**UNITED
        STATES**
 **SECURITIES
        AND EXCHANGE COMMISSION**
 **Washington,
        D.C. 20549**
 **FORM
        10-Q**
 
 **x**
              **QUARTERLY
                  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                  ACT OF
                  1934**
 
 **FOR
        THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2006**
 **OR**
 
 ** ̈**
              **TRANSITION
                  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                  ACT OF
                  1934 FOR THE TRANSITION PERIOD FROM __________ TO
                  __________**
 
 **Commission
        File Number 0-28488**
  
 **ZONES,
        INC**
 (Exact
        name of registrant as specified in its charter)
 
 **Washington**
              
              **91-1431894**(State
                  of Incorporation)
              
              (I.R.S.
                  Employer Identification Number)
 
 **1102
                  15****th****Street SW, Suite 102**
                **Auburn,
                  Washington**
              
              **98001-6509**(Address
                  of Principal Executive Offices)
              
              (Zip
                  Code)
 
 **(253)
        205-3000**
 (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  ̈ .
 
 Indicate
        by check mark whether the registrant is a large accelerated filer, an
        accelerated filer, or a non-accelerated filer. See definition of “accelerated
        filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check
        one): Large accelerated filer o Accelerated
        filer  oNon-accelerated
        filer x
 
 Indicate
        by check mark whether the registrant is a shell company (as defined in Rule
        12b-2 of the Act). Yes  ̈ No x
 
 The
        number of shares of the registrant's Common Stock outstanding
        as of November 6, 2006 was 13,250,765.
  1
  **ZONES,
        INC.**
 
 **INDEX**
 
 **PART
        I. FINANCIAL INFORMATION**
  Item
                  1.
              Consolidated
                  Financial Statements (unaudited):Consolidated
                  Balance SheetsSeptember
                  30, 2006 and December 31, 2005
              3Consolidated
                  Statements of OperationsThree
                  and nine months ended September 30, 2006 and 2005
              4Consolidated
                  Statements of Shareholders’ EquityNine
                  months ended September 30, 2006
              5Consolidated
                  Statements of Cash FlowsNine
                  months ended September 30, 2006 and 2005
              6Notes
                  to Consolidated Financial
                  Statements
              7Item
                  2.
              Management’s
                  Discussion and Analysis ofFinancial
                  Condition and Results of Operations
              12Item
                  3.
              Quantitative
                  and Qualitative Disclosures About Market
                  Risk
              19Item
                  4.
              Controls
                  and Procedures
              19
  **PART
        II. OTHER INFORMATION**
  Item
                  1.
              Legal
                  Proceedings
              20Item
                  1A.
              Risk
                  Factors
              20Item
                  2.
              Unregistered
                  Sales of Equity Securities and Use of
                  Proceeds
              23Item
                  6.
              Exhibits
              24Signatures
              24
  2
 *Index*
  **Part
        I.**
 
 **Item
        1.**  **Financial
        Statements**
 
 **ZONES,
        INC.**
 **CONSOLIDATED
        BALANCE SHEETS**
 **(in
        thousands)**
 **(unaudited)**
 
 **September
                  30,**
                **2006**
              
              **December
                  31,**
                **2005****ASSETS**Current
                  assets:Cash
                  and cash equivalents
              
              $
              6,947
              
              $
              3,195Receivables,
                  net of allowance for doubtful accounts of $1,910 and
                  $1,562
              
              
              65,273
              
              
              68,318Vendor
                  receivables
              
              
              8,567
              
              
              14,750Inventories
              
              
              21,230
              
              
              19,736Prepaid
                  expenses
              
              
              1,103
              
              
              922Deferred
                  tax asset
              
              
              1,346
              
              
              1,346Total
                  current assets
              
              
              104,466
              
              
              108,267Property
                  and equipment, net
              
              
              4,009
              
              
              3,810Goodwill
              
              
              5,098
              
              
              5,098Other
                  assets
              
              
              195
              
              
              179Total
                  assets
              
              $
              113,768
              
              $
              117,354**LIABILITIES
                  AND SHAREHOLDERS' EQUITY**Current
                  liabilities:Accounts
                  payable
              
              $
              40,710
              
              $
              45,359Inventory
                  financing
              
              
              14,813
              
              
              8,469Accrued
                  liabilities
              
              
              9,655
              
              
              9,069Line
                  of credit
              
              
              
              
              
              10,700Notes
                  payable to former shareholders of CPCS
              
              
              
              
              
              1,272Total
                  current liabilities
              
              
              65,178
              
              
              74,869Notes
                  payable for purchase of fixed asset
              
              
              10
              
              
              21Deferred
                  income tax
              
              
              35
              
              
              35Deferred
                  rent
              
              
              1,386
              
              
              1,112Total
                  liabilities
              
              
              66,609
              
              
              76,037Commitments
                  and contingenciesShareholders'
                  equity:Common
                  stock
              
              
              36,642
              
              
              37,503Retained
                  earnings
              
              
              10,517
              
              
              3,814Total
                  shareholders' equity
              
              
              47,159
              
              
              41,317Total
                  liabilities and shareholders' equity
              
              $
              113,768
              
              $
              117,354
 
 See
        notes
        to consolidated financial statements
  3
 *Index*
  **ZONES,
        INC.**
 **CONSOLIDATED
        STATEMENTS OF OPERATIONS**
 **(in
        thousands, except per share data)**
 **(unaudited)**
 **Three
                    months ended**
                  **September
                    30,**
                
                **Nine
                    months ended**
                  **September
                    30,****2006**
                
                **2005**
                
                **2006**
                
                **2005**Net
                    sales
                
                $
                137,900
                
                $
                152,758
                
                $
                417,108
                
                $
                406,719Cost
                    of sales
                
                
                121,522
                
                
                138,146
                
                
                364,755
                
                
                362,809Gross
                    profit
                
                
                16,378
                
                
                14,612
                
                
                52,353
                
                
                43,910Selling,
                    general and administrative
                
                
                11,291
                
                
                10,068
                
                
                35,918
                
                
                32,246Advertising
                    expenses, net
                
                
                1,717
                
                
                1,608
                
                
                5,286
                
                
                4,747Income
                    from operations
                
                
                3,370
                
                
                2,936
                
                
                11,149
                
                
                6,917Interest
                    expense
                
                
                37
                
                
                206
                
                
                382
                
                
                367Other
                    income
                
                
                (56
                )
                
                (15
                )
                
                (100
                )
                
                (65
                )Other
                    (income) expense, net
                
                
                (19
                )
                
                191
                
                
                282
                
                
                302Income
                    before taxes
                
                
                3,389
                
                
                2,745
                
                
                10,867
                
                
                6,615Provision
                    for income taxes
                
                
                1,309
                
                
                1,055
                
                
                4,164
                
                
                2,538Net
                    income
                
                $
                2,080
                
                $
                1,690
                
                $
                6,703
                
                $
                4,077Basic
                    income per share
                
                $
                0.16
                
                $
                0.13
                
                $
                0.51
                
                $
                0.30Shares
                    used in computing basic income per share
                
                
                13,225
                
                
                13,398
                
                
                13,190
                
                
                13,407Diluted
                    income per share
                
                $
                0.14
                
                $
                0.12
                
                $
                0.46
                
                $
                0.28Shares
                    used in computing diluted income per share
                
                
                14,782
                
                
                14,327
                
                
                14,721
                
                
                14,340
 
 See
        notes
        to consolidated financial statements
  4
 *Index*
  **ZONES,
        INC.**
 **CONSOLIDATED
        STATEMENTS OF SHAREHOLDERS' EQUITY**
 **(in
        thousands, except share data)**
 **(unaudited)**
 
 Common
                  Stock
              
              RetainedShares
              
              Amount
              
              Earnings
              
              TotalBalance,
                  January 1, 2006
              
              
              13,265,049
              
              $
              37,503
              
              $
              3,814
              
              $
              41,317Purchase
                  and retirement of common stock
              
              
              (460,800
              )
              
              (3,062
              )
              
              
              
              
              (3,062
              )Exercise
                  of stock options
              
              
              429,855
              
              
              1,305
              
              
              
              
              
              1,305Excess
                  tax benefit from stock options exercised
              
              
              
              
              
              573
              
              
              
              
              
              573Stock
                  option plan expense
              
              
              
              
              
              323
              
              
              
              
              
              323Net
                  income
              
              
              
              
              
              
              
              
              6,703
              
              
              6,703Balance,
                  September 30, 2006
              
              
              13,234,104
              
              $
              36,642
              
              $
              10,517
              
              $
              47,159
 
 See
        notes
        to consolidated financial statements
  5
 *Index*
  **ZONES,
        INC.**
 **CONSOLIDATED
        STATEMENTS OF CASH FLOWS**
 **(in
        thousands)**
 **(unaudited)**
 
 **Nine
                  months ended**
                **September
                  30,****2006**
              
              **2005**Cash
                  flows from operating activities:Net
                  income
              
              $
              6,703
              
              $
              4,077Adjustments
                  to reconcile net income to net cash provided by (used in) operating
                  activities:Depreciation
              
              
              1,389
              
              
              1,467Non-cash
                  stock based compensation
              
              
              323Excess
                  tax benefit from exercise of stock options
              
              
              (573
              )Deferred
                  tax asset
              
              
              
              
              
              2,538(Increase)
                  decrease in assets and liabilities:Receivables,
                  net
              
              
              9,228
              
              
              (11,803
              )Inventories
              
              
              (1,495
              )
              
              (2,593
              )Prepaid
                  expenses and other assets
              
              
              (197
              )
              
              (474
              )Accounts
                  payable
              
              
              (3,017
              )
              
              9,898Inventory
                  financing
              
              
              6,344
              
              
              (5,379
              )Accrued
                  liabilities and deferred rent
              
              
              1,976
              
              
              11Income
                  taxes payable
              
              
              (543
              )Net
                  cash provided by (used in) operating activities
              
              
              20,138
              
              
              (2,258
              )Cash
                  flows from investing activities:Purchases
                  of property and equipment
              
              
              (1,588
              )
              
              (1,072
              )Net
                  cash used in investing activities
              
              
              (1,588
              )
              
              (1,072
              )Cash
                  flows from financing activities:Net
                  change in book overdraft
              
              
              (1,632
              )
              
              4,591Net
                  change in line of credit
              
              
              (10,700
              )
              
              (2,700
              )Excess
                  tax benefit from exercise of stock options
              
              
              573Purchase
                  and retirement of common stock
              
              
              (3,062
              )
              
              (1,094
              )Proceeds
                  from exercise of stock options
              
              
              1,305
              
              
              234Payments
                  of notes payable
              
              
              (1,282
              )
              
              (1,082
              )Net
                  cash used in financing activities
              
              
              (14,798
              )
              
              (51
              )Net
                  increase (decrease) in cash and cash equivalents
              
              
              3,752
              
              
              (3,381
              )Cash
                  and cash equivalents at beginning of period
              
              
              3,195
              
              
              6,457Cash
                  and cash equivalents at end of period
              
              $
              6,947
              
              $
              3,076
  See
        notes
        to consolidated financial statements
  6
 *Index*
  **ZONES,
        INC.**
 **NOTES
        TO CONSOLIDATED FINANCIAL STATEMENTS**
 **(unaudited)**
 
 **1. 
        Description of Business**
 
 Zones,
        Inc. (the “Company”) is a single-source direct marketing reseller of name-brand
        information technology products to the small to medium sized business market,
        enterprise and public sector accounts. The Company sells through outbound
        and
        inbound account executives, specialty print and e-catalogs, and the Internet.
        The Company offers more than 150,000 products from leading manufacturers
        including 3COM, Adobe, Apple, Cisco, Epson, Hewlett Packard, IBM, Kingston,
        Lenovo, Microsoft, Sony and Toshiba.
 
 The
        Company was incorporated in November 1988 as a Washington corporation. The
        Company’s headquarters are located in Auburn, Washington. Buying information is
        available at http://www.zones.com ,
        or by
        calling 800-258-2088. The Company’s investor relations information can be
        accessed online at www.zones.com/IR.
 
 **2. 
        Summary of Significant Accounting Policies**
 
 The
        accompanying unaudited consolidated interim financial statements and notes
        have
        been prepared in accordance with the rules and regulations of the Securities
        and
        Exchange Commission and consequently do not include all of the disclosures
        normally required by generally accepted accounting principles for annual
        financial statements.
 
 *Basis
        of Presentation*
 In
        the
        opinion of management, the accompanying unaudited consolidated financial
        statements reflect all adjustments (consisting of normal recurring accruals)
        which in the opinion of management are necessary for a fair statement of
        the
        financial position and operating results for the interim periods presented.
        The
        results of operations for such interim periods are not necessarily indicative
        of
        results for the full year. These financial statements should be read in
        conjunction with the audited financial statements and notes thereto contained
        in
        the Company’s Annual Report on Form 10-K for the year ended December 31, 2005 as
        filed with the Securities and Exchange Commission on February 24, 2006.
 
 *Principles
        of Consolidation*
 The
        accompanying consolidated interim financial statements include the accounts
        of
        the Company and its subsidiaries. Intercompany transactions have been eliminated
        in consolidation.
 
 *Goodwill*
 In
        accordance with SFAS No. 142,"Goodwill and Other Intangible Assets," goodwill
        will be tested for impairment at least annually, or when events indicate
        that
        impairment exists. The Company performs the assessment annually on March
        31. The
        changes in the carrying amount of goodwill for the nine months ended September
        30, 2006 are as follows (in thousands):
 
 Balance
                  as of January 1, 2006
              
              $
              5,098Goodwill
                  acquired
              
              
              -Impairment
                  loss
              
              
              -Balance
                  as of September 30, 2006
              
              $
              5,098
 
 The
        Company completed the annual impairment review required by SFAS No. 142 on
        March
        31, 2006 and determined that its goodwill was not impaired.
 
 *Revenue
        Recognition*
 The
        Company recognizes revenue on product sales when persuasive evidence of an
        arrangement exists, delivery has occurred, prices are fixed or determinable,
        and
        collectability is probable. The Company considers the point of delivery of
        the
        product to be when the risks and rewards of ownership have transferred to
        the
        customer. The Company offers limited return rights on its product sales.
        At the
        point of sale, the Company also provides an allowance for sales returns,
        which
        is established based on historical experience.
  7
 *Index*
  *Comprehensive
        Income*
 The
        Company has no differences between net income and comprehensive
        income.
 
 *Stock
        Compensation*
 The
        Company’s stock option plans grant options to acquire shares of common stock to
        certain team members and non-employee directors. Each option granted has
        an
        exercise price of 100% of the market value of the common stock on the date
        of
        the grant. The majority of the options have a contractual life of 10 years
        and vest and become exercisable at 20% increments over five years.
 
 Effective
        January 1, 2006, the Company adopted Statement of Financial Accounting
        Standards No. 123R, *Share-Based
        Payment* (“SFAS 123R”).
        SFAS 123R supersedes the Company’s previous accounting under Accounting
        Principles Board Opinion No. 25, *Accounting
        for Stock issued to Employees* (“APB 25”),
        for periods beginning in fiscal 2006. Previously, under APB 25, the Company
        accounted for stock options under the intrinsic value method. Accordingly,
        the
        Company did not recognize expense related to employee stock options because
        the
        exercise price of such options equaled the fair value of the underlying stock
        on
        the grant date. The Company previously disclosed the fair value of its stock
        options under the provisions of Statement of Financial Accounting Standards
        No. 123, *Accounting
        for Stock Based Compensation* (“SFAS 123”). The fair value of option grants prior to January 1, 2006 was
        estimated on the date of grant using the Black-Scholes option-pricing
        model.
 
 The
        Company adopted SFAS 123R using the modified prospective transition method,
        which requires the application of the accounting standard as of January 1,
        2006, the first day of the Company’s fiscal year 2006. The Company’s condensed
        consolidated financial statements for prior periods have not been restated
        to
        reflect, and do not include, the impact of SFAS 123R.
 
 Total
        stock-based compensation expense recognized in the consolidated statement
        of
        earnings for the three and nine months ended September 30, 2006 was $122,000
        and
        $323,000, respectively, before income taxes, and did not have a material
        impact
        on net income or earnings per share.   The Company used the criteria
        in SFAS No. 123R to calculate and establish the beginning balance of the
        additional paid-in capital pool (“APIC pool”) related to the tax effects of
        employee stock-based compensation and to determine the subsequent effect
        on the
        APIC pool and consolidated statements of cash flows of the tax effects of
        employee stock-based compensation awards that were outstanding upon adoption
        of
        SFAS No. 123R. The tax benefit for stock options exercised during the three
        and nine months ended September 30, 2006 was $205,000 and $573,000,
        respectively.
 
 Prior
        to
        the adoption of SFAS 123R, the Company presented all tax benefits resulting
        from
        the exercise of stock options as operating cash inflows in the consolidated
        statements of cash flows, in accordance with the provisions of the Emerging
        Issues Task Force (“EITF”) Issue No 00-15, “Classification in the Statement of
        Cash Flows of the Income Tax Benefit Received by a Company upon Exercise
        of a
        Nonqualified Employee Stock Option.” SFAS 123R requires the benefits of tax
        deductions in excess of the compensation cost recognized for those options
        to be
        classified as financing cash inflows rather than operating cash inflows,
        on a
        prospective basis. This amount is shown as “Excess tax benefit from exercise of
        stock options” on the consolidated statement of cash flows.
  8
 *Index*
  The
        following table shows the prior
        year effect
        on
        net earnings and earnings per share had compensation cost been recognized
        based
        upon the estimated fair value on the grant date of stock options, in accordance
        with SFAS 123, as amended by SFAS No. 148 “Accounting for Stock-Based
        Compensation - Transition and Disclosure” ( *in
        thousands, except earnings per share* ):
  **Three
                  months ended**
                **September
                  30,**
                **2005**Net
                  income - as reported
              
              $
              1,690Less:Total
                  compensation cost determined under fair value based method for
                  all awards,
                  net of tax
              
              
              (381
              )Net
                  income - pro forma
              
              $
              1,309Basic
                  income per share - as reported
              
              $
              0.13Diluted
                  income per share - as reported
              
              $
              0.12Basic
                  income per share - pro forma
              
              $
              0.10Diluted
                  income per share - pro forma
              
              $
              0.09
 
 **Nine
                  months ended**
                **September
                  30,**
                **2005**Net
                  income - as reported
              
              $
              4,077Less:Total
                  compensation cost determined under fair value based method for
                  all awards,
                  net of tax
              
              
              (889
              )Net
                  income - pro forma
              
              $
              3,188Basic
                  income per share - as reported
              
              $
              0.30Diluted
                  income per share - as reported
              
              $
              0.28Basic
                  income per share - pro forma
              
              $
              0.24Diluted
                  income per share - pro forma
              
              $
              0.22
 
 For
        grants made in the three and nine months ended September 30, 2005, the fair
        value of each option grant is estimated on the date of grant using the
        Black-Scholes option-pricing model with the following weighted-average
        assumptions: expected volatility of 186%; risk-free interest rate of 3.93%;
        and
        expected lives of 5 years.
 
 Disclosures
        for the periods ended September 30, 2006 are not presented because the amounts
        are recognized in the consolidated financial statements.
 
 There
        were no options granted in the three or nine months ended September 30, 2006.
        The current expense for all outstanding options granted prior to January 1,
        2006 has been recognized in the consolidated statement of earnings for the
        three
        and nine months ended September 30, 2006. Forfeitures will be estimated and
        revised, if necessary, in subsequent periods if actual forfeitures differ
        from
        those estimates. As of September 30, 2006, there is $300,000 of total
        unrecognized pre-tax compensation expense related to nonvested stock options
        granted under the Company’s stock option plans. This cost is expected to be
        recognized over a weighted-average period of 1.5 years.
  9
 *Index*
  *Earnings
        Per Share*
 Earnings
        per share (“EPS”) is based on the weighted average number of shares outstanding
        during the period. Basic EPS excludes all dilution. Diluted EPS reflects
        the
        potential dilution that would occur if securities or other contracts to issue
        common stock were exercised or converted into common stock. The Company excludes
        all options to purchase common stock from the calculation of diluted net
        loss
        per share if such securities are antidilutive.
 
 *Recent
        Accounting Pronouncements*
 In
        June
        2006, the FASB issued Interpretation No. 48, "Accounting for Uncertainty
        in
        Income Taxes - an interpretation of FASB Statement No. 109" (FIN 48). This
        interpretation clarifies the accounting for uncertainty in income taxes
        recognized in an enterprise's financial statements in accordance with SFAS
        No.
        109, "Accounting for Income Taxes." This Interpretation prescribes a recognition
        threshold and measurement attribute for the financial statement recognition
        and
        measurement of a tax position taken or expected to be taken in a tax return.
        This Interpretation also provides guidance on derecognition, classification,
        interest and penalties, accounting in interim periods, disclosure, and
        transition. FIN 48 is effective for fiscal years beginning after December
        15,
        2006. The Company is currently evaluating the impact of FIN 48 on its
        consolidated results of operations and financial condition.
 
 **3. 
        Earnings Per Share**
 
 The
        Company has 45,000,000 common shares authorized. The Company has granted
        options
        to purchase common shares to employees and directors of the Company. Certain
        options have a dilutive effect on the calculation of earnings per share.
        The
        following is a reconciliation of the numerators and denominators of the basic
        and diluted earnings per share computations (in thousands, except per share
        data).
  **Three
                    months ended September 30,**
                
                **Nine
                    months ended September 30,****2006**
                
                **2005**
                
                **2006**
                
                **2005****Basic
                    earnings per share:**Net
                    income
                
                $
                2,080
                
                $
                1,690
                
                $
                6,703
                
                $
                4,077Weighted
                    average shares outstanding
                
                
                13,225
                
                
                13,398
                
                
                13,190
                
                
                13,407Basic
                    income per share
                
                $
                0.16
                
                $
                0.13
                
                $
                0.51
                
                $
                0.30**Diluted
                    earnings per share:**Net
                    income
                
                $
                2,080
                
                $
                1,690
                
                $
                6,703
                
                $
                4,077Weighted
                    average shares outstanding
                
                
                13,225
                
                
                13,398
                
                
                13,190
                
                
                13,407Stock
                    options
                
                
                1,557
                
                
                929
                
                
                1,531
                
                
                933Total
                    common shares and dilutive securities
                
                
                14,782
                
                
                14,327
                
                
                14,721
                
                
                14,340Diluted
                    income per share
                
                $
                0.14
                
                $
                0.12
                
                $
                0.46
                
                $
                0.28
 
 Options
        may have a dilutive effect on the calculation of earnings per share. For
        the
        three and nine months ended September 30, 2006, 102,993 and 111,616 shares
        underlying outstanding stock options were excluded from the calculation of
        diluted earnings per share because the effect was anti-dilutive. For the
        three
        and nine months ended September 30, 2005, 547,299 and 547,499 shares,
        respectively, were attributable to outstanding stock options that were excluded
        from the calculation of diluted earnings per share because their effect was
        anti-dilutive.
 
 **4. 
        Commitments and Contingencies**
 
 *Legal
        Proceedings*
 From
        time
        to time, the Company is a party to various legal proceedings, claims, disputes
        or litigation arising in the ordinary course of business, some of which may
        involve material amounts. The Company currently believes that the ultimate
        outcome of any of these proceedings, individually or in the aggregate, will
        not
        have a material adverse effect on the Company’s business, financial condition,
        cash flows or results of operations.
  10
 *Index*
  **5. 
        Segment Information**
 
 In
        fiscal
        years 2003 and 2004, the Company reported its subsidiary, CPCS, and its Zones
        reporting unit as separate segments. On April 1, 2005, the Company merged
        CPCS
        into the Zones reporting unit. Accordingly, no separate segment for CPCS
        currently exists. The Company now comprises one reportable segment: a
        single-source, multi-vendor direct marketing reseller of name brand information
        technology products to small to medium-sized businesses, enterprise and the
        public sector markets.
 
 A
        summary
        of the Company’s sales by product mix follows (in thousands):
 
 **Three
                  months ended September 30,**
              
              **Nine
                  months ended September 30,****2006**
              
              **2005**
              
              **2006**
              
              **2005**Notebook
                  & PDA’s
              
              $
              15,745
              
              $
              26,300
              
              $
              51,180
              
              $
              61,736Desktops
                  & Servers
              
              
              28,112
              
              
              25,403
              
              
              86,331
              
              
              82,074Software
              
              
              25,514
              
              
              26,099
              
              
              70,496
              
              
              67,819Storage
              
              
              12,608
              
              
              12,339
              
              
              40,031
              
              
              35,750NetComm
              
              
              8,296
              
              
              6,321
              
              
              21,073
              
              
              16,456Printers
              
              
              12,835
              
              
              24,075
              
              
              33,953
              
              
              47,830Monitors
                  & Video
              
              
              13,540
              
              
              12,418
              
              
              41,547
              
              
              38,213Memory
                  & Processors
              
              
              7,414
              
              
              6,511
              
              
              26,555
              
              
              20,801Accessories
                  & Other
              
              
              13,836
              
              
              13,292
              
              
              45,942
              
              
              36,040
 
 Substantially
        all of the Company’s net sales for the three and nine months ended September 30,
        2006 and September 30, 2005 were made to customers located in the United
        States.
        Substantially all of the Company’s assets at September 30, 2006 and December 31,
        2005 were located within the United States. The Company had one customer
        which
        represented over 10% of total sales for the three and nine month period ended
        September 30, 2006. Net sales to this customer were $15.4 million and $46.2
        million for the three and nine months ended September 30, 2006, respectively.
        Receivables from this customer represented approximately 11.6% of total trade
        receivables. The Company had one customer which represented over 10% of total
        sales for the three month period ended September 30, 2005. Net sales to this
        customer were $25.6 million for the three months ended September 30, 2005.
        Receivables from this customer represented approximately 16.0% of total trade
        receivables.
 
 **6.  
        Related Party Disclosure**
 
 In
        June
        2004, Fana Auburn LLC, a company owned by an officer and majority shareholder
        of
        the Company, purchased the property and buildings in which the Company’s
        headquarters are located, subject to the Company’s existing 11-year lease. Under
        the terms of the lease agreement, the Company will pay lease payments
        aggregating from $1.0 million to $1.3 million per year, plus apportioned
        real
        estate taxes, insurance and common area maintenance charges. For the three
        months ended September 30, 2006 and 2005 the Company paid Fana Auburn LLC
        $440,000 and $433,000, respectively, related to the lease. For the nine months
        ended September 30, 2006 and 2005 the Company paid Fana Auburn LLC $1.2 million
        and $1.3 million, respectively, related to the lease. The Company’s Audit
        Committee reviewed and approved this related party transaction, and also
        the
        potential corporate opportunity, recognizing that in the future the Company
        may
        have to renew and re-negotiate its lease and that such renewal and
        re-negotiation would also present a related party transaction subject to
        further
        Audit Committee review and consideration. In May 2006, after the Company’s Audit
        Committee reviewed and approved this related party transaction, the Company
        signed an amendment to the lease agreement. Pursuant to the terms of the
        amendment, Fana Auburn LLC has agreed to increase the rentable square feet
        by
        approximately 18,923 square feet. The additional square feet will increase
        the
        annual lease payment by $259,000. Effective January 1, 2007, the Company
        will
        have approximately 125,196 rentable square feet located at 1102 15 th Street
        SW, Auburn, WA.
  11
 *Index*
  **7.  
        Share Repurchase Program**
 
 The
        Board
        of Directors authorized a stock repurchase program in July 2004 under which
        the
        Company could repurchase up to $3.0 million in shares of the Company’s common
        stock through July 2005 in either open market or private transactions at
        then
        prevailing market prices. During the twelve months ended June 30, 2005, the
        Company purchased and retired a total of 650,040 shares of its common stock
        at a
        total cost of $2.1 million (an average price of $3.27 per share).
 
 In
        July
        2005, the Board of Directors authorized a continuation of the Company’s share
        repurchase program, pursuant to which the Company could repurchase up to
        an
        additional $3.0 million in shares of the Company’s common stock through July
        2006 in open market or private transactions at then prevailing market prices.
        For the six months ended December 31, 2005, the Company purchased and retired
        222,800 shares of its common stock at a total cost of $1.0 million (an average
        price of $4.64 per share).
 
 In
        February 2006, the Board of Directors authorized an increase to the Company’s
        share repurchase program, pursuant to which the Company could repurchase
        up to
        an additional $1.0 million in shares of the Company’s common stock through
        February 2007 in open market or private transactions at then prevailing market
        prices. For
        the
        three months ended March 31, 2006, the Company purchased and retired 313,600
        shares of its common stock at a total cost of $1.9 million (an average price
        of
        $6.10 per share).
 
 In
        April
        2006, the Board of Directors authorized an additional $2.0 million increase
        to
        the Company’s share repurchase program through February 2007. For
        the
        three months ended June
        30 ,
        2006,
        the Company purchased and retired 58,000 shares
        of
        its common stock at a total cost of $ 381,000 (an
        average price of $6. 57 per
        share). For the
        three
        months ended September
        30 ,
        2006,
        the Company purchased and retired 89,200 shares
        of
        its common stock at a total cost of $ 767,000 (an
        average price of $ 8.60 per
        share).
 
 At
        September 30, 2006, the Company has a $1.9 million remaining balance in its
        current repurchase program. The Company currently anticipates the use of
        the
        remaining balance by the termination of the program in February 2007 if market
        conditions and prices warrant the investment.
 
 **Item
        2.**  **Management’s
        Discussion and Analysis of Financial Condition and
        Results of Operations**
 
 The
        matters described below contain forward-looking statements which involve
        known
        and unknown risks, uncertainties, and other factors that may cause actual
        results, performance, achievements of the Company or industry trends, to
        differ
        materially from those expressed or implied by such forward-looking statements.
        Forward-looking statements may be identified by the use of forward-looking
        terminology such as “plan,” “intend,” “should,” “could,” “may,” “will,”
“expect,” “estimate,” “anticipate,” “continue,” or similar terms, variations of
        such terms or the negative of those terms, but the absence of such terms
        does
        not mean that a statement is not forward-looking. Potential risks
        and uncertainties that
        may
        cause actual
        results to
        differ materially from those expressed or implied include, among
        others, those set forth in this document and
        those contained in the Company’s Annual Report on Form 10-K for the year ended
        December 31, 2005, which was filed on February 24, 2006 with the Securities
        Exchange Commission.
 
 As
        used
        in this quarterly report on Form 10-Q, unless the context otherwise requires,
        the terms “the Company” and “Zones” refer to Zones, Inc., a Washington
        corporation, and its subsidiaries.
 
 **General**
 
 The
        Company's net sales consist primarily of sales of computer hardware, software,
        peripherals and accessories, as well as revenue associated with freight billed
        to its customers, net of product returns. Gross profit consists of net sales
        less product and freight costs. Selling, general and administrative ("SG&A")
        expenses include warehousing, selling commissions, order processing, telephone
        and credit card fees and other costs such as administrative salaries,
        depreciation, rent and general overhead expenses. Advertising expense is
        marketing costs associated with vendor programs, net of vendor cooperative
        advertising expense reimbursements allowable under EITF 02-16 “Accounting for
        Consideration Received from a Vendor by a Customer (Including a Reseller
        of the
        Vendor’s Products).” Other expense represents interest expense net of
        non-operating income.
  12
 *Index*
  **Overview**
 
 Zones
        Inc. is a direct marketing reseller of technology hardware, software and
        services. The Company procures and fulfills information technology solutions
        to commercial customers, specifically small
        to
        medium business (between 50 and 1,000 computer users) (“SMB”), and enterprise (greater than 1,000 computer users) customers , and the
        public sector market place (education and state and local government).
        Relationships with SMB, enterprise customers and public sector institutions
        represented 98.2% of total net sales during the three months ended September
        30,
        2006. The remaining sales were from inbound customers, primarily consumers
        and
        small office/home office accounts.
 
 The
        Company reaches its customers through an integrated marketing and merchandising
        strategy designed to attract and retain customers. This strategy involves
        a
        relationship-based selling model utilizing outbound account executives,
        customized web stores for corporate customers through ZonesConnect, a state
        of
        the art Internet portal at www.zones.com ,
        dedicated e-marketing and direct marketing vehicles and catalogs for demand
        response opportunities and corporate branding.
 
 The
        Company utilizes its purchasing and inventory management capabilities to
        support
        its primary business objective of providing name brand products at competitive
        prices. The Company offers over 150,000 hardware, software, peripheral and
        accessory products and services for users of PC and Mac platform computers
        from
        over 2,000 manufacturers.
 
 The
        corporate management team regularly reviews the Company’s performance using a
        variety of financial and non-financial metrics including, but not limited
        to,
        net sales, gross margin, vendor programs and co-op advertising reimbursements,
        advertising expenses, personnel costs, productivity per team member, average
        order size, accounts receivables aging, inventory aging, liquidity and cash
        resources.   Company management compares the various metrics against
        goals and budgets, and takes appropriate action to enhance Company
        performance.
 
 The
        Company is dedicated to creating a learning community of empowered individuals
        to serve its customers with integrity, commitment and passion. At September
        30,
        2006, the Company had 652 team members in its consolidated operations, 323
        of
        whom are inbound and outbound account executives. The Company makes additional
        company information available free of charge on its website, www.zones.com/IR ,.
 
 **Critical
        Accounting Policies**
 
 In
        Item 7 (“Management’s Discussion and Analysis of Financial Condition and
        Results of Operations”) of our Annual Report on Form 10-K for the year ended
        December 31, 2005, which was filed with the Securities and Exchange
        Commission on February 24, 2006, the Company included a discussion of the
        most
        significant accounting policies and estimates used in the preparation of
        its
        financial statements. There has been no material change in the policies and
        estimates used by the Company in the preparation of its financial statements
        since the filing of our most recent annual report.
  13
 *Index*
  **Results
        of Operations**
 
 The
        following table presents the Company’s unaudited consolidated results of
        operations, as a percentage of net sales, and selected operating data for
        the
        periods indicated.
 
 **Three
                  months ended September 30,**
              
              **Nine
                  months ended September 30,****2006**
              
              **2005**
              
              **2006**
              
              **2005**Net
                  sales
              
              
              100.0
              %
              
              100.0
              %
              
              100.0
              %
              
              100.0
              %Cost
                  of sales
              
              
              88.1
              
              
              90.4
              
              
              87.4
              
              
              89.2Gross
                  profit
              
              
              11.9
              
              
              9.6
              
              
              12.6
              
              
              10.8Selling,
                  general and administrative expenses
              
              
              8.2
              
              
              6.6
              
              
              8.6
              
              
              7.9Advertising
                  expenses, net
              
              
              1.2
              
              
              1.1
              
              
              1.3
              
              
              1.2Income
                  from operations
              
              
              2.4
              
              
              1.9
              
              
              2.7
              
              
              1.7Other
                  (income) expense
              
              
              0.0
              
              
              0.1
              
              
              0.1
              
              
              0.1Income
                  before income taxes
              
              
              2.4
              
              
              1.8
              
              
              2.6
              
              
              1.6Provision
                  for income taxes
              
              
              0.9
              
              
              0.7
              
              
              1.0
              
              
              0.6Net
                  income
              
              
              1.5
              %
              
              1.1
              %
              
              1.6
              %
              
              1.0
              %**Selected
                  operating data:**Number
                  of orders
              
              
              100,000
              
              
              97,000
              
              
              303,000
              
              
              295,000Average
                  order size
              
              $
              1,375
              
              $
              1,559
              
              $
              1,396
              
              $
              1,407Sales
                  force, end of period
              
              
              323
              
              
              270
              
              
              323
              
              
              270**Product
                  Mix (% of Net Sales):**Notebook
                  & PDA’s
              
              
              11.4
              %
              
              17.2
              %
              
              12.3
              %
              
              15.2
              %Desktops
                  & Servers
              
              
              20.4
              
              
              16.6
              
              
              20.7
              
              
              20.2Software
              
              
              18.5
              
              
              17.1
              
              
              16.9
              
              
              16.7Storage
              
              
              9.1
              
              
              8.1
              
              
              9.6
              
              
              8.8NetComm
              
              
              6.0
              
              
              4.1
              
              
              5.1
              
              
              4.0Printers
              
              
              9.3
              
              
              15.8
              
              
              8.1
              
              
              11.8Monitors
                  & Video
              
              
              9.8
              
              
              8.1
              
              
              10.0
              
              
              9.4Memory
                  & Processors
              
              
              5.4
              
              
              4.3
              
              
              6.4
              
              
              5.1Accessories
                  & Other
              
              
              10.1
              
              
              8.7
              
              
              11.0
              
              
              8.9
 
 *Comparison
        of Three Month Periods Ended September 30, 2006 and 2005*
 
 *Net
        Sales.* Consolidated
        net sales for the quarter ended September 30, 2006 decreased 9.7% to $137.9
        million compared to $152.8 million in the third quarter of 2005. The decrease
        is
        primarily due to a customer purchase of $25.6 million that occurred during
        the
        third quarter of 2005, and was not repeated in 2006. Consolidated outbound
        sales
        to commercial and public sector accounts decreased 9.0% to $135.4 million
        in the
        third quarter of 2006 from $148.8 million in the corresponding period of
        the
        prior year, and now represent 98.2% of the Company’s total net sales. Sales to
        the Company’s small and medium sized business  customers
        increased 17.5% to $53.5 million for the three months ended September 30,
        2006,
        compared to $45.6 million in the three months ended September 30, 2005. Sales
        to
        the Company’s enterprise customers decreased 19.0% to $71.1 million for the
        three months ended September 30, 2006 compared to $87.7 million in the three
        months ended September 30, 2005. Included in enterprise sales for the three
        months ended September 30, 2005 was a major customer IT rollout which increased
        prior year sales by $25.6 million, which was not repeated in 2006. Net sales
        to
        public sector customers decreased 31.0% to $10.3 million in the third quarter
        of
        2006 from $14.9 million in the third quarter of 2005 due to the timing of
        a
        significant annual purchase which occurred in the third quarter of 2005,
        but we
        anticipated occurring during the fourth quarter of 2006. Inbound sales to
        our
        legacy Mac-platform consumer and small office/home office (“SOHO”) customers
        declined 36.9% to $2.5 million, or 1.8% of net sales, in the third quarter
        of
        2006 compared to the third quarter of 2005. This decline was anticipated
        as the
        Company’s focus is on outbound sales customers who respond to the
        relationship-based selling model.
  14
 *Index*
  *Gross
        Profit.* Consolidated gross profit increased 12.1% to $16.4 million for the third
        quarter
        of 2006, compared to $14.6 million in the third quarter of 2005. Gross profit
        as
        a percentage of net sales increased to 11.9% in the quarter ended September
        30,
        2006 compared to 9.6% in the third quarter of 2005. The gross profit margin
        percentage in 2005 was negatively affected by a one time competitive cost
        concession to a major customer. Gross profit margins will continue to vary
        due
        to changes in vendor programs, product mix, pricing strategies, customer
        mix and
        economic conditions. Lastly, the Company categorizes its warehousing and
        distribution network costs in selling, general and administrative expenses.
        Due
        to this classification, the Company’s gross profit may not be comparable to that
        of a company that includes its warehousing and distribution network costs
        as a
        cost of sales.
 
 *Selling,
        General and Administrative (“SG&A”) Expenses.* SG&A
        expense dollars increased to $11.3 million for the quarter ended September
        30,
        2006 compared to $10.1 million in the third quarter of 2005. As a percent
        of
        sales, SG&A was 8.2% for the quarter ended September 30, 2006 compared to
        6.6% for the third quarter of 2005. The increase is primarily due to
        compensation and benefit related expenses coupled with a decrease in sales
        volume.
 ·
              Salaries,
                  wages and benefits increased $1.4 million during the third quarter
                  2006
                  compared to the third quarter of the prior year. The Company’s total
                  headcount increased 10.7% to 652 team members at September 30,
                  2006 from
                  589 at September 30, 2005 primarily due to recruiting efforts to
                  increase
                  the sales force. Total sales headcount increased 19.6% to 323 account
                  executives compared to 270 at September 30, 2005.
 ·
              Facilities
                  expense increased by $107,000 during the third quarter of 2006
                  compared to
                  the third quarter of 2005. The increase in facilities expense is
                  primarily
                  due to the new Portland location.
 ·
              For
                  the period ending September 30, 2006, warehousing and distribution
                  network
                  costs decreased to $510,000 from $559,000 in the prior year. The
                  decrease
                  is primarily due to the decline in sales volume.
 ·
              Changes
                  in other administrative expenses individually are not significant,
                  but
                  taken as a whole reflect the remaining change in SG&A expense dollars.
 The
        Company continues its efforts to maintain tight controls on its operational
        spending, while investing in its future through the hiring of account
        executives.
 
 *Advertising
        Expenses, net* .
        The
        Company produces and distributes catalogs at various intervals throughout
        the
        year, as well as engaging in other activities, as vehicles to increase the
        awareness of its brand and stimulate demand response. The Company's net cost
        of
        advertising increased slightly to $1.7 million in the three month period
        ended
        September 30, 2006 from $1.6 million in the comparable 2005 period. Net cost’s
        of advertising will vary based on available vendor programs.
 ·
              Gross
                  advertising expense increased to $2.2 million for the third quarter
                  of
                  2006 compared to $1.6 million in the third quarter of 2005. The
                  increase
                  is primarily due to increased vendor initiative based programs
                  expenses
                  that are significantly funded through advertising
                  reimbursements.
 ·
              The
                  Company’s gross advertising reimbursements increased to $456,000 in 2006
                  from $82,000 in 2005. Advertising reimbursements increase as a
                  function of
                  increases to vendor initiative based
                  programs.
 
 *Interest
        Expense.* Interest
        expense was $37,000 for the quarter ended September 30, 2006 compared to
        $206,000 in the third quarter of 2005. The Company’s use of its working capital
        line resulted in interest expense of $10,000 and $179,000 for the three month
        periods ended September 30, 2006 and 2005, respectively. The remaining expense
        in 2005 was due to interest owed on the outstanding note payable to the former
        shareholders of CPCS.
 
 *Other
        income, net.* Other
        income was $56,000 for the three months ended September 30, 2006 compared
        to
        $15,000 at September 30, 2005. The increase was primarily due to investments
        made in short term money market funds during the third quarter of 2006.
 
 *Provision
        for Income Taxes.* The
        provision for income taxes for the quarter ended September 30, 2006 was $1.3
        million compared to $1.1 million in the comparable period of the prior year.
        The
        Company’s effective tax rate expressed as a percentage of income before taxes
        was 38.6% for the quarter ended September 30, 2006 compared to 38.4% for
        the
        quarter ended September 30, 2005.
  15
 *Index*
  *Net
        Income.* Net
        income for the quarter ended September 30, 2006 was $2.1 million compared
        to
        $1.7 million in the third quarter of 2005. Basic and diluted income per share
        was $0.16 and $0.14, respectively, for the three months ended September 30,
        2006
        compared to $0.13 and $0.12, respectively, for the quarter ended September
        30,
        2005.
 
 *Comparison
        of Nine Month Periods Ended September 30, 2006 and 2005*
 
 *Net
        Sales.* Consolidated
        net sales for the nine months ended September 30, 2006 increased 2.6% to
        $417.1
        million compared to $406.7 million in 2005. The increase is primarily due
        to
        growth in sales to the Company’s outbound customers. Consolidated outbound sales
        to commercial and public sector accounts increased 4.2% to $408.2 million
        in the
        first nine months of 2006 from $391.9 million in the corresponding period
        of the
        prior year, and now represent 97.9% of the Company’s total net sales. Sales to
        the Company’s SMB customers increased 12.9% to $156.0 million for the nine
        months ended September 30, 2006, compared to $138.2 million in the nine months
        ended September 30, 2005. Sales to the Company’s enterprise customers increased
        1.1% to $223.2 million for the nine months ended September 30, 2006 compared
        to
        $220.8 million in the nine months ended September 30, 2005. The Company’s
        enterprise business was impacted by a major customer during the three months
        ended September 30, 2005,whose purchases generated net sales of $25.6 million.
        These sales were for a second half of 2005 rollout which was not repeated
        in
        2006. Net sales to public sector customers decreased to $27.3 million in
        the
        nine months ended September 30, 2006 from $30.8 million in the nine months
        ended
        September 30, 2005. Inbound sales to our legacy Mac-platform consumer and
        small
        office/home office customers declined 39.7% to $9.0 million, or 2.1% of net
        sales in the third quarter of 2006 compared to the third quarter of 2005.
        This
        decline was anticipated as the Company’s focus is on outbound sales customers
        who respond to the relationship-based selling model.
 
 *Gross
        Profit.* Consolidated gross profit increased to $52.4 million for the nine months
        ended
        September 30, 2006, compared to $43.9 million in the first nine months of
        2005.
        Gross profit as a percentage of net sales increased to 12.6% in the nine
        months
        ended September 30, 2006 compared to 10.8% in 2005. The increase is primarily
        due to product mix and vendor programs, as well increased net contribution
        from
        Microsoft Enterprise Agreements. Gross profit margins will continue to vary
        due
        to changes in customer mix, vendor programs, product mix, pricing strategies,
        customer mix and economic conditions. Lastly, the Company categorizes its
        warehousing and distribution network costs in selling, general and
        administrative expenses. Due to this classification, the Company’s gross profit
        may not be comparable to a company that includes its warehousing and
        distribution network costs as a cost of sales.
 
 *Selling,
        General and Administrative (“SG&A”) Expenses.* SG&A
        expense dollars increased to $35.9 million for the nine months ended September
        30, 2006 compared to $32.2 million in 2005. As a percent of sales, SG&A was
        8.6% for the nine months ended September 30, 2006 compared to 7.9% for the
        first
        nine months of 2005.
 ·
              Salaries,
                  wages and benefits increased $3.0 million during the first nine
                  months of
                  2006 compared to the first nine months of the prior year. The Company’s
                  total headcount increased 10.7% to 652 team members at September
                  30, 2006
                  from 589 at September 30, 2005 primarily due to recruiting efforts
                  to
                  increase the sales force. Total sales headcount increased 19.6%
                  to 323
                  account executives compared to 270 at September 30, 2005. Additionally,
                  the Company had increased management incentive compensation expense
                  in the
                  nine months ended September 30, 2006 compared to the prior year.
 ·
              Professional
                  fees increased $497,000 for the first nine months of 2006 compared
                  to the
                  first nine months of the prior year. The increase is due to increased
                  consulting fees associated with the Company’s documentation of internal
                  controls and business process outsourcing arrangements, legal fees
                  and
                  recruiting fees associated with hiring account executives.
 ·
              For
                  the nine month periods ending September 30, 2006 and 2005, warehousing
                  and
                  distribution network costs totaled $1.6 million and $1.6 million,
                  respectively.
 ·
              Changes
                  in other administrative expenses individually are not significant,
                  but
                  taken as a whole reflect the remaining change in SG&A expense dollars.
 The
        Company continues its efforts to maintain tight controls on its operational
        spending, while investing in its future through the hiring of account
        executives.
 
 *Advertising
        Expenses, net* .
        The
        Company produces and distributes catalogs at various intervals throughout
        the
        year, as well as engaging in other activities, as vehicles to increase the
        awareness of its brand and stimulate demand response. The Company's net cost
        of
        advertising increased to $5.3 million in the nine month period ended September
        30, 2006 from $4.7 million in the comparable 2005 period. Net cost’s of
        advertising will vary based on available vendor programs.
  16
 *Index*
  ·
              Gross
                  advertising expense increased to $6.5 million for the first nine
                  months of
                  2006 compared to $5.1 million in 2005. The increase is primarily
                  due to
                  increased vendor initiative based programs expenses that are significantly
                  funded through advertising
                  reimbursements.
 ·
              The
                  Company’s gross advertising reimbursements increased to $1.2 million in
                  2006 from $336,000 in 2005. Advertising reimbursements increase
                  as a
                  function of increases to vendor initiative based
                  programs.
 
 *Interest
        Expense.* Interest
        expense was $381,000 for the nine months ended September 30, 2006 compared
        to
        $367,000 in the first nine months of 2005. The Company’s use of its working
        capital line resulted in interest expense of $319,000 and $276,000 for the
        nine
        month periods ended September 30, 2006 and 2005, respectively. The remaining
        expense was due to interest owed on the outstanding note payable to the former
        shareholders of CPCS.
 
 *Other
        income, net.* Other
        income was $100,000 for the nine months ended September 30, 2006 compared
        to
        $65,000 at September 30, 2005. The increase was primarily due to an incline
        in
        the average cash available to invest in interest bearing securities.
 
 *Provision
        for Income Taxes.* The
        provision for income taxes for the nine months ended September 30, 2006 was
        $4.2
        million compared to $2.5 million in the comparable period of the prior year.
        The
        Company’s effective tax rate expressed as a percentage of income before taxes
        was 38.3% for the nine months ended September 30, 2006, compared to 38.4%
        in
        2005.
 
 *Net
        Income.* Net
        income for the nine months ended September 30, 2006 was $6.7 million compared
        to
        $4.1 million in the first nine months of 2005. Basic and diluted income per
        share was $0.51and $0.46, respectively, for the nine months ended September
        30,
        2006 compared to $0.30 and $0.28, respectively, for the nine months ended
        September 30, 2005.
 
 **Liquidity
        and Capital Resources**
 
 *Working
        Capital*
 The
        Company’s total assets were $113.8 million at September 30, 2006, of which
        $104.5 million were current assets. At September 30, 2006 and December 31,
        2005,
        the Company had cash and cash equivalents of $6.9 million and $3.2 million
        respectively, and had net working capital of $39.3 million and $33.4 million,
        respectively.
 
 The
        Board
        of Directors authorized a stock repurchase program in July 2004 under which
        the
        Company could repurchase up to $3.0 million in shares of the Company’s common
        stock through July 2005 in either open market or private transactions at
        then
        prevailing market prices. During the twelve months ended June 30, 2005, the
        Company purchased and retired a total of 650,040 shares of its common stock
        at a
        total cost of $2.1 million (an average price of $3.27 per share).
 
 In
        July
        2005, the Board of Directors authorized a continuation of the Company’s share
        repurchase program, pursuant to which the Company could repurchase up to
        an
        additional $3.0 million in shares of the Company’s common stock through July
        2006 in open market or private transactions at then prevailing market prices.
        For the six months ended December 31, 2005, the Company purchased and retired
        222,800 shares of its common stock at a total cost of $1.0 million (an average
        price of $4.64 per share).
 
 In
        February 2006, the Board of Directors authorized an increase to the Company’s
        share repurchase program, pursuant to which the Company could repurchase
        up to
        an additional $1.0 million in shares of the Company’s common stock through
        February 2007 in open market or private transactions at then prevailing market
        prices. For
        the
        three months ended March 31, 2006, the Company purchased and retired 313,600
        shares of its common stock at a total cost of $1.9 million (an average price
        of
        $6.10 per share).
 
 In
        April
        2006, the Board of Directors authorized an additional $2.0 million increase
        to
        the Company’s share repurchase program through February 2007. For
        the
        three months ended June
        30 ,
        2006,
        the Company purchased and retired 58,000 shares
        of
        its common stock at a total cost of $ 381,000 (an
        average price of $6. 57 per
        share). For the
        three
        months ended September
        30 ,
        2006,
        the Company purchased and retired 89,200 shares
        of
        its common stock at a total cost of $ 767,000 (an
        average price of $ 8.60 per
        share).
  17
 *Index*
  At
        September 30, 2006, the Company has a $1.9 million remaining balance in its
        current repurchase program. The Company currently anticipates the use of
        the
        remaining balance by the termination of the program in February 2007 if market
        conditions and prices warrant continued investment in stock
        repurchases.
 
 The
        following table represents the Company’s common stock repurchased and retired
        during the third quarter of 2006.
  **Period**
              
              **Total
                  number of shares purchased**
              
              **Average
                  price paid per share**
              
              **Total
                  number of shares purchased as part of a publicly announced plan
                  or
                  program**
              
              **Maximum
                  amount that may yet be purchased under the plan or
                  program**July
                  2006
              
              
              0
              
              $
              -
              
              
              0
              
              $
              2,671,929August
                  2006
              
              
              89,200
              
              $
              8.60
              
              
              89,200
              
              $
              1,904,736September
                  2006
              
              
              0
              
              $
              -
              
              
              0
              
              $
              1,904,736
  Due
        to
        the fundamental shift in its cash flow cycle, the Company leverages its secured
        line of credit to manage timing differences in cash inflows and cash outflows
        and to invest in the growth of its business. The secured line of credit is
        utilized to invest in capital purchases, to invest in inventory, and to take
        advantage of available early pay discounts offered by certain vendors.
  At
        September 30, 2006, the Company had $40.0 million available under a secured
        line
        of credit with a major financial institution.  The credit facility is
        collateralized by accounts receivable and inventory, and can be utilized
        as both
        a working capital line of credit and a flooring facility to purchase inventory
        from several suppliers under certain terms and conditions.  This credit
        facility has an annual automatic renewal which occurs on November 26 of each
        fiscal year. Either party can terminate this agreement with 60-days written
        notice prior to the renewal date.  The working capital and inventory
        advances bear interest at a rate of Prime + 0.50%. The Company’s line of credit
        is defined by quick turnover, large amounts and short maturities. All amounts
        owed under the Company’s line of credit are due on demand. Inventory advances under
        the
        inventory financing facility do
        not
        bear interest if paid within terms, usually 30 days from advance date.  The
        facility contains various restrictive covenants relating to tangible net
        worth,
        leverage, dispositions and use of collateral, other asset dispositions, and
        merger and consolidation of the Company. At September 30, 2006, the Company
        was
        compliant with all covenants of this facility. At September 30, 2006, there
        were
        no working capital advances outstanding and amounts owed for flooring
        arrangements of $14.8 million were owed to this financial institution related
        to
        inventory purchases.
  The
        Company believes that its existing available cash and cash equivalents,
        operating cash flow, and existing credit facilities will be sufficient to
        satisfy its operating cash needs, and up to the remaining balance of $1.9
        million authorized in the Company’s stock repurchase program, for at least the
        next 12 months at its current level of business. However, if the Company’s
        working capital or other capital requirements are greater than currently
        anticipated, the Company could be required to reduce or curtail its stock
        repurchase program and seek additional funds through sales of equity, debt
        or
        convertible securities, or increased credit facilities. There can be no
        assurance that additional financing will be available or that, if available,
        the
        financing will be on terms favorable to the Company and its
        shareholders.
 
 *Cash
        Flows*
 Net
        cash
        provided by operating activities was $20.1 million in the nine months ended
        September 30, 2006. The primary factors that affected cash flow from operating activities  in
        the
        nine months ended September 30, 2006, were collections on account and vendor
        receivables, net decrease  of
        accounts payable and inventory financing, and increasesd in accrued liabilities.
        Account and vendor receivables decreased $9.2 million due to a
        decline in net sales compared
        to December 31, 2005. The net change in
        accounts payable and inventory financing was
        a decrease
        of $3.3 million. The net accounts payable and inventory financing balance
        change
        is due to purchasing and payment cycles. The Company’s accrued liabilities
        increased by $2.0 million due to payroll costs associated with the Company’s
        incentive compensation programs.
  18
 *Index*
  Net
        cash
        used in investing activities was $1.6 million in the nine months ended September
        30, 2006. Cash outlays for capital expenditures were $1.6 million and $1.1
        million for the nine months ended September 30, 2006 and 2005, respectively.
        The
        2006 capital expenditures were primarily related to the costs associated
        with
        the Portland call center which opened in February 2006. The 2005 capital
        expenditures were primarily for leasehold improvements for the Company’s
        corporate headquarters and continued improvement, and other enhancements,
        of the
        Company’s information systems. The Company intends to continue to upgrade its
        internal information systems as a means to increase operational efficiencies.
 
 The
        most
        significant components of the Company’s financing activities are:  the
        purchase of the Company’s common stock under its share repurchase
        program, net change in the Company’s secured line of credit, and net change
        in book overdraft. For the nine months ended September 30, 2006, the Company
        repurchased $3.1 million of its common stock under its share repurchase program.
        Net changes in the Company’s line of credit and book overdraft were a decrease
        of $10.7 million and $1.6 million, respectively. The Company’s financing
        activities for the nine months ended September 30, 2006, also included the
        payment of an amount due on the note payable issued in its acquisition of
        CPCS.
        The Company paid the final payment during the second quarter of 2006. For
        the
        nine months ended September 30, 2006 and 2005, the Company paid former
        shareholders of CPCS $1.3 million and $1.1 million, respectively.
 
 **Contractual
        Obligations**
 
 There
        have been no material changes during the period covered by this report, outside
        of the ordinary course of the Company’s business, to the contractual obligations
        specified in the table of contractual obligations included in the section
        “Management’s Discussion and Analysis of Financial Condition and Results of
        Operations” incorporated by reference in the Company’s Fiscal 2005 Annual Report
        on Form 10-K.
 
 **Item
        3.** **Quantitative
        and Qualitative Disclosures About Market
        Risk**
 
 The
        Company is subject to the risk of fluctuating interest rates in the normal
        course of business, primarily as a result of its short-term borrowing and
        investment activities, which generally bear interest at variable rates. Because
        the short-term borrowings and investments have maturities of three months
        or
        less, the Company believes that the risk of material loss is low.
 
 **Item
        4.**  **** **Controls
        and Procedures**
 
 Under
        the
        supervision and with the participation of the Company’s management, including
        its Chief Executive Officer and Chief Financial Officer, the Company evaluated
        the effectiveness of its disclosure controls and procedures, as such term
        is
        defined in Rule 13a-15(e) promulgated under the Securities Exchange Act of
        1934,
        as amended. Based on this evaluation, the Company’s Chief Executive Officer and
        Chief Financial Officer concluded that its disclosure controls and procedures
        were effective as of the end of the period covered by this quarterly report.
 
 There
        has
        been no change in the Company’s internal control over financial reporting during
        the most recently completed fiscal quarter that materially affected, or is
        reasonably likely to materially affect, the Company’s internal control over
        financial reporting.
 
 The
        Company is in the process of implementing the requirements of Section 404
        of the
        Sarbanes-Oxley Act of 2002, which requires management to assess the
        effectiveness of internal controls over financial reporting and include an
        assertion in its annual report as to the effectiveness of the controls.
        Subsequently, its independent registered public accounting firm, Grant Thornton
        LLP, will be required to attest to whether the assessment of the effectiveness
        of internal controls over financial reporting is fairly stated in all material
        respects and separately report on whether it believes the Company maintained,
        in
        all material respects, effective internal controls over financial reporting
        as
        of December 31, 2008. The Company is in the process of performing the system
        and
        process documentation, evaluation and testing required for management to
        make
        this assessment and for Grant Thornton LLP to provide its attestation report.
        The Company has not completed this process or its assessment, and this process
        will require significant amounts of management time and resources. In the
        course
        of evaluation and testing, management may identify deficiencies that will
        need
        to be addressed and remediated.
  19
 *Index*
  **Part
        II.**
 
 **Item
        1.**  **Legal
        Proceedings**
 
 From
        time
        to time, the Company is party to various legal proceedings, claims, disputes
        or
        litigation arising in the ordinary course of business. The Company currently
        believes that the ultimate outcome of any of these proceedings, individually
        or
        in the aggregate, will not have a material adverse effect on the Company’s
        business, financial condition, cash flows or results of operations.
 
 **Item
        1A.** **Risk
        Factors**
  There
        are
        a number of important factors that could cause our actual results to differ
        materially from historical results or those indicated by any forward-looking
        statements, including the risk factors identified below and other factors
        of
        which we may or may not yet be aware.
 
 *No
        Assurance of Future Profitability.* Our
        operating results are difficult to forecast, and there are a number of factors
        outside of our control affecting sales and operating results,
        including:
 ·
              purchasing
                  cycles of commercial and public sector customers;
 ·
              the
                  level of corporate investment in new IT-related capital
                  equipment;
 ·
              more
                  manufacturers going direct;
 ·
              industry
                  announcements of new products or
                  upgrades;
 ·
              industry
                  consolidation;
 ·
              cost
                  of compliance with new legal and regulatory requirements;
                  and
 ·
              general
                  economic conditions.
 Based
        on
        those and other risks, there can be no assurance that we will be able to
        maintain the profitability we have experienced going forward.
 
 *No
        Assurance as to Sales Levels.* There is
        no assurance that we will sustain our current sales levels. Sales may decline
        for any number of reasons, including:
 ·
              a
                  decline in corporate profits leading to a change in corporate investment
                  in IT-related equipment;
 ·
              increased
                  competition;
 ·
              more
                  manufacturers going direct;
 ·
              changes
                  in customers’ buying habits;
 ·
              the
                  loss of significant customers;
 ·
              changes
                  in the selection of products available for resale; or
 ·
              general
                  economic conditions.
 A
        decline
        in sales levels could adversely affect our business, financial condition,
        cash
        flows or results of operations.
 
 *Pressure
        on Margins.* There is
        intense price competition and pressure on profit margins in the computer
        products industry. An increasing number of manufacturers are also providing
        their products direct to customers. Various other factors also may create
        downward pressure on our gross margins, such as shifts in vendor programs
        and an
        increasing proportion of sales to enterprise, public sector or other competitive
        bid accounts on which margins could be lower. If we are unable to maintain
        or
        improve gross margins in the future, this could have an adverse effect on
        our
        business, financial condition, or results of operations.
 
 *Account
        Executive Hiring, Retention and Productivity.* We ended
        the third quarter of 2006 with 323 account executives compared to 270 at
        the end
        of the third quarter of 2005. We intend to continue to recruit account
        executives. However, there are no assurances that we will be able to hire
        to
        these levels, or recruit the quality individuals that we hope to hire, or
        that
        the individuals hired will remain employed for an extended period of time,
        or
        that we will not lose existing account executives. The productivity of our
        account executives has historically been closely correlated with tenure.
        Even if
        we do retain our account executives, there are no assurances that they will
        become productive at historical levels. Additionally, there are no assurances
        that our new Portland, Oregon call center will attract qualified account
        executives, or that we will be able to remotely manage and retain the new
        account executives.
  20
 *Index*
  *Vendor
        Support.* We have
        a variety of relationships with our vendors that in the past have contributed
        significantly to profit margins. For example, certain product manufacturers
        and
        distributors provide us with incentives in the form of rebates, volume incentive
        rebates, cash discounts and trade allowances. Our
        current vendor programs continue to be refined and there are no assurances
        that
        we will attain the level of vendor support in the future that we
        have obtained in the past . In
        addition, many of our vendors provide us with cooperative advertising funds,
        which reimburse us for expenses associated with specific forms of advertising.
        Industry-wide, the trend has been for manufacturers, distributors and vendors
        to
        reduce these incentives and curtail these programs. If these forms of vendor
        support decline, or if we are otherwise unable to take advantage of continuing
        vendor support programs, or if we fail to manage the complexity of these
        programs, our business, financial condition, cash flows or results of operations
        could be adversely affected.
 
 *Major
        Shareholder* .
        Firoz
        H. Lalji, our Chairman and Chief Executive Officer, beneficially owns 52.0%
        of
        the outstanding shares of our common stock, excluding shares that he may
        acquire
        upon exercise of stock options that he holds. The voting power of these shares
        enables Mr. Lalji to significantly influence our affairs and the vote on
        corporate matters to be decided by our shareholders, including the outcome
        of
        elections of directors. This effective voting control may preclude other
        shareholders from being able to influence shareholder votes and could impede
        potential merger transactions or block changes to our articles of incorporation
        or bylaws, which could adversely affect the trading price of our common stock.
        We are also certified as a Minority Business Enterprise based on Mr. Lalji’s
        maintenance of voting control. The certification allows us to compete for
        certain sales opportunities. A decrease in Mr. Lalji’s level of voting power
        could have an adverse effect on our ability to retain certain customers or
        compete for certain sales opportunities.
 
 *Competition.* The
        computer products industry is highly competitive. We compete with other national
        direct marketers, including CDW Corporation, Insight Enterprises, Inc., PC
        Connection, Inc. and PC Mall, Inc. We compete with product manufacturers,
        such
        as Apple, Dell, Hewlett-Packard, IBM and Lenovo that sell direct to end-users;
        we also compete with specialty computer retailers, computer and general
        merchandise superstores, and consumer electronic and office supply stores.
        Many
        of our competitors compete principally on the basis of price and have lower
        costs. We believe that competition may intensify in the future due to market
        conditions and consolidation. In the future, we may face fewer, but larger
        or
        better-financed competitors. Additional competition may also arise if other
        methods of distribution emerge in the future. There can be no assurance that
        we
        will be able to compete effectively with existing competitors or new competitors
        that may enter the market, or that our business, financial condition, cash
        flows
        or results of operations will not be adversely affected by intensified
        competition.
 
 *Rapid
        Technological Change and Inventory Obsolescence* .
        The
        computer industry is characterized by rapid technological change and frequent
        introductions of new products and product enhancements. To satisfy customer
        demand and obtain greater purchase discounts, we may be required to carry
        significant inventory levels of certain products, which subject us to increased
        risk of inventory obsolescence. We participate in first-to-market and
        end-of-life-cycle purchase opportunities, both of which carry the risk of
        inventory obsolescence. Special purchase products are sometimes acquired
        without
        return privileges, and there can be no assurance that we will be able to
        avoid
        losses related to such products. Within the industry, vendors are becoming
        increasingly restrictive in guaranteeing return privileges. While we seek
        to
        reduce our inventory exposure through a variety of inventory control procedures
        and policies, there can be no assurance that we will be able to avoid losses
        related to obsolete inventory.
 
 *Reliance
        on Vendor Relationships* .
        We
        acquire products directly from manufacturers, such as Hewlett-Packard, IBM
        and
        Lenovo, as well as from distributors such as Ingram Micro, Synnex, Tech Data
        and
        others. Certain hardware manufacturers limit the number of product units
        available to direct marketing resellers. Substantially, all of our contracts
        and
        arrangements with its vendors are terminable without notice or upon short
        notice. Termination, interruption or contraction of our relationships with
        our
        vendors could have a material adverse effect on our business, financial
        condition, cash flows or results of operations.
  21
 *Index*
  *Increased
        Expenses of Being a Public Company* .
        The
        costs of being a public company have increased significantly since the enactment
        of the Sarbanes-Oxley Act of 2002. Legal counsel fees specific to increased
        disclosure and corporate governance requirements have increased under the
        Sarbanes-Oxley Act as well as SEC regulations and new NASDAQ rules.
        Additionally, independent registered public accounting firm audit fees have
        significantly increased and are expected to increase even more as requirements
        associated with corporate governance and internal controls become effective.
        These increasing costs may affect our business, financial condition, cash
        flows
        or results of operations.
 
 *State
        Tax Uncertainties.* We
        collect and remit sales and use taxes in states in which we have voluntarily
        registered and/or have a physical presence. Various states have sought to
        require the collection of state and local sales taxes on products shipped
        to the
        taxing jurisdiction’s residents by DMRs. The United States Supreme Court held in
        1992 that it is unconstitutional for a state to impose sales or use tax
        collection obligations on an out-of-state company whose contacts with the
        state
        were limited to the distribution of catalogs and other advertising materials
        through the mail and the subsequent delivery of purchased goods by United
        States
        mail or by common carrier. We cannot predict the level of contact, including
        electronic commerce and Internet activity that might give rise to future
        or past
        tax collection obligations based on that Supreme Court case. Many states
        aggressively pursue out of state businesses, and legislation that would expand
        the ability of states to impose sales tax collection obligations on out of
        state
        businesses has been introduced in Congress on many occasions. A change in
        the
        law could require us to collect sales taxes or similar taxes on sales in
        states
        in which we have no presence and could potentially subject us to a liability
        for
        prior year sales, either of which could have a material adverse effect on
        our
        business, financial condition, and results of operations.
 
 *Reliance
        on Distribution* .
        We
        operate warehouse and distribution centers in Bensenville, Illinois and in
        Seattle, Washington. There are no assurances that our warehouse locations
        will
        best support our customer base. Additionally, certain distributors also
        participate in our logistics operations through electronic data interchange.
        Failure to develop and maintain relationships with these and other vendors
        would
        limit our ability to obtain sufficient quantities of merchandise on acceptable
        commercial terms and could have a material adverse effect on our business,
        financial condition, cash flows or results of operations.
 
 *Dependence
        on Key Personnel* .
        Our
        future success will depend to a significant extent upon its ability to attract,
        train and retain skilled personnel. Although our success will depend on
        personnel in all areas of our business, there are certain individuals that
        play
        a key role within the organization. Loss of any of these individuals could
        have
        an adverse effect on our business, financial condition, cash flows or results
        of
        operations.
 
 *Major
        Customer* .
        From
        time to time we have customers that represent a credit concentration with
        more
        than 10% of total net sales. One of the Company’s customers, IBM Global
        Services, who purchases on behalf of many varied end-users, represented a
        credit
        concentration whose sales were 11.1% and 11.2% for the three and nine months
        ended September 30, 2006, respectively. Receivables from this customer
        represented approximately 11.6% of total trade receivables. For the three
        months
        ended September 30, 2005, one of the Company’s customers, State Farm,
        represented 16.8% of total sales. Receivables from this customer represented
        approximately 16.0% of total trade receivables. For the nine months ended
        September 30, 2005, no one customer represented more than 10% of total sales.
        The concentration of credit risk associated with any major customer could
        have a
        material adverse effect on the Company’s business, financial condition, cash
        flows or results of operations.
 
 *Potential
        Disruption of Business From Information Systems Failure.*  Our
        operations are dependent on the reliability of information, telecommunication
        and other systems, which are used for sales, distribution, marketing,
        purchasing, inventory management, order processing, customer service and
        general
        accounting functions. Interruption of our information systems, Internet or
        telecommunication systems could have a material adverse effect on our business,
        financial condition cash flows or results of operations.
 
 *Liquidity
        of Stock and NASDAQ National Market Listing* .
        There
        is relatively limited trading of our stock in the public markets, and this
        may
        impose significant practical limitations on any shareholder’s ability to achieve
        liquidity at any particular quoted price. Efforts to sell significant amounts
        of
        our stock on the open market may precipitate significant declines in the
        prices
        quoted by market makers. The limitation on shareholder liquidity resulting
        from
        this relatively thin trading volume could be exacerbated if our stock were
        to be
        delisted from the NASDAQ National Market. The NASDAQ National Market also
        imposes a requirement for continued listing that mandates that the value
        of
        shares publicly held, excluding those held by directors, officers and beneficial
        owners, exceed certain minimums. A potential future delisting of our common
        stock could result in significantly reduced circulation of our common stock,
        more limited press coverage, reduced interest by investors in the common
        stock,
        adverse effects on the trading market, downward pressure on the price for
        and
        liquidity of our stock, and reduced ability to issue additional securities
        or to
        secure additional financing.
  22
 *Index*
  **Item
        2.** **Unregistered
        Sales of Equity Securities and Use of
        Proceeds**
 
 The
        Board
        of Directors committed to a stock repurchase program in July 2004 under which
        the Company could repurchase up to $3.0 million in shares of the Company’s
        common stock through July 2005 in either open market or private transactions
        at
        then prevailing market prices. During the twelve months ended June 30, 2005,
        the
        Company purchased and retired a total of 650,040 shares of its common stock
        at a
        total cost of $2.1 million (an average price of $3.27 per share).
 
 In
        July
        2005, the Board of Directors authorized a continuation of the Company’s share
        repurchase program, pursuant to which the Company could repurchase up to
        an
        additional $3.0 million in shares of the Company’s common stock through July
        2006 in open market or private transactions at then prevailing market prices.
        For the six months ended December 31, 2005, the Company purchased and retired
        222,800 shares of its common stock at a total cost of $1.0 million (an average
        price of $4.64 per share).
 
 In
        February 2006, the Board of Directors authorized an increase to the Company’s
        share repurchase program, pursuant to which the Company could repurchase
        up to
        an additional $1.0 million in shares of the Company’s common stock through
        February 2007 in open market or private transactions at then prevailing market
        prices. For
        the
        three months ended March 31, 2006, the Company purchased and retired 313,600
        shares of its common stock at a total cost of $1.9 million (an average price
        of
        $6.10 per share).
 
 In
        April
        2006, The Board of Directors authorized an additional $2.0 million increase
        to
        the Company’s share repurchase program through February 2007. For
        the
        three months ended June
        30 ,
        2006,
        the Company purchased and retired 58,000 shares
        of
        its common stock at a total cost of $ 381,000 (an
        average price of $6. 57 per
        share). For the
        three
        months ended September
        30 ,
        2006,
        the Company purchased and retired 89,200 shares
        of
        its common stock at a total cost of $ 767,000 (an
        average price of $ 8.60 per
        share).
 
 At
        September 30, 2006, the Company has a $1.9 million remaining balance in its
        current repurchase program. The Company currently anticipates the use of
        the
        remaining balance by the termination of the program in February 2007 if market
        conditions and prices warrant the investment.
 
 The
        following table represents the Company’s common stock repurchased and retired
        during the third quarter of 2006.
  **Period**
              
              **Total
                  number of shares purchased**
              
              **Average
                  price paid per share**
              
              **Total
                  number of shares purchased as part of a publicly announced plan
                  or
                  program**
              
              **Maximum
                  amount that may yet be purchased under the plan or
                  program**July
                  2006
              
              
              0
              
              $
              -
              
              
              0
              
              $
              2,671,929August
                  2006
              
              
              89,200
              
              $
              8.60
              
              
              89,200
              
              $
              1,904,736September
                  2006
              
              
              0
              
              $
              -
              
              
              0
              
              $
              1,904,736
  23
 *Index*
  **Item
        6.**  **Exhibits**
 
 Exhibit
                  No.
              Description
              Filed
                  Herewith
              Incorporated
                  by ReferenceForm
              Exhibit
                  No.
              File
                  No.
              Filing
                  Date31.1
              Certification
                  of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley
                  Act of 2002 and the regulations promulgated thereunder
              X31.2
              Certification
                  of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley
                  Act of 2002 and the regulations promulgated thereunder
              X32.1
              Certification
                  of Chief Executive Officerpursuant to Section 906 of the Sarbanes-Oxley Act of 2002 and the
                  regulations promulgated thereunder
              X32.2
              Certification
                  ofChief
                  Financial Officer pursuant to Section 906 of the Sarbanes-Oxley
                  Act of
                  2002 and the regulations promulgated thereunder
              X
 
 
 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:
  ZONES,
                  INC.Date:
                  November 8, 2006By:
              /S/
                  FIROZ H. LALJIFiroz
                  H. Lalji, Chairman and Chief Executive Officer/S/
                  RONALD P. MCFADDENRonald
                  P. McFadden, Chief Financial
                  Officer


24