’s business, financial condition and/or
      results of operations.




***If
      Our Consolidation Strategy Is Not Successful, Our Operations And Financial
      Condition Will Be Adversely Affected***




One
      of
      the Company’s strategies is to increase its revenues, the range of products and
      services that it offers and the markets that it serves through the acquisition
      of additional homeland security businesses. To date, the Company has completed
      three acquisitions and has signed a nonbinding letter of intent with one other
      company. Investors have no basis on which to evaluate the possible merits or
      risks of any future acquisition candidates’ operations and prospects. Although
      management of the Company will endeavor to evaluate the risks inherent in any
      particular acquisition candidate, the Company may not properly ascertain all
      of
      such risks.




Management
      of the Company has virtually unrestricted flexibility in identifying and
      selecting prospective acquisition candidates and broad discretion. Management
      may not succeed in selecting acquisition candidates that will be profitable
      or
      that can be integrated successfully. Although the Company intends to scrutinize
      closely the management of a prospective acquisition candidate in connection
      with
      evaluating the desirability of effecting a business combination, the Company’s
      assessment of management may not prove to be correct. The Company may enlist
      the
      assistance of other persons to assess the management of acquisition
      candidates.




14




One
      of
      the key elements of the Company’s internal growth strategy is to improve the
      profitability and increase the revenues of acquired businesses. The Company
      will
      seek to improve the profitability and increase the revenues of acquired
      businesses by various means, including combining administrative functions,
      eliminating redundant facilities, implementing system and technology
      improvements, purchasing products and services in large quantities and
      cross-selling products and services. The Company’s ability to increase revenues
      will be affected by various factors, including the Company’s ability to expand
      the products and services offered to the customers of acquired companies,
      develop national accounts and attract and retain a sufficient number of
      employees to perform the Company’s services. There can be no assurance that the
      Company’s internal growth strategies will be successful.




***Obligations
      Of Our Chief Executive Officer May Create A Conflict Of Interest That Could
      Adversely Affect The Company’s Operations***




Our
      Chairman and Chief Executive Officer, C. Thomas McMillen (“McMillen”) is
      required to devote at least 25 hours per week to the Company pursuant to an
      employment agreement, dated as of August 30, 2005, with the Company (the
“McMillen Employment Agreement”). Mr. McMillen also serves as Vice Chairman of
      Fortress International Group, Inc. (“FIG”), a mission critical firm that is the
      successor company to Fortress America Acquisition Corporation that completed
      an
      initial public offering in July 2005. The officers and directors of FIG,
      including McMillen, have an obligation, so long as they are an officer or
      director, to present to FIG for its consideration, prior to presentation to
      any
      other entity, including the Company, any business opportunity which may
      reasonably be required to be presented to them under Delaware law, subject,
      however, to any pre-existing fiduciary or contractual obligations they might
      have. The McMillen Employment Agreement does not preclude McMillen from
      competing with the Company through his position as an officer of FIG. It is
      possible, however, that FIG will become a competitor of ours if the business
      it
      acquires serves markets or sectors of the homeland security industry the Company
      is serving.




***Our
      Inability To Successfully Integrate Our Acquisitions May Adversely Affect Our
      Operations And Financial Condition***




The
      Company’s business model is based upon an aggressive acquisition program. No
      assurance can be given that the Company will be able to successfully integrate
      its future acquisitions without substantial costs, delays or other problems.
      The
      costs of such acquisitions and their integration could have an adverse effect
      on
      short-term operating results. Such costs could include severance payments to
      employees of such acquired companies, restructuring charges associated with
      the
      acquisitions and other expenses associated with a change of control, as well
      as
      non-recurring acquisition costs including accounting and legal fees, investment
      banking fees, recognition of transaction-related obligations and various other
      acquisition-related costs. Any failure by the Company to make acquisitions
      would
      have a material adverse effect on the Company’s business, financial condition
      and results of operations. Moreover, the Company may be unable to replicate
      the
      success in consolidating various industries that other consolidators have
      achieved.




The
      Company may not be able to execute successfully its consolidation strategy
      or
      anticipate all of the changing demands that consolidation transactions will
      impose on its management personnel, operational and management information
      systems and financial systems. The integration of newly acquired companies
      may
      also lead to diversion of management attention from other ongoing business
      concerns. In addition, the rapid pace of acquisitions may adversely affect
      the
      Company’s efforts to integrate acquisitions and manage those acquisitions
      profitably. Moreover, it is possible that neither management of the Company
      nor
      management of any of the acquired companies will have the necessary skills
      to
      manage a company implementing an aggressive acquisition program. The Company
      may
      seek to recruit additional managers to supplement the incumbent management
      of
      the acquired companies but the Company may not have the ability to recruit
      additional managers with the skills necessary to enhance the management of
      the
      acquired companies. Any or all of these factors could have a material adverse
      effect on the Company’s business, financial condition and/or results of
      operations.




***Competition
      And Industry Consolidation May Limit Our Ability To Implement Our Business
      Strategies***




The
      Company expects to face significant competition to acquire homeland security
      businesses from larger companies that currently pursue, or are expected to
      pursue, acquisitions as part of their growth strategies and as the industry
      undergoes continuing consolidation. Such competition could lead to higher prices
      being paid for acquired companies.




15




The
      Company believes that the homeland security industry will undergo considerable
      consolidation during the next several years. The Company expects that, in
      response to such consolidation and in light of the Company’s financial
      resources, it will consider from time to time additional strategies to enhance
      stockholder value. These include, among others, strategic alliances and joint
      ventures; purchase, sale and merger transactions with other large companies;
      and
      other similar transactions. In considering any of these strategies, the Company
      will evaluate the consequences of such strategies, including, among other
      things, the potential for leverage that would result from such a transaction,
      the tax effects of the transaction, and the accounting consequences of the
      transaction. In addition, such strategies could have various other significant
      consequences, including changes in management, control or operational or
      acquisition strategies of the Company. There can be no assurance that any one
      of
      these strategies will be undertaken, or that, if undertaken, any such strategy
      will be completed successfully.




***Failure
      To Qualify For Investment Company Act Exemptions Could Adversely Effect Our
      Growth And Financial Condition***




The
      regulatory scope of the Investment Company Act extends generally to companies
      engaged primarily in the business of investing, reinvesting, owning, holding
      or
      trading in securities. The Investment Company Act also may apply to a company
      which does not intend to be characterized as an investment company but which,
      nevertheless, engages in activities that bring it within the Investment Company
      Act’s definition of an investment company. The Company believes that its
      principal activities, which will involve acquiring control of operating
      companies and providing managerial and consulting services, will not subject
      the
      Company to registration and regulation under the Investment Company Act. The
      Company intends to remain exempt from investment company regulation either
      by
      not engaging in investment company activities or by qualifying for the exemption
      from investment company regulation available to any company that has no more
      than 45% of its total assets invested in, and no more than 45% of its income
      derived from, investment securities, as defined in the Investment Company
      Act.




There
      can
      be no assurance that the Company will be able to avoid registration and
      regulation as an investment company. In the event the Company is unable to
      avail
      itself of an exemption or safe harbor from the Investment Company Act, the
      Company may become subject to certain restrictions relating to the Company’s
      activities, as noted below, and contracts entered into by the Company at such
      time that it was an unregistered investment company may be unenforceable. The
      Investment Company Act imposes substantive requirements on registered investment
      companies including limitations on capital structure, restrictions on certain
      investments, prohibitions on transactions with affiliates and compliance with
      reporting, record keeping, voting, proxy disclosure and other rules and
      regulations. Registration as an investment company could have a material adverse
      effect on the Company.




***Potential
      Tax Consequences Of Our Acquisitions May Adversely Affect Our Financial
      Conditions***




As
      a
      general rule, federal and state tax laws and regulations have a significant
      impact upon the structuring of business combinations. The Company will evaluate
      the possible tax consequences of any prospective business combination and will
      endeavor to structure the business combination so as to achieve the most
      favorable tax treatment to the Company, the acquisition candidate and their
      respective stockholders. Nonetheless, the Internal Revenue Service (the “IRS”)
      or appropriate state tax authorities may not ultimately agree with the Company’s
      tax treatment of a consummated business combination. To the extent that the
      IRS
      or state tax authorities ultimately prevail in recharacterizing the tax
      treatment of a business combination, there may be adverse tax consequences
      to
      the Company, the acquisition candidate and/or their respective
      stockholders.




***We
      May Be Dependent On Government Contracts For A Substantial Portion Of Our
      Revenues, And Any Reduction In The Amount Of Business We Do With Federal, State
      And Local Governments And Government Agencies Could Have A Material Adverse
      Effect On Our Revenues, Operating Results And Financial
      Condition***




We
      may
      derive a substantial portion of our revenues from contracts with federal, state
      and local governments and government agencies, including subcontracts under
      government prime contracts, and the success and growth of our business will
      continue to depend on our potential and current successful procurement of
      government contracts either directly or through prime contractors. Many of
      our
      government customers, such as the Department of Defense, the Department of
      Homeland Security and the Department of Health and Human Services, as well
      as
      state and local critical incident response agencies, are subject to stringent
      budgetary constraints and political considerations, and our business, revenues
      and operating results may be materially adversely affected if levels of
      government expenditures and authorizations for critical incident response
      related programs decrease, remain constant or shift to programs in areas where
      we do not provide products and services. Traditionally, the opportunities to
      generate significant profit margins under government contracts are limited.
      This
      is particularly true with respect to certain government contracts and
      subcontracts we may perform that are subject to cost-allowability and
      reasonableness limitations that have no counterpart in the private sector.
      In
      addition, our business under government contracts may be adversely affected
      if:




16




·
            our
                reputation or relationship with government agencies is impaired and
                reflected in past-performance ratings, which increasingly have become
                the
                determining factor among bidders in competitive
                procurements;




·
            we
                are prevented from entering into new government contracts, including
                subcontracts issued under prime government contracts, or extending
                existing government contracts based on violations or suspected violations
                of procurement laws or regulations;




·
            we
                are not granted security clearances or import or export licenses
                that may
                be required to sell our products to domestic or foreign governments
                or
                such security clearances or import or export licenses are
                revoked;




·
            there
                is a change in government procurement procedures;
                or




·
            we
                are suspended from contracting with a domestic or foreign government
                or
                any significant law enforcement
                agency.




These
      and
      other factors could cause governments and governmental agencies, or prime
      contractors that use us as a subcontractor, to reduce their purchases under
      existing contracts, to exercise their rights to terminate contracts at will
      or
      to abstain from exercising options to renew contracts, any of which could have
      a
      material adverse effect on our business, revenues and operating
      results.




***Our
      Strategy Of Generating Growth Through Acquisitions Has Risks And There Is No
      Assurance We Will Succeed, Which Could Materially Harm Our Business And
      Prospects For Growth***




We
      have
      pursued an acquisition strategy in order to build our business of providing
      an
      integrated suite of products and services to participants in the homeland
      security industry. We have acquired two operating companies to date and have
      entered into a joint venture with respect to PMX. We intend to continue to
      pursue the acquisition of companies with products and services that can be
      integrated with our existing offerings. Our acquisition strategy is important
      to
      the success of our business because it supports our strategy of selling a broad
      platform of integrated offerings for customers who we believe prefer to buy
      multiple product and service offerings from fewer vendors. However, we may
      not
      be able to identify and acquire appropriate target businesses in the future
      at
      reasonable prices or at all. Other companies also pursue acquisitions of
      companies in the critical incident response marketplace and we expect
      competition for acquisition candidates in our industry to increase, which may
      mean fewer suitable acquisition opportunities for us, as well as higher
      acquisition prices. In addition, even if we are successful in acquiring target
      companies, we may have difficulty integrating the acquired companies’ product
      and service offerings with our existing offerings and sales channels, which
      would reduce the benefits to us of the acquisitions and limit the effectiveness
      of our strategy. If we are unable to successfully pursue our strategy of
      acquiring complementary businesses, our business, financial condition, and
      growth prospects could be materially adversely affected.




***Our
      Financial Condition Could Be Harmed If Businesses We Acquire Failed To Comply
      With Applicable Laws Or Have Other Undisclosed
      Liabilities***




Any
      business that we acquire may have been subject to many of the same laws and
      regulations to which our business is subject and possibly to others, including
      laws and regulations impacting companies that do business with federal, state
      and local governments. If any business that we acquire has not conducted its
      business in compliance with applicable laws and regulations, we may be held
      accountable or otherwise suffer adverse consequences, such as significant fines
      or unexpected termination of contracts. Businesses we acquire may have other
      undisclosed liabilities we do not discover during the acquisition process that
      could result in liability to us or other unanticipated problems, such as product
      liability claims. Unexpected liabilities such as these could materially
      adversely affect our business, financial condition and results of
      operations.




***Costs
      Arising From Our Future Acquisitions Could Adversely Affect Our Financial
      Condition***




Any
      acquisition that we make could result in the use of our cash, incurrence and
      assumption of debt, contingent liabilities, significant acquisition-related
      expenses, amortization of certain identifiable intangible assets, and research
      and development write-offs, and could require us to record goodwill and other
      intangible assets that could result in future impairments that could harm our
      financial results. We will likely incur significant transaction costs pursuing
      acquisitions, including acquisitions that may not be consummated. We may not
      be
      able to generate sufficient revenues from our acquisitions to offset their
      costs, which could materially adversely affect our financial
      condition.




17




***If
      We Are Unable To Effectively Manage Our Growth, Our Ability To Implement Our
      Business Strategy And Our Operating Results Will Likely Be Materially Adversely
      Affected***




Our
      efforts to acquire and collaborate with complementary businesses have placed,
      and will likely continue to place, a significant strain on our management,
      administrative, operating and financial infrastructures. Our management will
      be
      required to devote considerable time to our acquisition and integration efforts,
      which will reduce the time they will have to implement our business and growth
      strategy. To manage our business and planned growth effectively, we must
      successfully develop, implement, maintain and enhance our financial and
      accounting systems and controls, integrate new personnel and businesses and
      manage expanded operations. We are still in the process of developing and
      implementing our operating and financial systems, including our internal systems
      and controls, which will be critical to properly managing expanded operations.
      If we are unable to make these improvements in our operating and financial
      reporting systems and to otherwise effectively manage our growth, our ability
      to
      implement our business strategy and our operating results will likely be
      materially adversely affected.




***Because
      Our Operating Results May Fluctuate Significantly And May Be Below The
      Expectations Of Analysts And Investors, The Market Price For Our Stock May
      Be
      Volatile***




Our
      operating results are difficult to predict and may fluctuate significantly
      in
      the future. As a result, our stock price may be volatile. The following factors,
      many of which are outside our control, can cause fluctuations in our operating
      results and volatility in our stock price:




·
            expenses
                incurred in pursuing and closing acquisitions and in follow-up integration
                efforts;




·
            changes
                in customers’ budgets and procurement policies and priorities, and funding
                delays, particularly with respect to government
                contracts;




·
            new
                competitors and the introduction of enhanced products from new or
                existing
                competitors;




·
            unforeseen
                legal expenses, including litigation and bid protest
                costs;




·
            unanticipated
                delays or problems in releasing new products and services;
                and




·
            the
                amount and timing of our investments in research and development
                activities and manufacturing
                improvements.




The
      deferral or loss of one or more significant contracts could materially adversely
      affect our operating results, particularly if there are significant sales and
      marketing expenses associated with the deferred or lost contracts. Additionally,
      we base our current and future expense levels on our internal operating plans
      and sales forecasts, and our operating costs are to a large extent fixed. As
      a
      result, we may not be able to sufficiently reduce our costs to compensate for
      an
      unexpected near-term shortfall in revenues.




Actual
      or
      anticipated fluctuations in our operating results could cause our stock price
      to
      decline. Due to fluctuations in our operating results, a period-to-period
      comparison of our results of operations may not be a good indication of our
      future performance. In any particular quarter or quarters, our operating results
      could be below the expectations of securities analysts or investors and our
      stock price could decline as a result.




***We
      Will Be Required To Evaluate Our Internal Controls Over Financial Reporting
      Under Section 404 Of The Sarbanes-Oxley Act Of 2002, Which Could Result In
      A Loss Of Investor Confidence In Our Financial Reports And Have An Adverse
      Effect On The Price Of Our Shares Of Common Stock***




Pursuant
      to Section 404 of the Sarbanes-Oxley Act of 2002, we expect that beginning
      with our annual report on Form 10-KSB for the year ended December 31,
      2007, we will be required to furnish a report by management on our internal
      controls over financial reporting. Such report will contain, among other
      matters, an assessment of the effectiveness of our internal control over
      financial reporting, including a statement as to whether or not our internal
      control over financial reporting is effective. This assessment must include
      disclosure of any material weaknesses in our internal control over financial
      reporting identified by our management. Beginning with our year ending
      December 31, 2008, the report must also contain a statement that our
      auditors have issued an attestation report on our management’s assessment of
      such internal controls. Public Company Accounting Oversight Board Auditing
      Standard No. 2 provides the professional standards and related performance
      guidance for auditors to attest to, and report on, our management’s assessment
      of the effectiveness of internal control over financial reporting under
      Section 404.




18




We
      have
      identified certain material weaknesses in our internal controls over financial
      reporting that we are in the process of addressing. We cannot be certain that
      we
      will be able to complete our evaluation of our internal controls, testing and
      any required remediation in a timely fashion once we become subject to the
      requirements mandated by Section 404 of the Sarbanes-Oxley Act of 2002.
      During the evaluation and testing process, if we identify one or more material
      weaknesses in our internal control over financial reporting, we will be unable
      to assert that such internal control is effective. If we are unable to assert
      that our internal control over financial reporting is effective as of
      December 31, 2007 (or if our auditors are unable to attest that our
      management’s report is fairly stated or they are unable to express an opinion on
      the effectiveness of our internal controls beginning with our year ending
      December 31, 2008), we could lose investor confidence in the accuracy and
      completeness of our financial reports, which may have a material adverse effect
      on our stock price.




Failure
      to comply with the new rules may also make it more difficult for us to obtain
      certain types of insurance, including director and officer liability insurance,
      and we may be forced to accept reduced policy limits and coverage and/or incur
      substantially higher costs to obtain the same or similar coverage. The impact
      of
      these events could also make it more difficult for us to attract and retain
      qualified personnel to serve on our board of directors, on committees of our
      board of directors, or as executive officers.




**General
      Risks**




***We
      May Need To Raise Additional Capital On Terms Unfavorable To Our
      Stockholders***




Based
      on
      our current level of operations, we believe that our cash flow from operations,
      together with amounts we are able to borrow under our existing lines of credit,
      will be adequate to meet our anticipated operating, capital expenditure and
      debt
      service requirements for the foreseeable future. However, we do not have
      complete control over our future performance because it is subject to economic,
      political, financial, competitive, regulatory and other factors affecting the
      defense and security industries. Further, our acquisition strategy will likely
      require additional equity or debt financings. Such financings could also be
      required to support our traditional and recently required operating units.
      There
      is no assurance that we will be able to obtain such financings to fuel our
      growth strategy and support our existing businesses.




***Our
      Common Stock Is Deemed To Be “Penny Stock,” Which May Make It More Difficult For
      Investors To Sell Their Shares Due To Suitability
      Requirements***




Our
      Common Stock is deemed to be “penny stock” as that term is defined in Rule
      3a51-1 promulgated under the Exchange Act. Penny stocks are stocks:




·
            with
                a price of less than $5.00 per
                share;




·
            that
                are not traded on a “recognized” national
                exchange;




·
            whose
                price is not quoted on the NASDAQ automated quotation system
                (NASDAQ-listed stock must still have a price of not less than $5.00
                per
                share); or




·
            in
                issuers with net tangible assets less than $2,000,000 (if the issuer
                has
                been in continuous operation for at least three years) or $5,000,000
                (if
                in continuous operation for less than three years), or with average
                revenues of less than $6,000,000 for the last three
                years.




In
      addition to the “penny stock” rules promulgated by the SEC, the NASD has adopted
      rules that require that in recommending an investment to a customer, a
      broker-dealer must have reasonable grounds for believing that the investment
      is
      suitable for that customer. Prior to recommending speculative low priced
      securities to their non-institutional customers, broker-dealers must make
      reasonable efforts to obtain information about the customer’s financial status,
      tax status, investment objectives and other information. Under interpretations
      of these rules, the NASD believes that there is a high probability that
      speculative low priced securities will not be suitable for at least some
      customers. The NASD requirements make it more difficult for broker-dealers
      to
      recommend that their customers buy our Common Stock, which may limit your
      ability to buy and sell our stock.




19




Stockholders
      should be aware that, according to the SEC, the market for penny stocks has
      suffered in recent years from patterns of fraud and abuse. Such patterns include
      (i) control of the market for the security by one or a few broker-dealers that
      are often related to the promoter or issuer; (ii) manipulation of prices through
      prearranged matching of purchases and sales and false and misleading press
      releases; (iii) “boiler room” practices involving high-pressure sales tactics
      and unrealistic price projections by inexperienced sales persons; (iv) excessive
      and undisclosed bid-ask differentials and markups by selling broker-dealers;
      and
      (v) the wholesale dumping of the same securities by promoters and broker-dealers
      after prices have been manipulated to a desired degree. The Company’s management
      is aware of the abuses that have occurred historically in the penny stock
      market. Although the Company does not expect to be in a position to dictate
      the
      behavior of the market or of broker-dealers who participate in the market,
      management will strive within the confines of practical limitations to prevent
      the described patterns from being established with respect to our securities.




***We
      Do Not Expect To Pay Dividends With Respect To Our Common Stock Which May Hinder
      Our Ability To Attract Additional Capital***




The
      Company has not paid any dividends on its Common Stock to date. The payment
      of
      any dividends will be within the discretion of the Company’s Board of Directors.
      The Board of Directors expects to retain all earnings, if any, for use in the
      Company’s business operations and, accordingly, the Board of Directors does not
      anticipate declaring any dividends in the foreseeable future




***We
      Have Historically Had Severe Working Capital Shortages, Even Following
      Significant Financing Transactions***




Although
      we raised capital totaling approximately $9,000,000 (net of expenses) during
      the
      last two fiscal years we have had working capital shortages in the past, and
      our
      consolidated financial statements for the twelve months ended December 31,
      2006,
      indicate that we have a working capital deficit of $3,569,679.




We
      issued
      5% Debentures aggregating $4 million in August 2006 (net proceeds of
      $3.585 million after payment of fees and expenses). In February 2006, the
      same investor purchased an additional $4 million of 5% Debentures (net proceeds
      of $3.580 million after payment of fees and expenses).




Based
      on
      the amount of capital we have remaining and our current negative cash flow
      from
      operations and investing activities, we anticipate that we may continue to
      incur
      a working capital deficit unless we are able to substantially increase our
      revenue or reduce our expenses, thereby generating positive cash flow from
      operations and (ultimately) operating income. As a result of our recent
      financing activities, we believe we have sufficient working capital to finance
      our anticipated operations and projected negative cash flow throughout our
      2007
      fiscal year.




***We
      Have Raised Capital And Issued Securities During The Years Ended December 31,
      2006 And 2005, And Subsequently Which Has Resulted (And Will In The Future
      When
      Warrant Exercises Or Conversions Occur Result) In Dilution To Our Existing
      Stockholders; This Was Accomplished To Provide Necessary Working Capital Or
      Obtain Assets And Services.  We Will Likely Issue More Securities To Raise
      Additional Capital Or To Obtain Other Services Or Assets, Any Of Which May
      Result In Substantial Additional Dilution***




During
      the course of the last two fiscal years, we have raised capital of
      approximately $9,000,000 (net proceeds of approximately $8 million after
      payment of fees and expenses) to finance our business operations and
      acquisitions. We have raised this capital by issuing convertible debentures,
      shares of Common Stock, convertible preferred stock and common stock warrants
      to
      accredited investors and as compensation to investment bankers making
      introductions to the accredited investors and the exercise of previously issued
      common stock warrants and stock options. During this same period of time, we
      issued common stock warrants and shares of Common Stock to several persons
      in
      exchange for their promises to perform investment banking and financial advisory
      services to us. In many cases, these issuances were below the then-current
      market prices and can be considered dilutive to our existing stockholders—both
      as a reduction of their percentage ownership in the Company and because of
      issuances that will be, when warrants are exercised or debentures are converted,
      at prices below the market.




20




The
      5%
      Debentures, Series F Preferred Stock (the “Series F Stock”) and the Series G
      Preferred Stock (the “Series G Stock”), have significant restrictions on our
      ability to raise any additional capital.  If we raise additional working
      capital, we will likely have to issue additional shares of our Common Stock
      and
      common stock warrants at prices that may dilute the interests of our existing
      stockholders.




***Accounting
      Charges Resulting From Our Issuance Of Our Debentures May Lead To Significant
      Non-Cash Charges Which Would Adversely Impact Future Interest Expense, Net
      Income And Earnings Per Share And May Also Lead To Future Volatility In Our
      Financial Statement Components***




The
      issuance of the 5% Debentures has resulted in the classification of certain
      warrants and the conversion feature embedded in the 5% Debentures as derivative
      liability instruments (a $6,187,211 current derivative liability at December
      31,
      2006).  We are required to mark these instruments to market as of the end
      of each reporting period and to recognize the change in fair value in our
      consolidated statements of operations.  Additionally, we will be required
      to record significant non-cash interest charges over the life of the 5%
      Debentures (in addition to interest expense relating to the 5% interest rate
      borne by the 5% Debentures which will be paid in cash or shares of our Common
      Stock, at the holder’s option).  The combination of these two factors will
      likely result in a significant adverse impact to future net income and earnings
      per share and will likely introduce additional volatility to our future
      operating results.




***If
      Demand For Any Of Our Products Grows Suddenly, We May Lack The Resources To
      Meet
      Demand Or We May Be Required To Increase Our Capital Spending
      Significantly***




If
      we are
      able to develop and market our products successfully, we may experience periods
      of rapid growth that place a significant strain on our financial and managerial
      resources.  Through our research and development efforts we are also
      attempting to develop additional products and lines of business.  Our
      ability to manage growth effectively, particularly given our increasing scope
      of
      operations, will require us to continue to implement and improve our management,
      operational and financial information systems, and will require us to develop
      the management skills of our personnel and to train, motivate and manage our
      employees.  Our failure to effectively manage growth could increase our
      costs of operations and reduce our margins and liquidity, which could have
      a
      material adverse effect on our business, financial condition and results of
      operations.




***Our
      Common Stock Is Vulnerable To Pricing And Purchasing Actions That Are Beyond
      Our
      Control And, Therefore, Persons Acquiring Or Holding Our Shares Or Warrants
      May
      Be Unable To Resell Their Shares At A Profit As A Result Of This
      Volatility***




The
      trading price of our securities has been subject to wide fluctuations in
      response to quarter-to-quarter variations in our operating results, our
      announcements of technological innovations or new products by us or our
      competitors, and other events and factors. The securities markets themselves
      have from time to time and recently experienced significant price and volume
      fluctuations that may be unrelated to the operating performance of particular
      companies. Announcements of delays in our testing and development schedules,
      technological innovations or new products by us or our competitors and
      developments or disputes concerning patents or proprietary rights could have
      a
      significant and adverse impact on such market prices. Regulatory developments
      in
      the United States and foreign countries, public concern as to the safety of
      products containing radioactive compounds, and economic and other external
      factors all affect the market price of our securities. **




***The
      Continuously Adjustable Conversion Price Feature Of Our 5% Debentures Could
      Require Us To Issue A Large Number Of Shares, Which Would Cause Dilution To
      Our
      Existing Stockholders And May Encourage Investors To Make Short Sales Of Our
      Common Stock, Which Could Depress The Price Of Our Common
      Stock***




We
      may be
      obligated to issue an extremely large number of shares upon the conversion
      of
      the 5% Debentures we have issued (or have agreed to issue) because the
      conversion price is to be the lower of (a) $0.01 per share or (b) 90% of the
      lowest daily volume weighted average price (“VWAP”) of our Common Stock during
      the thirty trading days immediately preceding the conversion date (“Market
      Conversion Price”).  Hence, the number of shares of our Common Stock
      issuable upon conversion of the 5% Debentures will increase if the market price
      of our stock declines, which may cause dilution to our existing
      stockholders.  Furthermore, the significant downward pressure on the price
      of the Common Stock as the holder of the 5% Debentures converts and sells
      material amounts of Common Stock could encourage short sales by investors.
      Such
      short sales could place further downward pressure on the price of the Common
      Stock, which in turn would lead to further dilution.  In addition, not only
      the sale of shares issued upon conversion or exercise of debentures or warrants,
      but also the mere perception that these sales could occur, may adversely affect
      the market price of the Common Stock.




21




***Outstanding
      Debentures, Options And Warrants May Make It Difficult For Us To Obtain
      Additional Capital On Reasonable Terms***




As
      of
      December 31, 2006, we had 5% Debentures aggregating $8 million **** in
      principal amount outstanding. The aggregate principal of the 5% Debentures
      are
      convertible into approximately 9.88 billion shares of Common Stock,
      assuming a conversion price of $.00081 (based upon a 10% discount to the lowest
      daily VWAP for the thirty trading days prior to December 31, 2006 which is
      lower
      than the fixed conversion price of $0.01).  The holders’ rights to convert
      the 5% Debentures and associated warrants are, however, subject to certain
      share
      issuance limitations.  In addition, we had outstanding options and Common
      Stock warrants for the purchase of up to 1.106 billion shares of Common
      Stock at an average exercise price of approximately $0.001928 per share. 
If all of the outstanding options, debentures and common stock warrants were
      to
      be converted, they would represent approximately 72% of our outstanding common
      shares on a fully diluted basis.  Future investors will likely recognize
      that the holders of the options and warrants will only exercise their rights
      to
      acquire our Common Stock when it is to their economic advantage to do so. 
Therefore, even with lower current market prices for our Common Stock, the
      market overhang of such a large number of warrants, options, convertible
      preferred stock and convertible debentures may adversely impact our ability
      to
      obtain additional capital because any new investors will perceive that the
      securities offer a risk of substantial potential future dilution.




***If
      We Fail To Effect And Maintain Registration Of The Common Stock Issued Or
      Issuable Pursuant To Conversion Of Our Convertible Debentures, Or Certain Of
      Our
      Outstanding Common Stock Warrants, We May Be Obligated To Pay The Investors
      Of
      Those Securities Liquidated Damages***




We
      have
      various obligations to file and obtain the effectiveness of certain registration
      statements which include certain outstanding Common Stock and Common Stock
      underlying outstanding convertible debentures and common stock warrants. 
Once effective, the prospectus contained within a registration statement can
      only be used for a period of time as specified by statute without there being
      a
      post-effective amendment filed that has become effective under the Securities
      Act of 1933.  One of those obligations relates to a requirement to file a
      new registration for shares issuable pursuant to the (a) 5% Debentures issued
      in
      February 2006, certain shares of Common Stock and the Series F Stock by May
      7,
      2007 and to achieve effectiveness of that registration statement by August
      5,
      2007 and (b) 5% Debentures issued in August 2006 and the related warrants by
      November 22, 2007 and to achieve effectiveness of that registration statement
      by
      February 20, 2008.  If we are unable to meet the these filing or
      effectiveness obligations, we would be obligated to pay the holder of these
      securities liquidated damages equal to 2% of the liquidated value of these
      securities outstanding (approximately $9 million assuming no conversions) for
      each 30 day period after the applicable date as the case may be. The liquidated
      damages may be paid in cash or shares of our Common Stock if registered, at
      the
      holder’s option.




If
      we
      fail to meet any obligations we have to have effective and current registration
      statements available, we may become obligated to pay damages to investors to
      the
      extent they may be entitled to damages.  We cannot offer any assurances
      that we will be able to maintain the required current information contained
      in a
      prospectus or to obtain the effectiveness of any registration statement or
      post-effective amendments that we may file.




22


**I** **TEM
        2.** **P** **ROPERTIES**




The
      Company subleases approximately 1,850 square feet of office space, which serves
      as its and Polimatrix’s executive offices, at 4100 N. Fairfax Drive, Suite 1150,
      Arlington, VA 22203 from Washington Capital Advisors, LLC (“Washington
      Capital”) on a month to month basis. Lease payments are $4,600 per month and
      include utilities, furniture and equipment. Washington Capital is wholly owned
      by C. Thomas McMillen, our Chairman and CEO.




We
      lease
      approximately 2,500 square feet of office space at 7 West Cross Street,
      Hawthorne, NY 10532 which serves as Nexus’ administrative offices. The lease
      terminates February 9, 2008. Lease payments are $3,955 per month, inclusive
      of
      utilities and taxes.




We
      lease
      approximately 8,208 and 3,075 square feet of office and warehouse space from
      Bridgestone Capital, LLC (“Bridgestone”) at 10125 S. 52 nd Street,
      Franklin, WI 53132 which serves, respectively, as SHC’s administrative offices,
      SI’s administrative offices and warehouse and CL’s administrative offices and
      warehouse. Included in the leases are furniture and equipment and in the case
      of
      CL, tax and utilities. Lease payments were $7,794 and $3,250 per month,
      respectively. SHC and SecurityInc’s lease expires December 31, 2009 and CL’s
      lease expires June 30, 2010. Bridgestone is owned by Joel Konicek and Jim
      Peroutka, the CEO and Chief Techincal Officer, respectively, of
      SHC.




We
      sublease approximately 5,000 square feet of office and warehouse space at
      101 TDK Boulevard, Suite E, Peachtree City, GA, 30269 which serves as
      AAID’s administrative offices and warehouse. Lease payments are approximately
      $2,342 per month, not inclusive of utilities or taxes. In addition, AAID has
      agreed to reimburse the landlord fifty percent (50%) of the cost of the HVAC
      system maintenance contract. The lease terminates January 31, 2008.




We
      lease
      approximately 5,127 square feet of office space at 15 East Uwchlan Avenue,
      Suite
      428 and 430, Exton, PA  19341 which serves as CTI’s administrative
      offices and warehouse. Lease payments are approximately $6,323 per month, not
      inclusive of utilities or taxes. The lease terminates May 31, 2007.




**I** **TEM** **3** **.** **L** **EGAL** **P** **ROCEEDINGS**




None.


**I** **TEM** **4** **.** **S** **UBMISSION** **O** **F** **M** **ATTERS** **T** **O** **A** **** **V** **OTE** **O** **F** **S** **ECURITY** **H** **OLDERS**




None.




23




**PART
      II**





**ITEM
                5.**
              **M****ARKET****F****OR****C****OMMON****E****QUITY,****R****ELATED****S****TOCK****H****OLDER****M****ATTERS
                  AND****I****SSUER****P****URCHASES****O****F****E****QUITY****S****ECURITIES**




**Market
      Information**




Our
      Common Stock is currently traded on the OTC Electronic Bulletin Board under
      the
      symbol “HMSC.OB”. The following table sets forth, for the fiscal periods
      indicated, the high and low bid prices of a share of Common Stock for the last
      eight quarterly periods. Such quotations reflect inter-dealer prices, without
      retail mark-up, mark-down or commission and may not necessarily represent actual
      transactions. This
      information was obtained from Bloomberg L.P.




**Fiscal
                Year 2006**
            
            **High**
            
            **Low**4thQuarter (October - December, 2006)
            
            $
            0.01000
            
            $
            0.000923rdQuarter (July - September, 2006)
            
            $
            0.00288
            
            $
            0.001122nd
                Quarter (April - June, 2006)
            
            $
            0.00419
            
            $
            0.001811stQuarter (January - March, 2006)
            
            $
            0.00488
            
            $
            0.00137**Fiscal
                Year 2005**
            
            
            **High**
            
            
            **Low**4thQuarter (October - December, 2005)
            
            $
            0.0038
            
            $
            0.00193rdQuarter (July - September, 2005)
            
            $
            0.0026
            
            $
            0.00102nd
                Quarter (April - June, 2005)
            
            $
            0.0029
            
            $
            0.00081stQuarter (January - March, 2005)
            
            $
            0.0027
            
            $
            0.0010




**Holders**




As
      of
      March 26, 2007, there were approximately 322 holders of record of our Common
      Stock.




**Dividends**




We
      have
      not paid dividends on our Common Stock since inception and do not intend to
      pay
      any dividends to our stockholders in the foreseeable future. We currently intend
      to reinvest our earnings, if any, for the development and expansion of our
      business. The declaration of dividends in the future will be at the election
      of
      our Board of Directors and will depend upon our earnings, capital requirements
      and financial position, general economic conditions and other factors our Board
      of Directors deems relevant.




**Equity
      Compensation Plan Information**




The
      following table sets forth certain information as of December 31, 2006,
      concerning our equity compensation plans:




**Plan
                category**
            
            **Number
                of securities to be issued upon exercise of outstanding options,
                warrants
                and rights**
            
            **Weighted
                average exercise price of outstanding options, warrants and
                rights**
            
            **Number
                of securities remaining available for future
                issuance**Equity
                compensation plans approved by security holders
            
            
            690,000,000
            
            $
            0.00092
            
            
            30,000,000
                (1
            )Equity
                compensation plans not approved by security holders (2)
            
            
            276,000,000
            
            $
            0.00147
            
            
            -Total
            
            
            966,000,000
            
            $
            0.00108
            
            
            30,000,000





(1)
            Available
                for issuance pursuant to the Company’s 2005 Stock Option Plan (the “2005
                Plan”).




(2)
            Includes
                non-qualified options to purchase Common Stock issued to each of
                our
                non-employee directors and one
                consultant.


24


**Recent
      Sales Of Unregistered Securities**




During
      the year ended December 31, 2006, we made the following issuances of our
      securities that were not registered under the Securities Act:




On
      February 6, 2006, we entered into an Investment Agreement with Cornell Capital
      Partners, LP (“Cornell”) pursuant to which we exchanged 1,000,000 shares of our
      Series G Convertible Preferred Stock (the “Series G Stock”) for 450,000,000
      shares of our Common Stock held by Cornell. Each share of Series G Stock is
      convertible, at the discretion of Cornell, into 450 shares of Common Stock.
      The
      holders of the Series G Stock are not entitled to receive any dividends. As
      of
      December 31, 2006, none of the Series G Stock had been converted into shares
      of
      Common Stock. The issuance of the Series G Stock is intended to be exempt
      from registration by virtue of Section 4(2) of the Securities Act and the
      provisions of Regulation D thereunder, based on the Company’s belief that
      the issuance of the Series G Stock did not involve a public offering, as
      all of the purchasers were “accredited” investors and no general solicitation
      was involved in the offering.




On
      February 6, 2006, we entered into a Securities Purchase Agreement with Cornell
      pursuant to which we sold secured convertible debentures (the “February
      Debentures”) in the amount of $4,000,000. The February Debentures are
      convertible into Common Stock at a conversion price equal to the lesser of
      (1)
      $0.01 or (2) a ten percent discount to the lowest daily volume weighted average
      price of the Common Stock for the thirty days preceding conversion. The February
      Debentures bear interest at 5% per annum and the maturity date is February
      6,
      2009. The issuance and sale of the Debentures is intended to be exempt from
      registration by virtue of Section 4(2) of the Securities Act and the
      provisions of Regulation D thereunder, based on the Company’s belief that
      the offer and sale of the Debentures did not involve a public offering, as
      the
      purchaser was an “accredited” investor and no general solicitation was involved
      in the offering.




On
      February 6, 2006, we issued 50,000,000 shares of Common Stock to Cornell as
      fees
      in connection with the issuance of the February Debentures. The issuance of
      these shares is intended to be exempt from registration by virtue of
      Section 4(2) of the Securities Act.




On
      August
      21, 2006, we entered into a Securities Purchase Agreement with Cornell pursuant
      to which we sold secured convertible debentures (the “August Debentures”) in the
      amount of $4,000,000. The August Debentures are convertible into Common Stock
      at
      a conversion price equal to the lesser of (1) $0.01 or (2) a ten percent
      discount to the lowest daily volume weighted average price of the Common Stock
      for the thirty days preceding conversion. The August Debentures bear interest
      at
      5% per annum and the maturity date is August 21, 2009. The issuance and sale
      of
      the Debentures is intended to be exempt from registration by virtue of
      Section 4(2) of the Securities Act and the provisions of Regulation D
      thereunder, based on the Company’s belief that the offer and sale of the
      Debentures did not involve a public offering, as the purchaser was an
“accredited” investor and no general solicitation was involved in the offering.




On
      August
      21, 2006, in connection with the sale of the August Debentures, we issued to
      Cornell a warrant to purchase 100,000,000 shares of Common Stock. The warrant
      has an exercise price equal to $0.01 (subject to certain adjustments as set
      forth therein) and has a term that expires on August 20, 2011. This issuance
      was
      made in reliance upon the exemptions from registration provided by
      Section 4(2) of the Securities Act.




In
      December 2006, we issued to our financial advisor warrants to purchase
      20,000,000 of our Common Stock. These warrants have an exercise price of $0.0011
      per share and have a term of five years from the date of issuance. These
      warrants were issued as consideration for financial advisory services. This
      issuance was made in reliance upon the exemptions from registration provided
      by
      Section 4(2) of the Securities Act.




In
      December 2006, we issued to our investor relations firm warrants to purchase
      20,000,000 of our Common Stock. These warrants have an exercise price of $0.0036
      per share and have a term of four years from the date of issuance. These
      warrants were issued as part of the consideration for investor relations
      services. This issuance was made in reliance upon the exemptions from
      registration provided by Section 4(2) of the Securities Act.




In
      2006,
      $222,500 of our convertible debentures were converted into 177,795,830 shares
      of
      Common Stock at an average conversion price of $0.0015. These transactions
      were
      exempt from registration under Section 4(2) of the Securities Act.




25




**I** **TEM** **6** **.** **M** **ANAGEMENT’S** **D** **ISCUSSION** **A** **ND** **A** **NALYSIS** **O** **F** **F** **INANCIAL** **C** **ONDITION
        AND** **R** **ESULTS** **O** **F** **O** **PERATIONS**




*The
      following information should be read in conjunction with the consolidated
      financial statements of the Company and the notes thereto appearing elsewhere
      in
      this filing. Statements in this Management’s Discussion and Analysis or Plan of
      Operation and elsewhere in this prospectus that are not statements of historical
      or current fact constitute “forward-looking statements.”*




**Overview**




Homeland
      Security Capital Corporation was incorporated in Delaware on August 12, 1997,
      and is located in Arlington, Virginia. The Company focuses on the acquisition
      and development of homeland security businesses.




The
      Company’s original business from 1997 through 2003 was to develop and
      manufacture, at third party plants, digital set top boxes and digital video
      servers for the interactive television and high speed Internet
      markets.




On
      September 3, 2003, the Company elected to become a business development company
      ("BDC"), to be regulated pursuant to Section 54 of the Investment Company Act
      of
      1940, as amended (the "Investment Company Act"). A business development company
      is an investment company designed to assist eligible portfolio companies with
      capital formation and management advice. The Company then changed its business
      plan to primarily seek investments in developing companies.




On
      December 30, 2005, at a special stockholders meeting (the "Special Meeting"),
      the stockholders of the Company voted to amend the Certificate of Incorporation
      of the Company to change the name to “Homeland Security Capital Corporation” and
      voted to withdraw the Company's election as a BDC. Accordingly, the Company
      has
      changed its business plan to primarily seek acquisition of companies that
      provide homeland security products and services.




The
      Company is seeking to build consolidated enterprises through the acquisition
      and
      integration of multiple businesses in the homeland security industry. We will
      seek to create long-term shareholder value by taking controlling interests
      in
      companies that provide homeland security products and services and helping them
      develop through superior operations, management and acquisitions. Our value
      creation strategy is designed to foster significant growth at our platform
      companies by providing leadership and counsel, capital support and financial
      expertise, strategic guidance and operating discipline, access to best practices
      and industry knowledge. We are targeting emerging companies in fragmented
      sectors of the homeland security industry. These target companies are generating
      revenues from promising security products and services but face challenges
      in
      scaling their businesses to capitalize on opportunities in the homeland security
      industry.




As
      part
      of the Company's new business strategy, the Company acquired a majority interest
      in Nexus on February 8, 2006 through the purchase of $3.4 million in preferred
      stock of Nexus. Nexus is a mid-Atlantic security integrator for the corporate
      and governmental security markets. Based in Hawthorne, N.Y., Nexus' subsidiaries
      began operations in 2004. Nexus specializes in non-proprietary integrated
      security solutions, including access control, alarm, video, communication,
      perimeter protection and bomb and metal detection security systems.




The
      Company acquired a majority interest in SHC on August 22, 2006 through the
      purchase of $3 million of preferred stock in SHC. SHC manufactures, designs
      and
      supports RFID security and access control devices for the commercial and
      governmental security markets. Based in Milwaukee, WI, SHC and its subsidiaries
      specialize in proprietary and non-proprietary RFID products, including access
      control, asset tracking and the integration of multiple disciplines of
      electronic security and environmental and operational systems.




On
      September 18, 2006 the Company entered into a joint venture with Polimaster,
      a
      leader in the development and manufacturing of equipment for monitoring,
      detecting, locating and identifying nuclear and radioactive materials. The
      joint
      venture will operate as Polimatrix, Inc., which will be owned 51% by the
      Company. The PMX products and systems offer technology that provides a networked
      approach to hardware and software solutions for detection, identification,
      communication and mapping of nuclear and radioactive materials.




Where
      applicable in this annual report, references to the ‘Company’, ‘we’, ‘us’ and
‘our’ shall include Nexus, SHC and PMX.




The
      following analysis of the results of operation attempts to compare the results
      of operations from the year ended December 31, 2006 with the year ended December
      31, 2005. Since the Company has changed its business strategy and implemented
      that new strategy for the entire year of 2006, the financial statements for
      the
      two years are not prepared on the same accounting basis and are not
      comparable.




26




The
      following information should be read in conjunction with the consolidated
      financial statements of the Company and the notes thereto appearing elsewhere
      in
      this filing. Statements in this Management's Discussion and Analysis or Plan
      of
      Operations and elsewhere in this prospectus that are not statements of
      historical or current fact constitute "forward-looking statements."




**Results
      Of Operations**




**Fiscal
      Year Ended December 31, 2006 Compared To Year Ended December 31,
      2005**




**Revenues**




For
      the
      fiscal year ended December 31, 2006, the Company had sales of $8,682,245
      consisting of fees earned on security systems installation, integration
      contracts and product sales. The Company had no sales for the year ended
      December 31, 2005. The increase in sales is due to the implementation of the
      Company's new business strategy of acquiring and integrating businesses that
      provide homeland security products and services.




**Cost
      of goods sold**




For
      the
      fiscal year ended December 31, 2006, cost of sales was $6,642,653 consisting
      of
      materials, labor and other costs incurred by the Company and associated with
      security systems installation, integration contracts and product sales. The
      Company had no cost of sales for the year ended December 31, 2005. The increase
      in cost of sales is due to the implementation of the Company's new business
      strategy of acquiring and integrating businesses that provide homeland security
      products and services.




**Operating
      expenses**




Operating
      expenses for the year ended December 31, 2006 were $6,439,264 compared to
      $1,007,984 for the year ended December 31, 2005. The increase of $5,431,280
      or
      539% in operating expenses is primarily due to expenses associated with the
      operation of business as an operating entity and general and administrative
      expenses that were incurred in the acquisitions and operations of Nexus and
      SHC.
      The increase consisted of additional marketing costs of $139,003; personnel
      costs of $3,432,063; insurance and facility costs of $263,836; travel costs
      of
      $472,057; other operating costs of $145,289; depreciation of assets of $97,963;
      professional fees of $444,107; and administrative costs of 436,962. These costs
      and other expenses were incurred in connection with the Company's change in
      business strategy for the twelve month period.




**Other
      income and expense**




The
      Company had net other expense of $2,090,085 for the year ended December 31,
      2006
      compared to $299,361 for the year ended December 31, 2005 for an increase in
      net
      expenses of $1,790,724 or 598%. Income was increased by settlement of payables
      of $57,964. Other income and expense was decreased by a decrease in interest
      income of $17,773 and increases in interest expense of $199,821, amortization
      of
      debt discounts of $1,030,405, amortization of debt offering costs of $181,672
      and a loss in the derivative valuation of $419,017.




**Net
      income (loss)**




As
      a
      result of the foregoing, the Company recorded a net loss of $6,489,757 for
      the
      year ended December 31, 2006 compared to a net loss of $1,307,345 for the year
      ended December 31, 2005. This represents an increase in the net loss of
      $5,182,412 or 396%.




**Liquidity
      and Capital Resources**




The
      primary source of financing for the Company since its inception has been through
      the issuance of common stock, preferred stock and convertible debt. The Company
      had cash on hand of $1,214,183 at December 31, 2006 and $1,094,061 at December
      31, 2005. Our primary needs for cash are to fund our ongoing operations until
      such time as they begin to generate sufficient cash flow to fund operations
      and
      to have cash available to make additional acquisitions of businesses that
      provide homeland security products and services. While we believe that we have
      sufficient cash on hand to satisfy our current operating commitments, we will
      require additional funding in order to make additional
      acquisitions.




27




The
      Company entered into a Securities Purchase Agreement with Cornell, dated as
      of
      February 6, 2006, which provided for the purchase by Cornell of a Convertible
      Debenture (the "2006 A Debenture") in the amount of $4,000,000, which debenture
      is convertible into Common Stock. The conversion price of the 2006 A Debenture
      shall be equal to the lesser of (1) $0.01 or (2) a ten percent discount to
      the
      lowest daily volume weighted average price of the Common Stock for the thirty
      trading days preceding conversion. Cornell will be entitled to convert the
      2006
      A Debenture at a conversion price into Common Stock, provided that Cornell
      cannot convert into shares of Common Stock that would cause Cornell to own
      more
      than 4.9% of the issued and outstanding Common Stock. The 2006 A Debenture
      will
      bear interest at 5% per annum and the principal amount will be payable on the
      third anniversary of the effective date of the 2006 A Debenture. If the Common
      Stock is trading below the conversion price, the Company may redeem the 2006
      A
      Debenture at any time upon the payment of a redemption premium equal to twenty
      percent of the amounts redeemed.




On
      February 6, 2006, the Company entered into an Investment Agreement with Cornell,
      pursuant to which the Company exchanged with Cornell 1,000,000 shares of Series
      G Convertible Preferred Stock (the "Series G Preferred Shares") for 450,000,000
      shares of the Company's Common Stock owned by Cornell. Each share of Series
      G
      Preferred Shares may be converted, at Cornell’s discretion, into 450 shares of
      the Common Stock. The Series G Preferred Shares are senior to all Common Stock
      and all series of preferred stock of the Company. Each share of Series G
      Preferred Share has a liquidation preference of $0.10 plus any accrued and
      unpaid dividends. The holders of Series G Preferred Shares are not entitled
      to
      receive any dividends. The Company paid a $10,000 structuring fee to Yorkville
      in connection with the transaction.




On
      August
      21, 2006, the Company entered into a Securities Purchase Agreement with Cornell,
      which provided for the purchase by Cornell of a secured Convertible Debenture
      (the "2006 B Debenture") in the amount of $4,000,000, which debenture is
      convertible into Common Stock. The conversion price of the 2006 B Debenture
      shall be equal to the lesser of (1) $0.01 or (2) a ten percent discount to
      the
      lowest daily volume weighted average price of the Common Stock for the thirty
      trading days preceding conversion. The 2006 B Debenture has an interest at
      rate
      of 5% per annum and the principal amount will be payable on the third
      anniversary of the effective date of the 2006 B Debenture. If the Common Stock
      is trading below the conversion price at the date of redemption notice, the
      Company shall pay an amount equal to the principal amount being redeemed plus
      a
      redemption premium equal to twenty percent of the amounts redeemed and accrued
      interest Pursuant to a Security Agreement between the Company and Cornell,
      the
      Company's obligations under the 2006 B Debenture are secured by a pledge of
      all
      of its assets.




During
      the year ended December 31, 2006, we had a net increase in cash of $120,122.
      Our
      sources and uses of funds were as follows:




**Cash
      Flows from Operating Activities**




We
      used
      net cash of $6,090,042 in our operating activities during the year ended
      December 31, 2006. Our net cash used in operating activities resulted primarily
      from the Company's net loss of $6,489,757 for the year ended December 31, 2006,
      a use of $2,365,214 from net changes in current operating assets and liabilities
      for the year ended December 31, 2006 and settlement of debt totaling $91,268.
      These uses have been offset by $519,550 from the use of stock issued as
      compensation and for payment of expenses, $309,988 from the valuation of
      doubtful accounts receivable, $112,048 in depreciation and amortization,
      $222,201 in amortization of debt offering costs and $1,692,410 for the
      amortization of debt discounts and the valuation losses for changes in
      derivative liability for the year ended December 31, 2006.




**Cash
      Flows from Investing Activities**




We
      used
      net cash of $557,263 in our investing activities during the year ended December
      31, 2006, consisting of primarily $57,263 in purchases of fixed assets and
      $500,000 in the purchase of a subsidiary.




**Cash
      Flows from Financing Activities**




We
      provided cash of $6,767,427 from financing activities during the year ended
      December 31, 2006, consisting of $8,000,000 in proceeds from convertible
      debentures issued less $1,089,863 in costs associated with the issuance of
      those
      debentures, and $142,710 in payments of notes. We also converted debentures
      and
      received net proceeds of $33,902.




As
      of
      December 31, 2006, we had a deficit in net working capital of
      $3,569,679.





28




**New
      Accounting Pronouncements**




In
      December 2004, the FASB issued SFAS No. 123R "Shared Based Payment". This
      statement is a revision of SFAS Statement No. 123, "Accounting for Stock-Based
      Compensation" and supersedes APB Opinion No. 25, "Accounting for Stock Issued
      to
      Employees," and its related implementation guidance. SFAS 123R addresses all
      forms of shared based payment ("SBP") awards, including shares issued under
      employee stock purchase plans, stock options, restricted stock and stock
      appreciation rights. Under SFAS 123R, SBP awards result in a cost that will
      be
      measured at fair value on the awards' grant date, based on the estimated number
      of awards that are expected to vest and will be reflected as compensation cost
      in the historical financial statements. This statement is effective for public
      entities that file as small business issuers as of the beginning of the first
      interim or annual reporting period that begins after June 15, 2005. The Company
      has adopted SFAS No. 123R.




In
      May
      2005, the FASB issued Statement of Financial Accounting Standards No. 154 *“Accounting
      Changes and Error Corrections, an amendment of APB Opinion 20 and FASB Statement
      No. 3,”* which
      changes the requirements for accounting for and reporting on a change in
      accounting principle. This statement is effective for accounting changes and
      corrections of errors made in fiscal years beginning after December 15, 2005.
      We
      believe that the adoption of SFAS No. 154 will not have a material impact on
      our
      results of operations.





In
      March
      2006, the FASB issued SFAS No. 156 *“Accounting
      for Servicing of Financial Assets, an amendment of FASB No. 140,”* which
      modifies the accounting for and reporting of servicing asset and servicing
      liabilities. This statement is effective as of the beginning of our first fiscal
      year that begins after September 15, 2006. SFAS No. 156 is not currently
      applicable to the company and, we believe that the adoption of SFAS No. 156
      will
      not have a material impact on our results of operations.





In
      June
      2006, the FASB issued Financial Interpretation No. (FIN) 48, “ *Accounting
      for Uncertainty in Income Taxes - an interpretation of FASB Statement
      109* .”
FIN
      48
      prescribes a recognition threshold and a measurement attribute for the financial
      statement recognition and measurement of a tax position taken or expected to
      be
      taken in a tax return. This interpretation also provides guidance on
      de-recognition, classification, interest and penalties, accounting in interim
      periods, disclosure and transition. This interpretation is effective for fiscal
      years beginning after December 15, 2006. The Company is currently evaluating
      the
      impact of applying the various provisions of FIN 48.




In
      September 2006, the FASB issued SFAS No. 157, “ *Fair
      Value Measurements* ,”
that
      provides guidance for using fair value to measure assets and liabilities. Under
      SFAS 157, fair value refers to the price that would be received to sell an
      asset
      or paid to transfer a liability in an orderly transaction between market
      participants in the market in which the reporting entity transacts. SFAS 157
      establishes a fair value hierarchy that prioritizes the information used to
      develop the assumptions that market participants would use when pricing the
      asset or liability. The fair value hierarchy gives the highest priority to
      quoted prices in active markets and the lowest priority to unobservable data.
      In
      addition, SFAS 157 requires that fair value measurements be separately disclosed
      by level within the fair value hierarchy. This standard will be effective for
      financial statements issued for fiscal periods beginning after November 15,
      2007
      and interim periods within those fiscal years. The Company is currently
      evaluating the impact of applying the various provisions of SFAS 157.




**Off-Balance
      Sheet Arrangements**




There
      are
      no off-balance sheet arrangements entered into by the Company.




**Critical
      Accounting Policies And Estimates**




***Use
      of 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 those estimates.




***Fair
      Value of Financial Instruments -*** The
      carrying amount of items included in working capital approximates fair value
      because of the short maturity of those instruments. The carrying value of the
      Company’s debt approximates fair value because it bears interest at rates that
      are similar to current borrowing rates for loans of comparable terms, maturity
      and credit risk that are available to the Company.




***Debt
      Offering Costs*** ****** ***-*** Debt
      offering costs are related to private placements and are being amortized on
      a
      straight line basis over the term of the related debt, most of which is in
      the
      form of convertible debentures. Should conversion occur prior to the stated
      maturity date, the remaining unamortized cost is expensed.




29




***Revenue
      Recognition -*** Revenue
      is recognized when earned. The Company recognizes revenues from the sale of
      products as the sales cycle is completed by delivery and acceptance of the
      products. The Company recognizes revenue from the services it provides using
      the
      percentage completion method of accounting for longer term contracts. Revenue
      from service contracts lasting for up to one year are recognized when the
      services are performed. Cash payments in advance are recorded as deferred
      revenue and are recorded as revenue when the products are shipped or the
      services are performed.




***Income
      Taxes -*** The
      Company accounts for income taxes using the asset and liability method, whereby
      deferred tax assets and liabilities are determined based upon the differences
      between financial reporting and tax bases of assets and liabilities and are
      measured using the enacted tax rates and laws that will be in effect when the
      differences are expected to reverse. A valuation allowance related to the
      deferred tax assets is also recorded when it is more likely than not that some
      or all of the deferred tax asset will not be realized.




***Segment
      Reporting -*** Statement
      of Financial Accounting Standards No. 131 ("SFAS 131"), "Disclosure About
      Segments of an Enterprise and Related Information" requires use of the
      "management approach" model for segment reporting. The management approach
      model
      is based on the way a company's management organizes segments within the company
      for making operating decisions and assessing performance. Reportable segments
      are based on products and services, geography, legal structure, management
      structure, or any other manner in which management disaggregates a company.
      The
      Company's operations are classified into two principal reporting segments that
      provide different products or services.




**I** **TEM** **7** **.** **F** **INANCIAL** **S** **TATEMENTS**




Th e
      information required by this item is included in the appendix attached
      hereto.




**I** **TEM** **8** **.** **C** **HANGES** **I** **N** **A** **ND** **D** **ISAGREEMENTS** **W** **ITH** **A** **CCOUNTANTS** **O** **N** **A** **CCOUNTING** **A** **ND** **F** **INANCIAL** **D** **ISCLOSURE**




On
      May 3,
      2005, the Company engaged HJ & Associates, LLC as its principal accountant
      to audit the Company's financial statements. There have been no disagreements
      between us and HJ & Associates on any matter of accounting principles,
      practices or financial statement disclosure.




**I** **TEM** **8A** **.** **C** **ONTROLS** **A** **ND** **P** **ROCEDURES**




***Evaluation
      of Disclosure Controls and Procedures***





Disclosure
      controls and procedures are controls and other procedures that are designed
      to
      ensure that information required to be disclosed by our company is recorded,
      processed, summarized and reported, within the time periods specified in the
      rules and forms of the SEC. C. Thomas McMillen, our Chief Executive Officer
      and
      our Principal Accounting Officer, is responsible for establishing and
      maintaining disclosure controls and procedures for our company.




Our
      management has evaluated the effectiveness of our disclosure controls and
      procedures as of December 31, 2006 (under the supervision and with the
      participation of the Chief Executive Officer and the Principal Accounting
      Officer), pursuant to Rule 13a-15(b) promulgated under the Exchange Act. As
      part of such evaluation, management considered the matters discussed below
      relating to internal control over financial reporting. Based on this evaluation,
      our company’s Chief Executive Officer and Principal Accounting Officer have
      concluded that our company’s disclosure controls and procedures were not
      effective as of December 31, 2006, due to certain material weaknesses in
      internal control over financial reporting.




The
      term
“internal control over financial reporting” is defined as a process designed by,
      or under the supervision of, the registrant’s principal executive and principal
      financial officers, or persons performing similar functions, and effected by
      the
      registrant’s board of directors, management and other personnel, 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 and includes those policies and
      procedures that:




·
            pertain
                to the maintenance of records that in reasonable detail accurately
                and
                fairly reflect the transactions and dispositions of the assets of
                the
                registrant;




·
            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
                registrant are being made only in accordance with authorizations
                of
                management and directors of the registrant;
                and




30




·
            provide
                reasonable assurance regarding prevention or timely detection of
                unauthorized acquisition, use or disposition of the registrant’s assets
                that could have a material effect on the financial
                statements.




Our
      auditors believe that our methodology for measuring percent of completed
      contracts for our Nexus subsidiary could lead to a material misstatement of
      revenue. We intend to cooperate with our auditors in 2007 to address this
      material weakness.




***Changes
      In Internal Controls Over Financial Reporting***





In
      connection with the evaluation of the Company’s internal controls during the
      Company’s last fiscal year, the Company’s Principal Executive Officer and
      Principal Accounting Officer have determined that there are no changes to the
      Company’s internal controls over financial reporting that have materially
      affected, or are reasonably likely to materially effect, the Company’s internal
      controls over financial reporting.





***Inherent
      Limitations on Effectiveness of Controls***





The
      Company’s management does not expect that its disclosure controls or its
      internal control over financial reporting will prevent or detect all error
      and
      all fraud. A control system, no matter how well designed and operated, can
      provide only reasonable, not absolute, assurance that the control system’s
      objectives will be met. The design of a control system must reflect the fact
      that there are resource constraints, and the benefits of controls must be
      considered relative to their costs. Further, because of the inherent limitations
      in all control systems, no evaluation of controls can provide absolute assurance
      that misstatements due to error or fraud will not occur or that all control
      issues and instances of fraud, if any, within the Company have been detected.
      These inherent limitations include the realities that judgments in decision
      making can be faulty and that breakdowns can occur because of simple error
      or
      mistake. Controls can also be circumvented by the individual acts of some
      persons, by collusion of two or more people, or management override of the
      controls. The design of any system of controls is based in part on certain
      assumptions about the likelihood of future events, and there can be no assurance
      that any design will succeed in achieving its stated goals under all potential
      future conditions. Projections of any evaluation of controls effectiveness
      to
      future periods are subject to risks. Over time, controls may become inadequate
      because of changes in conditions or deterioration in the degree of compliance
      with policies or procedures.




**I** **TEM** **8B** **.** **O** **THER** **I** **NFORMATION**




None.




31




**PART
      III**




**I** **TEM** **9** **.** **D** **IRECTORS** **A** **ND** **E** **XECUTIVE** **O** **FFICERS**




The
      following sets forth the name, age and positions of our executive officers
      and
      directors as of March 26, 2007. Also set forth below is information as to the
      principal occupation and background for such persons. No family relationships
      exist between these individuals and they have not been a party to any bankruptcy
      or receivership proceeding, any criminal proceeding, or been enjoined from
      participating in any business, including the securities industry or otherwise
      during the last five years.




**Executive
      Officers And Directors**




Our
      executive officers and directors are as follows:




**Name**
            
            **Age**
            
            **Position**
            
            **Period
                Served**C.
                Thomas McMillen
            
            54
            
            President,
                Chief Executive Officer and Chairman of the Board
            
            August
                30, 2005 to PresentCarl
                J. Rickertsen
            
            46
            
            Director
            
            December
                30, 2005 to PresentZev
                E. Kaplan
            
            54
            
            Director
            
            December
                30, 2005 to PresentPhilip
                A. McNeill
            
            47
            
            Director
            
            December
                30, 2005 to Present




Below
      are
      biographies of our executive officers and directors:




***C.
      Thomas McMillen, President, Chief Executive Officer And Chairman Of The
      Board***




Mr.
      McMillen has served as the Company’s Chief Executive Officer and President since
      August 30, 2005. Mr. McMillen also currently serves as Vice Chairman of Fortress
      International Group, Inc., a mission critical firm and the successor company
      to
      Fortress America Acquisition Corporation, which completed its initial public
      offering in July 2005. In March 2003, Mr. McMillen co-founded Global Secure
      Corp., a homeland security company providing integrated products and services
      for critical incident responders, and served as its Chief Executive Officer
      until February 2004. From February 2004 until February 2005, Mr. McMillen served
      as a consultant to Global Secure Corp. From December 2003 to February 2004,
      Mr.
      McMillen served as Vice Chairman and Director of Sky Capital Enterprises, Inc.,
      a venture firm, and until February 2005 served as a consultant. From March
      2003
      to February 2004, Mr. McMillen served as Chairman of Sky Capital Holdings,
      Ltd,
      Sky Capital Enterprises’ London stock exchange listed brokerage affiliate. Mr.
      McMillen has also been Chief Executive Officer of Washington Capital, a merchant
      bank and one of our stockholders since 2003. Mr. McMillen also served as
      Chairman of TPF Capital, its predecessor company, from 2001 through 2002. Mr.
      McMillen has also been an independent consultant throughout his career. Mr.
      McMillen received a Bachelor of Science in Chemistry from the University of
      Maryland and a Bachelor and Master of Arts from Oxford University as a Rhodes
      Scholar.




***Carl
      J. Rickertsen, Director***




Mr.
      Rickertsen is currently Managing Partner of Pine Creek Partners, a private
      equity investment firm, a position he has held since January 2004. From January
      1998 until January 2004, Mr. Rickertsen was Chief Operating Officer and a
      Partner at Thayer Capital Partners (“Thayer”), a private equity investment firm.
      From September 1994 until January 1998, Mr. Rickertsen was a Managing Partner
      at
      Thayer. Mr. Rickertsen was a founding Partner of three Thayer investment funds
      totaling over $1.4 billion and is a published author. Mr. Rickertsen is also
      a
      member of the Board of Directors of MicroStrategy, Inc., a software company;
      Convera Corporation, a search-engine software company; and United Agri Products,
      a distributor of farm and agricultural products. Mr. Rickertsen received a
      B.S.
      from Stanford University and an M.B.A. from Harvard Business School in
      1987.




32




***Zev.
      E. Kaplan, Director***




Mr.
      Kaplan is the founder of a law firm concentrating its practice in the areas
      of
      transportation, infrastructure, government relations, business and
      administrative law. Mr. Kaplan is currently General Counsel to Cash Systems
      Inc., a publicly traded company in the financial services business, a position
      he has held since March 2005. From April 1995 to the present, Mr. Kaplan has
      been General Counsel to the Regional Transportation Commission of Southern
      Nevada, where he played a key policy role in the start-up of the local transit
      systems and their facilities. In addition, Mr. Kaplan has had a key role in
      the
      planning and financing of numerous major public infrastructure projects in
      Las
      Vegas. Prior to starting his law firm, Mr. Kaplan spent 15 years in government
      service in the following capacities: Senior Deputy District Attorney with the
      Clark County District Attorney’s Office-Civil Division; General Counsel to the
      Nevada Public Service Commission; and Staff Attorney to the U.S. Senate
      Committee on Commerce, Science and Transportation. Mr. Kaplan received his
      J.D.
      from Southwestern University School of Law and attended Georgetown University
      for post-graduate legal studies; received an MBA from the University of Nevada,
      Las Vegas; and received a B.S. from the Smith School of Business at the
      University of Maryland in 1974.




***Philip
      A. McNeill, Director***




Mr. McNeill
      is a Managing Partner and the Chief Investment Officer of SPP Mezzanine
      Partners, the General Partner of SPP Mezzanine Funding, LP, a position he has
      held since November 2003. Prior to forming SPP Mezzanine Partners,
      Mr. McNeill served as Managing Director of Allied Capital Corporation,
      where he was co-head of its Private Finance and Mezzanine activities and a
      member of its Investment Committee. From the time of his appointment as Managing
      Director in 1998 until he left Allied Capital in 2002, the company grew from
      approximately $740 million in assets to nearly $2.4 billion.
      Mr. McNeill joined Allied Capital directly from M&T Capital, the SBIC
      investment division of M&T Bank, where he was a Vice President of M&T
      Capital/M&T Bank and an investment professional from 1988 to 1993.
      Mr. McNeill serves on the Board of Advisors of the National Foundations for
      Teaching Entrepreneurship for the Greater Washington Region and volunteers
      to
      mentor young entrepreneur students in inner-city schools. Mr. McNeill
      graduated from Syracuse University in 1981 with a B.S. in Business
      Administration, with concentrations in Accounting, Finance, and Law & Public
      Policy. Mr. McNeill earned his MBA from Harvard Business School in
      1985.




**Term
      of Office**




Each
      director holds office until our annual meeting of stockholders and until his
      successor is duly elected and qualified. Officers are elected by our Board
      of
      Directors and hold office at the discretion of our Board of
      Directors.




**Family
      Relationships**




To
      our
      knowledge, there are no family relationships between any of the directors or
      executive officers of the Company.




**Legal
      Proceedings**




To
      our
      knowledge, none of the Company’s directors have been involved in legal
      proceedings.




**Committees
      Of The Board Of Directors**




***Audit
      Committee.*** Zev
      Kaplan and Phillip McNeill serve as members of the Audit Committee. Both are
      independent members of the Board, and our board has determined that
      Mr. McNeill satisfies the criteria for an audit committee financial expert
      under Rule 401(e) of Regulation S-B of the rules of the SEC. Each
      Audit Committee member is able to read and understand fundamental financial
      statements, including our company’s consolidated balance sheet, statement of
      operations and statement of cash flows. The functions of the Audit Committee
      are
      primarily to: (i) provide advice to the Board in selecting, evaluating or
      replacing outside auditors, (ii) review the fees charged by the outside auditors
      for audit and non-audit services, (iii) ensure that the outside auditors prepare
      and deliver annually a Statement as to Independence, (iv) meet with outside
      auditors to discuss the results of their examination and their evaluation of
      internal controls and the overall quality of financial reporting, and (v) meet
      with the outside auditors to discuss the scope of the annual audit and to
      discuss the audited financial statements. The Audit Committee met 2 times in
      2006.




***Audit
      Committee Reports.*** **** Phillip
      McNeill, a member of the Audit Committee, has reviewed and discussed
      with our independent auditors the matters required to be discussed by SAS
      61. The Audit Committee has received the written disclosures and the letter
      from
      the independent accountants required by Independence Standards Board Standard
      No. 1, and has discussed with the independent accountant the independent
      accountant’s independence. Based on these reviews and discussions, the Audit
      Committee recommended to the Board that the audited financial statements be
      included in the Company’s Annual Report on Form 10-KSB for the most recent
      fiscal year.




33




**Section
      16(a) Beneficial Ownership Reporting Compliance**




Section
      16(a) of the Exchange Act, requires the Company’s Directors and executive
      officers, and persons who beneficially own more than 10% of a registered class
      of the Company’s equity securities, to file with the SEC initial reports of
      ownership and reports of changes in ownership of Common Stock and the other
      equity securities of the Company. Officers, Directors, and persons who
      beneficially own more than 10% of a registered class of the Company’s equity
      securities are required by the regulations of the SEC to furnish the Company
      with copies of all Section 16(a) forms they file. Based solely on a review
      of
      reports filed with the Company, it appears that only one required report under
      Section 16(a) of the 1934 Act was not filed timely for the fiscal year
      2006.




**Code
      of Ethics**




On
      March
      16, 2004, the Board of Directors of the Company adopted a written Code of Ethics
      designed to deter wrongdoing and promote honest and ethical conduct, full,
      fair
      and accurate disclosure, compliance with laws, prompt internal reporting and
      accountability to adherence to the Code of Ethics. This Code of Ethics has
      been
      filed with SEC as an Exhibit to the Company’s Form 10-K for the year ended
      December 31, 2003.




**I** **TEM** **10** **.** **E** **XECUTIVE** **C** **OMPENSATION**




**Summary
      Compensation Table**




The
      following table sets forth the annual and long-term compensation for services
      in
      all capacities for the fiscal years ended December 31, 2006.




**Name
                and Principal Position**
            
            **Year**
            
            **Salary**
            
            **Bonus**
            
            **Stock
                Awards**
            
            **Option
                Awards**
            
            **Non-Equity
                Incentive Plan Compensation**
            
            **Nonqualified
                Deferred Compensation Earnings**
            
            **All
                Other Annual Compensation (1)**
            
            **Total**C.
                Thomas McMillen, Chairman of the Board, Chief Executive Officer and
                President
            
            
            2006
            
            $
            191,667
            
            $
            100,000
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            5,526
            
            $
            297,193




(1)  Reflects
      Company-paid health insurance.




**Long-Term
      Incentive Plans Awards In Last Fiscal Year**




The
      Company did not grant any long-term incentive plan awards in the fiscal year
      ended December 31, 2006.




**Stock
      Option Plans**




The
      Company established a stock option plan (the “1995 Plan”) in 1995 to provide
      additional incentives to its officers and employees. Eligible persons are all
      employees employed on the date of grant. Management may vary the terms,
      provisions and exercise price of individual options granted, with both incentive
      stock options and non-qualified options authorized for grant. In 1995, the
      Board
      approved the issuance of up to 8,946 options to acquire common shares of which
      2,100 were outstanding at December 31, 2002. There were no outstanding options
      under the 1995 Plan at December 31, 2006.




In
      1997,
      the Company established an additional stock option plan (the “1997 Plan”), under
      which 10,000 options to acquire shares of Common Stock were reserved for
      issuance. There were no options to purchase shares of Common Stock outstanding
      under the 1997 Plan at December 31, 2006. In 2001, the Company established
      an
      additional stock option plan (the “2001 Plan”), under which 500,000 options to
      acquire shares of Common Stock were reserved for issuance. There were no options
      to purchase shares of Common Stock outstanding under the 2001 Plan at December
      31, 2006.




34




In
      2002,
      the Company established an additional stock option plan (the “2002 Plan”) under
      which 10,000,000 options to acquire shares of Common Stock were reserved for
      issuance. There were no options to purchase shares of Common Stock outstanding
      under the 2002 Plan at December 31, 2006.




The
      Company has also granted options to members of the Board and to a consultant
      of
      the Company which are outside the aforementioned stock plans. The exercise
      price
      for the stock options granted to the directors and the Consultant were $0.0014
      and $0.0017, respectively, which represented the closing share price on the
      date
      of grant. These options expire 10 years from their grant date. There were
      276,000,000 options issued outside of stock option plans outstanding at December
      31, 2006.




On
      August
      29, 2005, the Board adopted the 2005 Plan, under which the Company reserved
      720,000,000 shares of Common Stock for issuance. Participants eligible under
      the
      2005 Plan are key employees and non-employee Directors. In connection with
      his
      employment by the Company and appointment to the Board on August 29, 2005,
      Mr.
      McMillen was previously granted options to purchase 580,000,000 shares of Common
      Stock (the “McMillen Options”). The McMillen Options vested as follows: (i)
      options to acquire 116,000,000 shares of Common Stock vested on August 29,
      2005,
      and (ii) options to acquire 116,000,000 additional shares of Common Stock vested
      at the end of each of the first, second, third and fourth calendar quarters
      following the initial vesting date. There were a total of 690,000,000 options
      outstanding under the 2005 Plan at December 31, 2006.




**Employment
      Contracts**




On
      August
      29, 2005, the Company and Mr. McMillen entered into the McMillen Employment
      Agreement whereby the Company hired Mr. McMillen to serve as its Chief Executive
      Officer and President for a term of two years, and renewable by mutual agreement
      of the Company and Mr. McMillen. Mr. McMillen’s initial annual salary under this
      agreement was $120,000 with the possibility of a performance bonus. Pursuant
      to
      the McMillen Employment Agreement, McMillen was awarded options to acquire
      a
      total of 580,000,000 shares of Common Stock as described above. Mr. McMillen
      also received a sign-on bonus of $125,000.




**Outstanding
      Equity Awards at Fiscal Year-End**




**Outstanding
      Equity Awards at Fiscal Year-End Table**





**Option
                Awards**
            
            **Stock
                Awards****Name**
            
            **Number
                of Securities Underlying Unexercised Options**
              **(#)
                Exercisable**
            
            **Number
                of Securities Underlying Unexercised Options (#)
                Unexercisable**
            
            **Equity
                Incentive Plan Awards: Number of Securities Underlying Unexercised
                Unearned Options (#)**
            
            **Option
                Exercise Price**
              **($
                per share)**
            
            **Option
                Expiration Date**
            
            **Number
                of Shares or Units of Stock That Have Not Vested
                (#)**
            
            **Market
                Value of Shares or Units of Stock That Have Not Vested
                ($)**
            
            **Equity
                Incentive Plan Awards: Number of Unearned Shares, Units or Other
                Rights
                That Have Not Vested (#)**
            
            **Equity
                Incentive Plan Awards: Market or Payout Value of Unearned Shares,
                Units or
                Other Rights That Have Not Vested ($)**C.
                Thomas McMillen
              Chief
                Executive Officer and President
            
            
            580,000,000
            
            
            0
            
            
            —
            
            $
            .0.0008
            
            
            8/29/2015
            
            
            —
            
            
            —
            
            
            —
            
            
            —




35


**Director
      Compensation**




**Director
      Compensation Table**





**Name**
            
            **Fees
                Earned or Paid in Cash**
            
            **Stock
                Awards**
            
            **Option
                Awards**
            
            **Non-Equity
                Incentive Plan Compensation**
            
            **Nonqualified
                Deferred Compensation Earnings**
            
            **All
                Other Compensation**
            
            **Total**Carl
                J. Rickertsen
            
            $
            20,000
            
            $
            0
            
            
            —
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            20,000Zev
                E. Kaplan
            
            $
            20,000
            
            $
            0
            
            
            —
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            20,000Philip
                A. McNeill
            
            $
            20,000
            
            $
            0
            
            
            —
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            20,000




Each
      Director of the Company, except Mr. McMillen, is entitled to receive his $5,000
      per scheduled board meeting attended. Each Director of the Company will be
      reimbursed for reasonable expenses incurred in connection with their service
      on
      the Board.




Upon
      election to the Board of Directors on December 30, 2005, each director except
      Mr. McMillen, was granted options to purchase 72,000,000 shares of Common Stock,
      of which 8,000,000 vested upon their election to the Board, and the remainder
      vests in 8,000,000 increments at the end of each calendar quarter thereafter.
      The exercise price for the stock options granted upon election was $.0014 per
      share, which represents the closing share price on the date of the grant. These
      options expire 10 years from their grant date.




**ITEM
                11.**
              **S****ECURITY****O****WNERSHIP****O****F****C****ERTAIN****B****ENEFICIAL****O****WNERS****A****ND****M****ANAGEMENT****A****ND****R****ELATED****S****TOCKHOLDER**




***Principal
      Stockholders.*** The
      following table sets forth, information with respect of the beneficial ownership
      as of March 26, 2007, for any person who is known to the Company to be the
      beneficial owner of more than five percent (5%) of the Common Sock.




**Name
                and Address**
            
            **Title
                of Class**
            
            **Shares**
              **Beneficially**
              **Owned**
            
            **Percent**
              **of
                Class****(1)**Cornell
                Capital Partners, LP
            
            
            Common
                Stock
            
            
            391,835,000
            (2)
            
            9.38
            %101
                Hudson StJersey
                City, NJ 07302





(1)
            Applicable
                percentage of ownership is based on 4,175,525,035 shares of Common
                Stock
                outstanding as of March 26, 2007 together with securities convertible
                or
                exercisable into shares of Common Stock within 60 days for the
                stockholder. Beneficial ownership is determined in accordance with
                the
                rules of the SEC and generally includes voting or investment power
                with
                respect to securities. Shares of Common Stock subject to securities
                that
                are currently exercisable or exercisable within 60 days of March
                26, 2007,
                are deemed to be beneficially owned by the person holding such securities
                for the purpose of computing the percentage of ownership of such
                person,
                but are not treated as outstanding for the purpose of computing the
                percentage ownership of any other person.




(2)
            Out
                of these shares, 50,000,000 shares of Common Stock were acquired
                as
                compensation pursuant to a Securities Purchase Agreement, dated February
                6, 2006, by and between the Company and Cornell, pursuant to which
                the
                Company issued to Cornell a Convertible Debenture in the amount of
                $4,000,000, which debenture is convertible into Common Stock.The
                Company issued an additional $4,000,000 in debentures to Cornell
                in August
                2006, which are also convertible into Common Stock on the same terms
                and
                conditions. Cornell also holds a warrant to purchase 100,000,000
                shares of
                our Common Stock at a price of $0.01 per share. In addition, Cornell
                holds
                shares of our Series F Preferred Stock convertible into approximately
                1,000,000,000 shares of our Common Stock and 1,000,000 shares of
                our
                Series G Preferred Stock convertible into 450,000,000 shares of our
                Common
                Stock. Cornell cannot convert either our debentures, warrants or
                preferred
                stock into shares of Common Stock that would cause Cornell to own
                more
                than 4.9% of the issued and outstanding Common Stock. The remaining
                shares
                of Common Stock beneficially owned by Cornell were acquired from
                us
                through various private placement
                transactions.




36


***Management.*** The
      following table shows the amount of capital stock of the Company beneficially
      owned by the Company’s directors, executive officers named in the Summary
      Compensation Table and by all directors and executive officers as a group as
      of
      March 26, 2007.




**Name
                and Address**
            
            **Title
                of Class**
            
            **Shares**
              **Beneficially**
              **Owned**
            
            **Percent**
              **of
                Class**C.
                Thomas McMillen
            
            Common
                Stock
            
            1,830,000,000
            (1)
            30.5%Carl
                J. Rickertsen
            
            Common
                Stock
            
            48,000,000
            (2)
            1.1%Zev
                E. Kaplan
            
            Common
                Stock
            
            48,000,000
            (3)
            1.1%Philip
                A. McNeill
            
            Common
                Stock
            
            48,000,000
            (4)
            1.1%All
                Officers and Directors as Group
            
            Common
                Stock
            
            1,974,000,000
            
            32.1%


The
      applicable percentage of beneficial ownership is based on 4,175,525,035 shares
      of Common Stock outstanding as of March 26, 2007, together with securities
      convertible or exercisable into shares of Common Stock within 60 days for each
      stockholder. Shares of Common Stock subject to securities that are currently
      exercisable or exercisable within 60 days of March 26, 2007 are deemed to be
      beneficially owned by the person holding such securities for the purpose of
      computing the percentage of ownership of such person, but are not treated as
      outstanding for the purpose of computing the percentage ownership of any other
      person. Beneficial ownership, which is determined in accordance with the rules
      and regulations of the SEC, means the sole or shared power to vote or direct
      the
      voting or to dispose or direct the disposition of our Common Stock. Unless
      otherwise indicated, all of the shares are owned directly, and the person has
      sole voting and dispositive power. Except as otherwise indicated, the business
      address for each of the following persons is 4100 North Fairfax Drive,
      Suite 1150, Arlington, Virginia 22203-1664.




(1)
            Mr.
                McMillen owns 1,250,000,000 shares of Common Stock. On August 30,
                2005,
                McMillen was granted option to purchase 580,000,000 shares of Common
                Stock
                pursuant to the McMillen Employment Agreement. All of these options
                have
                vested.




(2)
            Mr.
                Rickertsen was granted options to purchase 72,000,000 shares of Common
                Stock, of which 48,000,000 were exercisable on March 26, 2007. The
                balance
                vests in 8,000,000 increments each calendar
                quarter.




(3)
            Mr.
                Kaplan was granted options to purchase 72,000,000 shares of Common
                Stock,
                of which 48,000,000 were exercisable on March 26, 2007. The balance
                vests
                in 8,000,000 increments each calendar
                quarter.




(4)
            Mr.
                McNeill was granted options to purchase 72,000,000 shares of Common
                Stock,
                of which 48,000,000 were exercisable on March 26, 2007. The balance
                vests
                in 8,000,000 increments each calendar
                quarter.




**I** **TEM** **12** **.** **C** **ERTAIN** **R** **ELATIONSHIPS** **A** **ND** **R** **ELATED** **T** **RANSACTIONS** **A** **ND** **D** **IRECTOR** **I** **NDEPENDENCE**




**Certain
      Relationships And Related Transactions**




On
      February 11, 2005, we became entitled to receive a distribution of $5,240,000
      from Yorkville in connection with our Preferential Rights Membership Interest
      in
      Yorkville, pursuant to the terms of Yorkville’s Limited Liability Company
      Agreement, as amended. Accordingly, upon its receipt of the distribution in
      2005, we no longer has any ownership interest in Yorkville. Our receipt of
      the
      Preferential Rights Membership Interest was precipitated by the Managing Member
      of Yorkville announcing that Yorkville will begin winding up its affairs and
      is
      expected to dissolve later this year due to recently adopted rules and rule
      amendments by the SEC. Yorkville is the investment manager of a private equity
      fund that is a principal holder of our equities.




Our
      ownership interest in Yorkville was originally a minority Common Membership
      Interest. Pursuant to the terms of a Second Amendment to the Limited Liability
      Company Agreement of Yorkville entered into on January 31, 2005 among Yorkville
      and the other equity owners of Yorkville, our minority Common Membership
      Interest was reconstituted as Preferential Rights Interest. As a result, we
      became entitled to receive dividends and other distributions of Yorkville’s
      available assets in an amount up to the purchase price paid by us for our
      original Common Membership Interest. The $5,240,000 preferential distribution
      was received by us in 2005 and the proceeds represent the entire purchase price
      paid by us for our original Common Membership Interest.




On
      June
      7, 2005, Washington Capital, a private equity firm owned by McMillen, and Global
      Defense Corp. executed a lease with Cambridge Associates LLC for our current
      office space located at 4100 North Fairfax Drive, Suite 1150, Arlington, VA
      22203-1664. McMillen served as Chairman of the Board and Chief Executive Officer
      of Global Defense Corp. until July 2005, when he stepped down as CEO. Washington
      Capital leased the equipment and provided it and the space to FAAC with a
      separate sublease arrangement that started July 2005. We moved in the current
      office space on September 1, 2005 and did not pay any rent because of BDC
      limitations on doing business with affiliates. On March 1, 2006, Global Defense
      Corp. assigned its interest in the lease to us with Washington Capital’s
      approval. On March 1, 2006, the Company started paying a monthly rent (which
      includes utilities, furniture and equipment) in the amount of $4,600 to
      Cambridge Associates LLC.




37




We
      lease
      approximately 8,208 and 3,075 square feet of office and warehouse space from
      Bridgestone at 10125 S. 52 nd Street,
      Franklin, WI 53132 which serves, respectively, as SHC’s administrative offices,
      SI’s administrative offices and warehouse and CL’s administrative offices and
      warehouse. Included in the leases are furniture and equipment and in the case
      of
      Cyberlynk tax and utilities. Bridgestone is owned by Joel Konicek and Jim
      Peroutka, the CEO and Chief Technical Officer, respectively, of SHC. Lease
      payments were $6,294 and $3,250 per month, respectively. SHC and SI’s lease
      expires December 31, 2009 and CL’s lease expires June 30, 2010.




Joel
      Konicek and James Peroutka, the
      CEO
      and Chief Technical Officer, respectively, of SHC, own
      100%
      of the capital stock of Accuteck, Inc. and Accuteck, Inc. owns 67% of the
      capital stock of Innovative Control Systems, Inc. In
      January 2006, we entered into an exclusive licensing agreement with Innovative
      Control Systems, Inc. that entitles ICS to exclusive intellectual property
      rights, including all patents and patent applications, know-how, utility models,
      rights in industrial designs, trademarks and service marks, covering a
      specialized line of RFID tags and readers. The license requires payment
      by ICS of a royalty based on a percentage of its or its sublicensees’
net sales of products derived from the technology covered by the licensing
      agreement. In July 2005, we entered into an exclusive licensing agreement with
      Accuteck, LLC that entitles us to the sole license of the know-how, all
      processes and trademarks which relate to the products sold by us designated
      SDC,
      TAG and READER which have been or will be developed by or in conjunction with
      related group companies and contractors. In consideration of the payment of
      $180,000, we received a perpetual, exclusive, transferable, assignable right
      and
      license with the right to grant sublicenses of the know-how to manufacture
      the
      products.




On
      August
      21, 2006, SHC issued 3-year unsecured promissory notes to Joel Konicek and
      Jim
      Peroutka, the CEO and Chief Technical Officer, respectively, of SHC. The
      principal amount of each of these notes is $166,667 and the notes bear interest
      at 8%. Payments on the notes are due monthly.




We
      believe that each of the above referenced transactions was made on terms no
      less
      favorable to us than could have been obtained from an unaffiliated third party.
      Furthermore, any future transactions or loans between us and officers,
      directors, principal stockholders or affiliates, and any forgiveness of such
      loans, will be on terms no less favorable to us than could be obtained from
      an
      unaffiliated third party, and will be approved by a majority of our directors,
      including a majority of our independent and disinterested directors who have
      access at our expense to our legal counsel.




**Director
      Independence**





Carl
      J.
      Rickertsen, Zev
      Kaplan and Phillip McNeill are
      independent directors as defined by and pursuant to NASD Rule
      4200(a)(15).




**Where
      You Can Find More Information**




Statements
      contained in this annual report as to the contents of any contract, agreement
      or
      other document referred to include those terms of such documents that we believe
      are material. Whenever a reference is made in this annual report to any contract
      or other document of ours, you should refer to the exhibits that are a part
      of
      the annual report for a copy of the contract or document.




You
      may
      read and copy all or any portion of the annual report or any other information
      that the Company files at the SEC’s public reference room at One Station Place,
      100 F Street NE, Washington, DC 20549. You can request copies of these
      documents, upon payment of a duplicating fee, by writing to the SEC. Please
      call
      the SEC at 1-800-SEC-0330 for further information on the operation of the public
      reference room. Our SEC filings, including this annual report, are also
      available to you on the SEC’s website at www.sec.gov .




38




**PART
      V**




**Item
      13. Exhibits**




**(a)**  **Documents
      filed as part of this report:**




See
      index
      to Consolidated Financial Statements attached, which are filed as part of this
      report.




**(b)**  **Exhibits:**




**Exhibit
                No**
            
            **Description**
            
            **Location**3.1
            
            Certificate
                of Amendment to Certificate of Incorporation
            
            Incorporated
                by reference as Exhibit 3.1 to Form 8-K filed with theSECon
                February 6, 20063.2
            
            Certificate
                of Designation for the Series G Convertible Preferred
                Stock
            
            Incorporated
                by reference as Exhibit 3.1 to Form 8-K filed with theSECon
                February 14, 20063.3
            
            Bylaws
                of the Company
            
            Incorporated
                by reference as Exhibit 3.2 to the Registration Statement on Form
                SB-2
                filed with theSECon
                August 13, 19973.4
            
            Certificate
                of Designation of Series C Preferred Stock
            
            Incorporated
                by reference to the Registration Statement on Form SB-2 filed with
                theSECon
                October 18, 20013.5
            
            Certificate
                of Designation of Series D Preferred Stock
            
            Incorporated
                by reference as Exhibit 3.4 to Form 10-KSB filed with theSECon
                March 27, 20023.6
            
            Certificate
                of Designation of Series E Preferred Stock
            
            Incorporated
                by reference as Exhibit 3.4 to Form 10-KSB filed with theSECon
                March 27, 20023.7
            
            Certificate
                of Amendment to Certificate of Incorporation of the Company, dated
                August
                23, 2002
            
            Incorporated
                by reference as Exhibit 3.6 to Form 10-KSB filed with theSECon
                April 15, 20053.8
            
            Certificate
                of Amendment to Certificate of Incorporation of the Company, dated
                April
                17, 2002
            
            Incorporated
                by reference as Exhibit 3.7 to Form 10-KSB filed with theSECon
                April 15, 20053.9
            
            Certificate
                of Amendment to Certificate of Incorporation, dated January 5,
                2006
            
            Incorporated
                by reference as Exhibit 3.1 to Form 8-K filed with theSECon
                February 2, 20063.10
            
            Certificate
                of Designation of Series F Convertible Preferred Stock
            
            Incorporated
                by reference as Exhibit 99.2 to Form 8-K filed with theSECon
                October 7, 20054.1
            
            Form
                of Convertible Debenture due February 2009
            
            Incorporated
                by reference as Exhibit 4.1 to Form 8-K filed with theSECon
                February 14, 0610.1
            
            Preferred
                Stock Term Sheet by and between Cornell Capital Partners, LP and
                the
                Company
            
            Incorporated
                by reference as Exhibit 10.1 to Form 8-K filed with theSECon
                August 31, 200510.2
            
            SEDA
                Term Sheet by and between Cornell Capital Partners, LP and the
                Company
            
            Incorporated
                by reference as Exhibit 10.2 to Form 8-K filed with theSECon
                August 31, 2005




39




**Exhibit
                No**
            
            **Description**
            
            **Location**10.3
            
            Employment
                Agreement by and between C. Thomas McMillen and the
                Company
            
            Incorporated
                by reference as Exhibit 10.3 to Form 8-K filed with theSECon
                August 31, 200510.4
            
            Indemnification
                Agreement by and between C. Thomas McMillen and the
                Company
            
            Incorporated
                by reference as Exhibit 10.4 to Form 8-K filed with the SEC on August
                31,
                200510.5
            
            Securities
                Purchase Agreement dated as of October 6, 2005, by and between the
                Company
                and Cornell Capital Partners, LP
            
            Incorporated
                by reference to Exhibit 99.1 to Form 8-K filed with the SEC on October
                7,
                200510.6
            
            Escrow
                Agreement, dated as of October 6, 2005, by and between the Company
                and
                Cornell Capital Partners, LP
            
            Incorporated
                by reference to Exhibit 99.3 to Form 8-K filed with the SEC on October
                7,
                200510.7
            
            2005
                Stock Option Plan
            
            Incorporated
                by reference to Exhibit 10.13 to Form 10-KSB filed with the SEC on
                April
                17, 200610.8
            
            Securities
                Purchase Agreement dated February 6, 2006, by and between Homeland
                Security Capital Corporation and Cornell Capital Partners LP
            
            Incorporated
                by reference as Exhibit 10.1 to Form 8-K filed with the SEC on February
                14, 200610.9
            
            Investor
                Registration Rights Agreement dated February 6, 2006, by and between
                Homeland Security Capital Corporation and Cornell Capital Partners
                LP
            
            Incorporated
                by reference as Exhibit 10.2 to Form 8-K filed with the SEC on February
                14, 200610.10
            
            Investment
                Agreement dated February 6, 2006, by and between Homeland Security
                Capital
                Corporation and Cornell Capital Partners LP
            
            Incorporated
                by reference as Exhibit 10.3 to Form 8-K filed with the SEC on February
                14, 200610.11
            
            Security
                Agreement dated February 6, 2006, by and between Homeland Security
                Capital
                Corporation and Cornell Capital Partners, LP.
            
            Incorporated
                by reference as Exhibit 10.4 to Form 8-K filed with the SEC on February
                14, 200610.12
            
            Agreement
                and Plan of Merger, dated February 8, 2006, by and among Nexus
                Technologies Group, Inc., Corporate Security Solutions, Inc., CSS
                Acquisitions, Inc. and certain other persons named
                therein.
            
            Incorporated
                by reference as Exhibit 10.1 to Form 8-K filed with the SEC on February
                14, 200610.13
            
            Series
                A Convertible Preferred Stock Purchase Agreement, dated February
                8, 2006,
                by and between Homeland Security Capital Corporation and Nexus
                Technologies Group, Inc.
            
            Incorporated
                by reference as Exhibit 10.2 to Form 8-K filed with the SEC on February
                14, 200610.14
            
            Securities
                Purchase Agreement, dated as of August 21, 2006 between the Company
                and
                Cornell Capital Partners, LP
            
            Incorporated
                by reference as Exhibit 10.1 to Form 8-K filed with the SEC on August
                24,
                200610.15
            
            Investor
                Registration Rights Agreement, dated as of August 21, 2006 between
                the
                Company and Cornell Capital Partners, LP
            
            Incorporated
                by reference as Exhibit 10.2 to Form 8-K filed with the SEC on August
                24,
                200610.16
            
            Pledge
                and Security Agreement, dated as of August 21, 2006 between the Company
                and Cornell Capital Partners, LP
            
            Incorporated
                by reference as Exhibit 10.3 to Form 8-K filed with the SEC on August
                24,
                2006




40




**Exhibit
                No**
            
            **Description**
            
            **Location**10.17
            
            Secured
                Convertible Debenture, dated as of August 21, 2006 issued to Cornell
                Capital Partners, LP
            
            Incorporated
                by reference as Exhibit 10.4 to Form 8-K filed with the SEC on August
                24,
                200610.18
            
            Warrant
                dated as of August 21, 2006 issued to Cornell Capital Partners,
                LP
            
            Incorporated
                by reference as Exhibit 10.5 to Form 8-K filed with the SEC on August
                24,
                200610.19
            
            Agreement
                and Plan of Merger, dated August 21, 2006, by and among Security
                Holding
                Corp., Security Holding Enterprises, Inc. and certain other persons
                named
                therein.
            
            Incorporated
                by reference as Exhibit 10.1 to Form 8-K filed with the SEC on August
                29,
                200610.20
            
            Series
                A Convertible Preferred Purchase Agreement, dated August 21, 2006,
                among
                Homeland Security Capital Corporation and Security Holding
                Corp.
            
            Incorporated
                by reference as Exhibit 10.2 to Form 8-K filed with the SEC on August
                29,
                200614.1
            
            Code
                of Business Conduct and Ethics
            
            Incorporated
                by reference as Exhibit 14.1 to Form 10-KSB filed with the SEC on
                April
                14, 200431.1
            
            Certification
                by Chief Executive Officer pursuant to 15 U.S.C. Section 7241, as
                adopted
                pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
            
            Provided
                herewith31.2
            
            Certification
                by Principal Accounting Officer pursuant to 15 U.S.C. Section 7241,
                as
                adopted pursuant to Section 302 of the Sarbanes-Oxley Act of
                2002
            
            Provided
                herewith32.1
            
            Certification
                by Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as
                adopted
                pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
            
            Provided
                herewith32.2
            
            Certification
                by Principal Accounting Officer pursuant to 18 U.S.C. Section 1350,
                as
                adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
                2002
            
            Provided
                herewith




**I** **TEM** **14** **.** **P** **RINCIPAL** **A** **CCOUNTANT** **F** **EES** **A** **ND** **S** **ERVICES**




HJ
&
      Associates audited our financial statements for the years ended December 31,
      2006 and 2005.




***Audit
      Fees.*** During
      the year ended December 31, 2006, HJ & Associates billed us an aggregate of
      $153,000 for professional services rendered for:




·
            Audit
                of our annual financial statements included in our Annual Report
                on Form
                10-KSB/A for the years ended December 31,
                2006.




·
            Review
                of our financial statements included in our Quarterly Reports on
                Form
                10-QSB for the year ended December 31,
                2006.




During
      the year ended December 31, 2005, HJ & Associates billed us an aggregate of
      $29,643 for professional services rendered for:




·
            Audit
                of our annual financial statements included in our Annual Report
                on Form
                10-K for the years ended December 31,
                2005.




·
            Review
                of our financial statements included in our Quarterly Reports on
                Form 10-Q
                for the years ended December 31,
                2005.




***Audit-Related
      Fees.*** ** During
      the years ended December 31, 2006 and 2005, HJ & Associates billed us an
      aggregate of $0 for services rendered other than those described above under
      the
      heading “Audit Fees.”




41




***Tax
      Fees.*** During
      the years ended December 31, 2006 and 2005, HJ & Associates billed us an
      aggregate of $0 for services rendered other than those described above under
      the
      heading “Audit Fees.”




***All
      Other Fees.*** ** During
      the years ended December 31, 2006 and 2005, and HJ & Associates billed us an
      aggregate of $0 for services rendered other than those described above under
      the
      heading “Audit Fees.”




All
      services provided by HJ & Associates have been pre-approved by the Audit
      Committee before HJ & Associates began to perform those
      services.




No
      services were rendered by HJ & Associates pursuant to
      paragraph (c)(7)(ii)C of Rule 2-01 of Regulation S-X.




**Audit
      Committee Pre-Approval of Audit and Permissible Non-Audit Services of
      Independent Auditors**




Effective
      May 6, 2003, the Securities and Exchange Commission adopted rules that require
      that before an independent registered public accounting firm is engaged by
      us to
      render any auditing or permitted non-audit related service, the engagement
      be:




·
            approved
                by our audit committee; or




·
            entered
                into pursuant to pre-approval policies and procedures established
                by the
                audit committee, provided the policies and procedures are detailed
                as to
                the particular service, the audit committee is informed of each service,
                and such policies and procedures do not include delegation of the
                audit
                committee’s responsibilities to
                management.




Our
      audit
      committee was formed in February 2006, and has assumed responsibility for the
      pre-approval of audit and permitted non-audit services to be performed by our
      company’s independent auditor. The audit committee will, on an annual basis,
      consider and, if appropriate, approve the provision of audit and non-audit
      services by HJ & Associates. Thereafter, the audit committee will, as
      necessary, consider and, if appropriate, approve the provision of additional
      audit and non-audit services by HJ & Associates which are not encompassed by
      the audit committee’s annual pre-approval and are not prohibited by law. The
      audit committee has delegated to the chair of the audit committee the authority
      to pre-approve, on a case-by-case basis, non-audit services to be performed
      by
      HJ & Associates.




Since
      we
      did not have an audit committee in 2005, our full board of directors considered
      the nature of services performed by HJ & Associates and found them to be
      compatible with maintaining HJ & Associates’ independence.




42




**SIGNATURES**




In
      accordance with Section 13 or 15(d) of the Exchange Act, the registrant caused
      this report to be signed on its behalf by the undersigned, thereunto duly
      authorized.




**HOMELAND
                SECURITY CAPITAL CORPORATION***/s/
                C. Thomas McMillen*C.
                Thomas McMillen
            President,
                Chief Executive Officer and
            May
                15, 2007Chairman
                of the Board




In
      accordance with the Exchange Act, this report has been signed below by the
      following persons on behalf of the registrant in the capacities and on the
      dates
      indicated.




**Signature**
            
            **Title**
            
            **Date***/s/
                C. Thomas McMillen*
            
            President,
                Chief Executive Officer
            
            May
                15, 2007C.
                Thomas McMillen
            
            and
                Chairman of the Board(Principal
                Executive Officer)*/s/ Michael
              T. Brigante*
            
            Chief Financial
              Officer
            
            May
                15, 2007Michael
              T. Brigante
            
            (Principal Accounting
                Officer)**
            
            Director
            
            May
                15, 2007Brian
              C. Griffin*/s/
              Zev E. Kaplan*
            
            Director
            
            May
                15, 2007Zev
              E. Kaplan*/s/
              Philip A. McNeill*
            
            Director
            
            May
                15, 2007Philip
              A. McNeill









43




HOMELAND
      SECURITY CAPITAL CORPORATION





INDEX
      TO
      RESTATED CONSOLIDATED FINANCIAL STATEMENTS


Report
                  of HJ & Associates, LLC
              
              F-2Balance
                  Sheet as of December 31, 2006
              
              F-3Statements
                  of Operations for the Years EndedDecember
                  31, 2006 and 2005
              
              F-4Statements
                  of Cash Flows for the Years EndedDecember
                  31, 2006 and 2005
              
              F-5Statements
                  of Changes in Stockholders' Equity (Deficit)for
                  the Years Ended December 31, 2006 and 2005
              
              F-6Notes
                  to Financial Statements
              
              F-7
  F-1


REPORT
        OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
 
 Board
        of
        Directors
 Homeland
        Security Capital Corporation
 Arlington,
        Virginia
 
 We
        have
        audited the accompanying consolidated balance sheet of Homeland Security
        Capital
        Corporation and Subsidiaries as of December 31, 2006, and the related
        consolidated statements of operations, stockholders' equity (deficit), and
        cash
        flows for the two years ended December 31, 2006 and 2005. 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
        consolidated financial statements are free of material misstatement. An audit
        includes examining, on a test basis, evidence supporting the amounts and
        disclosures in the consolidated financial statements. An audit also includes
        assessing the accounting principles used and significant estimates made by
        management, as well as evaluating the overall consolidated 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 Homeland Security Capital
        Corporation and Subsidiaries as of December 31, 2006 and the results of their
        operations and their cash flows for the two years ended December 31, 2006
        and
        2005, in conformity with U.S. generally accepted accounting
        principles.
 
 As
        discussed in Note 27, the consolidated financial statements for the year
        ended
        December 31, 2006 have been restated to correct an error accounting for the
        minority interest.
 
 
 
 HJ
&
        Associates, LLC
 Salt
        Lake
        City, Utah
 March
        28,
        2007, except for Note 27 which is May 11, 2007




F-2




HOMELAND
                  SECURITY CAPITAL CORPORATION AND SUBSIDIARIESConsolidated
                Balance Sheet (Restated)


December
                31, 2006


AssetsCash
              
              $
              1,214,183Accounts receivable - net
              
              
              4,397,140Inventories
              
              
              947,854Cost in excess of billings on uncompleted contracts
              
              
              265,972Other current assets
              
              
              71,622Total current assets
              
              
              6,896,771Fixed
                  assets, net
              
              
              498,823Deferred
                  financing costs - net
              
              
              867,662Other
                  non-current assets
              
              
              136,332Goodwill
              
              
              976,590Total
                  assets
              
              $
              9,376,178Liabilities
                  and Stockholders' Equity (Deficit)Current
                  liabilitiesAccounts
                  payable
              
              $
              3,136,319Derivative
                  liability
              
              
              6,184,211Current
                  portion of long term debt
              
              
              340,028Accrued
                  interest
              
              
              140,274Billings
                  in excess of costs on uncompleted contracts
              
              
              501,081Deferred
                  revenue
              
              
              164,537Total
                  current liabilities
              
              
              10,466,450Long
                  term debtConvertible
                  debentures - related party, net of $4,356,938 discount
              
              
              3,643,062Long
                  term debt
              
              
              438,251Total long term debt
              
              
              4,081,313Total
                  liabilities
              
              
              14,547,763Minority
                  interest
              
              
              -Stockholders'
                  Equity (Deficit)Preferred
                  stock, $0.001 par value, 3,000,000 shares authorized,2,000,000 shares issued and outstandingPreferred
                  stock Series F
              
              
              100,000Preferred
                  stock Series G
              
              
              100,000Common
                  stock, $0.001 par value, 20,000,000,000 shares authorized,4,175,525,035
                  issued and outstanding
              
              
              4,175,525Additional
                  paid-in capital
              
              
              42,720,706Accumulated
                  deficit
              
              
              (52,267,816
              )Total
                  stockholders' equity (deficit)
              
              
              (5,171,585
              )Total
                  liabilities and stockholders' equity (deficit)
              
              $
              9,376,178




The
                accompanying notes are an integral part of these consolidated financial
                statements.




F-3




HOMELAND
                    SECURITY CAPITAL CORPORATION AND SUBSIDIARIESConsolidated
                  Statements of OperationsFor
                  the years ended December 31, 2006 and 2005
 2006
                
                2005(Restated)Sales
                
                $
                8,682,245
                
                $
                -Cost
                    of salesMaterials
                
                
                4,599,515
                
                
                -Labor
                
                
                1,806,024
                
                
                -Other
                
                
                237,114
                
                
                -Total
                    cost of sales
                
                
                6,642,653
                
                
                -Gross profit on sales
                
                
                2,039,592
                
                
                -Operating
                    expensesMarketing
                
                
                150,544
                
                
                11,541Personnel
                
                
                3,924,914
                
                
                492,851Insurance
                    and facility costs
                
                
                279,069
                
                
                15,233Travel
                    and transportation
                
                
                472,057
                
                
                -Other
                    operating costs
                
                
                145,289
                
                
                -Depreciation
                    and amortization
                
                
                112,048
                
                
                14,085Professional
                    services
                
                
                852,345
                
                
                408,238Administrative
                    costs
                
                
                502,998
                
                
                66,036Total
                    operating expenses
                
                
                6,439,264
                
                
                1,007,984Operating
                    loss
                
                
                (4,399,672
                )
                
                (1,007,984
                )Other income (expense)Interest
                    expense
                
                
                (297,876
                )
                
                (98,055
                )Beneficial
                    conversion feature - convertible debentures
                
                
                -
                
                
                (242,988
                )Amortization
                    of debt discounts
                
                
                (1,273,393
                )
                
                -Amortization
                    of debt offering costs
                
                
                (222,201
                )
                
                (40,529
                )Adjustment
                    of fair value of derivative liability
                
                
                (419,017
                )
                
                -Settlement
                    of debt
                
                
                91,268
                
                
                33,304Other
                    income (expense)
                
                
                31,134
                
                
                48,907Total other income (expense)
                
                
                (2,090,085
                )
                
                (299,361
                )Net
                    loss attributable to common stockholders
                
                $
                (6,489,757
                )
                $
                (1,307,345
                )Loss
                    per common share, basic and dilutedNet
                    loss per common share attributableto common stockholders
                
                $
                (0.00
                )
                $
                (0.00
                )Weighted
                    average shares outstanding -basic and diluted
                
                
                4,176,467,394
                
                
                4,440,850,576
  The
                  accompanying notes are an integral part of these consolidated financial
                  statements.




F-4


HOMELAND
                  SECURITY CAPITAL CORPORATION AND SUBSIDIARIESConsolidated
                  Statements of Cash FlowsFor
                  the years ended December 31, 2006 and 2005
 2006
                
                2005(Restated)Cash
                    flows from operating activities:Net
                    loss
                
                $
                (6,489,757
                )
                $
                (1,307,345
                )Adjustments
                    to reconcile net loss to netcash used in operating activities:Settlement of debt
                
                
                (91,268
                )
                
                (268,304
                )Stock issued for payment of expenses
                
                
                519,550
                
                
                -Depreciation and amortization
                
                
                112,048
                
                
                14,085Valuation reserve for accounts receivable
                
                
                309,988
                
                
                -Beneficial conversion - convertible notes
                
                
                -
                
                
                242,988Amortization of debt discount
                
                
                1,273,393
                
                
                -Amortization of debt offering costs
                
                
                222,201
                
                
                40,529Valuation losses for changes in derivative liability
                
                
                419,017
                
                
                -Changes in operating assets and liabilities:Accounts Receivable
                
                
                (4,623,266
                )
                
                -Inventories
                
                
                (947,854
                )
                
                -Costs in excess of billings on uncompleted contracts
                
                
                (265,972
                )
                
                -Other assets
                
                
                (63,297
                )
                
                (141,992
                )Accounts payable
                
                
                2,869,557
                
                
                (457,419
                )Billings in excess of costs on uncompleted contracts
                
                
                501,081
                
                
                -Deferred revenue
                
                
                164,537
                
                
                -Net cash used in operating activities
                
                
                (6,090,042
                )
                
                (1,877,458
                )Cash
                    flows from investing activities:Purchase
                    of fixed assets
                
                
                (57,263
                )
                
                -Purchase
                    of subsidiary
                
                
                (500,000
                )
                
                -Proceeds
                    from liquidation of Yorkville Advisors Management, LLC
                
                
                -
                
                
                5,240,000Net cash provided by (used in) investing activities
                
                
                (557,263
                )
                
                5,240,000Cash
                    flows from financing activities:Proceeds
                    from convertible debentures - related party
                
                
                8,000,000
                
                
                -Cost
                    of convertible debentures - related party
                
                
                (1,089,863
                )
                
                -Payments
                    on   notes payable
                
                
                (142,710
                )
                
                (500,000
                )Payments
                    on   notes payable - related party
                
                
                -
                
                
                (2,198,099
                )Acquisition
                    of treasury stock
                
                
                -
                
                
                (417,968
                )Proceeds
                    from preferred stock - related party
                
                
                -
                
                
                845,723Net cash provided by financing activities
                
                
                6,767,427
                
                
                (2,270,344
                )Net
                    increase (decrease) in cash
                
                
                120,122
                
                
                1,092,198Cash,
                    beginning of period
                
                
                1,094,061
                
                
                1,863Cash,
                    end of period
                
                $
                1,214,183
                
                $
                1,094,061Cash
                    paid for:Interest
                
                $
                115,674
                
                $
                -Taxes
                
                $
                -
                
                $
                -
  The
                  accompanying notes are an integral part of these consolidated financial
                  statements.




F-5


HOMELAND
                  SECURITY CAPITAL CORPORATION AND SUBSIDIARIESConsolidated
                  Statements of Changes in Stockholders' Equity (Deficit)For
                  the years ended December 31, 2006 and 2005
 Additional
                
                
                
                
                
                TotalPreferred
                
                Common
                    Stock
                
                Paid-In
                
                Treasury
                
                Accumulated
                
                Stockholders'Stock
                
                Shares
                
                Amount
                
                Capital
                
                Stock
                
                Deficit
                
                (Deficit)Balance,
                    December 31, 2004
                
                
                -
                
                
                4,796,102,805
                
                
                4,796,103
                
                
                40,555,128
                
                
                (561,334
                )
                
                (43,470,714
                )
                
                1,319,183Issuance
                    of 1,000,000 shares of convertible preferred stock with beneficial
                    conversion feature
                
                
                100,000
                
                
                
                
                
                
                
                
                745,723
                
                
                
                
                
                
                
                
                845,723Amortization
                    of beneficial conversion feature and accretion of redeemable
                    convertible
                    preferred stock
                
                
                
                
                
                
                
                
                
                
                
                1,000,000
                
                
                
                
                
                (1,000,000
                )
                
                -Conversion
                    of convertible debentures to shares of common stock
                
                
                
                
                
                7,149,333
                
                
                7,149
                
                
                3,577
                
                
                
                
                
                
                
                
                10,726Gain
                    on settlement of related party debt
                
                
                
                
                
                
                
                
                
                
                
                91,901
                
                
                
                
                
                
                
                
                91,901Acquisition
                    of treasury stock
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (417,968
                )
                
                
                
                
                (417,968
                )Cancellation
                    of treasury stock
                
                
                
                
                
                (405,523,599
                )
                
                (405,523
                )
                
                (573,779
                )
                
                979,302
                
                
                
                
                
                -Net
                    loss
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (1,307,345
                )
                
                (1,307,345
                )Balance,
                    December 31, 2005
                
                
                100,000
                
                
                4,397,728,539
                
                
                4,397,729
                
                
                41,822,550
                
                
                -
                
                
                (45,778,059
                )
                
                542,220Issuance
                    of preferred stockSeries
                    G
                
                
                100,000
                
                
                
                
                
                
                
                
                710,000
                
                
                
                
                
                
                
                
                810,000Exchanged
                    for common stock
                
                
                
                
                
                (450,000,000
                )
                
                (450,000
                )
                
                (360,000
                )
                
                
                
                
                
                
                
                (810,000
                )Conversion
                    of debentures to common stock
                
                
                
                
                
                177,796,496
                
                
                177,796
                
                
                78,606
                
                
                
                
                
                
                
                
                256,402Value
                    of vested stock options
                
                
                
                
                
                
                
                
                
                
                
                387,010
                
                
                
                
                
                
                
                
                387,010Value
                    of vested warrants
                
                
                
                
                
                
                
                
                
                
                
                42,540
                
                
                
                
                
                
                
                
                42,540Issuance
                    of common stock for fees
                
                
                
                
                
                50,000,000
                
                
                50,000
                
                
                40,000
                
                
                
                
                
                
                
                
                90,000Net
                    loss (Restated)
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (6,489,757
                )
                
                (6,489,757
                )Balance,
                    December 31, 2006
                
                $
                200,000
                
                
                4,175,525,035
                
                $
                4,175,525
                
                $
                42,720,706
                
                $
                -
                
                $
                (52,267,816
                )
                $
                (5,171,585
                )




The
                accompanying notes are an integral part of these consolidated financial
                statements.




F-6






**HOMELAND
      SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**


**Notes
      to Consolidated Financial Statements**




**1.
      Organization and Nature of Business**





Homeland
      Security Capital Corporation (together with any subsidiaries shall be referred
      to as the “Company,” “we,” “us” and “our”) is a consolidator in the fragmented
      homeland security industry. The Company is focused on creating long-term value
      by taking controlling interest and developing its subsidiary companies through
      superior operations and management. We intend to operate businesses that provide
      homeland security products and services solutions, growing organically and
      by
      acquisitions. The Company is targeting emerging companies that are generating
      revenues but face challenges in scaling their businesses to capitalize on
      homeland security opportunities.




The
      Company was incorporated in Delaware in August 1997 under the name “Celerity
      Systems, Inc.” The Company’s original business was to develop and manufacture
      digital set top boxes and digital video servers for interactive television
      and
      high speed internet networks ("interactive video"). The Company also designed, developed, installed, and
      supported CD-ROM software products for business applications. In February 2001,
      the Company completed the sale of CD-ROM segment.





On
      June
      3, 2003, the Company elected to become a business development company (“BDC”),
      to be regulated pursuant to Section 54 of the Investment Company Act of 1940,
      as
      amended (the “Investment Company Act”). A business development company is an
      investment company designed to assist eligible portfolio companies with capital
      formation and management advice. Accordingly, the Company changed its business
      plan to primarily seek investments in developing companies.




As
      a BDC,
      the Company had three investments. First, the Company entered into a business
      development agreement with Sagamore Holdings,
      Inc. ("Sagamore")  and
      received 7,500,000 shares of Sagamore common stock as consideration for its
      agreement to provide future services regarding capital formation and management
      advice. These shares have no value. Second, the Company had direct investments
      in two companies, the first being in a wholly-owned subsidiary named Celerity Systems,
      Inc., a Nevada corporation ("Celerity-Nevada"), and the other a minority
      interest in Yorkville Advisors Management, LLC ("Yorkville"). In the
      fourth quarter of 2004, Celerity-Nevada was closed with the business and related
      assets sold. Yorkville returned the Company’s investment in Yorkville to the
      Company as a liquidating distribution.





On
      December 30, 2005, at a special stockholders meeting, the stockholders of the
      Company voted to amend the Certificate of Incorporation of the Company to change
      the name to “Homeland Security Capital Corporation” and voted to withdraw the
      Company’s election as a BDC. Accordingly, the Company changed its business plan
      to primarily seek acquisition of and joint ventures with, companies that provide
      homeland security products and services.





On
      February 7, 2006, the Company organized Nexus Technologies Group, Inc. (“Nexus”)
      as a new subsidiary and purchased $3,400,000 of Nexus’ convertible preferred
      stock. Simultaneously with its formation, Nexus acquired 100% of the outstanding
      common stock of Corporate Security Solutions, Inc. (“CSS”), a Pennsylvania
      corporation doing business as Nexus Technologies Group. Nexus, through CSS,
      which was organized in 2004, provides integrated security systems for the
      corporate and governmental security markets, through engineering, design and
      installation of open ended technologically advanced applications. CSS currently
      has a strong presence in the Mid-Atlantic region ** with
      a
      focus on the New York City market.




On
      August
      21, 2006, the Company organized Security Holding Corp. (“SHC”) as a new
      subsidiary and purchased $3,000,000 of SHC’s convertible preferred stock.
      Simultaneous with our acquisition of SHC, SHC acquired 100% of the outstanding
      stock of Security Holdings Enterprises, Inc. (“SHEI”), a Wisconsin corporation,
      through a merger with SHC. SHEI owned 100% of the outstanding equity of each
      of
      Auto Access Identification, Inc. (“AAID”), SecurityInc, LLC (“SI”) and Cyberlynk
      (“CL”). Upon the consummation of the acquisition, SHEI ceased operations,
      leaving its aforementioned subsidiaries wholly owned by SHC. SHC used its common
      stock, with no deemed value, to purchase SHEI and applied a purchase accounting
      approach to account for the acquisition of SHEI. As a result, SHC acquired
      all
      assets and liabilities of the subsidiaries. Also, in August 2006, SHC acquired
      substantially all of the assets of Compass Technologies Inc. (“CTI”), a Delaware
      company, for $500,000 in cash. SHC, through its subsidiaries provides enterprise
      security software systems, radio frequency tags and readers, access control
      devices and secure internet portals and associated software to domestic and
      international customers.




Upon
      completion of the aforementioned acquisitions,
      the Company recorded goodwill of $976,590.




F-7


**HOMELAND
        SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
        to Consolidated Financial Statements**


On
      September 15, 2006, the Company formed Polimatrix, Inc. (“PMX”), and on
      September 18, 2006 entered into a US-based joint venture with Polimaster, Inc.,
      an Arlington, Virginia company involved in the field of nuclear and radiological
      detection and isotope identification. PMX uses technology licensed from
      Polimaster, Inc. in the development of hand-held, networked detection devices
      intended to be sold to governmental and commercial customers. PMX did not have
      any material operations in 2006.




**2.
      Conversion to Business Development Company and Subsequent
      Withdrawal**




On
      May
      20, 2003, the Company formed a subsidiary, Celerity-Nevada. The assets and
      liabilities related to the Company's existing interactive video business were
      transferred to Celerity-Nevada for 100% of the subsidiary’s common stock.




On
      June
      3, 2003, the Company elected to become a BDC, to be regulated pursuant to
      Section 54 of the Investment Company Act. A business development company is
      an
      investment company designed to assist eligible portfolio companies with capital
      formation and management advice.




On
      December 1, 2003, the Company purchased a minority interest in Yorkville.
      Yorkville is the investment manager of a private equity fund that is a principal
      holder of equity securities of the Company. The purchase price amounted to
      $5,240,000. In 2005, the Company was informed that Yorkville was in the process
      of an orderly liquidation of its business. Under the terms of a Preferential
      Rights Agreement, the Company's membership interest in Yorkville has been
      converted into a new class with certain preferential rights and shall receive
      consideration equal to the original purchase price less certain debt of
      approximately $1,500,000 due to an affiliated company of Yorkville. The Company
      received this consideration in full and in cash by May 3, 2005.





Celerity-Nevada
      had no operations in 2006 or 2005, nor did it have any assets or liabilities
      at
      these respective dates. The only accounts were common stock (owned 100% by
      the
      Company) of $250, additional paid in capital of $1,141,554 and accumulated
      deficit of $1,141,804.




The
      Company owns 7,500,000 shares of the common stock of Sagamore Holdings, Inc.
      and
      exercises no operational or other controls over Sagamore. The Company has
      reviewed the valuation of the Sagamore stock using fair value, and, based on
      the
      liquidation preference of the preferred stockholder, management has considered
      the value of the stock as nil. Also, the Company rendered no specific services
      in 2006 or 2005. Accordingly, the Company has included the value of the Sagamore
      stock in its financial statements as nil and not recognized any revenue from
      its
      ownership.




In
      accordance with Article 6 of Regulation S-X under the Securities Act of 1933,
      as
      amended (the "Securities Act") and Securities Exchange Act of 1934, as amended
      (the "Exchange Act"), the Company does not consolidate portfolio company
      investments in which the Company has a controlling interest. However, for
      periods after December 31, 2005, the Company will consolidate controlled
      companies.




The
      results of operations for the year ended December 31, 2005 reflect the Company's
      results as a BDC. Accounting principles used in the preparation of the financial
      statements subsequent to December 31, 2005 are different than those of a BDC
      and, therefore, the financial position and results of operations of 2006 and
      subsequent periods are not directly comparable. The primary differences in
      accounting principles relate to the carrying value of investments.




At
      its
      annual meeting on December 30, 2005, the stockholders passed a resolution to
      withdraw the Company's election as a BDC under Section 54 of the Investment
      Company Act. The termination of the Company's BDC status occurred on January
      5,
      2006. Financial statements for periods subsequent to December 31, 2005 will
      be
      prepared on the basis used prior to becoming a BDC.




F-8


**HOMELAND
        SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
        to Consolidated Financial Statements**


**3.
      Summary of Significant Accounting Policies**




Principles
      of Consolidation - The consolidated financial statements include the accounts
      of
      Homeland Security Capital Corporation (a Delaware corporation) and its
      controlled subsidiaries. All significant inter-company transactions and balances
      have been eliminated in consolidation. Minority interest of the outside equity
      holdings of the subsidiaries is recognized using the parent company
      theory.




Use
      of
      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 those estimates.




Fair
      Value of Financial Instruments - The carrying amount of items included in
      working capital approximates fair value because of the short maturity of those
      instruments. The carrying value of the Company's debt approximates fair value
      because it bears interest at rates that are similar to current borrowing rates
      for loans of comparable terms, maturity and credit risk that are available
      to
      the Company.




Revenue
      Recognition - Revenue is recognized when earned. SHC sells products to the
      ultimate user and recognizes sales as the sales cycle is completed by delivery
      and acceptance of the products. SHC sells primarily on credit and carries its
      accounts receivable on its corporate books. Management reviews the aged accounts
      receivable schedule periodically and uses its judgment to determine those
      accounts that may not be collectible. The accounts that are not collectible
      are
      written off to bad debt and an allowance is established for those accounts
      which
      may become worthless. Nexus is involved in system design and recognizes revenue
      using the percentage completion method of accounting for long term contracts.
      Percentage of completion is based on comparing actual costs expended, measured
      against managements estimate of the cost to complete a project. Revenue from
      service contracts lasting for up to one year are recognized when earned. Cash
      payments in advance are recorded as deferred revenue and is reduced as it
      is earned. Accounts receivable are reviewed and valued periodically by
      management and a reserve is established for accounts that may not be
      collectable. Bad debts are recognized when the account becomes worthless. At
      December 31, 2006 the Company has a consolidated bad debt allowance of
      $308,988.




Cash
      and
      Cash Equivalents - Cash and cash equivalents includes short-term investments,
      such as money markets accounts, which are highly liquid.




Inventories
      - Inventories, made up of raw materials, work in process and finished foods,
      are
      valued at the lower of cost (first-in, first-out) or market.





The
      following table reflects the Company’s consolidated inventory position at
      December 31, 2006 :





December
                  31,2006Raw
                materials and work in progress
            
            $
            179,461Finished
                goods
            
            
            891,764Reserve
                for obsolete inventory
            
            
            (123,371
            )Net
                inventories
            
            
            947,854





The
      Company identifies slow moving, non working or technologically obsolete
      inventory during the normal course of business. Obsolescence reserves are
      recorded for the full value less scrap value of the individual
      items.





Cost
      in
      Excess of Billing/Billing in Excess of Cost on Uncompleted Contracts - The
      Company uses the percentage of completion method in accounting for long term
      contracts. Actual invoicing of services and payments for products or labor
      may
      differ from management’s estimate of the completeness of a project. The Company
      adjusts its revenues and/or costs to reflect the projects percent completion
      based on projected estimates of profitability prior to starting the project.
      At
      December 31. 2006, the Company recorded costs in excess of customer billing
      of
      $265,972 and billings in excess of costs of $501,081.




F-9


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


Property
      and Equipment - Fixed assets are recorded at cost. Depreciation is computed
      using the straight-line method over the estimated useful lives of the underlying
      assets, generally five years. Leasehold improvements are amortized using the
      straight-line method over the shorter of the estimated useful lives of the
      assets or the term of the lease. Routine repair and maintenance costs are
      expensed as incurred. Costs of major additions, replacements and improvements
      are capitalized. Gains and losses from disposals are included in income. The
      Company periodically evaluates the carrying value by considering the future
      cash
      flows generated by the assets. Management believes that the carrying value
      reflected in the consolidated financial statements is fairly stated based on
      these criteria.




Accrued
      Liabilities - At December 31, 2006 the Company had accrued liabilities of
      $111,336 that were included in accounts payable and consisted of accrued
      operating expenses.




Debt
      Offering Costs - Debt offering costs are related to private placements and
      are
      being amortized on a straight line basis over the term of the related debt,
      most
      of which is in the form of convertible debentures. Should conversion occur
      prior
      to the stated maturity date the remaining unamortized cost is expensed. Amortization expense amounted to $222,201 for 2006 and $40,529 for
      2005.


2006
              
              2005January
                  1,
              
              $
              0
              
              $
              40,529New
                  debt offering costs
              
              
              1,089,863
              
              
              0Accumulated
                  amortization
              
              
              (222,201
              )
              
              (40,529
              )December
                  31,
              
              $
              867,662
              
              $
              0




Investment
      Valuation - For 2005 as a BDC, investments in equity securities are recorded
      at
      fair value, represented as cost, plus or minus unrealized appreciation or
      depreciation, respectively. The fair value of investments that have no ready
      market, are determined in good faith by Management, and approved by the Board
      of
      Directors, based upon assets and revenues of the underlying investee companies
      as well as general market trends for businesses in the same industry. Because
      of
      the inherent uncertainty of valuations, management's estimates of the values
      of
      the investments may differ significantly from the values that would have been
      used had a ready market for the investments existed and the differences could
      be
      material.




Income
      Taxes - The Company accounts for income taxes using the asset and liability
      method, whereby deferred tax assets and liabilities are determined based upon
      the differences between financial reporting and tax bases of assets and
      liabilities and are measured using the enacted tax rates and laws that will
      be
      in effect when the differences are expected to reverse. A valuation allowance
      related to the deferred tax assets is also recorded when it is more likely
      than
      not that some or all of the deferred tax asset will not be realized.




Stock
      Based Compensation - In December 2004, the FASB issued SFAS No. 123R "Shared
      Based Payment". This statement is a revision of SFAS Statement No. 123,
      "Accounting for Stock-Based Compensation" and supersedes APB Opinion No. 25,
      "Accounting for Stock Issued to Employees," and its related implementation
      guidance. SFAS 123R addresses all forms of shared based payment ("SBP") awards,
      including shares issued under employee stock purchase plans, stock options,
      restricted stock and stock appreciation rights. Under SFAS 123R, SBP awards
      result in a cost that will be measured at fair value on the awards' grant date,
      based on the estimated number of awards that are expected to vest and will
      be
      reflected as compensation cost in the historical financial
      statements.




F-10


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


In
      December and August 2005, the Company issued to directors and an officer of
      the
      Company, respectively, options to purchase 796,000,000 shares of Common Stock
      of
      the Company, par value $0.001 per share, in the future. The Company
      recorded no compensation expense for 2005, as the exercise price of the options
      was equal to the fair market value of the Common Stock at the grant date. In
      2006, when SFAS 123R became effective, the Company recorded $389,502 in
      compensation expense, relative to the aforementioned options.




The
      Company recorded no compensation expense related to options granted in 2005
      as
      the exercise price of the options was equal to the fair market value of the
      Common Stock at grant dates. Had compensation cost for the options granted
      been
      determined based on the fair value at the grant dates for awards under the
      Plan
      issued in 2005 consistent with the method of SFAS 123, the Company's net loss
      would have been adjusted by $219,000 to the pro forma loss of
      $1,526,345.




The
      fair
      value of each option grant is estimated on the date of grant using the
      Black-Scholes option-pricing model with the following assumptions used for
      grants in 2005 and 2006 risk-free interest rate of 4.4%, volatility between
      122%
      and 456% and expected lives of ten years.




Valuation
      of Options and Warrants - The valuation of options and warrants granted to
      unrelated parties for services are measured as of the earlier (1) the date
      at
      which a commitment for performance by the counterparty to earn the equity
      instrument is reached or (2) the date the counterparty's performance is
      complete. Pursuant to the requirements of EITF 96-18, the options and warrants
      will continue to be revalued in situations where they are granted prior to
      the
      completion of the performance.




Recent
      Accounting Pronouncements - In December 2004, the FASB issued SFAS No. 123R
      "Shared Based Payment". This statement is a revision of SFAS Statement No.
      123,
      "Accounting for Stock-Based Compensation" and supersedes APB Opinion No. 25,
      "Accounting for Stock Issued to Employees," and its related implementation
      guidance. SFAS 123R addresses all forms of shared based payment ("SBP") awards,
      including shares issued under employee stock purchase plans, stock options,
      restricted stock and stock appreciation rights. Under SFAS 123R, SBP awards
      result in a cost that will be measured at fair value on the awards' grant date,
      based on the estimated number of awards that are expected to vest and will
      be
      reflected as compensation cost in the historical financial statements. This
      statement is effective for public entities as of the beginning of the first
      interim or annual reporting period that begins after June 15, 2005.




In
      May
      2005, the FASB issued Statement of Financial Accounting Standards No. 154 *“Accounting
      Changes and Error Corrections, an amendment of APB Opinion 20 and FASB Statement
      No. 3,”* which
      changes the requirements for accounting for and reporting on a change in
      accounting principle.  This statement is effective for accounting changes
      and corrections of errors made in fiscal years beginning after December 15,
      2005.  We believe that the adoption of SFAS No. 154 will not have a
      material impact on our results of operations.




In
      March 2006, the FASB issued SFAS No. 156 *“Accounting
      for Servicing of Financial Assets, an amendment of FASB No.
      140,”* which
      modifies the accounting for and reporting of servicing asset and servicing
      liabilities. This statement is effective as of the beginning of our first fiscal
      year that begins after September 15, 2006.  SFAS No. 156 is not currently
      applicable to the company and, we believe that the adoption of SFAS No. 156
      will
      not have a material impact on our results of operations.




In
      June
      2006, the FASB issued Financial Interpretation No. (FIN) 48, “ *Accounting
      for Uncertainty in Income Taxes - an interpretation of FASB Statement
      109* .” 
      FIN 48 prescribes a recognition threshold and a measurement attribute for the
      financial statement recognition and measurement of a tax position taken or
      expected to be taken in a tax return. This interpretation also provides guidance
      on de-recognition, classification, interest and penalties, accounting in interim
      periods, disclosure and transition.  This interpretation is effective for
      fiscal years beginning after December 15, 2006.  The Company is currently
      evaluating the impact of applying the various provisions of FIN 48.




F-11


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


In
      September 2006, the FASB issued SFAS No. 157, “ *Fair
      Value Measurements* ,”
that
      provides guidance for using fair value to measure assets and liabilities. 
Under SFAS 157, fair value refers to the price that would be received to sell
      an
      asset or paid to transfer a liability in an orderly transaction between market
      participants in the market in which the reporting entity transacts.  SFAS
      157 establishes a fair value hierarchy that prioritizes the information used
      to
      develop the assumptions that market participants would use when pricing the
      asset or liability.  The fair value hierarchy gives the highest priority to
      quoted prices in active markets and the lowest priority to unobservable
      data.  In addition, SFAS 157 requires that fair value measurements be
      separately disclosed by level within the fair value hierarchy.  This
      standard will be effective for financial statements issued for fiscal periods
      beginning after November 15, 2007 and interim periods within those fiscal years.
      The Company is currently evaluating the impact of applying the various
      provisions of SFAS 157.




Impairment
      of Long-Lived Assets - The Company accounts for impairment of long-lived assets
      in accordance with Statement of Financial Accounting Standards ("SFAS") No.
      144,
      "Accounting for the Impairment or Disposal of Long-Lived Assets". SFAS No.
      144
      established a uniform accounting model for long-lived assets to be disposed
      of.
      SFAS No. 144 also requires that long-lived assets be reviewed for impairment
      whenever events or changes in circumstances indicate that the carrying amount
      of
      an asset may not be recoverable. Recoverability of assets to be held and used
      is
      measured by comparing the carrying amount of an asset to estimated undiscounted
      future net cash flows expected to be generated by the asset. If the carrying
      amount of the asset exceeds its estimated future cash flows, an impairment
      charge is recognized by the amount by which the carrying amount of the asset
      exceeds the fair value of the asset. At December 31, 2006, the Company believes
      that there has been no impairment of its long-lived assets.




Advertising
      - The Company follows the policy of charging the costs of advertising to expense
      as incurred. Expenses incurred were $149,408 and $11,541 for the years ended
      December 31, 2006 and 2005, respectively.




Shipping
      and Handling - The Company follows the policy of charging the cost of shipping
      and handling costs to operating expense as incurred. The Company incurred
      $24,108 in shipping costs in 2006 and none in 2005.




Reclassifications
      - Certain prior year balances have been reclassified to conform with the current
      year presentation.




The
      Company has had recurring losses since inception of approximately $52,268,000,
      and continues to suffer cash flow and working capital shortages. As of December
      31, 2006, the Company had negative net working capital of approximately
      $3,570,000. Management believes we will be able to execute our new business
      plan
      as our subsidiaries develop their businesses, products and customer base. We
      believe the Company, as a whole, will be able to access additional funding,
      if
      necessary, to continue implementing its strategy of a complementary
      acquisitions, organic growth and building shareholder value.




**4.
      Fixed Assets, net**




Cost
      and
      related accumulated depreciation of the fixed assets are as follows:


2006Property
                  and equipment
              
              $
              620,500Accumulated
                  depreciation
              
              
              (121,677
              )$
              498,823




Depreciation
      expense in 2006 and 2005 was $112,048 and $14,085, respectively.


F-12


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


**5.
      Purchase of Nexus Preferred Shares**




In
      February 2006, the Company organized Nexus as a new subsidiary and purchased
      $3,400,000 in convertible preferred stock. Simultaneously with its formation,
      Nexus, though a merger with a wholly owned acquisition subsidiary, acquired
      100%
      of the outstanding common stock of Corporate Security Solutions, Inc. (“CSS”), a
      Pennsylvania corporation doing business as Nexus Technologies Group. Nexus,
      through its subsidiary, provides integrated security systems for the corporate
      and governmental security markets. The company, organized in 2004, provides
      its
      own brand of security integration taking advantage of the rapidly growing field
      of electronic security.






The
      market for integrated security applications is one that is rapidly growing
      as
      business and the public sector continue to recognize the importance and benefits
      of protecting their personnel, facilities and assets. Nexus is uniquely
      positioned to capitalize on this trend and lead the industry in system design
      and innovation. By leveraging a unique combination of the latest technology
      and
      50 years of industry experience, Nexus provides innovative, engineered and
      scaleable solutions to effectively protect people, property and assets for
      regional, national and international organizations. Based on a solid reputation
      for excellence, Nexus is typically contracted for the more technically
      challenging projects. Consequently, Nexus has broadened its service offerings
      to
      include projects throughout the United States and internationally in a variety
      of markets, including:




Corporate
              Commercial
              Health
                Care
              Government
              Utility
                Services
              Transportation
            Airports/Ports
              Prisons
              Banking
              Financial
                Services
              Education
              Critical
                Mission Data Centers




Nexus
      has
      developed a niche in the electronic security market. The company has the ability
      to engineer an open ended system that combines previously separated markets
      into
      one. This enables clients to utilize open ended technology between existing
      security and today’s ever changing security technology.




As
      a
      systems integrator the company primarily designs, customizes, installs, connects
      and maintains closed circuit television and access control systems for customers
      in the private and public sectors. Either together or on a stand-alone basis,
      these systems detect and/or reduce crime, prevent unauthorized entry and record
      evidence of infractions or accidents. These systems have proven to be an
      effective tool in improving building and facility management.




Nexus
      has
      also utilized its security engineering capabilities to expand regionally in
      the
      multi billion dollar electronic security market by contracting for more
      technically challenging projects initiated by medium to larger clients.
      Recently, the company has undertaken projects in a variety of markets,
      including: financial services, corporate and commercial, healthcare, government,
      utility services, public transportation, airports, industrial complexes,
      museums, prisons, higher education, as well as a national accounts program,
      geared for Fortune 500 companies.




Nexus
      is
      a non-proprietary provider of integrated security solutions including access
      control, alarm/intrusion, CCTV, communication, perimeter protection and bomb
      and
      metal detection security systems. Nexus is aligned with most of the major
      industry Original Equipment Manufacturers (OEMs) which provides our clients
      with
      flexibility and cost efficiency.




On
      February 8, 2006, the Company entered into a Series A Convertible Preferred
      Stock Purchase Agreement (the "Purchase Agreement") with Nexus. Pursuant to
      the
      Purchase Agreement, the Company purchased 3,400,000 shares of Nexus Series
      A
      Convertible Preferred Stock (the "Nexus Preferred Shares") for an aggregate
      purchase price of $3,400,000. The Company also committed to purchase an
      additional 6,400,000 Nexus Preferred Shares, in one or more transactions, at
      a
      purchase price of $1.00 per share at any time prior to February 8,
      2008.




F-13


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


Each
      Nexus Preferred Share accrues dividends cumulatively at the rate of eight
      percent (8%) per annum and is convertible into one (1) share of the Nexus common
      stock at any time by the Company, subject to adjustment for stock dividends,
      stock splits, and similar events. Each Nexus Preferred Share is entitled to
      one
      vote as if converted into Nexus common stock. The holders of the outstanding
      Nexus Preferred Shares, as a class, have the right to elect a majority of the
      board of directors of Nexus. Each Nexus Preferred Share has a liquidation
      preference of $1.00 per share plus any accrued and unpaid
      dividends.




The
      following is a condensed pro forma statement of operations for the year ended
      December 31, 2006 showing the combined results of operations of the Company
      (including all other consolidated subsidiaries) and Nexus as though the Company
      had acquired the Nexus Preferred Shares on January 1, 2006:


Pro
                  FormaAdjustmentsHMSC
              
              Nexus
              
              (Unaudited)
              
              Pro
                  FormaSales
              
              $
              1,718,306
              
              $
              6,963,939
              
              $
              693,170
              
              $
              9,375,415Net
                  loss
              
              $
              (5,366,799
              )
              $
              (1,122,958
              )
              $
              (503,807
              )
              $
              (6,993,564
              )Net
                  loss per share
              
              
              (0.00
              )
              
              (0.00
              )
              
              (0.00
              )
              
              (0.00
              )





Since
      the
      Company operated during 2005 as a BDC with an entirely different business
      strategy and had no meaningful operations for the year ended December 31, 2005,
      we believe that it would not provide a meaningful comparison to provide a pro
      forma unaudited condensed statement of operations showing the combined results
      of operations of the Company and Nexus as though the Company had acquired the
      Nexus Preferred Shares on January 1, 2005.




**6.
      Acquisition of CSS**




On
      February 8, 2006, Nexus, a subsidiary of the Company, completed its acquisition
      of CSS pursuant to the terms of an Agreement and Plan of Merger (the "Merger
      Agreement"), dated February 8, 2006, by and among Nexus, CSS, CSS Acquisition,
      Inc. and certain other persons named therein. Pursuant to the Merger Agreement,
      CSS Acquisition, Inc., a wholly owned subsidiary of Nexus, merged with and
      into
      CSS (the "Merger") with CSS surviving the Merger. The stockholders of CSS
      received an aggregate of 3,675,000 shares of Nexus common stock in exchange
      for
      all of the issued and outstanding CSS common stock. Of these shares, 3,000,000
      are deemed restricted stock and are subject to vesting and performance
      provisions. Upon the effectiveness of the Merger, the Company maintained control
      of Nexus with its 82.1% of the voting power of Nexus.





F-14


**HOMELAND
        SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
        to Consolidated Financial Statements**


**7.
      Purchase of Security Holding Corp. Preferred Shares**




On
      August
      21, 2006, the Company entered into a Series A Convertible Preferred Stock
      Purchase Agreement (the “Purchase Agreement”) with SHC. On August 22, 2006,
      pursuant to the Purchase Agreement, the Company purchased 3,000,000 shares
      of
      Security Series A Convertible Preferred Stock (the “Preferred Shares”) for an
      aggregate purchase price of $3,000,000 (the “Offering”). The Company also
      committed, subject to certain conditions, to purchase an additional 2,000,000
      Preferred Shares, in one or more transactions, at a purchase price of $1.00
      per
      share at any time prior to August 21, 2008.





Each
      Preferred Share will accrue dividends cumulatively at the rate of eight percent
      (8%) per annum and is convertible into one (1) share of the SHC common stock
      at
      any time by the Company, subject to adjustment for stock dividends, stock
      splits, and similar events. Each Preferred Share will be entitled to one vote
      as
      if converted into SHC common stock. The holders of the outstanding Preferred
      Shares, as a class, so long as they maintain voting control of SHC, will have
      the right to designate a majority of the board of directors of SHC. Each
      Preferred Share will have a liquidation preference of $1.00 per share plus
      any
      accrued and unpaid dividends.





The
      following is a condensed pro forma statement
      of operations for the year ended December 31, 2006 showing the combined results
      of operations of the Company and SHC as though the Company had acquired the
      SHC
      Preferred Shares on January 1, 2006:


Pro
                  FormaAdjustmentsHMSC
              
              SHC
              
              (Unaudited)
              
              Pro
                  FormaSales
              
              $
              6,949,383
              
              $
              1,732,862
              
              $
              86,541
              
              $
              8,768,786Net
                  loss
              
              $
              (4,899,739
              )
              $
              (1,590,018
              )
              $
              (222,663
              )
              $
              (6,712,420
              )Net
                  loss per share
              
              
              (0.00
              )
              
              (0.00
              )
              
              (0.00
              )
              
              (0.00
              )




Since
      the
      Company operated during 2005 as a BDC with an entirely different business
      strategy and had no meaningful operations for the year ended December 31 2005,
      we believe that it would not provide a meaningful comparison to provide a pro
      forma unaudited condensed statement of operations showing the combined results
      of operations of the Company and SHC as though the Company had acquired the
      SHC
      Preferred Shares on January 1, 2005.





**8.
      Acquisition of SHEI**





Simultaneous
      with our acquisition of SHC, SHEI was merged into SHC, in consideration for
      the
      issuance of 2,500,000 shares of common stock of SHC (600,000 of which are held
      in escrow, the “Hold Back Shares”, 1,900,000 of which were transferred to the
      SHEI sellers, the “Baseline Shares”) to the SHEI sellers (the “Sellers”). SHEI
      owned 100% of the outstanding equity of each of AAID, SI and CL. Upon the
      consummation of the acquisition, SHEI was merged into SHC, leaving its
      aforementioned subsidiaries wholly owned by SHC. SHC used its common stock,
      with
      no deemed value, to acquire SHEI and applied a purchase accounting approach
      to
      account for the acquisition of SHEI. As a result, SHC acquired all assets and
      liabilities of the subsidiaries.





The
      Sellers and certain employees (the “Seller Employees”) are entitled to earn
      additional shares of SHC common stock if SHC meets certain performance targets
      by certain dates. The Sellers can, provided they are employed by SHC as of
      the
      measurement dates release the Hold Back Shares from escrow if SHC is valued
      (USBX Advisory Services, Inc. will be engaged to perform any valuation with
      respect to SHC) as of December 31, 2007 (measured between January 1 and March
      31, 2008) at $9,000,000 or greater. If SHC fails to achieve the valuation
      target, all of the escrowed shares will be forfeited and cancelled.
      Additionally, SHC issued to the Sellers who are managers and certain Seller
      Employees 10,000000 restricted shares of SHC common stock (the “Restricted
      Shares”) that will vest on March 31, 2010 or earlier (the “Vesting Date”)
      provided the Sellers and the Seller Employees continue to be employed by SHC
      at
      such time and provided SHC generates certain Equity Value targets in Fiscal
      2009
      or in an earlier Fiscal Year based on the following formula:




F-15


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


*Stockholders
      Vested Shares = [(Equity Value/3) - (Parents Preferred Stock as converted +
      Baseline Shares)] * .80 * Stockholders Pro-Rata Share (subject to the issuance
      of a maximum of 10,000,000 shares of common stock under all of the Restricted
      Stock Agreements).*





Lastly,
      SHC issued in the names of the Sellers an aggregate of 2,500,000 shares of
      common stock (the “Earn Out Shares”), which such Earn Out Shares are to be held
      in escrow pending achievement by SHC of certain financial targets. SHC will
      release to the Sellers pro rata (based on ownership of SCH) Earn Out Shares
      on
      March 31, 2010 or earlier (the “Earn Out Date”) provided that SHC generates
      certain Equity Value targets in Fiscal 2009 or in an earlier Fiscal Year based
      on the following formula:





*Seller’s
      Released Shares = [(Equity Value/3) - (* *Parents
      Preferred Stock as converted + Baseline Shares)] * .20 * Seller’s Pro-Rata Share
      (subject to the issuance of a maximum of 2,500,000 Earn Out Shares in the
      aggregate to all Sellers).*





If
      SHC
      were to achieve all financial targets by all the dates set for measurement
      of
      those targets, SHC would issue to the Sellers and certain Sellers Employees
      a
      total of 13,100,000 shares of SHC common stock. In this instance the Company’s
      ownership position would be reduced from 61% at December 31, 2006 to 25%,
      assuming the Company completed its commitment to purchase an additional
      $2,000,000 of Preferred Shares as described above.





**9.
      Entry into Polimatrix (PMX) Joint Venture**





On
      September 18, 2006, the Company entered into a US-based joint venture with
      Polimaster, Inc., an Arlington, Virginia company involved in the field of
      nuclear and radiological detection and isotope identification. The joint venture
      will operate as Polimatrix, Inc. (PMX) and is owned 51% by the Company. PMX
      will
      use technology licensed from Polimaster, Inc. in the development of hand-held,
      networked nuclear and radiological detection devices intended to be sold to
      governmental and commercial customers. PMX also intends to sell other products
      manufactured by Polimaster, Inc. and other manufacturer’s radiological,
      biological, chemical and bacteriological detection equipment. As of December
      31,
      2006, PMX did not have any significant operations.




**10.
      Income Taxes**




The
      tax
      effects of temporary differences giving rise to the Company's deferred tax
      assets (liabilities) at December 31 are as follows:


2006
                
                2005Current
                
                
                —
                
                
                —Valuation
                    allowance for net current deferred tax assets
                
                
                —
                
                
                —Total
                    net current deferred tax asset
                
                $
                —
                
                $
                —Noncurrent:Net
                    operating loss and research credit carryforwards
                
                $
                16,540,000
                
                $
                14,852,000Accrued
                    expenses
                
                
                175,600
                
                
                —16,715,700
                
                
                14,868,000Valuation
                    allowance for net noncurrent deferred tax assets
                
                
                (16,715,700
                )
                
                (14,868,000
                )Total
                    net noncurrent deferred tax asset
                
                $
                —
                
                $
                —





F-16


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


As
      a
      result of significant historical pretax losses, management cannot conclude
      that
      it is more likely than not that the deferred tax asset will not be realized.
      Accordingly, a full valuation allowance has been established against the total
      net deferred tax asset.




The
      Company's income tax benefit differs from that obtained by using the federal
      statutory rate of 39% as a result of the following:


2006
                
                2005Computed
                    "expected" tax (benefit)
                
                $
                (2,271,415
                )
                $
                (444,000
                )State
                    income tax (benefit), net offederal
                    income tax benefit
                
                
                (266,080
                )
                
                (52,000
                )Beneficial
                    conversion feature expense
                
                
                496,623
                
                
                92,000Allowance
                    for doubtful accounts
                
                
                120,895Compensation
                    from options
                
                
                151,905Amortization
                    debt discount costs
                
                
                —
                
                
                15,400and
                    valuation of derivative liability
                
                
                163,400Accrued
                    expenses
                
                
                54,700
                
                
                —Meals
                    and entertainment
                
                
                7,700
                
                
                —Political
                    contributions
                
                
                5,752
                
                
                —Stock
                    for expenses
                
                
                202,625
                
                
                —Contributions
                
                
                3,646
                
                
                —Goodwill
                
                
                10,247
                
                
                —Loss
                    of benefit of deferred tax asset
                
                
                1,320,002
                
                
                388,600$
                —
                
                $
                —




At
      December 31, 2006, the Company had an available net operating loss carryforward
      of approximately $42,000,000. Increases in 2006 were increased by losses in
      the
      Company’s acquired subsidiaries. These deductions create net operating loss
      carryforwards which in certain circumstances could become limited due to a
      change in control of the subsidiary. These amounts are available to reduce
      the
      Company's future taxable income and expire in the years 2011 through
      2026.





**11.
      Sale of Convertible Debentures (2006 A)**




On
      February 6, 2006, the Company entered into a Securities Purchase Agreement
      with
      Cornell, which provided for the purchase by Cornell of a Convertible
      Debenture (the "2006 A Debenture") in the amount of $4,000,000, which debenture
      is convertible into Common Stock. The conversion price of the 2006 A Debenture
      shall be equal to the lesser of (1) $0.01 or (2) a ten percent discount to
      the
      lowest daily volume weighted average price of the Common Stock for the thirty
      trading days preceding conversion. Cornell is entitled to convert the 2006
      A
      Debenture at a conversion price into Common Stock, provided that Cornell cannot
      convert into shares of Common Stock that would cause Cornell to own more than
      4.9% of the issued and outstanding Common Stock. The 2006 A Debenture has an
      interest rate of 5% per annum and the principal amount will be payable on the
      third anniversary of the effective date of the Debenture. If the Common Stock
      is
      trading below the conversion price, the Company may redeem the 2006 A Debenture
      at any time upon the payment of a redemption premium equal to twenty percent
      of
      the amounts redeemed.




Pursuant
      to a Security Agreement between the Company and Cornell, the Company's
      obligations under the 2006 A Debenture are secured by a pledge of all of its
      assets. Pursuant to the Securities Purchase Agreement, the Company paid a
      commitment fee of $400,000 and $20,000 in structuring fees and diligence fees,
      all to Yorkville. Accordingly, the Company received net proceeds of
      approximately $3,580,000 upon issuance of the Debenture. The Company has also
      issued to Cornell 50,000,000 shares of Common Stock pursuant to this
      transaction.




In
      connection with the Securities Purchase Agreement, the Company entered into
      an
      Investor Registration Rights Agreement with Cornell pursuant to which the
      Company agreed to file a registration statement covering the resale of shares
      of
      Common Stock issuable upon the conversion of the Debenture.




F-17


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


In
      accordance with EITF-00-19 and SFAS 150, and because there is no explicit limit
      on the number of shares that are to be delivered upon exercise of the conversion
      feature, the Company is not able to assert that it will have sufficient
      authorized and unissued shares to settle the conversion option. As a result,
      the
      conversion feature will be accounted for as a derivative liability, with the
      change in fair value recorded in earnings each period.





**12.
      Sale of Convertible Debentures (2006 B)**




On
      August
      21, 2006, the Company entered into a Securities Purchase Agreement with Cornell,
      which provided for the purchase by Cornell of a secured Convertible Debenture
      (the "2006 B Debenture") in the amount of $4,000,000, which debenture is
      convertible into Common Stock. The conversion price of the 2006 B Debenture
      shall be equal to the lesser of (1) $0.01 or (2) a ten percent discount to
      the
      lowest daily volume weighted average price of the Common Stock for the thirty
      trading days preceding conversion. The 2006 B Debenture has an interest at
      rate
      of 5% per annum and the principal amount will be payable on the third
      anniversary of the effective date of the 2006 B Debenture. If the Common Stock
      is trading below the conversion price at the date of redemption notice, the
      Company shall pay an amount equal to the principal amount being redeemed plus
      a
      redemption premium equal to twenty percent of the amounts redeemed and accrued
      interest. Pursuant to a Security Agreement between the Company and Cornell,
      the
      Company's obligations under the 2006 B Debenture are secured by a pledge of
      all
      of its assets.




Pursuant
      to the Securities Purchase Agreement, the Company paid a commitment fee of
      $400,000 and $15,000 in structuring fees and diligence fees, all to Yorkville.
      Also, the Company paid interest due on the 2006 A Debenture in the amount of
      $107,945 out of the proceeds. Accordingly, the Company received net proceeds
      of
      $3,477,055 upon issuance of the 2006 B Debenture.




In
      connection with the Securities Purchase Agreement, the Company issued a warrant
      to Cornell for 100,000,000 of the Company’s Common Stock. The warrant has an
      exercise price equal to $0.01, which may be adjusted under terms of the warrant,
      and has a term of five years from the date of issuance on August 21, 2006.
      The
      Company also entered into an Investor Registration Rights Agreement with Cornell
      pursuant to which the Company agreed to file a registration statement covering
      the resale of shares of Common Stock issuable upon the conversion of the
      Debenture.




In
      accordance with EITF-00-19 and SFAS 150, and because there is no explicit limit
      on the number of shares that are to be delivered upon exercise of the conversion
      feature, the Company is not able to assert that it will have sufficient
      authorized and unissued shares to settle the conversion option. As a result,
      the
      conversion feature will be accounted for as a derivative liability, with the
      change in fair value recorded in earnings each period. Additionally, the Company
      is not able to assert that it will have sufficient authorized and unissued
      shares to exchange for the warrant, if it is exercised. As a result, the warrant
      will be accounted for as a liability, with the change in fair value recorded
      in
      earnings each period.




F-18


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


**13.
      Long Term Debt and Convertible Debentures**




**Long
      Term Debt**







Trade
                notes to suppliers and vendors dueWith
                various terms within one year
            
            $
            113,325Capitalized
                lease obligation due through January 2009 for the purchase of computer
                firewall equipment and a blueprint copier
            
            
            62,098Vehicle
                purchase notes bearing interest at rates from7.5%
                to 12.0% with monthly payments aggregatingapproximately
                $5,000 through 2011 and collateralized by vehicles with an original
                cost
                of $202,990
            
            
            151,826Notes
                to subsidiary minority stockholders - 8% unsecured notes maturing
                in July,
                2009 and payable monthly installments of $15,668
            
            
            451,030Total
            
            
            778,279Less:
                Current maturities
            
            
            (340,028
            )Long
                Term Notes Payable
            
            $
            438,251




Principal
      maturities for the next five years are as follows:




2007
            
            $
            340,0282008
            
            
            243,0172009
            
            
            159,4652010
            
            
            28,6792011
            
            
            7,090Total
            
            $
            778,279




**Convertible
      Debentures**




The
      Company issued $537,500 aggregate principal amount of 5% convertible debentures
      in 2004. The debentures have a term of two years and are convertible into the
      Company's Common Stock, at the option of the holder, at a price equal to $0.001.
      Since there was substantially no difference in the market value of the stock
      at
      the date of the debenture compared to the conversion price, there was no
      beneficial conversion feature for the convertible debentures. In 2004, $25,000
      of the debentures was repaid. In 2005, $10,000 of the debentures was converted
      into 7,149,333 shares of Common Stock and $280,000 was repaid leaving $222,500
      remaining outstanding at December 31, 2005. In 2006 all of the remaining
      debentures were converted into 177,795,830 shares of Common Stock.




F-19


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


Cornell
                5%
            
            Cornell
                5%Debenture
            
            Debenture
            
            Cornell2006
                A
            
            2006
                B
            
            Warrant
            
            TotalFace
                amount
            
            $
            4,000,000
            
            $
            4,000,000
            
            
            
            
            $
            8,000,000Less:
                Cost of issuance
            
            
            (520,000
            )
            
            (569,863
            )
            
            
            
            
            (1,089,863
            )Net
                proceeds
            
            $
            3,480,000
            
            $
            3,430,137
            
            $
            -
            
            $
            6,910,137Value
                of derivative liability at issue date
            
            $
            3,331,544
            
            $
            2,298,787
            
            $
            154,863
            
            $
            5,785,194Gain
                (Loss) of value of derivative
            
            
            (404,962
            )
            
            883,429
            
            
            (79,450
            )
            
            399,017Value
                at December 31, 2006
            
            $
            2,926,582
            
            $
            3,182,216
            
            $
            75,413
            
            $
            6,184,211Face
                amount
            
            $
            4,000,000
            
            $
            4,000,000
            
            $
            
            
            $
            $8,000,000Debt
                discount
            
            
            3,331,544
            
            
            2,298,787
            
            
            
            
            
            5,630,331Less
                amortization of discount
            
            
            (1,017,972
            )
            
            (255,421
            )
            
            
            
            
            (1,273,393
            )Net
                debt discount
            
            
            2,313,572
            
            
            2,043,366
            
            
            
            
            
            4,356,938Net
                Convertible Debentures
            
            $
            1,686,428
            
            $
            1,956,634
            
            $
            -
            
            $
            3,643,062




**Beneficial
      Conversion Features of Debt**




The
      Company recognized a beneficial conversion feature for the various convertible
      debentures issued in prior years as discounts on the convertible debentures
      and
      additional paid-in capital. Upon conversion prior to the stated date of
      redemption the remaining unamortized discount was immediately expensed. Non-cash
      interest expense amounted to $242,988 and $0 for the years ended December 31,
      2006 and 2005, respectively.




At
      December 31, 2005, the Company has $222,500 in debentures outstanding, all
      of
      which were converted in 2006 and none of which has unamortized debt discount
      associated with it.




**14.
      Series F Preferred Stock**




On
      October 6, 2005, the Company issued 1,000,000 shares of Series F Convertible
      Preferred Stock, par value $0.01 per share (the “Series F Preferred Stock”), to
      Cornell,, a related party, pursuant to a securities purchase agreement. Net
      proceeds from the issuance amounted to $1,000,000 less costs of $154,277, or
      $845,723. The Series F Preferred Stock provides for preferential dividends
      at an
      annual rate of 12%. Also, the Series F Preferred Stock has a preferential
      liquidation amount of $0.10 per share or $100,000. The preferred stock is
      convertible into shares of Common Stock at a conversion price equal to $0.001
      per share, subject to availability, at any time after the termination of the
      Company's status as a BDC. The stockholders voted to terminate the Company's
      election as a BDC in its special meeting on December 30, 2005. Although not
      convertible until the termination of the Company's status as a BDC, on the
      date
      of issuance of the Series F Preferred Stock, the effective conversion price
      was
      at a discount to the price of the Common Stock into which it was convertible.
      The Company recorded a $1,000,000 dividend relative to the beneficial conversion
      feature. As of December 31, 2006, none of the Series F Preferred Stock has
      been
      converted into shares of Common Stock.




F-20


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


**15.
      Series G Preferred Stock**




On
      February 6, 2006, the Company entered into an Investment Agreement with Cornell
      pursuant to which the Company exchanged with Cornell 1,000,000 shares of Series
      G Convertible Preferred Stock (the "Series G Preferred Shares") for 450,000,000
      shares of the Company's Common Stock owned by Cornell. Each share of Series
      G
      Preferred Shares may be converted, at Cornell' discretion, into 450 shares
      of
      the Common Stock. The Series G Preferred Shares are senior in rank to all Common
      Stock and all series of preferred stock of the Company. Each share of Series
      G
      Preferred Share has a liquidation preference of $0.10. The holders of Series
      G
      Preferred Shares are not entitled to receive any dividends. The Company paid
      a
      $10,000 structuring fee to Yorkville in connection with the
      transaction.




In
      connection with the Investment Agreement, the Company entered into an Investor
      Registration Rights Agreement with the Cornell pursuant to which the Company
      agreed to file a registration statement covering the resale of shares of Common
      Stock issuable upon the conversion of the Series G Preferred Shares. The Company
      also filed a Certificate of Designation with the State of Delaware amending
      its
      Certificate of Incorporation to include the rights and terms of the Series
      G
      Preferred Shares.




**16.
      Stock Options**




In
      2005,
      the Company established a stock option plan under which 724,000,000 options
      to
      acquire common shares were reserved for issuance. There are 580,000,000 options
      issued to C. Thomas McMillen, its President and CEO that were outstanding at
      December 31, 2006. These options vested 116,000,000 at the grant date (August
      29, 2005) and as of December 31, 2006 the options were completely
      vested.




Outside
      of the stock option plan, each of the directors was granted options to purchase
      72,000,000 shares of common stock. Of these options 8,000,000 at the grant
      date
      (December 30, 2005) and 8,000,000 each quarter for eight quarters thereafter
      for
      a total of 72,000,000 options for each of these directors. These options expire
      10 years from the effective date.




Additionally,
      in 2006, the Company’s directors approved options to purchase 120,000,000 shares
      of common stock to employees and options to purchase 60,000,000 shares to a
      consultant. These options generally vest at the grant date and then quarterly
      over the next twelve quarters and expire ten years from grant date. Of these
      options 10,000,000 options were forfeited.


2006
              
              2005Weighted
              
              
              
              WeightedAverage
              
              
              
              AverageExercise
              
              
              
              ExerciseOptions
              
              Price
              
              Options
              
              PriceOutstanding
                  at beginning of
                Year
              
              
              796,000,000
              
              $
              0.00096
              
              
              —
              
              $
              —Granted
              
              
              180,000,000
              
              
              0.00161
              
              
              796,000,000
              
              
              0.00096Exercised
              
              
              —
              
              
              —
              
              
              —
              
              
              —Forfeited
              
              
              (10,000,000
              )
              
              0.00170
              
              
              —
              
              
              —Outstanding
                  at end of year
              
              
              966,000,000
              
              $
              0.00098
              
              
              796,000,000
              
              
              0.00096Options
                  exercisable at year end
              
              
              741,060,001
              
              $
              0.00095
              
              
              256,000,000
              
              $
              0.00096




F-21


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


**17.
      Common Stock Warrants**




**2002
      Warrants**




At
      December 31, 2004, there were 548,000 warrants outstanding with an exercise
      price ranging from $2.00 to $14.00 with a weighted average price of $2.39.
      These
      warrants expired at various dates from March 2005 through August
      2006.




During
      2006, the Company granted 140,000,000 warrants to two entities and one
      consultant. The warrants vested when granted and were issued in connection
      with
      our debenture financing, financial advisory services and investor relations
      consultation.




**18.
      Stock Buyback Program**




In
      September 2004, the Company was authorized to establish a stock buyback program
      whereby the Company would acquire up to 500,000,000 shares of its Common Stock
      over a twelve month period from the open market at favorable prices. There
      was
      no obligation to acquire any specific number of shares or purchase at any
      specific price. At December 31, 2004, the Company had acquired 226,843,599
      shares at a cost of $561,334 and had accounted for the purchase as treasury
      stock. The funding was provided primarily through a short term note of $500,000
      from a related party. During 2005, the Company acquired 178,680,000 additional
      shares at a cost of $417,966 funded from proceeds from the liquidation of its
      Yorkville investment. The Company has retired all shares acquired under the
      program in 2005.




**19.
      Settlement of Trade Payable and Convertible Debentures**




During
      2005, the Company settled certain trade payables, convertible debentures, and
      accrued interest of $3,055,000. Such settlement resulted in a gain on
      forgiveness of debt of approximately $33,300. In 2005, there was also a
      related-party gain of $81,901, which was credited to Additional Paid in
      Capital.




During
      2006, the Company settled certain trade payables, convertible debentures and
      accrued interest of $217,000. Such settlements resulted in a gain on forgiveness
      of debt of approximately $91,000.




**20.
      Business Segments**




The
      Company analyzes its assets, liabilities, cash flows and results of operations
      by operating unit or subsidiary. In the case of our platform companies, which
      are our first level subsidiaries, the Company relies on local management to
      analyze each of its subsidiaries and report based on a consolidated entity.
      As a
      result the Company, in its application of SFAS 131, views that its financial
      decisions will be made based on the overall performance of a first level
      subsidiary. Additionally, our current subsidiaries derive their revenues and
      cash flow from different activities, services in the case of Nexus and products
      in the case of SHC.




F-22


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


The
      table
      below shows selected data for each of the Company’s operating units.




Homeland
                  Security Capital Corporation Consolidated
              
              Holding
                  Company Homeland Security Capital Corporation
              
              Services
                  Company Nexus Technology Group
              
              Products
                  Company Security Holding Corp.
              
              ConsolidatedRevenues
              
              
              -
              
              
              6,963,939
              
              
              1,718,306
              
              
              8,682,245Gross
                  margin
              
              
              -
              
              
              1,751,046
              
              
              288,546
              
              
              2,039,592Operating
                  expenses
              
              
              1,870,536
              
              
              2,861,598
              
              
              1,707,130
              
              
              6,439,264Other
                  expenses - net
              
              
              2,051,351
              
              
              11,406
              
              
              27,328
              
              
              2,090,085Minority
                  interest
              
              
              -
              
              
              -
              
              
              -
              
              
              -Net
                  loss
              
              
              3,921,887
              
              
              1,021,958
              
              
              1,445,912
              
              
              6,489,757Current
                  assets
              
              
              782,341
              
              
              4,114,657
              
              
              1,999,773
              
              
              6,896,771Total
                  assets
              
              
              1,671,085
              
              
              4,340,249
              
              
              3,364,844
              
              
              9,376,178


**21.
      Loss Per Share**




Basic
      and
      diluted loss per share was computed by dividing net loss applicable to Common
      Stock by the weighted average common shares outstanding during each period.
      Potential common equivalent shares of 880,226,667 and 362,500,000 at December
      31, 2006 and 2005, respectively, are not included in the computation of per
      share amounts in the periods as the effect would be antidilutive.




**22.
      Cash Flows**




Supplemental
      disclosure of cash flow information for the years ended December 31, 2006 and
      2005, are as follows:


2006
              
              2005Cash
                  paid during the year for:Interest
              
              $
              115,674
              
              $
              516,165Taxes
              
              $
              0
              
              $
              0


Non
      Cash
      Investing and Financing activities include:




**2006**





On
      February 6, 2006, we entered into an Investment Agreement with
      Cornell pursuant to which we exchanged 1,000,000 shares of our Series G
      Convertible Preferred Stock (the “Series G Stock”) for 450,000,000 shares of our
      Common Stock held by Cornell. Each share of Series G Stock is convertible,
      at
      the discretion of Cornell, into 450 shares of Common Stock. The holders of
      the
      Series G Stock are not entitled to receive any dividends. As of December 31,
      2006, none of the Series G Stock had been converted into shares of Common
      Stock.




On
      February 6, 2006, we entered into a Securities Purchase Agreement with Cornell
      pursuant to which we sold secured convertible debentures (the “February
      Debentures”) in the amount of $4,000,000. The February Debentures are
      convertible into Common Stock at a conversion price equal to the lesser of
      (1)
      $0.01 or (2) a ten percent discount to the lowest daily volume weighted average
      price of the Common Stock for the thirty trading days preceding conversion.
      The
      February Debentures bear interest at 5% per annum and the maturity date is
      February 6, 2009.




F-23


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


On
      August
      21, 2006, we entered into a Securities Purchase Agreement with Cornell pursuant
      to which we sold secured convertible debentures (the “August Debentures”) in the
      amount of $4,000,000. The August Debentures are convertible into Common Stock
      at
      a conversion price equal to the lesser of (1) $0.01 or (2) a ten percent
      discount to the lowest daily volume weighted average price of the Common Stock
      for the thirty trading days preceding conversion. The August Debentures bear
      interest at 5% per annum and the maturity date is August 21, 2009.




On
      August
      21, 2006, in connection with the sale of the August Debentures, we issued to
      Cornell a warrant to purchase 100,000,000 shares of Common Stock. The warrant
      has an exercise price equal to $0.01 (subject to certain adjustments as set
      forth therein) and has a term that expires on August 20, 2011.




In
      December 2006, we issued to our financial advisor warrants to purchase
      20,000,000 of our Common Stock. These warrants have an exercise price of $0.0011
      per share and have a term of five years from the date of issuance. These
      warrants were issued as consideration for financial advisory services.




In
      December 2006, we issued to our investor relations firm warrants to purchase
      20,000,000 of our Common Stock. These warrants have an exercise price of $0.0036
      per share and have a term of four years from the date of issuance. These
      warrants were issued as part of the consideration for investor relations
      services.




In
      2006,
      $222,500 of our convertible debentures were converted into 177,795,830 shares
      of
      Common Stock at an average conversion price of $0.0013. These transactions
      were
      exempt from registration under Section 4(2) of the Securities Act.




**2005**




The
      Company converted $10,724, including accrued interest, of the convertible
      debentures into 7,149,333 shares of Common Stock.




On
      October 6, 2005, the Company entered into a Securities Purchase Agreement with
      Cornell, pursuant to which the Company issued to Cornell a total of $1,000,000
      of Series F Preferred Stock. Upon the termination of the Company's status as
      a
      BDC under the Investment Company Act, the Series F Preferred Stock would become
      convertible at the option of Cornell into such number of fully paid and
      non-assessable shares of our Common Stock, as is determined by dividing (a)
      the
      sum of (i) $1,000,000 (the original purchase price for the Series F Preferred
      Stock), plus (ii) all accrued but unpaid dividends thereon by (b) the conversion
      price then in effect. As set forth in the Certificate of Designation of the
      Series F Preferred Stock, the conversion price is $0.001, as adjusted from
      time
      to time as provided in the Certificate of Designation. As of December 31, 2005,
      none of the Series F Preferred Stock has been converted into shares of Common
      Stock.




**23.
      Commitments and Contingencies**




**Leases**




The
      Company and its subsidiaries routinely enter into lease agreements for office
      space used in the normal course of business. Certain leases include escalation
      clauses that adjust rental expense to reflect changes in price indices, as
      well
      as renewal options. In addition to minimum rental payments, certain of our
      leases require additional payments to reimburse lessor for operating expenses
      such as real estate taxes, maintenance and utilities. At December 31, 2006
      the
      Company occupied office and warehouse space under five (5) separate leases.
      The
      following table shows the future minimum obligations under lease commitments
      in
      effect at December 31, 2006:




Operating
              Leases2007
            
            $
            240,1872008
            
            
            140,3252009
            
            
            132,5282010
            
            
            19,5602011
            
            
            -Thereafter
            
            
            -




F-24


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


Rent
      expense for the years ended December 31, 2006 and 2005 was $205,973 and $14,400
      respectively.




Our
      leases, some of which are month to month, have various termination dates between
      May 2007 and June 2010. We believe that any of our subsidiaries can find
      suitable office and warehouse accommodations on short notice.




The
      table
      below indicates the ending month of leases by each subsidiary.




**2007**
            
            **2008**
            
            **2009**
            
            **2010**Nexus
            
            
            
            
            
            FebruarySecurityInc
            
            
            
            
            
            
            
            
            DecemberCompass
            
            
            MayAAID
            
            
            
            
            
            JanuaryCyberlynk
            
            
            
            
            
            
            
            
            
            
            
            June




**Commitments**




The
      Company and its subsidiaries in the normal course of business routinely enter
      into consulting agreements for services to be provided to the Company. These
      agreements are generally of short terms and are terminable by either party
      on
      thirty (30) days notice. As a result, the Company does not believe it has any
      material commitments to consultants.




**Licenses
      and Royalties**




The
      Company and its subsidiaries routinely licensed technology and manufacturing
      rights in the normal course of business. Payments under these licenses are
      due
      upon the sale of the specific product(s) for which the license was obtained.
      The
      Company is not committed to fixed payment schedules or is it required to make
      minimum sales under any license.




**Insurance**




The
      Company and its subsidiaries maintain various insurance policies for product
      liability, general liability, health, worker’s compensation and automobile
      insurance, as well as excess umbrella insurance policies. The Company believes
      that its insurance carriers are highly rated companies and does not believe
      that
      it has any financial risk as to insurance.




**Litigation**




The
      Company and its subsidiaries do not believe , they are the subject of any
      litigation.




**24.
      Related Party Transactions**




The
      Company believes that it conducts its related part business on terms no less
      favorable to us than could have been obtained from unaffiliated third parties.
      Furthermore, any future transactions or loans between us and officers,
      directors, principal stockholders or affiliates, and any forgiveness of such
      loans, will be on terms no less favorable to us than could be obtained from
      an
      unaffiliated third party, and will be approved by a majority of our directors,
      including a majority of our independent and disinterested directors who have
      access at our expense to our legal counsel.




F-25


**HOMELAND
          SECURITY CAPITAL CORPORATION AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**


On
      June
      7, 2005, Washington Capital, a private equity firm owned by McMillen, and Global
      Defense Corp. executed a lease with Cambridge Associates LLC for our current
      office space located at 4100 North Fairfax Drive, Suite 1150, Arlington, VA
      22203-1664. McMillen served as Chairman of the Board and Chief Executive Officer
      of Global Defense Corp. until July 2005, when he stepped down as CEO. Washington
      Capital leased the equipment and provided it and the space to FAAC with a
      separate sublease arrangement that started July 2005. We moved in the current
      office space on September 1, 2005 and did not pay any rent because of BDC
      limitations on doing business with affiliates. On March 1, 2006, Global Defense
      Corp. assigned its interest in the lease to us with Washington Capital’s
      approval. On March 1, 2006, the Company started paying a monthly rent (which
      includes utilities, furniture and equipment) in the amount of $4,600 to
      Cambridge Associates LLC.




We
      lease
      approximately 8,208 and 3,075 square feet of office and warehouse space from
      Bridgestone at 10125 S. 52 nd Street,
      Franklin, WI 53132 which serves, respectively, as SHC’s administrative offices,
      SI’s administrative offices and warehouse and CL’s administrative offices and
      warehouse. Included in the leases are furniture and equipment and in the case
      of
      Cyberlynk tax and utilities. Bridgestone is owned by Joel Konicek and Jim
      Peroutka, the CEO and Chief Technical Officer, respectively, of SHC. Lease
      payments were $7,794 and $3,250 per month, respectively. SHC and SI’s lease
      expires December 31, 2009 and CL’s lease expires June 30, 2010.




Joel
      Konicek and James Peroutka, the
      CEO
      and Chief Technical Officer, respectively, of SHC, own
      100%
      of the capital stock of Accuteck, Inc. and Accuteck, Inc. owns 67% of the
      capital stock of Innovative Control Systems, Inc. In
      January 2006, we entered into an exclusive licensing agreement with ICS that
      entitles it to exclusive intellectual property rights, including all
      patents and patent applications, know-how, utility models, rights in industrial
      designs, trademarks and service marks, covering a specialized line of RFID
      tags
      and readers. The license requires payment by ICS of a royalty based on a
      percentage of its or its sublicensees’ net sales of products derived
      from the technology covered by the licensing agreement. In July 2005, we entered
      into an exclusive licensing agreement with Accuteck, LLC that entitles us to
      the
      sole license of the know-how, all processes and trademarks which relate to
      the
      products sold by us designated SDC, TAG and READER which have been or will
      be
      developed by or in conjunction with related group companies and contractors.
      In
      consideration of the payment of $180,000, we received a perpetual, exclusive,
      transferable, assignable right and license with the right to grant sublicenses
      of the know-how to manufacture the products.




On
      August
      21, 2006, SHC issued 3-year unsecured promissory notes to Joel Konicek and
      Jim
      Peroutka, the CEO and Chief Technical Officer, respectively, of SHC. The
      principal amount of each of these notes is $166,667 and the notes bear interest
      at 8%. Payments on the notes are due monthly.




**25.
      Concentration of Customers and Suppliers**




**Significant
      Customers**




As
      of
      December 31, 2006, we did not have a concentration of customers in any of
      our subsidiaries that accounted for greater than 10% of our consolidated
      revenues or consolidated net accounts receivable.




**Significant
      Suppliers**




As
      of
      December 31, 2006, our AAID subsidiary purchased substantially all of its RFID
      tags, readers and associated components from Wavetrend Technologies Limited
      (“Wavetrend”), a foreign company whose primary manufacturing facilities are
      located in South Africa. If our relationship with Wavetrend were to terminate
      or
      if AAID were unable to purchase RFID products from them, for any reason, our
      business could be materially adversely affected.




**26.
      Subsequent Events**




On
      January 29, 2007 the Company’s Nexus subsidiary signed a non binding letter of
      intent to acquire Linear Technologies, Inc. The Company initially expected
      the
      acquisition to close during the first quarter of 2007, however it now appears
      the transaction will be delayed until the second quarter.




On
      February 1, 2006 Cornell, the holders of our
      debentures, agreed to defer any registration requirements on their holdings
      for
      one year. We have various obligations to file and obtain the effectiveness
      of
      certain registration statements which include certain outstanding shares of
      Common Stock and Common Stock underlying outstanding convertible debentures
      and
      common stock warrants.  Once effective, a prospectus contained within a
      registration statement can only be used for a period of time without there
      being
      a post-effective amendment filed that has become effective under the Securities
      Act .  One of those obligations relates to a requirement to file a new
      registration for shares issuable pursuant to the (a) 5% Debentures issued in
      February 2006, certain shares of Common Stock and the Series F Preferred Stock
      by May 7, 2007 and to achieve effectiveness of that registration statement
      by
      August 5, 2007 and (b) 5% Debentures issued in August 2006 and the related
      warrants by November 22, 2007 and to achieve effectiveness of that registration
      statement by February 20, 2008.  If we are unable to meet the these filing
      or effectiveness obligations, we would be obligated to pay the holder of these
      securities liquidated damages equal to 2% of the liquidated value of these
      securities outstanding (approximately $9 million assuming no conversions) for
      each 30 day period after the applicable date as the case may be. The liquidated
      damages may be paid in cash or shares of our Common Stock if registered, at
      the
      holder’s option.




**27.
      C** **orrection
      of Error**




Subsequent
      to release of its audited financial statements for the year ended December
      31,
      2006, the Company has determined that the allocation of accumulated deficit
      and
      operational losses to minority interest was inappropriate as a result of the
      minority interest not having any economic basis in the operational entities.
      Previously, the Company had allocated a portion of the accumulated deficit
      and
      the yearly losses from operations to minority interest. The Company has
      determined that the allocation of the percentage ownership of minority interests
      in its subsidiaries will be added to goodwill and the Company will report 100%
      of the losses from operations. Accordingly the Company has revised its financial
      statements for the year ended December 31, 2006 to reflect this error
      correction.








December
                31, 2006As
                Originally
              Reported
            
            As
                RestatedFinancial
                Position:Goodwill
            
            $
            394,120
            
            $
            976,590Minority
                interest in consolidated subsidiaries
            
            $
            (1,233,842
            )
            $
            -Accumulated
                deficit
            
            $
            (51,616,444
            )
            $
            (52,267,816
            )Statements
                of Operations and Comprehensive LossMinority
                interest in loss of consolidated subsidiaries
            
            $
            651,372
            
            $
            -Net
                loss attributable to common shareholders
            
            $
            (5,838,385
            )
            $
            (6,489,757
            )Basic
                and diluted net loss per share
            
            $
            (0.00
            )
            $
            (0.00
            )




F-26