**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


Washington, D.C. 20549




**Form
      10-Q**




(Mark
      One)




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


**For
      the quarterly period ended September 30, 2008**





**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
      Number 000-25659**




**KIT
      DIGITAL, INC.**


(Exact
      Name of Registrant as Specified in Its Charter)




Delaware
            11-3447894(State
                or Other Jurisdiction of
            (I.R.S.
                EmployerIncorporation
                or Organization)
            Identification
                No.)





**228
      East 45th Street, 8th Floor, New York, New York 10017**  ****


(Address
      of Principal Executive Offices) (Zip Code)





**(212)
      661-4111**


(Registrant’s
      Telephone Number, Including Area Code)




Indicate
      by check mark whether the registrant (1) has filed all reports required to
      be
      filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
      the
      preceding 12 months (or for such shorter period that the registrant was required
      to file such reports), and (2) has been subject to such filing requirements
      for
      the past 90 days. Yes x No o





Indicate
      by check mark whether the registrant is a large accelerated filer, an
      accelerated filer, a non-accelerated filer, or a smaller reporting company.
      See
      definition of “large accelerated filer ”, “accelerated filer ” and “smaller
      reporting company ” in Rule 12b-2 of the Exchange Act. (Check
      one):





Large
                accelerated filero
            Accelerated
                filero
            Non-accelerated
                filero
              (Do
                not check if a smaller reporting company)
            Smaller
                reporting companyx




Indicate
      by check mark whether the registrant is a shell company (as defined in Rule
      12b-2 of the Exchange Act).


Yes o No x




As
      of
      November 14, 2008, the issuer had 114,609,788 outstanding shares of common
      stock.









**TABLE
      OF CONTENTS**





**Page****PART
                I - FINANCIAL INFORMATION**Item
                1.
            Financial
                StatementsConsolidated
                Balance Sheets - As of September 30, 2008 (unaudited) and December
                31,
                2007
            3Consolidated
                Statements of Operations and Comprehensive Income (Loss) - For the
                three
                months and nine months ended September 30, 2008 and
                2007(unaudited)
            4Consolidated
                Statements of Cash Flows - For the nine months ended September 30,
                2008
                and 2007 (unaudited)
            5Notes
                to Consolidated Financial Statements (unaudited)
            7Item
                2.
            Management’s
                Discussion and Analysis of Financial Condition and Results of Operations
            18Item
                3.
            Quantitative
                and Qualitative Disclosures About Market Risk
            22Item
                4T.
            Controls
                and Procedures
            22**PART
                II - OTHER INFORMATION**Item
                1.
            Legal
                Proceedings
            23Item
                1A.
            Risk
                Factors
            23Item
                2.
            Unregistered
                Sales of Equity Securities and Use of Proceeds
            23Item
                3.
            Defaults
                Upon Senior Securities
            23Item
                4.
            Submission
                of Matters to a Vote of Security Holders
            23Item
                5.
            Other
                Information
            23Item
                6.
            Exhibits
            23**SIGNATURES**
            24







2




**PART
      I - FINANCIAL INFORMATION**





**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**CONSOLIDATED
      BALANCE SHEETS**


**(Amounts
      in Thousands, Except Share Data)**







**September
                30, 2008**
            
            **December
                31, 2007 (A)**(Unaudited)***Assets:*****Current
                assets:**Cash
                and cash equivalents
            
            $
            6,069
            
            $
            10,189Accounts
                receivable, net
            
            
            4,583
            
            
            3,057Other
                current assets
            
            
            1,690
            
            
            1,288Restricted
                cash
            
            
            -
            
            
            100**Total
                current assets**
            
            
            12,342
            
            
            14,634Property
                and equipment, net
            
            
            1,621
            
            
            1,307Deferred
                tax assets
            
            
            254
            
            
            263Software,
                net
            
            
            2,310
            
            
            505Customer
                list, net
            
            
            2,212
            
            
            253Domain
                names, net
            
            
            22
            
            
            30Goodwill
            
            
            9,809
            
            
            1,123**Total
                assets**
            
            $
            28,570
            
            $
            18,115***Liabilities
                and Stockholders’ Equity:*****Current
                liabilities:**Bank
                overdraft and other obligations
            
            $
            260
            
            $
            190Accounts
                payable
            
            
            3,081
            
            
            3,121Accrued
                expenses
            
            
            2,665
            
            
            1,616Income
                tax payable
            
            
            188
            
            
            139Acquisition
                liability - Kamera
            
            
            3,000
            
            
            -Liability
                to KIT Media, Ltd.
            
            
            2,500
            
            
            -Other
                current liabilities
            
            
            2,156
            
            
            1,478**Total
                current liabilities**
            
            
            13,850
            
            
            6,544Capital
                lease obligations
            
            
            207
            
            
            292**Total
                liabilities**
            
            
            14,057
            
            
            6,836**Commitments**
            
            
            -
            
            
            -**Minority
                interest**
            
            
            (122
            )
            
            (76
            )**Stockholders’
                equity:**Series
                A preferred shares, $0.0001 par value: authorized 0 and 10,000,000
                shares;
                issued and outstanding 0 and 10,000,000 at September 30, 2008 and
                December
                31, 2007
            
            
            -
            
            
            1Common
                stock, $0.0001 par value: authorized 500,000,000 shares; issued and
                outstanding 114,602,447 and 38,936,039 at September 30, 2008 and
                December
                31, 2007, respectively
            
            
            11
            
            
            4Additional
                paid-in capital
            
            
            94,846
            
            
            74,820Accumulated
                deficit
            
            
            (80,036
            )
            
            (63,524
            )Accumulated
                other comprehensive (loss) income
            
            
            (186
            )
            
            54**Total
                stockholders’ equity**
            
            
            14,635
            
            
            11,355**Total
                liabilities and stockholders’ equity**
            
            $
            28,570
            
            $
            18,115





(A)
      -
      Reference is made to the Company’s Annual Report on Form 10-KSB for the year
      ended December 31, 2007 filed with the Securities and Exchange Commission in
      April 2008.




The
      Accompanying Notes are an Integral Part of these Consolidated Financial
      Statements.


3





**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**CONSOLIDATED
      STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)**


**(Amounts
      in Thousands, Except Share and Per Share Data)**


**(Unaudited)**







**Three
                months ended**
            
            **Nine
                months ended****September
                30,**
            
            **September
                30,****2008**
            
            **2007**
            
            **2008**
            
            **2007****Revenue**
            
            $
            5,381
            
            $
            3,434
            
            $
            14,368
            
            $
            10,020**Variable
                and direct third party costs:**Hosting,
                delivery and reporting
            
            
            499
            
            
            509
            
            
            1,601
            
            
            1,782Content
                costs
            
            
            866
            
            
            346
            
            
            1,685
            
            
            1,259Direct
                third party creative production costs
            
            
            759
            
            
            777
            
            
            2,732
            
            
            2,203**Total
                variable and direct third party costs**
            
            
            2,124
            
            
            1,632
            
            
            6,018
            
            
            5,244**Gross
                profit**
            
            
            3,257
            
            
            1,802
            
            
            8,350
            
            
            4,776**General
                and administrative expenses:**Compensation,
                travel and associated costs (exclusive of non-cash stock-based
                compensation)
            
            
            3,701
            
            
            6,621
            
            
            12,108
            
            
            18,173Non-cash
                stock-based compensation
            
            
            188
            
            
            1,177
            
            
            4,262
            
            
            3,656Legal,
                accounting, audit and other professional service fees
            
            
            291
            
            
            783
            
            
            905
            
            
            1,313Office,
                marketing and other corporate costs
            
            
            834
            
            
            1,042
            
            
            2,600
            
            
            3,258Depreciation
                and amortization
            
            
            434
            
            
            661
            
            
            1,033
            
            
            1,043Restructuring
                charges
            
            
            162
            
            
            -
            
            
            3,053
            
            
            -Other
                non-recurring charges
            
            
            200
            
            
            -
            
            
            845
            
            
            -Impairment
                of property and equipment
            
            
            -
            
            
            -
            
            
            228
            
            
            -**Total
                general and administrative expenses**
            
            
            5,810
            
            
            10,284
            
            
            25,034
            
            
            27,443**(Loss)
                from operations**
            
            
            (2,553
            )
            
            (8,482
            )
            
            (16,684
            )
            
            (22,667
            )Interest
                income
            
            
            37
            
            
            262
            
            
            127
            
            
            594Interest
                expense - other
            
            
            (31
            )
            
            (18
            )
            
            (85
            )
            
            (51
            )Other
                income
            
            
            8
            
            
            9
            
            
            140
            
            
            29**Net
                (loss) before income taxes**
            
            
            (2,539
            )
            
            (8,229
            )
            
            (16,502
            )
            
            (22,095
            )Income
                tax (expense) benefit
            
            
            (1
            )
            
            -
            
            
            (2
            )
            
            5**Net
                (loss) before minority interest**
            
            
            (2,540
            )
            
            (8,229
            )
            
            (16,504
            )
            
            (22,090
            )Minority
                interest
            
            
            (15
            )
            
            17
            
            
            (8
            )
            
            (11
            )**Net
                (loss) available to common shareholders**
            
            $
            (2,555
            )
            $
            (8,212
            )
            $
            (16,512
            )
            $
            (22,101
            )**Basic
                and diluted net (loss) per common share**
            
            $
            (0.02
            )
            $
            (0.21
            )
            $
            (0.21
            )
            $
            (0.66
            )**Weighted
                average common shares outstanding**
            
            
            114,557,722
            
            
            38,907,293
            
            
            78,895,542
            
            
            33,388,117**Comprehensive
                (loss):**Net
                (loss)
            
            $
            (2,555
            )
            $
            (8,212
            )
            $
            (16,512
            )
            $
            (22,101
            )Foreign
                currency translation
            
            
            (219
            )
            
            61
            
            
            (240
            )
            
            80**Comprehensive
                (loss)**
            
            $
            (2,774
            )
            $
            (8,151
            )
            $
            (16,752
            )
            $
            (22,021
            )





The
      Accompanying Notes are an Integral Part of these Consolidated Financial
      Statements.


4




**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**CONSOLIDATED
      STATEMENTS OF CASH FLOWS**


**(Amounts
      in Thousands)**


**(Unaudited)**







**Nine
                months ended September 30,****2008**
            
            **2007****Operating
                Activities:**Net
                (loss)
            
            $
            (16,512
            )
            $
            (22,101
            )Adjustments
                to reconcile net (loss) to net cash (used) by operating
                activities:Provision
                for doubtful accounts
            
            
            95
            
            
            48Depreciation
            
            
            393
            
            
            403Amortization
                of intangible assets
            
            
            641
            
            
            957Loss
                on impairment of property and equipment
            
            
            228
            
            
            -Non
                cash stock based compensation
            
            
            4,262
            
            
            3,656Issuance
                of warrants for settlement of separation agreements
            
            
            1,038
            
            
            -Minority
                interest in subsidiaries
            
            
            8
            
            
            11Changes
                in assets and liabilities:(Increase)
                decrease in:Accounts
                receivable
            
            
            (559
            )
            
            155Other
                assets
            
            
            (84
            )
            
            (219
            )Increase
                (decrease) in:Accounts
                payable
            
            
            (1,273
            )
            
            1,539Accrued
                expenses
            
            
            921
            
            
            53Income
                tax payable
            
            
            6
            
            
            (60
            )Other
                liabilities
            
            
            (253
            )
            
            554Total
                adjustments
            
            
            5,423
            
            
            7,097**Net
                Cash (Used) By Operating Activities - Forward**
            
            
            (11,089
            )
            
            (15,004
            )**Investing
                Activities:**Investment
                in restricted cash
            
            
            100
            
            
            (102
            )Cash
                paid in acquisition of MyVideoDaily
            
            
            -
            
            
            (250
            )Cash
                paid for completion of acquisition of Sputnik
            
            
            (4,563
            )
            
            -Cash
                paid in acquisition of Kamera
            
            
            (4,500
            )
            
            -Cash
                received in acquisition of Kamera
            
            
            271
            
            
            -Cash
                paid in acquisition of Morpheum
            
            
            (790
            )
            
            -Cash
                received in acquisition of Morpheum
            
            
            141
            
            
            -Investment
                in assets acquired from Wurld Media
            
            
            -
            
            
            (3,174
            )Capitalization
                of content
            
            
            -
            
            
            (89
            )Proceeds
                from sale of equipment
            
            
            33
            
            
            -Purchase
                of data center equipment and other equipment
            
            
            (774
            )
            
            (448
            )**Net
                Cash (Used) By Investing Activities - Forward**
            
            $
            (10,082
            )
            $
            (4,063
            )


The
        Accompanying Notes are an Integral Part of these Consolidated Financial
        Statements.


5




**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**CONSOLIDATED
      STATEMENTS OF CASH FLOWS (continued)**


**(Amounts
      in Thousands)**


**(Unaudited)**







**Nine
                months ended September 30,****2008**
            
            **2007****Net
                Cash (Used) By Operating Activities - Forwarded**
            
            $
            (11,089
            )
            $
            (15,004
            )**Net
                Cash (Used) By Investing Activities - Forwarded**
            
            
            (10,082
            )
            
            (4,063
            )**Financing
                Activities:**Proceeds
                from private placement, net
            
            
            14,710
            
            
            23,875Proceeds
                from exercise of stock options
            
            
            21
            
            
            -Proceeds
                from exercise of warrants
            
            
            -
            
            
            13Bank
                overdraft and other obligations
            
            
            58
            
            
            (373
            )Liability
                to KIT Media, Ltd.
            
            
            2,500
            
            
            -Payment
                on capital leases
            
            
            (94
            )
            
            (45
            )**Net
                Cash Provided By Financing Activities**
            
            
            17,195
            
            
            23,470**Effect
                of Exchange Rate Changes on Cash**
            
            
            (144
            )
            
            (62
            )**Net
                (Decrease) Increase in Cash and Cash Equivalents**
            
            
            (4,120
            )
            
            4,341**Cash
                and Cash Equivalents - Beginning of Period**
            
            
            10,189
            
            
            11,937**Cash
                and Cash Equivalents - End of Period**
            
            $
            6,069
            
            $
            16,278**Supplemental
                Disclosures of Cash Flow Information:**Cash
                paid during the period for:Income
                taxes
            
            $
            -
            
            $
            -Interest
            
            $
            84
            
            $
            50**Supplemental
                Disclosures of Non-cash Investing and Financing
                Activities:**Issuance
                of stock in acquisition of MyVideoDaily
            
            $
            -
            
            $
            250Acquisition
                liability-Kamera
            
            $
            3,000
            
            $
            -Satisfaction
                of loans in Sputnik acquisition
            
            $
            750
            
            $
            -





The
      Accompanying Notes are an Integral Part of these Consolidated Financial
      Statements.


6




**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**


**(Amounts
      in Thousands, Except Share and Per Share Data)**


**(Unaudited)**










***(1)
      Basis of Presentation***





The
      accompanying unaudited consolidated financial statements of KIT digital, Inc.
      and subsidiaries (collectively, the “Company”) have been prepared in accordance
      with generally accepted accounting principles for interim financial information
      and the instructions to Form 10-Q and Article 8 of Regulation S-X. Accordingly,
      they do not include all information and footnotes required by general accounting
      principles for complete financial statements. In the opinion of management,
      all
      adjustments (consisting of normal recurring accruals) considered necessary
      in
      order to make the interim financial statements not misleading have been
      included. The consolidated results of operations for the three and nine months
      ended September 30, 2008 are not necessarily indicative of the results that
      may
      be expected for the year ending December 31, 2008. These interim consolidated
      financial statements should be read in conjunction with the consolidated
      financial statements and footnotes thereto of the Company and management’s
      discussion and analysis of financial condition and results of operations
      included in the Company’s annual report on Form 10-KSB for the year ended
      December 31, 2007.





***(2)
      Summary of Significant Accounting Policies***





***(A)
      Principles of Consolidation*** The
      consolidated financial statements include the accounts of KIT digital, Inc.,
      its
      wholly-owned subsidiary KIT Media Corporation, its wholly-owned subsidiary
      Bickhams Media, Inc. (“Bickhams”), its 51%-owned subsidiary Reality Group Pty.
      Ltd. (“Reality Group”), its wholly-owned subsidiary Kamera Content AB (“Kamera”)
      (included as of the acquisition date of May 19, 2008), its wholly-owned
      subsidiary Morpheum Internet Services Pty. Ltd. (“Morpheum”) (included as of the
      acquisition date of August 31, 2008), its wholly-owned subsidiary KIT digital
      FZ
      LLC and its wholly-owned subsidiary KIT HD, Inc. Included in the consolidation
      with KIT Media Corporation are KIT Media Corporation’s wholly-owned subsidiary
      KIT digital Pty. Ltd. and KIT digital Pty. Ltd.’s wholly-owned subsidiary
      Undercover Media Pty. Ltd. (“Undercover Media”), its wholly-owned subsidiary KIT
      digital Limited, its wholly-owned subsidiary KIT Broadcasting Limited, its
      wholly-owned subsidiary Sputnik Agency Pty. Ltd. (“Sputnik”) (formerly
      Factory212 Pty. Ltd.) and its wholly-owned subsidiary KIT TV Pty. Ltd. Included
      in the consolidation with Bickhams is Bickhams’ wholly-owned subsidiary
      VideoDome.com Networks, Inc. (“VideoDome.com”).   Included in the
      consolidation with Kamera are Kamera’s 95%-owned subsidiary Kamera (S) PTE LTD
      and its 55% owned subsidiary Swegypt Company for Telecommunications
      (S.A.E).





***(B)
      Reclassifications -*** The
      classification of expenses in the consolidated statements of operations have
      been modified beginning with the Form 10-Q for the period ended June 30, 2008.
      Management believes these changes present additional information to the readers
      of the financial statements and have been made on a prospective basis with
      previously reported amounts reclassified to conform to the presentation for
      the
      current period.





***(C)
      Management Estimates -*** The
      preparation of financial statements in conformity with U.S. generally accepted
      accounting principles requires management to make estimates and assumptions
      that
      affect the reported amounts of assets and liabilities, 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. Certain amounts
      included in the financial statements are estimated based on currently available
      information and management’s judgment as to the outcome of future conditions and
      circumstances. Changes in the status of certain facts or circumstances could
      result in material changes to the estimates used in the preparation of financial
      statements and actual results could differ from the estimates and assumptions.
      Every effort is made to ensure the integrity of such estimates.





***(D)
      Foreign Currency Translation -*** Assets
      and liabilities of the Company’s foreign subsidiaries are translated at current
      exchange rates and related revenues and expenses are translated at average
      exchange rates in effect during the period. Resulting translation adjustments
      are recorded as a component of accumulated other comprehensive income (loss)
      in
      stockholders’ equity.





***(E)
      Fair Value of Financial Measurements -*** On the
      first day of fiscal 2008, the Company adopted Statement of Financial Accounting
      Standards (“SFAS”) No. 157, “Fair Value Measurements.” SFAS 157 defines fair
      value, establishes a framework for measuring fair value in GAAP and expands
      disclosure about fair value measurements. SFAS 157 defines fair value as the
      amount that would be received upon sale of an asset or paid to transfer a
      liability in the principal or most advantageous market for the asset or
      liability in an orderly transaction between market participants on the
      measurement date. SFAS 157 also establishes a fair value hierarchy which
      prioritizes the types of inputs to valuation techniques that companies may
      use
      to measure fair value. The fair value hierarchy gives the highest priority
      to
      quoted prices in active markets for identical assets or liabilities (Level
      1).
      The next highest priority is given to inputs other than quoted prices included
      in Level 1 that are observable for the asset or liability, either directly
      or
      indirectly (Level 2). The lowest priority is given to unobservable inputs in
      which there is little or no market data available and which require the
      reporting entity to develop its own assumptions (Level 3). The Company does
      not
      have any applicable assets as of September 30, 2008.




7




**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**


**(Amounts
      in Thousands, Except Share and Per Share Data)**


**(Unaudited)**








***(F)
      Going Concern -*** The
      accompanying consolidated financial statements have been prepared assuming
      that
      the Company will continue as a going concern, which contemplates the realization
      of assets and the satisfaction of liabilities in the normal course of business.
      Since its inception, the Company has incurred losses, had an accumulated
      deficit, and has experienced negative cash flows from operations. This raises
      doubt about the Company’s ability to continue as a going concern. Management
      expects cash flows from operating activities to improve, primarily as a result
      of an increase in revenue and a decrease in costs, although there can be no
      assurance thereof. On April 16, 2008, the Company was provided with notice
      of
      exercise by KIT Capital Limited (“KIT Capital”) of its right pursuant to
      Section 4.5 of the Executive Management Agreement by and between the Company
      and
      KIT Capital dated December 18, 2007 (the “Management Agreement ” ) to
      purchase $5,000 of the Company's common stock, provided that the Company approve
      the issuance of certain warrants in exchange for KIT Capital facilitating
      certain corporate actions and foregoing certain rights granted to it in the
      Executive Management Agreement (see Note 12 Liability to KIT Media, Ltd.).
      On
      May 8, 2008, the Company entered into a common stock purchase agreement pursuant
      to which the Company sold an aggregate of $15,000 of shares of common stock
      and
      warrants to accredited investors (the “May Financing”) (see Note 7 Stock
      Issuances). Having completed the May Financing and received the aforementioned
      capital from KIT Capital (through its designate, KIT Media, Ltd.), the Company
      does not anticipate that it will need to raise additional capital to achieve
      its
      operational growth plan. The accompanying consolidated financial statements
      do
      not include any adjustments that might be necessary should the Company be unable
      to continue as a going concern.





***(G)
      Impairment of Long-Lived Assets -*** The
      Company reviews its long-lived assets and identifiable intangibles for
      impairment whenever events or changes in circumstances indicate that the
      carrying amount of an asset may not be recoverable. When such factors and
      circumstances exist, management compares the projected undiscounted future
      cash
      flows associated with the future use and disposal of the related asset or group
      of assets to their respective carrying amounts. Impairment, if any, is measured
      as the excess of the carrying amount over the fair value based on market value
      (when available) or discounted expected cash flows of those assets, and is
      recorded in the period in which the determination is made.





***(H)
      Cash and Cash Equivalents -*** The
      Company considers all highly liquid investments with original maturities of
      90
      days or less to be cash and cash equivalents. As of September 30, 2008, the
      Company has $4,682 in an investment account that pays interest at LIBOR plus
      150
      basis points. The Company considers this investment a cash equivalent, as within
      14 days of written demand the investment company is required to remit all
      principal and interest to the Company.





***(I)
      Property and Equipment -*** Property
      and equipment are stated at cost. Depreciation is provided for using the
      straight-line and declining balance methods of accounting over the estimated
      useful lives of the assets.





***(J)
      Intangible Assets -*** Intangible assets of the Company are recorded at cost less accumulated
      amortization. Amortization is computed using the straight-line method over
      the
      estimated useful lives of the assets, with periods of up to five years. All
      intangible assets are reviewed for impairment annually or more frequently if
      deemed necessary, and no impairment write-offs were recorded during each of
      the
      three and nine month periods ended September 30, 2008 and 2007.





***(K)
      Risk Concentrations -*** Financial instruments which potentially subject the Company to concentrations
      of
      credit risk consist principally of cash and cash equivalents and trade accounts
      receivable. To limit credit exposure, the Company places its cash and cash
      equivalents with high credit quality institutions, which invest primarily in
      commercial paper, high quality corporate obligations, and high quality asset
      and
      loan backed securities. Management believes no significant concentration of
      credit risk exists with respect to these investments.





Concentrations
      of credit risk with respect to trade accounts receivable are limited due to
      the
      wide variety of customers who are dispersed across many geographic regions.
      Management believes that accounts receivable credit risk exposure beyond such
      allowance is limited. The allowance as of September 30, 2008 was
      $291.





The
      Company generally does not require collateral for its financial
      instruments.





***(L)
      Revenue Recognition -*** Revenues
      are derived principally from digital media management, software licenses and
      professional services. Revenue is recognized when service has been
      provided.





***(M)
      Earnings (Loss) Per Share Calculation -*** Net loss
      per share is based on the weighted average number of shares
      outstanding.




8




**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**


**(Amounts
      in Thousands, Except Share and Per Share Data)**


**(Unaudited)**








Earnings
      (loss) per common share are calculated under the provisions of SFAS No. 128,
      “Earnings per Share,” which establishes standards for computing and presenting
      earnings per share. SFAS 128 requires the Company to report both basic earnings
      (loss) per share, which is based on the weighted average number of common shares
      outstanding during the period, and diluted earnings (loss) per share, which
      is
      based on the weighted average number of common shares outstanding plus all
      potential dilutive common shares outstanding. Options and warrants are not
      considered in calculating diluted earnings (loss) per share since considering
      such items would have an anti-dilutive effect.





***(N)
      Stock-Based Compensation -*** On
      January 1, 2006, the Company adopted SFAS No. 123R, “Share-Based Payment.” Among
      other items, SFAS 123R requires companies to record compensation expense for
      share-based awards issued to employees and directors in exchange for services
      provided. The amount of the compensation expense is based on the estimated
      fair
      value of the awards on their grant dates and is recognized over the required
      service periods. The Company’s share-based awards include stock options,
      warrants and restricted stock awards.





The
      Company adopted SFAS 123R using the modified prospective transition method,
      which requires the application of the accounting standard to all share-based
      awards issued on or after January 1, 2006 and any outstanding share-based awards
      that were issued but not vested as of January 1, 2006. For the three months
      ended September 30, 2008 and 2007, the Company recognized $188 and $1,177,
      respectively, of stock-based compensation expense as part of its statement
      of
      operations in the consolidated financial statements. For the nine months ended
      September 30, 2008 and 2007, the Company recognized $4,262 and $3,656,
      respectively, of stock-based compensation expense as part of its statement
      of
      operations in the consolidated financial statements.





The
      estimated fair value underlying the Company’s calculation of compensation
      expense for stock options is based on the Black-Scholes-Merton pricing model.
      SFAS 123R requires forfeitures of share-based awards to be estimated at the
      time
      of grant and revised, if necessary, in subsequent periods if estimates change
      based on the actual amount of forfeitures experienced.





On
      March
      17, 2008, the Board of Directors adopted an incentive compensation plan (the
      “2008 Incentive Stock Plan”). The 2008 Incentive Stock Plan has reserved
      14,000,000 shares of common stock for issuance. Under the 2008 Incentive Stock
      Plan, options may be granted which are intended to qualify as Incentive Stock
      Options under Section 422 of the Internal Revenue Code of 1986 or which are
      not
      intended to qualify as Incentive Stock Options thereunder. In addition, direct
      grants of stock or restricted stock may be awarded. Also, on March 17, 2008,
      the
      Board of Directors resolved that, subject to the agreement of the individuals,
      a
      surrender of options under the 2004 Stock Option Plan were exchanged for options
      under the 2008 Incentive Stock Plan. A total of 3,540,500 stock options in
      the
      2004 Stock Option Plan were surrendered, of which a total of 1,715,783 stock
      options were cancelled or expired and a total of 1,824,717 stock options were
      forfeited. These were exchanged for a total of 1,335,500 stock options under
      the
      2008 Incentive Stock Plan.





Under
      the
      2004 Stock Option Plan, the Company granted options with an exercise price
      of
      $0.1745 to $0.28 to purchase 2,800,000 shares of its common stock during the
      nine months ended September 30, 2008. During the nine months ended September
      30,
      2008, a total of 1,426,171 stock options vested, a total of 3,528,448 stock
      options were cancelled or expired, a total of 2,902,136 stock options were
      forfeited, and 1,745,138 stock options were unvested as of September 30, 2008.
      A
      total of 2,850,000 stock options were outstanding under this plan on September
      30, 2008.





Under
      the
      2008 Incentive Stock Plan, the Company granted options with exercise prices
      ranging from $0.08 to $0.28 to purchase 14,596,250 shares of its common stock
      during the nine months ended September 30, 2008. During the nine months ended
      September 30, 2008, a total of 2,977,114 stock options vested, 266,408 stock
      options were exercised, 1,456,261 stock options were forfeited with 10,162,875
      stock options unvested as of September 30, 2008. A total of 12,765,270 stock
      options were outstanding under this plan on September 30, 2008.





Also
      included in non-cash compensation are warrants to purchase 1,200,000 shares
      of
      common stock with an exercise price of $0.133 issued to Robin Smyth on March
      30,
      2008 that vest over 36 months from the issue date. During the nine months ended
      September 30, 2008, a total of 200,000 warrants vested with 1,000,000 warrants
      unvested as of September 30, 2008.





On
      August
      11, 2008, the Company’s Board of Directors approved an amendment to the
      Company’s 2008 Incentive Stock Plan increasing the number of shares of common
      stock reserved for issuance under the plan by 16,000,000 shares, to a new total
      of 30,000,000 shares. The amendment to the 2008 Incentive Stock Plan was
      subsequently approved by holders of a majority of the Company’s common
      stock.





9




**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**


**(Amounts
      in Thousands, Except Share and Per Share Data)**


**(Unaudited)**










***(3)
      Acquisitions***





*Sputnik
      Acquisition*





On
      March
      31, 2008, the Company entered into Share Purchase Agreements (in aggregate,
      the
“SPA”) with shareholders (the “Sellers”) holding 100% of shares in Sputnik
      Agency Pty. Ltd., an Australian entity (“Sputnik”). The closing date for the SPA
      was May 12, 2008 (the “Closing Date”).





Prior
      to
      the Closing Date, the Company, through its wholly-owned subsidiary in Australia,
      KIT Broadcasting Limited (“KIT Broadcast”), was a provisional 51% shareholder in
      Sputnik, with this original 51% ownership in Sputnik being subject to the
      payment of certain earn-out provisions (“Earn-Out Payment”) by KIT Broadcast in
      order to remain in force, in accordance with the Share Purchase Agreement dated
      October 28, 2005 between KIT Broadcast and the sellers of Sputnik, being Lee
      Investment Trust, Bollen Investment Trust and Campion Investment
      Trust.





Pursuant
      to the terms of the SPA, the Company consummated the purchase of the original
      51% ownership and acquired the remaining 49% interest in Sputnik by acquiring
      490 additional shares (the “Shares”) from the Sellers. The purchase price for
      the Shares was $1,774 (the “Purchase Price”), with $1,024 of this total paid in
      cash and the remainder paid in a non-cash manner as described
      below.





In
      addition to the Purchase Price, the Earn-Out Payment due in the amount of $2,789
      was paid to the Sellers at Closing, in cash. From the Purchase Price and the
      Earn-Out Payment in aggregate, the sum of $282 was held back in Escrow against
      warranties provided by the Sellers in the SPA.





The
      Company had an outstanding shareholder loan owed to it by Reality Group Pty.
      Ltd., an Australian entity (“Reality”), in the fully compounded amount of
      Australian$965, as of February 29, 2008 (the “Corporate Loan”). The Company is a
      51% shareholder in Reality. In addition, Reality has a loan in the fully
      compounded amount of Australian$374 as of February 29, 2008 (the “Directorial
      Loan”) owed to Reality by Grant Lee (“Lee”), one of the Sellers who is also a
      shareholder in Reality. Lee agreed to satisfy, as part of the Sputnik
      transaction, repayment of the Directorial Loan to the Company and his pro-rata
      share of the Corporate Loan. The loans were satisfied through the transaction
      as
      follows:





(i)
            The
                sum of $603, from the Purchase Price, payable to Lee for his Shares
                for
                his remaining 49% ownership in Sputnik, was applied dollar-for-dollar
                against 49% of the Corporate Loan and 100% of the Directorial Loan
                on a
                pro rata basis (the “Lee Payments”);
                and





(ii)
            The
                sum of $147, payable to Mike Bollen for his Shares, for his remaining
                49%
                ownership in Sputnik, was applied dollar-for-dollar against 49% of
                the
                Corporate Loan (the “Bollen
                Payment”).





It
      was
      further agreed that if any surplus remained of the Corporate Loan and the
      Directorial Loan, after the Lee Payments and the Bollen Payment, at the election
      of Lee and Bollen, respectively, such surplus would be (a) paid in cash to
      the
      relevant party, or (b) used to enhance said party’s equity ownership in Reality
      by an allocation of shares based on a valuation of Reality to be determined
      by
      an independent third party mutually agreed by the Company, Bollen, and Lee
      and,
      with the cost of the third-party valuation to be borne by the Company, so long
      as it is not in excess of $30. This valuation would be completed within thirty
      (30) days of the date of the election by Bollen and/or Lee.




10




**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**


**(Amounts
      in Thousands, Except Share and Per Share Data)**


**(Unaudited)**










Sellers
      Gavin Campion (now the Company’s President), Josie Brown and Nick Cummins were
      each required, as part of the acquisition, to remain in the employment of
      Sputnik or the Company by entering into employment agreements (the “Employment
      Agreements”) pursuant to which each would: (i) receive salary, benefits, stock
      options, incentive compensation and termination and severance payments
      commensurate with similarly situated executives of the Company; (ii) to the
      extent they own shares of the Company’s common stock, be entitled to
      substantially the same rights and privileges as the other common stockholders,
      including the right to participate in a change of control event of the Company
      and the right to receive any distributions made by the Company; and (iii) as
      partial consideration for the Sputnik transaction, agree to IP assignment,
      non-disclosure, non-compete and non-solicit covenants during the term of his
      employment and for a period of two years thereafter.





At
      Closing, the Company paid the Sellers an aggregate of $3,530, net of (i) the
      $282 held back in Escrow against warranties provided by the Sellers in the
      SPA
      and (ii) the $750 in total from the Lee Payments and Bollen Payments to satisfy
      the Corporate Loan and Directorial Loan. Therefore, the total cost of the
      Sputnik acquisition was $4,563.





*Kamera
      Acquisition*





On
      May
      19, 2008, the Company entered into a definitive Share Purchase Agreement
      (“Kamera SPA”) with Kamera Content AB, a Swedish company which develops,
      operates and sells content for mobile and online distribution (“Kamera”). Upon
      entry into the Kamera SPA, the Company assumed day-to-day management and control
      of Kamera. The consummation of the Kamera acquisition was predicated upon
      several administrative items, including the physical delivery of Kamera stock
      certificates to the Company and a working capital calculation as of May 18,
      2008
      (the “Completion Items”). The Completion Items were satisfactorily complied with
      by June 25, 2008 (the “Completion Date”), and as such the acquisition was
      completed on said Completion Date.





The
      purchase price for 100% of the shares in Kamera (the “Total Shares”) was based
      on a minimum of 90% of the Total Shares tendering for purchase by the Company,
      and the Kamera SPA provided for an adjustment to the purchase price to reflect
      the number of Sale Shares as a percentage of the Total Shares purchased by
      the
      Company at closing. Since 100% of the shares in Kamera were sold on the
      Completion Date, no such adjustment to the purchase price was
      required.





The
      purchase price was in the form of a combination of cash and stock consideration
      as follows (based on a debt-free Kamera and neutral working capital at Kamera
      at
      the time of closing):





·
            Cash
                Consideration: $4,500 payable at closing, less (i) $300 plus accrued
                interest paid by the Company to Kamera previously as an advance against
                the Cash Consideration, pursuant to a Content Distribution Agreement
                signed between Kamera and the Company on March 12, 2008, (ii) a $500
                deposit (the “Deposit”) paid to Kamera’s escrow agent on May 19, 2007 as a
                further advance against the Cash Consideration, and (iii) a working
                capital adjustment based on neutral working capital as of May 18,
                2008,
                and a dollar-for-dollar adjustment for any negative working capital
                at
                that date.





·
            Stock
                Consideration, subject to performance criteria as set forth in a
                further
                paragraph below: (a) $1,500 equivalent in shares in the Company or
                its
                successor (the “KIT Shares”), with the number determined based on the 10
                day trailing weighted average market trading price six months from
                Completion Date, issued six months from Completion Date; (b) $1,500
                equivalent in KIT Shares, with the number determined based on the
                20 day
                trailing weighted average market trading price 13 months from Completion
                Date, issued 13 months from Completion Date; and (c) subject to the
                Company achieving certain performance criteria, $3,000 equivalent
                in KIT
                Shares, with the number determined based on the 20 day trailing weighted
                average market trading price 21 months from Completion Date, issued
                21
                months from Completion Date.





Notwithstanding
      the above, the Company has the right in its sole discretion to substitute
      payment in cash as an alternative to the issuance of all or part of the KIT
      Shares. Additionally, if the KIT Shares cease to be listed on a recognized
      stock
      exchange (for avoidance of doubt, the NASDAQ OTC market shall constitute a
      recognized stock exchange), any Stock Consideration still outstanding at such
      time is to be paid in cash instead of in KIT Shares.




11




**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**


**(Amounts
      in Thousands, Except Share and Per Share Data)**


**(Unaudited)**








The
      performance criteria for the allocation of the KIT Shares set forth in (c)
      of
      the Stock Consideration paragraph above are the following:





(a)
            The
                parties have determined that particular employees identified in the
                Kamera
                SPA shall be retained in the continuing operation at least to the
                following extent: a minimum 75% of the employees in question shall
                be
                retained during 12 months from the closing and a minimum of 65% of
                these
                employees be retained during 21 months from the closing. Key personnel
                will be retained in the employment of the Company for a period of
                21
                months from closing; provided that any termination by the Company
                of the
                employment of a member of the key personnel shall not mean that this
                criteria has not been met, unless the termination qualifies as a
                termination based on personal reasons according to the Swedish Employment
                Protection Act;





(b)
            Clients
                must be retained in any ongoing operations and 80% of Kamera’s existing
                clients as of April 1, 2008 (the “Existing Clients”) must continue as
                clients through March 31, 2009 and revenue from the Existing Clients
                must
                have grown during that 12 month period by more than 10%. However,
                if
                revenue growth is more than 10% from the Existing Clientsin
                the 12 months ending March 31, 2009, a correspondingly (number of
                percentage units by which revenue growth exceeds 10%) lower percentage
                of
                client retention is acceptable provided that the client retention
                is not
                below 60%;





(c)
            Clients
                must be retained in any ongoing operations and 70% of the Existing
                Clients
                must continue as clients through December 31, 2009 and revenue from
                these
                clients must have grown during that 9 month period by more than 8%.
                However, if revenue growth is more than 8% from the Existing Clients
                as of
                April 1, 2009 in the 9 months ended December 31, 2009, a correspondingly
                (number of percentage units by which revenue growth exceeds 8%) lower
                percentage of client retention is acceptable provided that the client
                retention is not below 50%; and





(d)
            The
                revenue generated through the Company’s mobile business (including the
                results of the mobile business at Kamera on a pro forma basis) during
                the
                12 month period as from April 1, 2007 up to and including March 31,
                2008,
                which shall be determined prior to closing, must be at least maintained
                in
                the period of 12 months as from June 1, 2008 up to and including
                May 31,
                2009 and increased by 10% in the 12 month period from June 1, 2009
                up to
                and including February 28, 2010.





Kamera
      is
      based in Stockholm, Sweden, with certain back-office operations in Cairo, Egypt.
      Through its proprietary software and content distribution agreements, Kamera
      enables corporate clients such as Vodafone, MSN, Orange, Telefonica, O2,
      Hutchinson and China Mobile to deliver IPTV channels to their customers over
      mobile and online networks. Kamera’s content library includes localized,
      ready-to-publish clips from ABC News, Associated Press, SNTV and others, and
      its
      proprietary ingestion engine allows for video content to be transcoded into
      a
      variety of mobile/digital formats.





The
      aggregate cost of the acquisition of Kamera was $7,500. This is comprised of
      the
      $4,500 paid at closing plus $3,000 accrued for the consideration payable six
      and
      13 months from Completion Date and is included in the Balance Sheet in
“Acquisition liability - Kamera” . The Company has not recorded the contingent
      liability of $3,000 in consideration may be payable 21 months from Completion
      Date as it is not certain that the performance criteria will be met. The Company
      has allocated the aggregate cost of the acquisition to Kamera’s net tangible and
      identifiable intangible assets based on their estimated fair values. The excess
      of the aggregate cost of the acquisition over the net estimated fair value
      of
      the tangible and identifiable intangible assets and liabilities assumed was
      recorded to goodwill. Below is a summary of the allocation of the aggregate
      cost
      of the acquisition.




12


**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**


**(Amounts
      in Thousands, Except Share and Per Share Data)**


**(Unaudited)**







**Aggregate Cost****of
                the****Acquisition****($
                in thousands)**Intangible
                assets—developed technology
            
            $
            1,000Intangible
                assets—customer relationships
            
            
            1,500Acquired
                assets and liabilities, net
            
            
            23Goodwill
            
            
            4,977**Total**
            
            **$**
            **7,500**




Selected
      unaudited pro forma combined results of operations, assuming the Kamera
      acquisition occurred on January 1, 2008 using actual unaudited figures prior
      to
      acquisition, are presented as follows:




**Three
                months ended**
            
            **Nine
                months ended****September
                30, 2008**
            
            **September
                30, 2008****Revenue**
            
            $
            5,381
            
            $
            16,106**Net
                income (loss) available to common shareholders**
            
            $
            (2,555
            )
            $
            (17,244
            )**Basic
                and diluted net income (loss) per common share**
            
            $
            (0.02
            )
            $
            (0.22
            )




*Morpheum
      Acquisition*





On
      August
      31, 2008, the Company entered into a Share Purchase Agreement (“Morpheum SPA”)
      with the shareholder of 100% of the shares in Morpheum Internet Services Pty.
      Ltd., an Australian entity (“Morpheum”), which is a leading provider of
      web-based content management systems. Morpheum’s award-winning software,
      LanternCMS, will become a key part of our device-agnostic IPTV platform. The
      closing date under the Morpheum SPA was September 2, 2008 (the “Closing Date”).
      The purchase price for 100% of Morpheum’s shares was Australian$950, with 7.5%
      or Australian$70 of the consideration held in escrow for six months to cover
      unforeseen contingencies.





The
      aggregate cost of the acquisition of Morpheum was $790. This is comprised of
      the
      $734 (Australian$880) paid at closing, plus $56 in legal and consulting costs
      related to the acquisition. The Company has allocated the aggregate cost of
      the
      acquisition to Morpheum’s net tangible and identifiable intangible assets based
      on their estimated fair values. Below is a summary of the allocation of the
      aggregate cost of the acquisition.




**Aggregate Cost****of
                the****Acquisition****($
                in thousands)**Intangible
                assets—developed technology
            
            $
            1,096Acquired
                assets and liabilities, net
            
            
            (306
            )**Total**
            
            **$**
            **790**




***(4)
      Goodwill***





Goodwill
      of $9,809 represents the excess of acquisition costs over the fair value of
      net
      assets of the Reality acquisition of $1,033, the Kamera acquisition of $4,977,
      the Sputnik acquisition of $3,709 and KIT digital Limited of $90. There was
      no
      impairment of goodwill during each of the three and nine month periods ended
      September 30, 2008 and 2007.





***(5)
      Commitments and Contingencies***





*Employment
      Agreements -* On
      December 18, 2007, the Company entered into the Management Agreement with KIT
      Capital for a term commencing on January 9, 2008 and terminating on January
      9, 2011, unless sooner terminated or mutually extended. As a result of this
      Management Agreement, KIT Capital designated Kaleil Isaza Tuzman as Chief
      Executive Officer, and two other KIT Capital employees as Head of Communications
      and as Corporate Development Manager of the Company, respectively. The
      Management Agreement provided for an aggregate compensation for KIT Capital
      as
      follows: (i) $51 monthly (which has been subsequently voluntarily adjusted
      downwards to $42 monthly effective November 1, 2008), which includes the cost
      of
      at least 3 employees inclusive of benefits and taxes, (ii) signing incentive
      payment of $69, (iii) an incentive bonus equal to the greater of (x) the
      preceding twelve months’ base compensation or (y) the previous month’s monthly
      installment of base compensation multiplied by twelve if the Company shall
      achieve 2 consecutive quarters of profitability or the Company’s total monthly
      revenue equals or exceeds $6,000, and (iv) A “ phantom stock plan ” for
      2,100,000 shares that vest over a 36-month period. Specific terms of this plan
      are subject to finalization. The Management Agreement provides that upon
      termination of the Management Agreement or after the Management Agreement’s
      expiration date for any reason except cause (as defined in the Management
      Agreement), the Company shall pay KIT Capital, in addition to any other payments
      due hereunder, a cash severance payment equal to the greater of (i) the total
      amount paid to KIT Capital during the preceding twelve months, including base
      compensation and all bonuses, or (ii) the previous month’s monthly installment
      of base compensation multiplied by twelve.




*Litigation* - In
      November 2007, the Company’s wholly-owned subsidiary, ROO HD, Inc. (“ROO HD”)
      (currently KIT HD, Inc.), was named as the defendant in a purported class
      action lawsuit entitled Julie Vittengl *et
      al.* vs. ROO
      HD, Inc., New York Supreme Court, Saratoga County. The suit, brought by
      four former employees of Wurld Media, Inc. (“Wurld”) purportedly on behalf of
      themselves and “others similarly situated,” claims that ROO HD’s acquisition of
      certain assets of Wurld was a fraudulent conveyance and that ROO HD is the
      alter-ego of Wurld. Plaintiffs seek the appointment of a receiver to take charge
      of the Company’s property in constructive trust for plaintiffs and payment of
      plaintiffs’ unpaid wages and costs of suit, both in an unspecified dollar
      amount. **** ROO HD
      filed its answer to the complaint in January 2008, and there have been no
      developments in this action since then. The Company believes that the suit
      is
      without merit and intends to defend the suit vigorously should the case become
      active.





In
      December 2007, Rick Gell and Todd Pavlin, two former consultants of ROO Media
      Corporation (“ROO Media”) (currently KIT Media Corporation) sued that entity
      together with ROO Group, Inc. (currently KIT digital, Inc.) and our founder
      and
      Vice-Chairman Robert Petty and ROO Media’s former President and Chief Operating
      Officer Steve Quinn in New York Supreme Court, New York County, alleging breach
      of an oral employment agreement, fraudulent inducement and other claims relating
      to the plaintiffs’ employment at ROO Media. Defendants have moved to dismiss the
      complaint and have been awaiting the Court’s decision since June 2008. The
      Company believes that the suit is without merit and intends to defend the suit
      vigorously.


13




**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**


**(Amounts
      in Thousands, Except Share and Per Share Data)**


**(Unaudited)**








***(6)
      Preferred Shares***





On
      March
      30, 2008, the Board of Directors and stockholders holding a majority of the
      Company’s voting stock approved the filing of an amendment to the Company’s
      Certificate of Incorporation to reduce its authorized preferred stock from
      20,000,000 to 10,000,000 shares. Also, on March 30, 2008, the stockholders
      holding a majority of the Company’s voting stock approved the filing of an
      amendment to its Certificate of Designation of the Series A Preferred Stock
      to
      provide for automatic conversion of the outstanding Series A Preferred Stock
      into 400,000 shares of common stock. The conversion of the Series A Preferred
      Stock into common stock was conditional upon the effectuation of the amendment
      to the Certificate of Incorporation to reduce the authorized preferred stock
      from 20,000,000 to 10,000,000 shares. On May 19, 2008, the Company filed the
      amendment to its Certificate of Incorporation reducing the authorized preferred
      stock from 20,000,000 to 10,000,000 shares. On May 22, 2008, the Company filed
      the amendment to the Certificate of Designation of the Series A Preferred Stock
      providing for the automatic conversion of the outstanding Series A Preferred
      Stock into 400,000 shares of common stock. These changes in the Company’s
      capital stock have been fully effectuated.





***(7)
      Stock Issuances***





On
      January 25, 2007, the Company entered into an agreement with News Corporation
      (“News Corp Agreement”). The News Corp Agreement provided for the issuance of
      2,000,000 shares of the Company’s common stock upon execution of the News Corp
      Agreement, which were to be held in escrow and released to News Corporation
      on
      January 1, 2008 if the average monthly revenues from News Corporation and its
      affiliates for the three-month period ended December 31, 2007 were not less
      than
      the revenue from News Corporation and its affiliates for the one month period
      ended December 31, 2006 (the “Revenue Target”). On February 7, 2008, the Company
      released the 2,000,000 shares of its common stock to News Corporation for
      meeting the Revenue Target. The shares were valued at $0.17 per share, or $340,
      and that amount was recorded as sales and marketing expense on December 31,
      2007.





The
      Company also agreed to issue an additional 2,000,000 shares of its common stock
      to News Corporation if within three years of the date of the News Corp Agreement
      the average monthly revenue from News Corporation and its affiliates for any
      consecutive three month period equals at least six times the Revenue Target.
      These thresholds have not been reached as of September 30, 2008 and no shares
      have been issued. The Company also agreed that if the foregoing is not timely
      achieved, it shall issue to News Corporation warrants to purchase 2,000,000
      shares of the Company’s common stock, which shall be exercisable for a term of
      two years at a price of $2.70. The exercise price of the warrants will be
      subject to customary anti-dilution protection for stock splits,
      recapitalizations, stock dividends and the like. No expenses have been recorded
      for this commitment to date, as the Company is unable to estimate the value
      of
      this contingent liability.




The
      Company has granted News Corporation “piggy-back” registration rights in
      connection with the shares issuable pursuant to the News Corp
      Agreement.





On
      May 8,
      2008, as part of the May Financing, the Company entered into a Securities
      Purchase Agreement pursuant to which it sold 75,000,000 units to 35 accredited
      investors, each unit comprising of one share of common stock plus one warrant
      to
      purchase one share of common stock. The May Financing closed on May 8, 2008.
      The
      units were sold at a price of $0.20 per unit for aggregate gross proceeds of
      $15,000. The warrants have an exercise price of $0.34 per share and a term
      of
      five years. These warrants were valued under the Black-Scholes-Merton method
      as
      $20,250. The warrants provide the investors with full ratchet anti-dilution
      protection with relation to the exercise price of each warrant. KIT Media,
      Ltd.
      (“KIT Media”), an affiliate of KIT Capital, was the largest investor in the May
      Financing, investing $7,060 for a total of 35,300,000 units. The Company’s Chief
      Executive Officer, Kaleil Isaza Tuzman, holds a controlling interest in KIT
      Media.





Pursuant
      to the terms of the Securities Purchase Agreement entered into with each of
      the
      accredited investors, the Company agreed to prepare and file a registration
      statement with the SEC registering the resale of the shares of common stock
      and
      the shares underlying the warrants on or prior to 30 days following the closing
      date. If the registration statement or any subsequent registration statement
      required to be filed by the Company was not filed within such time, the Company
      was required to pay liquidated damages to the investors equal to 1% of the
      dollar amount of their investment per month (pro rata on a 30-day basis), up
      to
      a maximum of 10% until the registration statement is filed. Further, if the
      registration statement was not declared effective within (i) 90 days of the
      closing (or in the event of a review by the SEC, within 120 days following
      the
      closing date), or (ii) 5 trading days after being notified that the registration
      will not be reviewed or will not be subject to further review, the Company
      was
      required to pay liquidated damages to the investors equal to 1% of the dollar
      amount of their investment per month (pro rata on a 30-day basis), up to a
      maximum of 10% until the registration statement is declared effective; provided
      that if one or more registration statements shall not be effective two years
      after the closing, the Company shall be required to pay an additional 8% in
      liquidated damages. In the event one or more registration statements are filed
      and declared effective, but shall thereafter cease to be effective and such
      lapse is not cured within 10 business days, the Company shall be required to
      pay
      liquidated damages to the investors equal to 1% of the dollar amount of their
      investment per month (pro rata on a 30-day basis), up to a maximum of 10% until
      the earlier of (i) the date the lapse is cured or (ii) the earlier of the
      expiration of the date on which all of the securities purchased by the investors
      can be sold either under the registration statement or pursuant to Rule 144.
      Although management filed the registration statement 71 days following the
      closing date, management expects the accredited investors will voluntarily
      forgo
      the liquidated damages in light of the circumstances that led to the
      delay—namely, the proper integration of Kamera’s financial results post the
      Kamera Acquisition. Upon the Company’s request, KIT Media has allowed that the
      35,300,000 shares of common stock and the 35,300,000 shares underlying warrants
      purchased by KIT Media in the May Financing be left unregistered to date (See
      Note 12 Liability to KIT Media, Ltd.).




14




**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**


**(Amounts
      in Thousands, Except Share and Per Share Data)**


**(Unaudited)**










Merriman
      Curhan Ford & Co. and Brimberg & Co., registered broker-dealers, acted
      as placement agents for the May Financing.   In connection with the May
      Financing, the Company paid the placement agents a cash fee of an aggregate
      $155. In addition, the Company issued to the placement agents 823,750 and
      422,458 warrants to purchase shares of common stock with an exercise price
      of
      $0.01 and $0.34 per share exercisable for a period of five years and were valued
      under the Black-Scholes-Merton method as $222 and $118, respectively. In
      connection with the May Financing, the Company received net proceeds of $14,710
      after payment of placement agents’ fees of $155, legal fees and expenses of $130
      and escrow agent fees of $5.





***(8)
      Restructuring Charges***





The
      Company recorded restructuring charges of $3,053 in the nine months ended
      September 30, 2008. This amount is comprised of employee termination costs
      related to the reorganization of the Company of $2,716, contract settlement
      and
      facility closing costs of $337 related to the closing of the Clifton Park,
      New
      York office and the closing of one of the Melbourne, Australia offices, and
      vendor settlements related to the reorganization. Included in the employee
      termination costs of $2,716 are $2,397 related to the settlement of separation
      agreements as described below. On March 26, 2008 and March 30, 2008, the Company
      reached negotiated settlements with Robert Petty and Robin Smyth, respectively,
      restructuring their respective employment agreements, each of which involved
      one-time cash severance payments. In exchange for entering into new, “at will”
employment agreements, Messrs. Petty and Smyth will receive upfront cash
      settlements of $675 and $275, respectively, as well as fully-vested warrants
      to
      purchase an aggregate of 7 million and 1.65 million shares, respectively, of
      the
      Company’s common stock, at a strike price equal to the 3-day weighted average of
      closing price of the Company’s common stock prior to the effective date. These
      warrants have been valued under the Black-Scholes-Merton method at $1,038.
      These
      warrants will become exercisable in 1/12 increments on a monthly basis starting
      six months from the effective date. Also, Mr. Smyth will receive a lump-sum
      payment of $100, less applicable tax withholding and deductions, within 9
      months, and another lump-sum payment of $100, less applicable tax withholding
      and deductions, within 13 months. Mr. Smyth’s restructured employment agreement
      involves certain warrant-based incentives which can be earned over a period
      of 3
      years based on ongoing service to the Company. As part of their respective
      settlements, Messrs. Petty and Smyth agreed to vote their shares of Series
      A
      Preferred Stock according to the Company’s designation, involving the
      elimination of these shares. Included in the $2,397 are cash payments of $1,150,
      $1,088 related to the valuation of the warrants and $209 in legal fees paid
      on
      behalf of Mr. Petty, which is part of Mr. Petty’s separation
      agreement.





***(9)
      Other Non-recurring Charges***





The
      Company has recorded other non-recurring charges of $845 in the nine months
      ended September 30, 2008 related to the redundancy in staff and consultants
      for
      the transition of technology infrastructure during reorganization due to the
      centralizing of resources in Toronto, recruiting costs for the centralizing
      of
      resources in Toronto, relocation costs related to the move of the corporate
      headquarters, legal fees for the acquisitions of Kamera and Sputnik, and
      corporate rebranding related to the reorganization.





***(10)
      Impairment of Property and Equipment***





In
      March
      2008, the Company decided to sublease its former offices in London and move
      to
      another location to reduce costs. This includes removing and abandoning the
      leasehold improvements and furniture and fixtures in the London office. Due
      to
      its office relocation, the Company recorded an impairment charge for certain
      property and equipment which totaled $0 and $228 during the three and nine
      months ended September 30, 2008. This amount is segregated within the
      Consolidated Statements of Operations.




15




**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**


**(Amounts
      in Thousands, Except Share and Per Share Data)**


**(Unaudited)**








***(11)
      Segment Reporting***





The
      Company derives its revenue from two major operating segments. These operating
      segments are presented on a worldwide basis and include: Digital Media and
      Agency Services.




Digital
      Media operations include software licenses, maintenance fees, content delivery,
      online and mobile property development and management, website and mobile
      platform implementation, and advertising-based monetization.





Agency
      Services operations include direct marketing, incentive programs, internal
      communications, customer relationship management, sales promotion, creative
      production, sponsorships, online marketing, media planning, media buying and
      packaging. Although the Agency Services segment includes online media, its
      activities are broader than the video-centric activities of the Company’s
      Digital Media segment. As its operations continue to evolve, the Company will
      continue to regularly review the business to determine if there is a need to
      make changes to these reported segments.





In
      accordance with SFAS No. 131, “Disclosures about Segments of an Enterprise and
      Related Information”, all prior period information has been reported to conform
      to the new segment presentation. The following table provides revenue and
      segment income (loss) from operations for each of the segments. Segment income
      (loss) from operations, as shown below, is the performance measure used by
      management to assess segment performance and excludes the effects of stock-based
      compensation, amortization of intangible assets and corporate expenses.
      Corporate expenses consist of those costs not directly attributable to a
      segment, and include salaries and benefits for the Company’s corporate
      executives, corporate governance costs, fees for professional service providers
      including audit, legal, tax, insurance and other corporate
      expenses.




**Three
                months ended**
            
            **Nine
                months ended****September
                30,**
            
            **September
                30,****2008**
            
            **2007**
            
            **2008**
            
            **2007****Revenue:**Digital
                Media
            
            $
            3,977
            
            $
            2,417
            
            $
            9,830
            
            $
            6,834Agency
                Services
            
            
            1,404
            
            
            1,017
            
            
            4,538
            
            
            3,186**Total
                revenue**
            
            $
            5,381
            
            $
            3,434
            
            $
            14,368
            
            $
            10,020**Operating
                (loss) income:**Digital
                Media
            
            $
            (1,440
            )
            $
            (6,101
            )
            $
            (7,046
            )
            $
            (16,467
            )Agency
                Services
            
            
            63
            
            
            116
            
            
            252
            
            
            (176
            )Corporate
            
            
            (1,176
            )
            
            (2,497
            )
            
            (9,890
            )
            
            (6,024
            )**Total
                operating (loss) income**
            
            $
            (2,553
            )
            $
            (8,482
            )
            $
            (16,684
            )
            $
            (22,667
            )**September
                30,**
            
            
            
            
            **December
                31,****2008**
            
            
            
            
            **2007****Assets:**Digital
                Media
            
            $
            8,010
            
            
            
            
            $
            5,049Agency
                Services
            
            
            1,328
            
            
            
            
            
            1,887Corporate
            
            
            19,232
            
            
            
            
            
            11,179**Total
                assets**
            
            $
            28,570
            
            
            
            
            $
            18,115




16


**KIT
      DIGITAL, INC. AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**


**(Amounts
      in Thousands, Except Share and Per Share Data)**


**(Unaudited)**








***(12)
      Liability to KIT Media, Ltd.***





On
      April
      16, 2008, the Company was provided with notice of exercise by KIT Capital of
      its
      right pursuant to Section 4.5 of the Management Agreement by and between the
      Company and KIT Capital, dated December 18, 2007 to purchase $5,000 of the
      Company's common stock, either directly or through an affiliated entity, at
      a
      price of $0.16 per share (“KIT Capital Notice”).   At the time, KIT Capital
      and the Company tentatively agreed, conditional upon the review and approval
      of
      an independent committee of the Company's Board of Directors, that KIT Capital
      would (A) waive its right under the Management Agreement to purchase 51% of
      the
      Company's preferred stock; and (B) waive its right to require the Company to
      register the shares of common stock underlying the $5,000 investment pursuant
      to
      Section 4.5 of the Management Agreement, in consideration for the issuance
      by
      the Company of a five-year warrant to purchase 2,800,000 shares of the Company's
      common stock at an exercise price of $0.16 per share.




Subsequent
      to the KIT Capital Notice, however, the May Financing was completed for a total
      of $15,000, as part of which KIT Media, an affiliate of KIT Capital, was the
      largest investor, at an investment level of $7,060 for a total of 35,300,000
      Units (a like number of common stock and warrants). KIT Media, at the request
      of
      the Company, waived its registration rights in the subsequent Form S-1
      registration statement filed in relation to the May Financing, both for the
      registration of its 35,300,000 shares and its 35,300,000 warrants. As a result
      of this registration waiver, KIT Capital’s facilitation of the Company’s
      previous capital restructuring (including elimination of the Company’s preferred
      stock), and other factors surrounding the impairment of KIT Capital’s economic
      rights pursuant to the Management Agreement, on August 11, 2008 the Board of
      Directors of the Company provisionally agreed, in conjunction with the receipt
      of $5,000 as originally offered as part of the KIT Capital Notice, to grant
      KIT
      Media 15,625,000 five-year warrants at a $0.16 exercise price per share
      (representing 50% warrant coverage on this investment tranche, as opposed to
      the
      100% warrant coverage available to outside investors in the May Financing),
      in
      exchange for a mutual settlement of any disputes that might have arisen from
      the
      Management Agreement, subject to outside counsel’s review and acceptable legal
      documentation.





As
      such,
      the Company expects to receive the remaining funds from the final $5,000
      investment from KIT Media, for which it has already received $2,500. The
      disbursement of the remaining funds are pending Board approval and resolution
      of
      the abovementioned matter, and accounted for on the Consolidated Balance Sheets
      in “Liability to KIT Media, Ltd.”




***(13)
      Subsequent Event***





*Visual
      Connection Acquisition*





On
      October 5, 2008, KIT digital, Inc., through its wholly-owned subsidiary, KIT
      digital FZ-LLC (individually or in aggregate, “KIT”), acquired from Tomas Petru
      and Jakub Vanek, citizens of the Czech Republic, all of the issued and
      outstanding share capital of Visual Connection, a.s., a corporation organized
      and existing under the laws of the Czech Republic (“Visual”), pursuant to the
      terms of a Share Purchase Agreement. Visual specializes in the supply and
      delivery of comprehensive digital media and IPTV solutions, services and
      components, and is headquartered in Prague. The purchase price of the
      acquisition consisted of:




(a)
      $2,500 in cash, subject to adjustment on a dollar-for-dollar basis for positive
      or negative working capital, as the case may be, at closing (with any positive
      working capital addition payable by KIT capped at $500);




(b)
      $4,300 in a combination of cash and shares of KIT’s common stock (determined
      based on the 20-day trailing weighted average closing price per share prior
      to
      the respective payment date), payable in four equal installments of $1,075,
      (i)
      six months after closing, in the form of $269 in cash and $806 in KIT’s common
      stock, (ii) 12 months after closing, in the form of $107 in cash and $968 in
      KIT’s common stock, (iii) 18 months after closing, all in shares of
      Corporation’s common stock, and (iv) 24 months after closing, all in shares of
      KIT’s common stock, subject, in each case, to percentage adjustments based on
      the level of net revenues and EBITDA (earnings before interest, taxes,
      depreciation and amortization) achieved by Visual against specified target
      periods and levels outlined in the Share Purchase Agreement and to reduction
      if
      specified percentages of retained employees and/or key personnel fail to
      continue in the employment of Visual;




(c)
      warrants (or options, at KIT’s election) to purchase 2,000,000 shares of KIT’s
      common stock at an exercise price equal to the closing price per share of KIT’s
      common stock on November 6, 2008, which warrants will be transferred to Visual’s
      employees in a manner and ratio satisfactory to KIT, and vest quarterly over
      a
      period of four years following the closing;




(d)
      additional “earn-out” shares of KIT’s common stock for (i) achieving $20,000 in
      net revenues (triggering the issuance of $575 of KIT’s common stock) and/or
      achieving $1,500 of EBITDA (triggering the issuance of $575 of KIT’s common
      stock) during the immediately succeeding 12-month period following the closing,
      and/or (ii) achieving $26,500 in net revenues (triggering the issuance of $475
      of KIT’s common stock) and/or $2,500 in EBITDA (triggering the issuance of $475
      of KIT’s common stock) during the second succeeding 12-month period following
      the closing, in each case, with the specific number of shares determined based
      on the 20-day trailing weighted average closing price per share prior to the
      respective payment date in the future; and





(e)
      additional “performance bonus” shares of KIT’s common stock in the event KIT
      together with Visual, generates (i) at least $50,000 in net revenues during
      the
      immediately succeeding 12-month period following the closing (triggering the
      issuance of $600 of KIT’s common stock) and/or $6,500 in EBITDA during the
      second succeeding 12-month period following the closing (triggering the issuance
      of $500 of KIT’s common stock), in each case, with the specific number of shares
      determined based on the 20-day trailing weighted average closing price per
      share
      prior to the respective payment date in the future.




Under
      the
      Share Purchase Agreement, the price “floor” for all future issuances of KIT
      common stock is $0.22 per share, even if KIT common stock is trading at less
      than this value at the time of such issuances. KIT retains the right to
      substitute payments in cash for all potential issuances of KIT’s common stock
      described above, irrespective of the trading price of KIT common stock.
      Additionally, future KIT common stock issuances may be withheld to satisfy
      indemnifiable claims made by KIT with respect to any misrepresentations or
      breaches of warranty under the Share Purchase Agreement by the shareholders
      of
      Visual within two years after the closing of the acquisition.




Visual
      is
      a specialist of choice in the supply and delivery of comprehensive digital
      media
      solutions, services and components since 1991. The company designs, develops,
      delivers and integrates IPTV systems for professional, digital production,
      processing, distribution and archiving of audiovisual materials. Visual links
      its software expertise with hardware configuration and integration capabilities
      for television, IT and telecommunication systems, and offers technical and
      service support available 24/7. Visual has over 200 clients, and has been
      involved in deployments for television and radio stations, graphics publishers,
      audiovisual production and post production houses, state and federal government
      administration, education companies, telecommunication companies and healthcare
      providers.


17




**ITEM
              2.**
            **MANAGEMENT’S
                DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
                OPERATIONS.**




Certain
      statements contained herein constitute forward-looking statements. In some
      cases, you can identify forward-looking statements by terminology such as “may,”
“will,” “should,” “expect,” “plan,” “anticipate,” “believe,” “estimate,”
“predict,” “potential” or “continue,” the negative of such terms, or other
      comparable terminology. All statements other than statements of historical
      fact
      made in this report are forward looking. In particular, the statements herein
      regarding industry prospects and future results of operations or financial
      position are forward-looking statements. Because such statements include risks
      and uncertainties, actual results may differ materially from those expressed
      or
      implied by such forward-looking statements as a result of certain factors,
      including, but not limited to, risks associated with the integration of
      businesses following an acquisition, competitors with broader product lines
      and
      greater resources, emergence into new markets, the termination of any of our
      significant contracts, our inability to maintain working capital requirements
      to
      fund future operations, or our inability to attract and retain highly qualified
      management, technical and sales personnel.




**Overview**





We,
      through our operating subsidiaries, are in the business of providing Internet
      software products and solutions that enable our customers to distribute video
      content through Internet websites and mobile devices. Our core activities
      include online video player deployment, ingestion and transcoding, Internet
      Protocol television (“IPTV”) set-top box development, IPTV recording and editing
      suite deployment, video content localization and syndication, digital rights
      management, hosting, storage, content delivery. We currently provide video
      solutions internationally through our principal offices in Dubai, Melbourne
      (Australia), Prague, Stockholm, London, Toronto, New York, Cairo, Singapore
      and
      Bogotá. To support Internet Protocol television (“IPTV”) enablement, we provide
      systems integration and integrated marketing solutions, including strategic
      planning, creative services, media planning and buying, design services, brand
      and retail advertising, and data management and analytics. Our subsidiary,
      Reality Group Pty. Ltd. (“Reality Group”) is an advertising agency offering
      clients a full range of traditional advertising services including media buying
      and planning, creative development, and packaging.





Set
      forth
      below is a discussion of the financial condition and results of operations
      of
      our company, KIT digital, Inc. and its consolidated subsidiaries (collectively,
      “we,” “us,” or “our”), for the three and nine months ended September 30, 2008
      and 2007. The consolidated financial statements include the accounts of KIT
      digital, Inc., its wholly-owned subsidiary KIT Media Corporation, its
      wholly-owned subsidiary Bickhams Media, Inc. (“Bickhams”), its 51% owned
      subsidiary the Reality Group, its wholly-owned subsidiary Kamera Content AB
      (included as of the acquisition date of May 19, 2008) , its wholly-owned
      subsidiary Morpheum Internet Services Pty. Ltd. (‘Morpheum”) (included as of the
      acquisition date of August 31, 2008), its wholly-owned subsidiary KIT digital
      FZ
      LLC and its wholly-owned subsidiary KIT HD, Inc. Included in the consolidation
      with KIT Media Corporation are KIT Media Corporation’s wholly-owned subsidiary
      KIT digital Pty. Ltd. and KIT digital Pty. Ltd.’s wholly-owned subsidiary
      Undercover Media Pty. Ltd. (“Undercover Media”), its wholly-owned subsidiary KIT
      digital Limited, its wholly-owned subsidiary KIT Broadcasting Limited, its
      wholly-owned subsidiary Sputnik Agency Pty. Ltd. (“Sputnik”) (formerly
      Factory212 Pty. Ltd.) and its wholly-owned subsidiary KIT TV Pty. Ltd. Included
      in the consolidation with Bickhams is Bickhams’ wholly-owned subsidiary
      VideoDome.com Networks, Inc. (“VideoDome.com”). Included in the consolidation
      with Kamera Content AB are Kamera Content AB’s 95% owned subsidiary Kamera (S)
      PTE LTD and its 55% owned subsidiary Swegypt Company for Telecommunications
      (S.A.E). The following discussion should be read in conjunction with the
      information set forth in the consolidated financial statements and the related
      notes thereto appearing elsewhere in this report.





As
      a
      component of our management’s review of the financial statements, and in light
      of recent and prospective business changes, including but not limited to (i)
      the
      integration of our Sputnik subsidiary, (ii) the closure of the RBS business
      unit
      and the cessation of certain other business activities, (iii) the
      regionalization of profit and loss accountability and (iv) the acquisition
      of
      Kamera, our management recently reviewed and modified the categorization of
      costs in the Consolidated Statements of Operations. The new categories are
      presented below under Results of Operations. Our management believes these
      changes in classifications present additional information to the readers of
      the
      financial statements and have been made on a prospective basis with previously
      reported amounts recategorized to conform with the presentation for the current
      period. In light of the recent acquisition of Visual, management may choose
      to
      introduce additional cost categories in future financial statements.





**Results
      of Operations - Three Months Ended September 30, 2008 Compared to the Three
      Months Ended September 30, 2007**





REVENUE.
      Consolidated revenue increased by $1,947,000 from $3,434,000 for the three
      months ended September 30, 2007 to $5,381,000 for the three months
      ended September 30, 2008, an increase of 57%.





Digital
      Media segment revenue increased by $1,560,000 from $2,417,000 for the three
      months ended September 30, 2007 to $3,977,000 for the three months ended
      September 30, 2008, an increase of 65%. The increase is principally from the
      increase in customers, increase in spending by our existing customers, and
      the
      inclusion of revenue of the acquisition of Kamera in May 2008 and Morpheum
      in
      September 2008 not included in prior period results.





18




Agency
      Services segment revenue increased by $387,000 from $1,017,000 for the three
      months ended September 30, 2007 to $1,404,000 for the three months ended
      September 30, 2008, an increase of 38%. The increase is primarily from the
      increase in the size of the customer base and the increase in spending by our
      existing customers.





VARIABLE
      AND DIRECT THIRD PARTY COSTS





HOSTING,
      DELIVERY AND REPORTING. These costs decreased by $10,000 from $509,000 for
      the
      three months ended September 30, 2007 to $499,000 for the three months ended
      September 30, 2008. These costs remained the same due to the offset of the
      increase in costs due to the overlap of data centers in 2008 less the
      termination of the use of external marketing tools that were used in
      2007.





CONTENT
      COSTS. Content costs increased by $520,000 from $346,000 for the three months
      ended September 30, 2007 to $866,000 for the three months ended September 30,
      2008, an increase of 150%. The increase is primarily from the increase due
      to
      the inclusion of costs related to the acquisition of Kamera in May 2008 not
      included in prior period results.





DIRECT
      THIRD PARTY CREATIVE PRODUCTION COSTS. Direct third party creative production
      costs decreased by $18,000 from $777,000 for the three months ended September
      30, 2007 to $759,000 for the three months ended September 30, 2008, a decrease
      of 2%. These costs remained the same due to the revenue that is associated
      with
      these types of costs remained relatively flat.





GENERAL
      AND ADMINISTRATIVE EXPENSES





COMPENSATION,
      TRAVEL AND ASSOCIATED COSTS (EXCLUSIVE OF NON-CASH STOCK-BASED COMPENSATION).
      These costs decreased by $2,920,000 from $6,621,000 for the three months ended
      September 30, 2007 to $3,701,000 for the three months ended September 30, 2008,
      a decrease of 44%. The decrease was primarily due to the broad cost cutting
      measures begun in the first quarter of 2008 which included a reduction in
      headcount and salaries.





NON-CASH
      STOCK-BASED COMPENSATION. Non-cash stock-based compensation expense decreased
      by
      $989,000 from $1,177,000 for the three months ended September 30, 2007 to
      $188,000 for the three months ended September 30, 2008, a decrease of
      84%.





LEGAL,
      ACCOUNTING, AUDIT AND OTHER PROFESSIONAL SERVICES FEES. These expenses decreased
      by $492,000 from $783,000 for the three months ended September 30, 2007 to
      $291,000 for the three months ended September 30, 2008, a decrease of 63%.
      The
      decrease was primarily due to a decrease in legal fees.





OFFICE,
      MARKETING AND OTHER CORPORATE COSTS. These expenses decreased by $208,000 from
      $1,042,000 for the three months ended September 30, 2007 to $834,000 for the
      three months ended September 30, 2008, a decrease of 20%. The decrease was
      primarily due to the broad cost cutting measures begun in the first quarter
      of
      2008 that continue to date and would include a reduction in marketing related
      expenses.





DEPRECIATION
      AND AMORTIZATION. Depreciation and amortization expense decreased by $227,000
      from $661,000 for the three months ended September 30, 2007 to $434,000 for
      the
      three months ended September 30, 2008, a decrease of 34%. The decrease is due
      to
      the increase in assets of approximately $4.3 million from the asset purchase
      agreement with Wurld Media in July 2007 which were subsequently abandoned in
      December 2007





RESTRUCTURING
      CHARGES. Restructuring charges of $162,000 for the three months ended September
      30, 2008 consist of employee termination costs and facility closing
      costs.





OTHER
      NON-RECURRING CHARGES. Other non-recurring charges of $200,000 for the three
      months ended September 30, 2008 consist of IT overlap, acquisition costs,
      recruiting costs, relocation of headquarters and corporate
      rebranding.





NON-OPERATING
      INCOME AND EXPENSES





INTEREST
      INCOME. Interest income decreased by $225,000 from $262,000 for the three months
      ended September 30, 2007 to $37,000 for the three months ended September 30,
      2008, a decrease of 86%. This decrease was primarily due to a decrease in our
      cash and cash equivalents related to the timing of the proceeds from private
      placements.




INTEREST
      EXPENSE, OTHER. Interest expense, other, increased by $13,000 from $18,000
      for
      the three months ended September 30, 2007 to $31,000 for the three months ended
      September 30, 2008, an increase of 72%.


19




OTHER
      INCOME. Other income decreased by $1,000 from $9,000 for the three months ended
      September 30, 2007 to $8,000 for the three months ended September 30, 2008.
      This
      was primarily due to a foreign currency gain on the settlement of notes
      receivable.




NET
      LOSS
      BEFORE INCOME TAXES AND MINORITY INTEREST. As a result of the factors described
      above, we reported a net loss before income taxes and minority interest of
      $2,539,000 for the three months ended September 30, 2008 compared to $8,229,000
      for the three months ended September 30, 2007, a decrease of $5,690,000, or
      69%.





**Results
      of Operations - Nine Months Ended September 30, 2008 Compared to the Nine Months
      Ended September 30, 2007**





REVENUE.
      Consolidated revenue increased by $4,348,000 from $10,020,000 for the nine
      months ended September 30, 2007 to $14,368,000 for the nine months
      ended September 30, 2008, an increase of 43%.





Digital
      Media segment revenue increased by $2,996,000 from $6,834,000 for the nine
      months ended September 30, 2007 to $9,830,000 for the nine months ended
      September 30, 2008, an increase of 44%. The increase is principally from the
      increase in customers, increase in spending by our existing customers, and
      the
      inclusion of revenue of the acquisition of Kamera in May 2008 and Morpheum
      in
      September 2008 not included in prior period results.





Agency
      Services segment revenue increased by $1,352,000 from $3,186,000 for the nine
      months ended September 30, 2007 to $4,538,000 for the nine months ended
      September 30, 2008, an increase of 42%. The increase is primarily from the
      increase in the size of the customer base and the increase in spending by our
      existing customers.





VARIABLE
      AND DIRECT THIRD PARTY COSTS





HOSTING,
      DELIVERY AND REPORTING. These costs decreased by $181,000 from $1,782,000 for
      the nine months ended September 30, 2007 to $1,601,000 for the nine months
      ended
      September 30, 2008. These costs decreased due to the termination of the use
      of
      external marketing tools that were used in 2007.





CONTENT
      COSTS. Content costs increased by $426,000 from $1,259,000 for the nine months
      ended September 30, 2007 to $1,685,000 for the nine months ended September
      30,
      2008, an increase of 34%. The increase is primarily from the increase due to
      the
      inclusion of costs related to the acquisition of Kamera in May 2008 not included
      in prior period results.





DIRECT
      THIRD PARTY CREATIVE PRODUCTION COSTS. Direct third party creative production
      costs increased by $529,000 from $2,203,000 for the nine months ended September
      30, 2007 to $2,732,000 for the nine months ended September 30, 2008, an increase
      of 24%. This increase is primarily due to the increase in costs related to
      the
      Agency Services segment.





GENERAL
      AND ADMINISTRATIVE EXPENSES





COMPENSATION,
      TRAVEL AND ASSOCIATED COSTS (EXCLUSIVE OF NON-CASH STOCK-BASED COMPENSATION).
      These costs decreased by $6,065,000 from $18,173,000 for the nine months ended
      September 30, 2007 to $12,108,000 for the nine months ended September 30, 2008,
      a decrease of 33%. The decrease was primarily due to the broad cost cutting
      measures begun in the first quarter of 2008 which included a reduction in
      headcount and salary levels.





NON-CASH
      STOCK-BASED COMPENSATION. Non-cash stock-based compensation expense increased
      by
      $606,000 from $3,656,000 for the nine months ended September 30, 2007 to
      $4,262,000 for the nine months ended September 30, 2008, an increase of
      17%.





LEGAL,
      ACCOUNTING, AUDITING AND OTHER PROFESSIONAL SERVICES FEES. These expenses
      decreased by $408,000 from $1,313,000 for the nine months ended September 30,
      2007 to $905,000 for the nine months ended September 30, 2008, a decrease of
      31%. The decrease was primarily due the decrease in legal fees.





OFFICE,
      MARKETING AND OTHER CORPORATE COSTS. These expenses decreased by $658,000 from
      $3,258,000 for the nine months ended September 30, 2007 to $2,600,000 for the
      nine months ended September 30, 2008, a decrease of 20%. The decrease was
      primarily due to the broad cost cutting measures begun in the first quarter
      of
      2008 that continue to date and would include a reduction in marketing related
      expenses.





DEPRECIATION
      AND AMORTIZATION. Depreciation and amortization expense decreased by $10,000
      from $1,043,000 for the nine months ended September 30, 2007 to $1,033,000
      for
      the nine months ended September 30, 2008, a decrease of 1%. The decrease is
      due
      to the purchase of assets in 2008 for our new data center plus the inclusion
      of
      costs related to the acquisition of Kamera in May 2008 not included in prior
      period results less the increase in assets of approximately $4.3 million from
      the asset purchase agreement with Wurld Media in July 2007 which were
      subsequently abandoned in December 2007.




20




RESTRUCTURING
      CHARGES. Restructuring charges of $3,053,000 for the nine months ended September
      30, 2008 consist of employee termination costs, contract settlements and
      facility closing costs.





OTHER
      NON-RECURRING CHARGES. Other non-recurring charges of $845,000 for the nine
      months ended September 30, 2008 consist of IT overlap, acquisition costs,
      recruiting costs, relocation of headquarters and corporate
      rebranding.





IMPAIRMENT
      OF PROPERTY AND EQUIPMENT. Impairment of property and equipment was $228,000
      for
      the nine months ended September 30, 2008. This is related to the impairment
      of
      the property and equipment in the London office.





NON
      OPERATING INCOME AND EXPENSES





INTEREST
      INCOME. Interest income decreased by $467,000 from $594,000 for the nine months
      ended September 30, 2007 to $127,000 for the nine months ended September 30,
      2008, a decrease of 79%. This decrease was primarily due to a decrease in our
      cash and cash equivalents related to the timing of the proceeds from private
      placements.





INTEREST
      EXPENSE, OTHER. Interest expense, other, increased by $34,000 from $51,000
      for
      the nine months ended September 30, 2007 to $85,000 for the nine months ended
      September 30, 2008, an increase of 67%.




OTHER
      INCOME. Other income increased by $111,000 from $29,000 for the nine months
      ended September 30, 2007 to $140,000 for the nine months ended September 30,
      2008. This was primarily due to a foreign currency gain on the settlement of
      notes receivable.




NET
      LOSS
      BEFORE INCOME TAXES AND MINORITY INTEREST. As a result of the factors described
      above, we reported a net loss before income taxes and minority interest of
      $16,502,000 for the nine months ended September 30, 2008 compared to $22,095,000
      for the nine months ended September 30, 2007, a decrease of $5,593,000, or
      25%.





**Liquidity
      and Capital Resources**





As
      of
      September 30, 2008, we had a working capital deficit of approximately $1,508,000
      and cash and cash equivalents of $6,069,000. On May 8, 2008, we sold an
      aggregate of $15,000,000 in shares of common stock and warrants to
      accredited investors. Having completed this financing, we do not anticipate
      that
      we will need to raise additional capital to achieve our operational and
      acquisition growth plan. Pursuant to the KIT Capital Notice and associated
      negotiations described in Note 12 Liability to KIT Media, Ltd. above, the
      Company also expects to receive an additional $2,500,000 in cash, which is
      being
      held in escrow and is not reflected in the Company’s reported cash
      balance.





Net
      cash
      used in operating activities was $11,089,000 for the nine months ended September
      30, 2008 compared to $15,004,000 for the nine months ended September 30, 2007,
      a
      decrease of $3,915,000, or 26%. The decrease in net cash used in operating
      activities is primarily related to the reduction in costs due to cost cutting
      in
      2008.





Net
      cash
      used by investing activities was $10,082,000 for the nine months ended September
      30, 2008 compared to $4,063,000 for the nine months ended September 30, 2007,
      an
      increase in net cash used in investing activities of $6,019,000, or 148%. The
      difference primarily represents cash paid for the completion of the acquisition
      of Sputnik of $4,563,000, net cash paid in the acquisition of Kamera of
      $4,229,000 in 2008 and net cash paid in the acquisition of Morpheum of $649,000,
      less the investment in assets acquired from Wurld Media of $3,174,000 in 2007
      and the cash used in the investment in MyVideoDaily of $250,000 in
      2007.





Net
      cash
      provided by financing activities was $17,195,000 for the nine months ended
      September 30, 2008 compared to $23,470,000 for the nine months ended September
      30, 2007. These amounts primarily consisted of net proceeds of $14,710,000
      from
      the May 2008 private placement, $2,500,000 from KIT Media in September 2008
      and net proceeds from the private placement of $23,875,000 in May
      2007.





**Market
      Risks**





We
      conduct our operations in primary functional currencies: the United States
      dollar, the British pound, the Australian dollar and the Swedish krona. We
      currently do not hedge any of our foreign currency exposures and are therefore
      subject to the risk of exchange rate fluctuations. However, we attempt to employ
      a “natural hedge” by matching as much as possible in like currencies our client
      revenues with associated client delivery costs. We invoice our international
      customers primarily in U.S. dollars, British pounds, Euros, Swedish kronor
      and
      Australian dollars.




We
      are
      exposed to foreign exchange rate fluctuations as the financial results of
      foreign subsidiaries are translated into U.S. dollars in consolidation and
      as
      our foreign currency consumer receipts are converted into U.S. dollars. Our
      exposure to foreign exchange rate fluctuations also arises from payables and
      receivables to and from our foreign subsidiaries, vendors and customers. Foreign
      exchange rate fluctuations had a negative impact on our revenues as reported
      in
      US dollars in the three months ended September 30, 2008.


21




Financial
      instruments which potentially subject us to concentrations of credit risk
      consist principally of cash and cash equivalents and trade accounts receivable.
      We place our cash and cash equivalents with high credit quality institutions
      to
      limit credit exposure. We believe that no significant concentration of credit
      risk exists with respect to these investments.





Concentrations
      of credit risk with respect to trade accounts receivable are limited due to
      the
      wide variety of our customers who are dispersed across many geographic regions.
      We routinely assess the financial strength of customers and, based upon factors
      concerning credit risk, we establish an allowance for uncollectible accounts.
      Our management believes that accounts receivable credit risk exposure beyond
      such allowance is limited.





**Off-Balance
      Sheet Arrangements**





We
      do not
      have any off-balance sheet arrangements that are reasonably likely to have
      a
      current or future effect on our financial condition, revenues, results of
      operations, liquidity or capital expenditures.





**Impact
      of Inflation**





We
      believe that inflation has not had a material impact on our results of
      operations for the three and nine months ended September 30, 2008. We cannot
      assure you that future inflation will not have an adverse impact on our
      operating results and financial condition.





**ITEM
      3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
      RISK.**





Not
      required.





**ITEM
      4T. CONTROLS AND PROCEDURES.**





*Evaluation
      of Disclosure Controls and Procedures* . Under
      the supervision and with the participation of our management, including our
      President, Chief Executive Officer and Chief Financial Officer, we evaluated
      the
      effectiveness of the design and operation of our disclosure controls and
      procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Securities
      Exchange Act of 1934 (the “Exchange Act”)) as of the end of the period covered
      by this report. Based upon that evaluation, our President, Chief Executive
      Officer and Chief Financial Officer concluded that our disclosure controls
      and
      procedures as of the end of the period covered by this report were effective
      such that the information required to be disclosed by us in reports filed under
      the Exchange Act is (i) recorded, processed, summarized and reported within
      the
      time periods specified in the SEC’s rules and forms and (ii) accumulated and
      communicated to our management to allow timely decisions regarding disclosure.
      A
      controls system cannot provide absolute assurance, however, that the objectives
      of the controls system are met, and no evaluation of controls can provide
      absolute assurance that all control issues and instances of fraud, if any,
      within a company have been detected.





*Changes
      in Internal Control Over Financial Reporting.* During
      the most recent quarter ended September 30, 2008, there has been no change
      in
      our internal control over financial reporting (as defined in Rule 13a-15(f)
      and
      15d-15(f) under the Exchange Act)) that has materially affected, or is
      reasonably likely to materially affect, our internal control over financial
      reporting.




22




**PART
      II - OTHER INFORMATION**





**ITEM
      1. LEGAL PROCEEDINGS.**





Except
      as
      set forth below, we are not a party to any pending legal proceeding, nor is
      our
      property the subject of a pending legal proceeding that is not in the ordinary
      course of business or is otherwise material to the financial condition of our
      company’s business. None of our directors, officers or affiliates is involved in
      a proceeding adverse to our business or has a material interest adverse to
      our
      business.





In
      November 2007, our wholly-owned subsidiary, ROO HD, Inc. (“ROO HD”) (currently
      KIT HD, Inc.), was named as a defendant in a purported class action
      lawsuit entitled Julie Vittengl et al. vs. ROO HD, Inc., in New York Supreme
      Court, Saratoga County. The suit, brought by four former employees of Wurld
      Media, Inc. (“Wurld”) purportedly on behalf of themselves and “others similarly
      situated,” claims that ROO HD’s acquisition of certain assets of Wurld was a
      fraudulent conveyance and that ROO HD is the alter-ego of Wurld. Plaintiffs
      seek
      the appointment of a receiver to take charge of our property in constructive
      trust for plaintiffs and payment of plaintiffs’ unpaid wages and costs of suit,
      both in an unspecified dollar amount. ROO HD filed its answer to the complaint
      in January 2008, and there have been no further developments in this action
      since then. We believe that the suit is without merit and we will defend the
      suit vigorously should the case become active.





In
      December 2007, Rick Gell and Todd Pavlin, two former consultants of ROO Media
      Corporation (“ROO Media”) (currently KIT Media Corporation) sued that entity
      together with ROO Group, Inc. (currently KIT digital, Inc.) and our founder
      and
      Vice-Chairman Robert Petty and ROO Media’s former President and Chief Operating
      Officer Steve Quinn in New York Supreme Court, New York County, alleging breach
      of an oral employment agreement, fraudulent inducement and other claims relating
      to the plaintiffs’ employment at ROO Media. Defendants have moved to dismiss the
      complaint and have been awaiting the Court’s decision since June 2008. We
      believe that the suit is without merit and we will defend the suit
      vigorously.





**ITEM
      1A. RISK FACTORS.**





There
      are
      no material changes in the risk factors previously disclosed in our annual
      report on Form 10-KSB for the year ended December 31, 2007.





**ITEM
      2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
      PROCEEDS.**





Not
      applicable.





**ITEM
      3. DEFAULTS UPON SENIOR SECURITIES.**





None.





**ITEM
      4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.**




None.





**ITEM
      5. OTHER INFORMATION.**




None.




**ITEM
      6. EXHIBITS.**





**Exhibit
                Number**
            
            **Description**31.1
            
            Certification
                by Chief Executive Officer, required by Rule 13a-14(a) or Rule 15d-14(a)
                of the Exchange Act.31.2
            
            Certification
                by Chief Financial Officer, required by Rule 13a-14(a) or Rule 15d-14(a)
                of the Exchange Act.32.1
            
            Certification
                by Chief Executive Officer, required by Rule 13a-14(b) or Rule 15d-14(b)
                of the Exchange Act and Section 1350 of Chapter 63 of Title 18 of
                the
                United States Code.32.2
            
            Certification
                by Chief Financial Officer, required by Rule 13a-14(b) or Rule 15d-14(b)
                of the Exchange Act and Section 1350 of Chapter 63 of Title 18 of
                the
                United States Code.





23




**SIGNATURES**





Pursuant
      to the requirements of the Securities Exchange Act of 1934, the registrant
      has
      duly caused this report to be signed on its behalf by the undersigned thereunto
      duly authorized.




**KIT
                DIGITAL, INC.**Dated:
                  November 14, 2008
            By:
            /s/
                Kaleil Isaza TuzmanKaleil
                Isaza TuzmanChief
                Executive Officer
              (principal
                executive officer)Dated:
                  November 14, 2008
            By:
            /s/
                Robin SmythRobin
                SmythChief
                Financial Officer
              (principal
                financial and accounting officer)





24