**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**Washington,
      D.C. 20549**





**Form
      10-QSB**




(Mark
      One)





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


FOR
      THE
      QUARTERLY PERIOD ENDED JUNE 30, 2007





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


FOR
      THE
      TRANSITION PERIOD FROM __________ TO __________


COMMISSION
      FILE
      NUMBER000-10690





**LATTICE
      INCORPORATED**


(Name
      of
      small business issuer in its charter)





**DELAWARE**
            **22-2011859**(State
                or other jurisdiction of incorporation or organization)
            (I.R.S.
                Employer Identification No.)**7150
                N. Pennsauken, New Jersey 08109**(Address
                of principal executive offices)




Issuer’s
      telephone Number: **(856)
      910-1166**





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





**APPLICABLE
      ONLY TO CORPORATE ISSUERS**





State
      the
      number of shares outstanding of each of the issuer’s classes of common equity,
      as of the latest practicable date: As of August 20, 2007, the issuer
      had 16,642,428 outstanding shares of Common Stock ,
      $.01
      par value per share.





Transitional
      Small Business Disclosure Format (check one): Yes o No x





**LATTICE
      INCORPORATED**


**JUNE
      30, 2007 QUARTERLY REPORT ON FORM 10-QSB**




**TABLE
      OF CONTENTS**







**Page****PART
                I - FINANCIAL INFORMATION**Item
                1. Financial Statements
            2Item
                2. Management’s Discussion and Analysis or Plan of
                Operation
            18Item
                3. Controls and Procedures
            24**PART
                II - OTHER INFORMATION**Item
                1. Legal Proceedings
            24Item
                2. Unregistered Sales of Equity Securities and Use of
                Proceeds
            25Item
                3. Defaults Upon Senior Securities
            25Item
                4. Submission of Matters to a Vote of Security Holders
            25Item
                5. Other Information
            25Item
                6. Exhibits and Reports on Form 8-K
            25**SIGNATURES**
            25


1


**PART
      I - FINANCIAL INFORMATION**





**PART
      I - FINANCIAL INFORMATION**




**LATTICE
                  INCORPORATED AND
                  SUBSIDIARIES****CONSOLIDATED
                  STATEMENTS OF
                  OPERATIONS****(UNAUDITED)**Six
                  Months Ended June 30,
              
              Three
                  Months Ended June 30,2007
              
              2006
              
              2007
              
              2006Sales
                  -- Technology services
              
              $
              6,265,887
              
              $
              1,882,675
              
              $
              3,378,808
              
              $
              964,758Sales
                  -- Technology products
              
              
              630,487
              
              
              801,886
              
              
              341,085
              
              
              377,996Total
                  sales
              
              
              6,896,374
              
              
              2,684,561
              
              
              3,719,893
              
              
              1,342,754Cost
                  of sales -- Technology services
              
              
              2,945,113
              
              
              923,924
              
              
              1,561,851
              
              
              445,676Cost
                  of sales -- Technology products
              
              
              212,170
              
              
              269,820
              
              
              122,978
              
              
              115,700Total
                  cost of sales
              
              
              3,157,283
              
              
              1,193,744
              
              
              1,684,829
              
              
              561,376Gross
                  profit
              
              
              3,739,091
              
              
              1,490,817
              
              
              2,035,064
              
              
              781,378Operating
                  costs and expenses:Selling,
                  general and administrative
              
              
              3,608,003
              
              
              1,061,197
              
              
              1,958,852
              
              
              556,590Research
                  and development
              
              
              205,298
              
              
              218,269
              
              
              96,257
              
              
              109,1353,813,301
              
              
              1,279,466
              
              
              2,055,109
              
              
              665,725Operating
                  loss
              
              
              (74,210
              )
              
              211,351
              
              
              (20,045
              )
              
              115,653Other
                  income (expense):Derivative
                  income (expense)
              
              
              1,060,882
              
              
              13,445
              
              
              1,906,247
              
              
              13,445Other
                  income
              
              
              -
              
              
              13,505
              
              
              -
              
              
              13,505Extinguishment
                  loss
              
              
              (157,130
              )
              
              -
              
              
              -
              
              
              -Interest
                  expense
              
              
              (479,002
              )
              
              (264,753
              )
              
              (93,198
              )
              
              (134,864
              )Finance
                  expense
              
              
              (14,318
              )
              
              (16,309
              )
              
              (9,318
              )
              
              (8,266
              )Total other income (expenses)
              
              
              410,432
              
              
              (254,112
              )
              
              1,803,731
              
              
              (116,180
              )Income
                  (loss) before minority interest
              
              
              336,222
              
              
              (42,761
              )
              
              1,783,686
              
              
              (527
              )Minority
                  interest
              
              
              (101,179
              )
              
              (14,021
              )
              
              (54,136
              )
              
              (6,579
              )Net
                  income (loss)
              
              $
              235,043
              
              $
              (56,782
              )
              $
              1,729,550
              
              $
              (7,106
              )Reconciliation
                  of net income (loss) to income applicable to common
                  shareholders:Net
                  income (loss)
              
              $
              235,043
              
              $
              (56,782
              )
              $
              1,729,550
              
              $
              (7,106
              )Preferred
                  stock dividends
              
              
              (25,000
              )
              
              -
              
              
              (12,500
              )
              
              -$
              210,043
              
              $
              (56,782
              )
              $
              1,717,050
              
              $
              (7,106
              )Income
                  (loss) per common share:Basic
              
              $
              0.01
              
              $
              (0.01
              )
              $
              0.10
              
              $
              (0.00
              )Diluted
              
              $
              (0.02
              )
              $
              (0.01
              )
              $
              (0.00
              )
              $
              (0.00
              )Weighted
                  average shares:Basic
              
              
              16,642,428
              
              
              9,371,901
              
              
              16,642,428
              
              
              9,759,652Diluted
              
              
              64,230,056
              
              
              9,499,330
              
              
              64,230,056
              
              
              9,887,081See
                  accompanying notes.
 2
 **LATTICE
                      INCORPORATED AND SUBSIDIARIES****CONSOLIDATED
                      BALANCE SHEETS**December
                      31,June
                      30, 2007
                  
                  2006ASSETS
                  
                  (Unaudited)
                  
                  (Restated)Current
                      assets:Cash
                      and cash equivalents
                  
                  $
                  272,174
                  
                  $
                  392,275Accounts
                      receivable, net
                  
                  
                  3,974,858
                  
                  
                  2,412,164Inventories
                  
                  
                  86,329
                  
                  
                  64,442Other
                      current assets
                  
                  
                  102,000
                  
                  
                  698,514Total
                      current assets
                  
                  
                  4,435,361
                  
                  
                  3,567,395Property
                      and equipment, net
                  
                  
                  28,937
                  
                  
                  37,187Goodwill
                  
                  
                  2,547,866
                  
                  
                  2,547,866Other
                      intangibles, net
                  
                  
                  6,303,379
                  
                  
                  7,344,235Other
                      assets
                  
                  
                  96,556
                  
                  
                  122,935Total
                      assets
                  
                  $
                  13,412,099
                  
                  $
                  13,619,618LIABILITIES
                      AND SHAREHOLDERS' (DEFICIT)Current
                      liabilities:Accounts
                      payable
                  
                  $
                  1,558,601
                  
                  $
                  892,773Accrued
                      expenses
                  
                  
                  800,122
                  
                  
                  1,736,754Customer
                      deposits
                  
                  
                  15,000
                  
                  $
                  15,000Deferred
                      revenue
                  
                  
                  -
                  
                  
                  62,495Notes
                      payable
                  
                  
                  1,654,192
                  
                  
                  1,998,189Derivative
                      Liability
                  
                  
                  11,141,149
                  
                  
                  19,873,782Total
                      current liabilities
                  
                  
                  15,169,064
                  
                  
                  24,578,993Deferred
                      tax liabilities
                  
                  
                  406,162
                  
                  
                  406,162Minority
                      interest
                  
                  
                  236,740
                  
                  
                  135,561Shareholders'
                      equity (deficit):Preferred
                      stock - .01 par value10,000,000
                      shares authorized 8,826,087 and 1,000,000 issued
                  
                  
                  88,261
                  
                  
                  10,000Common
                      stock - .01 par value, 200,000,000 shares authorized,16,642,428 and 16,629,848 issued and outstandingin
                      2007 and 2006, respectively
                  
                  
                  166,425
                  
                  
                  166,425Additional
                      paid-in capital
                  
                  
                  33,638,894
                  
                  
                  24,850,967Accumulated
                      deficit
                  
                  
                  (35,895,614
                  )
                  
                  (36,130,657
                  )(2,002,034
                  )
                  
                  (11,103,265
                  )Common
                      stock held in treasury, at cost
                  
                  
                  (397,833
                  )
                  
                  (397,833
                  )Shareholders'
                      deficit
                  
                  
                  (2,399,867
                  )
                  
                  (11,501,098
                  )Total
                      liabilities and shareholders' deficit
                  
                  $
                  13,412,099
                  
                  $
                  13,619,618-
                  
                  
                  
                  
                  
                  -See
                      accompanying notes.





3


**LATTICE
                          INCORPORATED AND SUBSIDIARIES****CONSOLIDATED
                          STATEMENTS OF CASH FLOWS****(UNAUDITED)**
 Six
                      Months Ended June 30,2007
                    
                    2006Cash
                        flows from operating activities:Net
                        income (loss)
                    
                    $
                    235,043
                    
                    $
                    (56,782
                    )Adjustments to reconcile net income (loss) to net cash provided
                        by (used
                        for) operating activities:Derivative
                        (income) expense
                    
                    
                    (1,060,882
                    )
                    
                    (13,445
                    )Amortization
                        of intangible assets
                    
                    
                    1,040,856
                    
                    
                    113,380Amortization
                        of debt discount (effective method)
                    
                    
                    205,809
                    
                    
                    79,332Amortization
                        of financing expense
                    
                    
                    127,525
                    
                    
                    16,309Extinguishment
                        loss
                    
                    
                    157,130
                    
                    
                    -Minority
                        interest
                    
                    
                    101,179
                    
                    
                    14,021Share-based
                        payments
                    
                    
                    122,880
                    
                    
                    -Depreciation
                    
                    
                    8,250
                    
                    
                    35,279Changes
                        in operating assets and liabilities:(Increase)
                        decrease in:Accounts
                        receivable
                    
                    
                    (1,559,695
                    )
                    
                    (169,650
                    )Inventories
                    
                    
                    (21,887
                    )
                    
                    4,106Other
                        current assets
                    
                    
                    36,167
                    
                    
                    -Other
                        assets
                    
                    
                    26,380
                    
                    
                    (57,905
                    )Increase
                        (decrease) in:Accounts
                        payable and  accrued expenses
                    
                    
                    603,196
                    
                    
                    (252,328
                    )Customer
                        deposits
                    
                    
                    -
                    
                    
                    (135,199
                    )Deferred
                        revenue
                    
                    
                    (62,495
                    )
                    
                    -Total
                        adjustments
                    
                    
                    (275,587
                    )
                    
                    (366,100
                    )Net
                        cash provided by (used for) operating activities
                    
                    
                    (40,544
                    )
                    
                    (422,882
                    )Cash
                        flows from financing activities:Payments
                        on notes payable
                    
                    
                    (68,000
                    )
                    
                    (209,000
                    )Sale of common stock, net
                    
                    
                    -
                    
                    
                    1,291,906Revolving credit facility (payments) borrowings, net
                    
                    
                    (11,557
                    )
                    
                    99,875Net
                        cash (used in) provided by financing activities
                    
                    
                    (79,557
                    )
                    
                    1,182,781Net
                        increase (decrease) in cash and cash equivalents
                    
                    
                    (120,101
                    )
                    
                    759,899Cash
                        and cash equivalents - beginning of period
                    
                    
                    392,275
                    
                    
                    53,996Cash
                        and cash equivalents - end of period
                    
                    $
                    272,174
                    
                    
                    813,895Supplemental
                        cash flow information:Interest
                        paid in cash
                    
                    $
                    215,685
                    
                    
                    -See
                        accompanying notes.




4


**LATTICE
      INCORPORATED AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**


(Unaudited)





**Note
      1- Organization and summary of significant accounting
      policies:**





**a)
      Organization**





Lattice
      Incorporated (the "Company",) was incorporated in the State of Delaware May
      1973
      and commenced operations in July 1977. The Company began as a provider of
      specialized solutions to the telecom industry. Throughout its history Lattice
      has adapted to the changes in this industry by reinventing itself to be more
      responsive and open to the dynamic pace of change experienced in the broader
      converged communications industry of today. Currently Lattice provides advanced
      solutions for several vertical markets. The greatest change in operations is
      in
      the shift from being a component manufacturer to a solution provider focused
      on
      developing applications through software on its core platform technology. To
      further its strategy of becoming a solutions provider, the Company acquired
      a
      majority interest in “SMEI” in February 2005. With the SMEI acquisition,
      approximately 90% of the Company’s revenues are derived from solution services.
      In September 2006 the Company purchased all of the issued and outstanding shares
      of the common stock of Ricciardi Technologies Inc. (“RTI”). RTI was founded in
      1992 and provides software consulting and development services for the command
      and control of biological sensors and other Department of Defense requirements
      to United States federal governmental agencies either directly or though prime
      contractors of such governmental agencies. RTI’s proprietary products include
      SensorView, which provides clients with the capability to command, control
      and
      monitor multiple distributed chemical, biological, nuclear, explosive and
      hazardous material sensors. With the SMEI and the RTI acquisitions,
      approximately 90% of the Company’s revenues are derived from solution services.
      In January 2007, we changed our name from Science Dynamics to Lattice
      Incorporated.





**b)
      Basis of Presentation**





The
      accompanying unaudited condensed consolidated financial statements have been
      prepared in accordance with generally accepted accounting principles for interim
      financial information and with the instructions to Item 310 of Regulation S-B.
      Accordingly; they do not include all of the information and footnotes required
      by generally accepted accounting principles for complete financial statements.
      For further information, refer to the financial statements and footnotes thereto
      included in the Company's annual report for Form 10-KSB for the year ended
      December 31, 2006. In the opinion of management, all adjustments (consisting
      of
      normal recurring accruals) considered necessary for a fair presentation have
      been included. Operating results for the six month period ended June 30, 2007
      are not necessarily indicative of the results that may be expected for the
      year
      ended December 31, 2007.





The
      Company’s auditors have emphasized uncertainty regarding our ability to continue
      as a going concern in their audit reports for our years ended December 31,
      2006
      and 2005.


5


**c)
      Principles of consolidation** :





The
      accompanying condensed consolidated financial statements included the accounts
      of the Company and all of its subsidiaries in which a controlling financial
      interest is maintained. We consider a controlling financial interest to reflect
      unimpaired ownership in a majority of the voting common shares of a subsidiary.
      We consider the effects of minority rights in determining our consolidation
      rights; there are no minority participation rights related to our consolidated
      subsidiaries. All significant inter-company accounts and transactions have
      been
      eliminated in consolidation. The minority interests in our consolidated net
      income (loss) are reflected as a component of minority interest in the
      accompanying statement of operations. During the periods presented, minority
      interest represents the minority interest in the income of our 86.0% owned
      subsidiary, Systems Management Engineering, Inc. (“SMEI”).





**d)
      Use of estimates** :





The
      preparation of these financial statements in accordance with accounting
      principles generally accepted in the United States (US GAAP) requires management
      to make estimates and assumptions that affect the reported amounts in the
      financial statements and accompanying notes. These estimates form the basis
      for
      judgments made about the carrying values of assets and liabilities that are
      not
      readily apparent from other sources. Estimates and judgments are based on
      historical experience and on various other assumptions that the Company believes
      are reasonable under the circumstances. However, future events are subject
      to
      change and the best estimates and judgments routinely require adjustment. US
      GAAP requires estimates and judgments in several areas, including those related
      to impairment of goodwill and equity investments, revenue recognition,
      recoverability of inventory and receivables, the useful lives long lived assets
      such as property and equipment, the future realization of deferred income tax
      benefits and the recording of various accruals. The ultimate outcome and actual
      results could differ from the estimates and assumptions used.




**e)
      Share-based payments -** On
      January 1, 2006, the Company adopted the fair value recognition provisions
      of
      Financial Accounting Standards Board Statement of Financial Accounting Standards
      (“SFAS”) No. 123(R), *Accounting
      for Share-based payments* ,
      to
      account for compensation costs under its stock option plans and other
      share-based arrangements. Prior to January 1, 2006, the Company utilized the
      intrinsic value method under Accounting Principles Board Opinion No. 25, *Accounting
      for Stock Issued to Employees* .
      Statement 123R requires all share-based payments to employees, including grants
      of employee stock options, to be recognized in the financial statements based
      on
      their fair values. For purposes of estimating fair value of stock options,
      we
      use the Black-Scholes-Merton valuation technique. For the six months ended
      June
      30, 2007 and 2006, share-based payment expense was $122,880 and $0.00
      respectively. As of June 30, 2007, there was approximately $312,000 of total
      unrecognized compensation cost related to unvested share-based compensation
      awards granted under the equity compensation plans which does not include the
      effect of future grants of equity compensation, if any. $312,000 will be
      amortized over the weighted average remaining service period of two years.
      See
      Note 7 for more information.





**f)
      Depreciation, amortization and long-lived assets**





Property,
      plant and equipment - These assets are recorded at cost and increased by the
      cost of any significant improvements. The Company depreciates the cost over
      the
      assets' estimated useful lives using the straight-line method.





Goodwill-
      Goodwill represents the difference between the purchase price of an acquired
      business and the fair value of the net assets acquired. Goodwill is not
      amortized. Rather, the Company tests goodwill for impairment annually (or in
      interim periods if events or changes in circumstances indicate that its carrying
      amount may not be recoverable) by comparing the fair value of each reporting
      unit, as measured by discounted cash flows, to the carrying value to determine
      if there is an indication that potential impairment may exist. One of the most
      significant assumptions is the projection of future sales. The Company reviews
      its assumptions when goodwill is tested for impairment and makes appropriate
      adjustments, if any, based on facts and circumstances available at that
      time.


6


Identifiable
      intangible assets - These assets are recorded at cost. Intangible assets with
      finite lives are amortized evenly over their estimated useful lives using the
      straight-line method. Intangible assets with indefinite lives are not amortized
      but are subjected to impairment tests along with goodwill, as described
      above.





At
      least
      annually, the Company reviews all long-lived assets for impairment. When
      necessary, charges are recorded for impairments of long-lived assets for the
      amount by which the present value of future cash flows, or some other fair
      value
      measure, is less than the carrying value of these assets.





**g)
      Derivative financial instruments and registration payment
      arrangements:**





Derivative
      financial instruments, as defined in Financial Accounting Standard No. 133, *Accounting
      for Derivative Financial Instruments and Hedging Activities* (“FAS
      133”), consist of financial instruments or other contracts that contain a
      notional amount and one or more underlying (e.g. interest rate, security price
      or other variable), require no initial net investment and permit net settlement.
      Derivative financial instruments may be free-standing or embedded in other
      financial instruments. Further, derivative financial instruments are initially,
      and subsequently, measured at fair value and recorded as liabilities or, in
      rare
      instances, assets. The Company generally does not use derivative financial
      instruments to hedge exposures to cash-flow, market or foreign-currency risks.
      However, the Company has entered into various types of financing arrangements
      to
      fund its business capital requirements, including convertible debt and other
      financial instruments indexed to the Company’s own stock. These contracts
      require careful evaluation to determine whether derivative features embedded
      in
      host contracts require bifurcation and fair value measurement or, in the case
      of
      freestanding derivatives (principally warrants) whether certain conditions
      for
      equity classification have been achieved. In instances where derivative
      financial instruments require liability classification, the Company is required
      to initially and subsequently measure such instruments at fair value.
      Accordingly, the Company adjusts the fair value of these derivative components
      at each reporting period through a charge to income until such time as the
      instruments acquire classification in stockholders’ equity. See Note 5 for
      additional information.





As
      previously stated, derivative financial instruments are initially recorded
      at
      fair value and subsequently adjusted to fair value at the close of each
      reporting period. The Company estimates fair values of derivative financial
      instruments using various techniques (and combinations thereof) that are
      considered to be consistent with the objective measuring fair values. In
      selecting the appropriate technique, management considers, among other factors,
      the nature of the instrument, the market risks that it embodies and the expected
      means of settlement. For less complex derivative instruments, such as
      free-standing warrants, the Company generally uses the Black-Scholes-Merton
      option valuation technique because it embodies all of the requisite assumptions
      (including trading volatility, estimated terms and risk free rates) necessary
      to
      fair value these instruments. For complex derivative instruments, such as
      embedded conversion options, the Company generally uses the Flexible Monte
      Carlo
      valuation technique because it embodies all of the requisite assumptions
      (including credit risk, interest-rate risk and exercise/conversion behaviors)
      that are necessary to fair value these more complex instruments. For forward
      contracts that contingently require net-cash settlement as the principal means
      of settlement, the Company projects and discounts future cash flows applying
      probability-weightage to multiple possible outcomes. Estimating fair values
      of
      derivative financial instruments requires the development of significant and
      subjective estimates that may, and are likely to, change over the duration
      of
      the instrument with related changes in internal and external market factors.
      In
      addition, option-based techniques are highly volatile and sensitive to changes
      in the trading market price of our common stock, which has a high-historical
      volatility. Since derivative financial instruments are initially and
      subsequently carried at fair values, our income (loss) will reflect the
      volatility in these estimate and assumption changes.





During
      December 2006, the Financial Accounting Standards Board issued FASB Staff
      Position (FSP) EITF 00-19-2, *Accounting
      for Registration Payment Arrangements* ,
      which
      amended FAS 133..The FASB Staff Position specifies that the contingent
      obligation to make future payments or otherwise transfer consideration under
      a
      registration payment arrangement, whether issued as a separate agreement or
      included as a provision of a financial instrument or other agreement, should
      be
      separately recognized and measured in accordance with FASB Statement No. 5,
      Accounting for Contingencies (“FAS 5”). FAS 5 provides for the recognition of
      registration payments when they are both probable of being incurred and
      reasonably estimable. The Company adopted EITF 00-19-2 in the fourth fiscal
      quarter of the Company’s year ended December 31, 2006. Accordingly, during the
      fourth quarter of 2006, the Company recorded a contingent liability of $874,000
      related to the liquidated damages as estimated and calculated under FAS 5.
      As
      more fully discussed in Note 4(b), our liability was settled during the first
      quarter of this current fiscal year.


7


**h)
      Recent accounting pronouncements** In
      February 2007, the FASB issued Statement of Financial Accounting Standards
      No.
      159, *The
      Fair Value Option for Financial Assets and Financial
      Liabilities* , (“FAS
      159”). FAS 159 permits entities to choose to measure many financial instruments
      and certain other items at fair value. The objective is to improve financial
      reporting by providing entities with the opportunity to mitigate volatility
      in
      reported earnings caused by measuring related assets and liabilities differently
      without having to apply complex hedge accounting provisions. FAS 159 is
      effective for fiscal years beginning after November 15, 2007. The Company does
      not believe that FAS 159 will have any material effect on its financial
      statements.




**i)
       Earnings per common share** The
      Company calculates earnings per share in accordance with Statements on Financial
      Accounting Standards No 128, Earnings Per Share (“FAS 128”). Basic earnings per
      common share is based on the weighted-average number of common shares
      outstanding in each year and after preferred stock dividend requirements,
      whether or not declared or paid. Diluted earnings per common share assume that
      any dilutive convertible debentures and convertible preferred shares outstanding
      at the beginning of each year were converted at those dates, with related
      interest, preferred stock dividend requirements and outstanding common shares
      adjusted accordingly. It also assumes that outstanding common shares were
      increased by shares issuable upon exercise of those stock options for which
      market price exceeds exercise price, less shares that could have been purchased
      by the Company with related proceeds. See Note 8 for the components of the
      earnings per common share computation.




**Note
      2- Business acquisition:**





On
      September 19, 2006, the Company closed on its Stock Purchase Agreement with
      Ricciardi Technologies Inc. (“RTI”) and the holders of all of the outstanding
      common stock of RTI. The Company completed the acquisition of 19,685 shares
      of
      the outstanding common stock of RTI which shares constitute 100% of the issued
      and outstanding shares of capital stock of RTI on a fully diluted basis. As
      consideration for such shares of RTI the Company paid (i) $3,500,000 in cash,
      and issued (ii) 5,000,000 shares of common stock, (iii)a $500,000 promissory
      note payable in full twelve months from the closing, and (iv)1,000,000 shares
      of
      the Company's Series B Convertible Preferred stock. Each share of Series B
      Preferred Stock will automatically convert into common stock on September 18,
      2007, at the conversion rate of 8 1/3 shares of common stock, subject to
      adjustment in the event of stock dividends, splits and other distributions.
      The
      Company may at any time until September 18, 2007 redeem the Series B Preferred
      Stock at a redemption price of $0.50 per share. To secure the indemnification
      obligations of the former RTI stockholder, a portion of the purchase price,
      consisting of $350,000 and 5,833,333 shares of common stock was placed in escrow
      for a period of 18 months. The common stock issued was valued based upon an
      average of five days preceding and five days following the date that the Company
      and RTI agreed to all significant terms of the Agreement, and such terms were
      publicly disseminated.





As
      part
      of the purchase price the Company agreed to pay the former RTI stockholders
      up
      to an additional $1,500,000 depending on RTI's EBITDA for the twelve-month
      period ending on the first anniversary of the Closing date. If RTI's EBITDA
      is
      at least $2,250,000 but less than $2,500,000, the former RTI stockholders
      receive $750,000 and if the EBITDA for such twelve month period is at least
      $2,500,000, they will receive $1,500,000.





Pursuant
      to the RTI agreement the Company delivered to the RTI employee’s, incentive
      stock options to purchase 200,000 shares of common stock at an exercise price
      of
      $0.60. In addition, during the two years following the closing, the Company
      shall grant the RTI employees an additional 50,000 shares in each year of the
      two year period at an exercise price equal to the market price on the date
      of
      issuance. These options have three year vesting and a ten year
      life.


8


The
      total
      purchase price amounted to $7,820,617 and was allocated as follows, based upon
      the fair value of assets acquired and liabilities assumed:




Category
            
            AmountCurrent
                assets
            
            $
            1,230,027Property
                and equipment
            
            
            1,473Intangible
                assets
            
            
            7,490,612Deposits
            
            
            9,406Current
                liabilities
            
            
            (910,901
            )$
            7,820,617





Intangible
      assets acquired consisted of the following:





LifeCustomer
                relationships
            
            
            5
            
            $
            3,382,517Know
                how and processes
            
            
            5
            
            
            2,924,790Goodwill
            
            
            —
            
            
            484,033Contractual
                backlog
            
            
            1
            
            
            534,272Employment
                contract
            
            
            1
            
            
            165,000$
            7,490,612




The
      Company recorded amortization of $927,476 for the six months ended June 30,
      2007
      related to the intangible assets listed above. The Company believes that the
      expansion into this business affords it an opportunity for synergy, thus
      justifying the amount of goodwill attributed to the acquisition of RTI. Due
      to
      certain limitations imposed by the Internal Revenue Service, the Company does
      not expect goodwill to result in any deductible amounts in the near
      future.


9


**Note
      3- Segment reporting:**





Management
      views its business as two operating units, Technology Products and Technology
      Services.




Six
                Months Ended
            
            Six
                Months Ended
            
            Three
                Months Ended
            
            Three
                Months Ended30-June-07
            
            30-June-06
            
            30-June-07
            
            30-June-06RevenueTechnology
                Products
            
            
            $
            630,487
            
            
            $
            801,886
            
            
            $
            341,085
            
            
            $
            377,996Technology
                Services
            
            
            
            6,265,887
            
            
            
            1,882,675
            
            
            
            3,378,808
            
            
            
            964,758Total
                Consolidated Revenue
            
            
            $
            6,896,374
            
            
            $
            2,684,561
            
            
            $
            3,719,893
            
            
            $
            1,342,754Gross
                ProfitTechnology
                Products
            
            
            $
            418,317
            
            
            $
            532,066
            
            
            $
            218,107
            
            
            $
            262,296Technology
                Services
            
            
            
            3,320,774
            
            
            
            958,751
            
            
            
            1
                816,957
            
            
            
            519,082Total
                Gross Profit
            
            
            $
            3,739,091
            
            
            $
            1,490,817
            
            
            $
            2,035,064
            
            
            $
            781,378





**Note 4
      - Notes payable**





Notes
      payable consists of the following as of June 30, 2007 and December 31,
      2006:





2007
            
            2006Revolving
                credit facility**(a)**
            
            
            579,192
            
            $
            590,749Notes
                Payable - Stockholders/Officers**(b)**
            
            
            825,000
            
            
            893,000Short
                term notes payable**(c)**
            
            
            250,000
            
            
            250,000Convertible
                note**(d)**
            
            
            —
            
            
            264,440Total
                notes payable
            
            
            1,654,192
            
            
            1,998,189Less
                current maturities, associated with notes payable
            
            
            (1,654,192
            )
            
            (1,998,189
            )Long-term
                debt
            
            $
            —
            
            $
            —




10


**(a)
      Revolving line of credit:**




On
      November 10, 2006, the Company secured a Line of Credit facility with Greater
      Bay Business Funding ("GBBF") for $2,000,000. The line is primarily secured
      by
      the Company's accounts receivables. The Advance Rate is 85% of qualifying
      accounts receivable. Interest on the line is at of Prime (currently 8.25%),
      plus
      6.0%. Upon securing the line with GBBF, the Company repaid in full and closed
      out the credit facility with Presidential Financial Group. The total outstanding
      balance on this facility as of June 30, 2007 and December 31, 2006 was $8 and
      $590,749 respectively. Additionally, the Company incurred an up-front fee of
      $20,000 which is being amortized on the straight-line method, due to the
      immaterial amount involved, over the twelve month term of the facility. As
      of
      June 30, 2007, $6,667 remains unamortized.




**(b)
      Notes payable stockholders/officers:**




The
      Company has a short-term loan payable to a former officer and stockholder of
      the
      Company amounting to $75,000. This note bears interest of 8.0% per annum. The
      note is an unsecured demand note.




At
      December 31, 2006 the Company has a short term note payable of $250,000 with
      a
      director of the Company. This note is collateralized by proceeds from the future
      sale of the New Jersey Net Operating Loss in 2006, upon approval from the State
      of NJ. In the event, the Company is not approved for this program; the Company
      will repay this note and accrued interest from operating cash flows. The note
      bears interest at 20.0% per annum and is payable at maturity date of December
      31, 2007.




As
      part
      of the RTI acquisition the Company issued a note in the amount of $500,000
      to
      the former stockholders of RTI as part of the purchase price. The note is
      payable in September 2007 and bears an interest rate of 10.0% per
      annum.





**(c)
      Short term notes:**




O n
      September 18, 2006, the Company entered into an Omnibus Amendment and Waiver
      Agreement with Laurus Master Fund, LTD (“Laurus”). Under the terms of the
      amendment, in exchange for full and complete satisfaction of the $2,000,000
      note, the Company i) paid Laurus $500,000 ii) issued a seven-year warrant to
      purchase up to 1,458,333 shares of common stock for an exercise price of $0.1
      per share and iii) entered into a Term Note for $250,000 with Laurus. The Term
      Note bears interest at a rate per annum equal to the prime rate published in The
      Wall Street Journal from time to time, plus 3%, but shall not be less than
      8%.
      Interest payments are due monthly, in arrears, commencing on August 1, 2006
      and
      ending on the maturity date which is September 18, 2007. The Company estimated
      the fair value of the warrants on the inception date, and subsequently, using
      the Black-Scholes-Merton technique because that technique embodies all the
      assumptions (including volatility, expected terms, and risk free rates) that
      are
      necessary to fair value freestanding warrants.


11


**(d)
      2006 Barron Financing Arrangement:**





On
      September 19, 2006, the Company entered into a financing arrangement that
      provided for the issuance of $4,500,000, 6.0% Convertible Promissory Notes,
      due
      May 31, 2007, and warrants to purchase 25,000,000 shares of common stock.
      Proceeds, which were net of $404,851 in cash financing costs, amounted to
      $4,045,149. The Convertible Promissory Note was convertible into Preferred
      Stock
      at $.575; however, if a Restated Certificate of Incorporation was not filed
      within 150 days, then for each month, the conversion price would be reduced
      by
      6%. Upon filing of the Restated Certificate of Incorporation, the note provided
      for automatic conversion of the face value into Series B Preferred Stock. The
      Company concluded that the conversion feature embedded in the note was not
      afforded either the FAS133 exemption as a “Conventional Convertible” instrument
      or the FAS133 exemption for derivative instruments indexed to a company’s own
      stock due to the variable conversion feature; that is, the variable conversion
      feature results in the presumption that the Company would have insufficient
      common shares to settle all of its share-indexed obligations. Since share
      settlement was not considered to be in the Company’s control, certain other
      non-exempt freestanding derivative instruments (principally warrants to purchase
      common stock) were considered tainted (that is, the aforementioned presumption
      puts their share settlement presumably beyond the Company’s control, also) and
      in accordance with Emerging Issues Task Force Consensus EITF 00-19, *Accounting
      for Derivative Financial Instruments Indexed to, and Potentially Settled in
      a
      Company’s Own Stock* ,
      they
      were reclassed from stockholder’s equity to liabilities at their fair value of
      approximately $523,000.





Proceeds
      from this financing arrangement were allocated to the fair value of the
      conversion option and warrants, based upon their fair values because
      share-settlement of these instruments was not considered to be within the
      Company’s control. There was no basis in the proceeds following the allocation
      to the derivative financial instruments to allocate to the Convertible Notes
      Payable. Thus, they were initially recorded a zero value and are subject to
      amortization over the term using the effective interest method.





The
      following table illustrates the components of the initial allocation of the
      net
      proceeds:





Financial
                instrument or account:Warrant
                derivative, at fair value
            
            $
            13,895,090Compound
                derivative, at fair value
            
            
            8,113,451Deferred
                financing costs
            
            
            (867,357
            )Convertible
                notes payable
            
            
            --Day-one
                derivative loss
            
            
            (17,096,035
            )$
            4,045,149





The
      derivative warrants were issued in two traunches, each having terms of five
      years. The traunches have exercise prices of $0.50 and $1.20, respectively.
      The
      Company recorded the derivative warrants at fair value using the
      Black-Scholes-Merton Technique because this technique embodies all of the
      assumptions necessary to fair value non-complex instruments. The compound
      derivative comprises certain derivative features embedded in the host
      convertible note payable contract including the variable conversion feature,
      anti-dilution protections and certain redemption features. These instruments
      were combined into one compound derivative and bifurcated from the host
      instrument at fair value. The Company applied the Monte-Carlo valuation
      technique to fair value this derivative because Monte Carlo embodies all
      assumptions (including credit risk, interest rate risk, conversion/redemption
      behaviors) necessary to fair value complex, compound derivative financial
      instruments. Fair values of our derivative financial instruments are highly
      influenced by our trading stock price and volatility, changes in our credit
      risk
      and market interest rates. Further derivative income or expense will reflect
      changes in these underlying assumptions.





As
      reflected in the above table, proceeds were insufficient to record the
      derivative financial instruments at their fair values. Accordingly, the Company
      was required to recognize a day-one derivative loss in its statement of
      operations in the amount of $17,096,035. This charge was recorded in the
      Company’s third fiscal quarter of its year ended December 31,
      2006.


12


The
      Restated Certificate of Incorporation was filed on February 2, 2007, at which
      time, the conversion rate on the Convertible Promissory Notes became fixed
      at
      $.575 and the bifurcated conversion option no longer required separate
      derivative classification and accounting under FAS 133. However, we were
      required to adjust the derivative value to fair values on the date of this
      event
      and recognize the adjustments in income. Based on the guidance of EITF 06-07, *Issuers
      Accounting for a Previously Bifurcated Conversion Option No Longer Meets the
      Bifurcation Criteria in FASB Statement No.133* ,
      when a
      previously bifurcated conversion option no longer requires bifurcation, the
      Company is required to immediately adjust the derivative to fair value and
      reclass that amount to stockholder’s equity. Application of this standard
      resulted in reclassification of the fair value of the embedded conversion
      feature on the event date (amounting to $7,223,234) to paid in capital. The
      warrants continue to require classification as derivative warrants because,
      notwithstanding the Company’s re-established ability to share settle all of its
      share-indexed financial instruments, the warrants continue to fail certain
      other
      requirements for equity classification (principally the requirement of payment
      of penalties in the event of non-filing of reports with the Securities and
      Exchange Commission; a requirement under the arrangement presumed not to be
      within our control).





Generally,
      under EITF 06-07, the host debt instrument remains subject to continued
      amortization using the effective method following the reclassification of the
      embedded conversion feature to stockholder’s equity However, in accordance with
      the terms of the agreement, the convertible note automatically converted into
      Preferred Stock upon the filing of the Restated Certificate of Incorporation.
      Based on the guidance of APB 26, *Early
      Extinguishment of Debt* and a
      related Accounting Interpretation of APB Opinion No. 26, the carrying amount
      of
      the debt, including the unamortized discount was credited to the capital
      accounts upon conversion to reflect the stock issued and no gain or loss was
      recognized. Adoption of this guidance resulted in reclassification of $27,776
      to
      the capital accounts.





On
      February 7, 2007, the Company entered into a letter agreement with Barron
      provided for (i) the waiver of all accrued and unpaid liquidated damages for
      not
      filing the registration statement and (ii) the extension to a later date of
      certain mandated events, such as the re-composition of the Board. This waiver
      required compensation in the form of warrants to purchase 1,900,000 shares
      of
      common stock which were valued at approximately $1,031,000 using the
      Black-Scholes-Merton technique. Significant assumptions used in the model
      included: exercise price of $.50; volatility factor of 126.43%; 5 year term
      to
      expiration; and a risk free rate of 4.73%. Since the warrants met the eight
      conditions for equity classification provided in EITF 00-19, the fair value
      of
      these warrants was classified as equity. As discussed in Note 1, the Company
      had
      an accrued liability amounting to $874,000 for liquidating damages and,
      accordingly, the difference between the fair value of the warrants and the
      carrying amount of the liability was recognized as a loss on extinguishment
      of
      approximately $151,000.




13





**Note
      5 - Derivative financial instruments:**





The
      balance sheet caption derivative liabilities at December 31, 2006 consists
      of
      (i) embedded conversion features and (ii) the Warrants, issued in connection
      with the 2005 Laurus Financing Arrangement, the 2006 Omnibus Amendment and
      Waiver Agreement with Laurus. Derivative liabilities at June 30, 2007 consist
      of
      the warrants issued in connection with the 2005 Laurus Financing Arrangement,
      the 2006 Omnibus Amendment and Waiver Agreement and the 2006 Barron Financing
      Arrangement. These derivative financial instruments are indexed to an aggregate
      of 46,923,550 and 46,923,550 shares of the Company’s common stock as of June 30,
      2007 and December 31, 2006, respectively, and are carried at fair value. The
      following tabular presentation sets forth information about the derivative
      instruments for the six months ended June 30, 2007 and 2006:





Derivative
                income (expense)
            
            Six
                months ended
              June
                30, 2007
            
            Six
                months ended
              June
                30, 2006
            
            Three
                months
              ended
              June
                30, 2007
            
            Three
                months
              ended
              June
                30, 2006Conversion
                features
            
            $
            (
                467,120
            )
            $
            13,445
            
            $
            -
            
            $
            13,445Warrant
                derivative
            
            $
            1,528,002
            
            $
            -
            
            $
            1,906,247
            
            $
            -




Liabilities
              
              June
                  30,
                2007
              
              December
                  31,
                2006Compound
                  derivative
              
              $
              -
              
              
              ($
                  6,756,114
              )Warrant
                  derivative
              
              
              ($
                  11,141,149
              )
              
              ($
                  13,117,668
              )


Freestanding
      derivative instruments, consisting of warrants that arose from the Laurus and
      Barron financings are valued using the Black-Scholes-Merton valuation
      methodology because that model embodies all of the relevant assumptions that
      address the features underlying these instruments. Significant assumptions
      used
      in the Black Scholes models included: exercise or strike prices ranging from
      $0.10 - $1.25; volatility factors ranging from 82.61% - 139.49% based upon
      forward terms of instruments; terms-remaining term for all instruments; and
      a
      risk free rate ranging from 4.92% - 5.03%.





Embedded
      derivative instruments consist of multiple individual features that were
      embedded in the convertible debt instruments. The Company evaluated all
      significant features of the hybrid instruments and, where required under current
      accounting standards, bifurcated features for separate report classification.
      These features were, as attributable to each convertible note, aggregated into
      one compound derivative financial instrument for financial reporting purposes.
      The compound embedded derivative instruments were valued using the Flexible
      Monte Carlo methodology because that model embodies certain relevant assumptions
      (including, but not limited to, interest rate risk, credit risk, and
      Company-controlled redemption privileges) that are necessary to value these
      complex derivatives.





**Note 6.
      Stockholders’ equity:**




On
      August
      28, 2006, the Company designated 9,000,000 shares as Series A Convertible
      Preferred Stock (“Series A Preferred”) and 1,000,000, shares as Series B
      Convertible Redeemable Preferred Stock (“Series B Preferred”), each with a
      stated par value of $.01 per share.




The
      Series A Preferred shares do not have voting rights or cumulative dividends.
      The
      preferred shares are convertible into the Company’s common stock at a fixed
      conversion price of $.23 per common share, subject to adjustment in certain
      instances, including the issuance by the Company of common stock at a price
      less
      $.23 per share. In the event the Company’s EBITDA for the year ended December
      31, 2006 is less than $.019 per share or if the Company’s EBITDA for the year
      ended December 31, 2007 is less than $.0549 on a fully-diluted basis, then
      the
      conversion price will be reduced by the percentage shortfall, up to a maximum
      of
      30%. Each share of Series A Preferred is convertible into 25 shares of the
      Company’s common stock and will be automatically converted into common stock
      upon a change in control or liquidation, at an amount equal to $.575 per share.
      The Series A Preferred stock ranks senior to holders of common stock with
      respect to payment of dividends and amounts upon liquidation, dissolution or
      winding up of the Company. If the Company does not deliver conversion shares
      in
      accordance with the terms of the agreement, the Company will be required to
      pay
      liquidating damages of $50 per trading day for each $5,000 of conversion value.
      These damages will increase to $100 per trading day after three trading days
      and
      $200 per trading day after six trading days.


14


The
      Series B Preferred shares do not have voting rights unless a vote is required
      by
      law in connection with a merger, consolidation or sale of substantially all
      of
      the Company’s assets. The holders of the Series B Preferred shares are entitled
      to receive an annual dividend of $.05 per share, payable quarterly, commencing
      November 1, 2006. The Series B Preferred stock ranks senior to holders of common
      stock with respect to payment of dividends and amounts upon liquidation,
      dissolution or winding up of the Company. One year from the date the Certificate
      of Designation is filed, the preferred stock will automatically convert into
      common stock at a rate of 8 1/3 shares of common stock for every share of Series
      B Preferred Stock. The Company has the right to redeem the Series B Preferred
      Stock, any time prior to one year from the date the Certificate of Designation
      is filed with the Secretary of State, at $.50 per share.  No
      dividends have been declared on the Series B Preferred Stock.





On
      February 2, 2007 the Company affected a one-for-ten reverse stock split
      restating the common shares from 166,424,280 to 16,642,428. All reference to
      shares has been restated to reflect the reverse.





On
      February 2, 2007 the Company file a restated certificate of incorporation with
      the State of Delaware, upon the effectiveness the principal and interest due
      on
      the Barron note was automatically converted into 7,826,087 shares of the
      Company's Series A Preferred Stock as is determined by dividing the principal
      amount of the note by the Conversion Price, which initially is
      $.575.


15


**Note
      7-Share-based payments:**





**2002
      Employee Stock Option Plan**





On
      November 6, 2002 the stockholders approved the adoption of The Company's 2002
      Employee Stock Option Plan. Under the Plan, options may be granted which are
      intended to qualify as Incentive Stock Options ("ISOs") under Section 422 of
      the
      Internal Revenue Code of 1986 (the"Code") or which are not ("Non-ISOs") intended
      to qualify as Incentive Stock Options thereunder. The maximum number of options
      made available for issuance under the Plan are two million (2,000,000) options.
      The options may be granted to officers, directors, employees or consultants
      of
      the Company and its subsidiaries at not less than 100% of the fair market value
      of the date on which options are granted. The term of each Option granted under
      the Plan shall be contained in a stock option agreement between the Optionee
      and
      the Company.





On
      January 1, 2006 the Company adopted Statement of Financial Accounting Standards
      ("SFAS") No.123 (Revised 2004), "Share Based Payment," ("SFAS 123R"), using
      the
      modified prospective method. In accordance with SFAS 123R, the Company measures
      the cost of employee services received in exchange for an award of equity
      instruments based on the grant-date fair value of the award. That cost is
      recognized over the period during which an employee is required to provide
      service in exchange for the award - the requisite service period. The Company
      determines the grant-date fair value of employee share options using the
      Black-Scholes option-pricing model.





Under
      the
      modified prospective approach, SFAS 123R applies to new awards and to awards
      that were outstanding on January 1, 2006 that are subsequently modified,
      repurchased or cancelled. Under the modified prospective approach, compensation
      cost recognized for the first quarter of fiscal 2006 includes compensation
      cost
      for all share-based payments granted prior to, but not yet vested on, January
      1,
      2006, based on the grant-date fair value estimated in accordance with the pro
      forma provisions of SFAS 123, and compensation cost for all share-based payments
      granted subsequent to January 1, 2006, based on the grant-date fair value
      estimated in accordance with the provisions of SFAS 123R. Prior periods were
      not
      restated to reflect the impact of adopting the new standard.





Number
                of
            
            Number
                of
            
            Weighted-Options
            
            Options
            
            AverageAvailable
            
            Outstanding
            
            Exercise
                PriceBalance
                January 1, 2007
            
            
            467,000
            
            
            1,371,000
            
            $
            1.00Options
                granted under Plan
            
            
            —
            
            
            —Options
                expired
            
            
            —
            
            
            —Balance
                June 30, 2007
            
            
            467,000
            
            
            1,371,000
            
            $
            1.00




No
      options were issued in the six month period ended June 30, 2007 and
      2006.





The
      weighted-average fair value per share of the options granted during 2007 and
      2006 was estimated on the date of grant using the Black-Scholes-Merton option
      pricing model; the following assumptions were used to estimate the fair value
      of
      the options at grant date based on the following:


16


2007
            
            2006Risk-Free
                interest rate
            
            
            4.65
            %
            
            4.92
            %Expected
                dividend yield
            
            
            
            
            
            —Expected
                stock price volatility
            
            
            156
            %
            
            156
            %Expected
                option Life
            
            
            10
                years
            
            
            10
                years




**Note 8
      Earnings per common share:**




The
      following table sets forth the computation of basic and diluted earnings per
      share:





Six
                Months Ended June 30,
            
            Three
                Months Ended June 30,2007
            
            2006
            
            2007
            
            2006Income
                (loss) applicable to common
              stockholders,
                as reported
            
            $
            210,043
            
            $
            (56,782
            )
            $
            1,717,050
            
            $
            (7,106
            )Reconciliation
                to numerator for
              diluted
                earnings per share:Preferred
                stock dividends
            
            
            25,000
            
            
            --
            
            
            12,500
            
            
            --Income
                on derivative warrants
            
            
            (1,528,002
            )
            
            **
            
            
            (1.906,247
            )
            
            --Numerator
                for diluted earnings per
              share
            
            $
            (1,292,959
            )
            $
            (56,782
            )
            $
            (176,697
            )
            $
            (7,106
            )Weighted
                average shares
            
            
            16,642,428
            
            
            9,371,901
            
            
            16,642,428
            
            
            9,759,652Reconciliation
                to denominator for
              diluted
                earnings per shareDilutive
                derivative warrants
            
            
            27,011,111
            
            
            --
            
            
            27,011,111
            
            
            --Shares
                indexed to convertible
              preferred
                stock
            
            
            20,398,517
            
            
            --
            
            
            20,398,517
            
            
            --Dilutive
                employee options
            
            
            178,000
            
            
            127,429
            
            
            178,000
            
            
            127,429Denominator
                for diluted earnings
              per
                share
            
            
            64,230,056
            
            
            9,499,330
            
            
            64,230,056
            
            
            9,887,081Earnings
                per common share:Basic
            
            
            0.01
            
            
            (0.01
            )
            
            0.10
            
            
            (0.00
            )Diluted
            
            
            (0.02
            )
            
            (0.01
            )
            
            (0.00
            )
            
            (0.00
            )





The
      above
      table includes only dilutive instruments and their effects on earnings per
      common share.





**Note
      9. Restatement:**





The
      accompanying consolidated balance sheet as of December 31, 2006 has been
      restated to correct an error related to the improper expense of $720,185 direct
      financing costs that are required to be recorded in stockholders’ equity.
      Accordingly, accumulated deficit and paid-in capital in the accompanying
      restated balance sheet are each lower by the amount of the
      restatement.





The
      Company is currently engaged in amending its Annual Report on Form 10-KSB for
      this error and certain other disclosures, which we believe are appropriate,
      that
      have arisen from a review of our recent filings by the Securities Exchange
      Commission. We anticipate that we will file our amended Annual Report on Form
      10-KSB before the close of the third-fiscal quarter of the year ended December
      31, 2007.


17


**Item
      2.**  **Management’s
      Discussion and Analysis or Plan of Operation**




**GENERAL
      OVERVIEW**




Lattice
      Incorporated was incorporated in the State of Delaware in May 1973 and commenced
      operations in July 1977. We have been developing and delivering secure
      technologically advanced communication solutions for over twenty-five years
      and
      recently expanded our product offering to include IT solutions with the
      acquisition of 86% of Systems Management Engineering, Inc. ("SMEI") on February
      14, 2005. In September 2006, pursuant to a Stock Purchase Agreement, dated
      as of
      September 12, 2006 (the "RTI Agreement"), the Company purchased all of the
      issued and outstanding shares of the common stock of Ricciardi Technologies
      Inc.
      ("RTI"). RTI was founded in 1992 and provides software consulting and
      development services for the command and control of biological sensors and
      other
      Department of Defense requirements to United States federal governmental
      agencies either directly or though prime contractors of such governmental
      agencies RTI's proprietary products include SensorView, which provides clients
      with the capability to command, control and monitor multiple distributed
      chemical, biological, nuclear, explosive and hazardous material sensors. RTI
      is
      headquartered in Manassas, Virginia. The purchase of RTI's common stock was
      completed on September 19, 2006.






We
      intend
      to continue the expansion of our sales efforts both within the federal
      government secure software solutions space and commercial accounts. We continue
      to build upon our recent success in these markets by expanding our marketing
      efforts through our direct sales strategy. Our strong contract backlog has
      given
      us an opportunity to expand our existing revenue base. With regards to our
      acquisition strategy, we will continue to pursue profitable companies with
      proprietary products and services we can sell to our existing customers and
      which have synergies with our existing business.






The
      information in this report contains forward-looking statements within the
      meaning of the Private Securities Litigation Reform Act of 1995. This Act
      provides a "safe harbor" for forward-looking statements to encourage companies
      to provide prospective information about themselves so long as they identify
      these statements as forward looking and provide meaningful cautionary statements
      identifying important factors that could cause actual results to differ from
      the
      projected results. All statements other than statements of historical fact
      made
      in this report are forward looking. In particular, the statements herein
      regarding industry prospects and future results of operations or financial
      position are forward-looking statements. Forward-looking statements reflect
      management's current expectations and are inherently uncertain. Our actual
      results may differ significantly from management's expectations.





The
      following discussion and analysis should be read in conjunction with the
      financial statements and notes thereto included elsewhere in this report and
      with our annual report on Form 10-KSB for the fiscal year ended December 31,
      2006. This discussion should not be construed to imply that the results
      discussed herein will necessarily continue into the future, or that any
      conclusion reached herein will necessarily be indicative of actual operating
      results in the future. Such discussion represents only the best present
      assessment of our management.





**RESULTS
      OF OPERATIONS**





THREE
      AND
      SIX MONTHS ENDED JUNE 30, 2007 COMPARED TO THE THREE AND SIX MONTHS ENDED JUNE
      30, 2006


18


SALES:





Total
      sales for the three months ended June 30, 2007 increased by $2,377,139 or 177%
      to $3,719,893 compared to $1,342,754 for the three months ended June 30, 2006.
      This consisted of service revenues of $3,378,808 (91% of Total Revenues) and
      product revenues of $341,085 (9% of Total Revenues). Included in the increase
      were revenues of $1,577,000 attributable to the acquisition of “RTI” which
      closed in September 2006.





Total
      sales for the six months ended June 30, 2007 were $6,896,374 compared to
      $2,684,561 for the six months ended June 30, 2006, representing an increase
      of
      $4,211,813 or 157% in sales for the six months period ended June 30, 2007.
      This
      consisted of service revenues of $6,265,887 (91% of Total Revenues) and product
      revenues of $630,487 (9% of Total Revenues). Included in the increase were
      revenues of $2,921,000 attributable to the acquisition of “RTI” which closed in
      September 2006 .





GROSS
      MARGIN:





Gross
      margin for the three months ended June 30, 2007 was $2,035,064, an increase
      of
      $1,253,686 or 162% compared to the $781,378 for three months ended June 30,
      2006. Our overall gross margin percentage decreased to 54.7% from 58.2% for
      the
      same period in 2006. This is attributable to higher component of our total
      revenues attributable to services (91% of revenues) compared to prior year
      quarter (72% of revenues). Services revenues gross margins is in the 50%+ range
      versus Product gross margin in the 60%+ range. The gross margin percentage
      for
      technology products for the three months ended June 30, 2007 decreased to 63.9%
      from 69.4% for the three months ended June 30, 2006.





Gross
      margin for the six months ended June 30. 2007 was $3,739,091, an increase of
      $2,248,274 or 151% compared to prior year. Our overall gross margin percentage
      decreased to 53.6% from 55.5% in 2006. The overall gross margin percentages
      were
      impacted by a shift in business mix towards services partially offset by an
      increase in our service margins. The improvement in services margins was
      primarily a result of handling a higher component of service business in-house
      as opposed to utilizing subcontractors.





RESEARCH
      AND DEVELOPMENT EXPENSES:





Research
      and development expenses consist primarily of salaries and related personnel
      costs, consulting fees associated with product development.





For
      the
      three months ended June 30, 2007, research and development expenses decreased
      to
      $96,257 as compared to $109,135 for the three months ended June 30,
      2006.





Research
      and development expenses decreased slightly to $205,298 for the six months
      ended
      June 30, 2007 compared to $218,269 for the six months ended June 30, 2006.
      Management believes that continual enhancements of the Company's products will
      be required to enable the Company to maintain its competitive position. The
      Company will have to focus its principal future product development and
      resources on developing new, innovative, technical products and updating
      existing products





SELLING,
      GENERAL AND ADMINISTRATIVE EXPENSES:





Selling,
      General and administrative ("SG&A") expenses consist primarily of expenses
      for management, finance, administrative personnel, legal, accounting, consulting
      fees, sales commissions, marketing, facilities costs, depreciation and
      amortization of intangible assets.


19


For
      the
      three months ended June 30, 2007 SG&A expenses increased to $1,958,852
      compared to $556,590 for the comparative three months ended June 30, 2006.
      The
      increase was primarily due to SG&A expenses of RTI acquired September 2006
      combined with amortization expenses of intangibles related to the “RTI” purchase
      accounting. The non-cash amortization expense in the quarter related to “RTI”
intangibles was $462,000.





For
      the
      six months ended June 30, 2007 SG&A increased to $3,608,003, an increase of
      $2,546,806 from $1,061,197 for the comparative six months ended June 30, 2006.
      The increase as discussed above was primarily due to the addition of “RTI”
expenses and non-cash amortization expense. The non-cash amortization expense
      related to the “RTI” and “SMEI” intangibles in the six month period was
      $1,040,856.





INTEREST
      EXPENSE:





Interest
      Expense decreased to $93,198 for the three months ended June 30, 2007 compared
      to $134,864 for the three months ended June 30, 2006. Interest expense for
      the
      six months ended June 30, 2007 was $479,002 compared to $264,753 for the six
      months ended June 30, 2006. Included in 2007 interest was non-cash amortization
      of debt discount of $205,809 attributable to the $4.5 million convertible debt
      with Barron and non cash derivative interest of $117,525. During February 2007,
      the Barron debt was automatically converted into preferred stock. Accordingly,
      in the absence of additional borrowings, we anticipate a decrease in our
      interest expense as a result of this conversion.





DERIVATIVE
      INCOME (EXPENSE):





The
      following table is derived from Note 5 in the accompanying financial
      statements.





Derivative
                income (expense)
            
            Six
                months ended
              June
                30, 2007
            
            Six
                months ended
              June
                30, 2006
            
            Three
                months
              ended
              June
                30, 2007
            
            Three
                months
              ended
              June
                30, 2006Conversion
                features
            
            $
            (
                467,120
            )
            $
            13,445
            
            $
            -
            
            $
            13,445Warrant
                derivative
            
            $
            1,528,002
            
            $
            -
            
            $
            1,906,247
            
            $
            -





As
      provided in the discussion of the Company’s accounting policies in Note 1,
      derivative financial instruments are recorded initially and subsequently at
      fair
      value. The Company estimates fair values of derivative financial instruments
      using various techniques (and combinations thereof) that are considered to
      be
      consistent with the objective measuring fair values. In selecting the
      appropriate technique, management considers, among other factors, the nature
      of
      the instrument, the market risks that it embodies and the expected means of
      settlement. For less complex derivative instruments, such as free-standing
      warrants, the Company generally uses the Black-Scholes-Merton option valuation
      technique because it embodies all of the requisite assumptions (including
      trading volatility, estimated terms and risk free rates) necessary to fair
      value
      these instruments. For complex derivative instruments, such as embedded
      conversion options, the Company generally uses the Flexible Monte Carlo
      valuation technique because it embodies all of the requisite assumptions
      (including credit risk, interest-rate risk and exercise/conversion behaviors)
      that are necessary to fair value these more complex instruments. For forward
      contracts that contingently require net-cash settlement as the principal means
      of settlement, the Company projects and discounts future cash flows applying
      probability-weightage to multiple possible outcomes. Estimating fair values
      of
      derivative financial instruments requires the development of significant and
      subjective estimates that may, and are likely to, change over the duration
      of
      the instrument with related changes in internal and external market factors.
      In
      addition, option-based techniques are highly volatile and sensitive to changes
      in the trading market price of our common stock, which has a high-historical
      volatility. Since derivative financial instruments are initially and
      subsequently carried at fair values, the Company’s income (loss) will reflect
      the volatility in these estimate and assumption changes.


20


It
      should
      be noted that during February 2007, the Company was able to reclassify the
      conversion feature in the above table to stockholders’ equity. Accordingly, no
      further fair value adjustments will arise from this feature. However, the
      warrants continue to require liability classification and fair value
      measurement. As noted in the preceding paragraph, the effects on our future
      income will be affected, possibly significantly, by the changes in the
      assumptions underlying our valuation techniques.





EXTINGUISHMENT
      LOSS:





On
      February 7, 2007, the Company entered into a letter agreement with Barron which
      provided for (i) the waiver of all accrued and unpaid liquidated damages for
      not
      filing the registration statement and (ii) the extension to a later date of
      certain mandated events, such as the re-composition of the Board. This waiver
      required compensation in the form of warrants to purchase 1,900,000 shares
      of
      common stock which were valued at approximately $1,031,000 using the
      Black-Scholes-Merton technique. The accrued liability settled amounted to
      $874,000 and, accordingly, the difference between the fair value of the warrants
      and the carrying amount of the liability was recognized as a loss on
      extinguishment of approximately $151,000.








NET
      INCOME (LOSS):





The
      Company's net income for the three months ended June 30, 2007 was $1,729,550
      which compared to a net loss of $7,106 for the three months ended June 30,
      2006.
      Net income is influenced by the matters discussed in the other sections of
      this
      MDA However, it should be noted that net income included $1,906,247 of
      derivative income which represents the decrease in fair value of derivative
      liabilities (principally compound derivatives that were bifurcated from hybrid
      convertible securities and non-exempt warrants). The Company’s net income for
      the six months ended June 30 2007 was $235,043 compared to a net loss of $56,782
      for the six months ended June 30, 2006. Derivative income in those periods
      amounted to $1,060,882 and $13,445, respectively. See Derivative Income
      (Expense) above where we discuss the material assumptions underlying fair value
      adjustments and their potential effect on income





INCOME
      (LOSS) APPLICABLE TO COMMON STOCKHOLDERS:





Income
      applicable to common stock gives effect to cumulative undeclared dividends
      on
      the Company’s Series B Preferred Stock amounting to $25,000 and $12,500 for the
      six and three month periods ended June 30, 2007. Income applicable to common
      stockholders’ serves as the numerator in our basic earnings per share
      calculation. We will continue to reflect cumulative preferred stock dividends
      until the preferred stock is converted into common, if ever.





LIQUIDITY
      AND CAPITAL RESOURCES





Going
      concern considerations:





The
      Company’s auditors have emphasized uncertainty regarding our ability to continue
      as a going concern in their audit reports for our years ended December 31,
      2006
      and 2005.





Working
      capital and other activities:


21


The
      Company’s working capital deficiency as of June 30, 2007 amounts to $10,733,000
      compared to a deficiency of $21,011,000 as of June 30, 2007. The decline in
      the
      deficiency is largely attributable to the decrease by $8,733,000 of our
      derivative liabilities. This decrease gives effect to the reclassification
      of
      $7,223,000 of derivative liabilities to stockholders’ equity upon achieving
      equity classification conditions for the embedded conversion feature previously
      bifurcated from certain hybrid debt agreements and fair value adjustments to
      remaining derivative financial instruments that continue to require liability
      classification and fair value measurement.. As of June 30, 2007, the remaining
      derivative balance of $11,141,000 relates to certain warrants that do not
      achieve equity classification under current accounting standards. Other
      components of our working capital and changes there in are discussed as
      follows:





For
      the
      six months period ended June 30, 2007, cash and cash equivalents decreased
      to
      $272,174 from $392,275 at December 31, 2006. Net cash used by operating
      activities was $40,544 for the six months ended June 30, 2007 compared to net
      cash used by operating activities of $422,882 in the corresponding six month
      period ended June 30, 2006. This consisted of net income of $235,043, an
      increase in our accounts receivable of $1,559,695, an increase in inventories
      of
      $21,887, a decrease in deferred revenue offset by a decrease in other current
      assets of $36,167, a decrease in other assets of $26,380, an increase in the
      Company's accounts payable and accrued expenses of $603,196, favorably offset
      by
      net non-cash items (depreciation, amortization of intangibles, derivative
      interest, minority interest expense and financing cost) amounting to
      $702,747.





Net
      cash
      used by financing activities was $79,557 for the six months ended June 30,
      2007
      compared to net cash provided by financing of $1,182,781 in the corresponding
      six months ended June 30, 2006. In the 2006 period, the Company successfully
      closed on a Private Placement of Common stock resulting in net proceeds to
      the
      Company of $1,292,000.





Total
      current assets at June 30, 2007 were $4,435,361 compared to current liabilities
      totaling $15,169,064 (including non-cash derivative liabilities of $11,141,149).





The
      current maturities of our short-term notes at June 30, 2007 totaled $1,654,192
      compared to $1,998,189 at December 31, 2006. The Company has $1,075,000 of
      short
      term notes coming due by December 31, 2007 ($750,000 in September, 2007 and
      $325,000 in December 2007) (See Note 4 to the Financial Statements for a
      discussion of these liabilities) The Company anticipates that it will have
      sufficient availability on its $2.0M line of revolving credit facility to
      satisfy these payments.





The
      Company has no long term debt obligations.








**Off
      Balance Sheet Arrangements:**





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





**Sensitive
      Estimates:**


The
      Company’s financial statements have been prepared in accordance with accounting
      principles generally accepted in the United States (US GAAP). The preparation
      of
      these financial statements requires management to make estimates and assumptions
      that affect the reported amounts in the financial statements and accompanying
      notes. These estimates form the basis for judgments made about the carrying
      values of assets and liabilities that are not readily apparent from other
      sources. Estimates and judgments are based on historical experience and on
      various other assumptions that the Company believes are reasonable under the
      circumstances. However, future events are subject to change and the best
      estimates and judgments routinely require adjustment. US GAAP requires estimates
      and judgments in several areas, including those related to impairment of
      goodwill and equity investments, revenue recognition, recoverability of
      inventory and receivables, the useful lives long lived assets such as property
      and equipment, the future realization of deferred income tax benefits and the
      recording of various accruals. The ultimate outcome and actual results could
      differ from the estimates and assumptions used.


22


**Derivative
      Financial Instruments:**





Derivative
      financial instruments are initially recorded at fair value and subsequently
      adjusted to fair value at the close of each reporting period. The Company
      estimates fair values of derivative financial instruments using various
      techniques (and combinations thereof) that are considered to be consistent
      with
      the objective measuring fair values. In selecting the appropriate technique,
      management considers, among other factors, the nature of the instrument, the
      market risks that it embodies and the expected means of settlement. For less
      complex derivative instruments, such as free-standing warrants, the Company
      generally uses the Black-Scholes-Merton option valuation technique because
      it
      embodies all of the requisite assumptions (including trading volatility,
      estimated terms and risk free rates) necessary to fair value these instruments.
      For complex derivative instruments, such as embedded conversion options, the
      Company generally uses the Flexible Monte Carlo valuation technique because
      it
      embodies all of the requisite assumptions (including credit risk, interest-rate
      risk and exercise/conversion behaviors) that are necessary to fair value these
      more complex instruments. For forward contracts that contingently require
      net-cash settlement as the principal means of settlement, the Company projects
      and discounts future cash flows applying probability-weightage to multiple
      possible outcomes. Estimating fair values of derivative financial instruments
      requires the development of significant and subjective estimates that may,
      and
      are likely to, change over the duration of the instrument with related changes
      in internal and external market factors. In addition, option-based techniques
      are highly volatile and sensitive to changes in the trading market price of
      our
      common stock, which has a high-historical volatility. Since derivative financial
      instruments are initially and subsequently carried at fair values, our income
      (loss) will reflect the volatility in these estimate and assumption
      changes.





**Revenue
      Recognition:**





Revenue
      is recognized when all significant contractual obligations have been satisfied
      and collection of the resulting receivable is reasonably assured. Revenue from
      product sales is recognized when the goods are shipped and title passes to
      the
      customer.





The
      company applies the guidance of SOP-97.2 with regards to its software products.
      Under this guidance, the Company determined that its product sales do not
      contain multiple deliverables for an extended period beyond delivery where
      bifurcation of multiple elements is necessary. The software is embedded in
      the
      products sold and shipped. Revenue is recognized upon delivery, installation
      and
      acceptance by the customer. PCS (postcontract customer support) and upgrades
      are
      billed separately and when rendered or delivered and not contained in the
      original arrangement with the customer. Installation services are included
      with
      the original customer arrangement but are rendered at the time of delivery
      of
      the product and invoicing.




The
      Company provides IT and business process outsourcing services under
      time-and-material, fixed-price contracts, which may extend up to 5 years.
      Services provided over the term of these arrangements may include, network
      engineering, architectural guidance, database management, expert programming
      and
      functional area expert analysis   Revenue is generally recognized when the
      product or service is provided and the amount earned is not contingent upon
      any
      further event.


23


**Impairments
      of long-lived assets:**





At
      least
      annually, the Company reviews all long-lived assets with determinate lives
      for
      impairment. Long-lives assets subject to this evaluation include property and
      equipment and intangible assets that amount to $6,332,000 (or 47%) of total
      assets at June 30, 2007. The Company considers the possibility that impairments
      may be present when indicators of impairment are present. In the event that
      indicators are identified or, if within management’s normal evaluation cycle,
      the Company establishes the presence of possible impairment by comparing asset
      carrying values to undiscounted projected cash flows. The preparation of cash
      flow projections requires management to develop many, often subjective,
      estimates about the Company’s performance. These estimates include consideration
      of revenue streams from existing customer bases, the potential increase and
      decrease in customer sales activity and potential changes in the Company’s
      direct and indirect costs. In addition, if the carry values of long-lived assets
      exceed undiscounted cash flow, the Company would estimate the impairment based
      upon discounted cash flow. The development of discount rates necessary to
      develop this cash flows information requires additional assumptions including
      the development of market and risk adjusted rates for discounting cash flows.
      While management utilizes all available information in developing these
      estimates, actual results are likely to be different than those
      estimates.





Goodwill
      represents the difference between the purchase price of an acquired business
      and
      the fair value of the net assets of businesses the Company has acquired.
      Goodwill is not amortized. Rather, the Company tests goodwill for impairment
      annually (or in interim periods if events or changes in circumstances indicate
      that its carrying amount may not be recoverable) by comparing the fair value
      of
      each reporting unit, as measured by discounted cash flows, to the carrying
      value
      of the reporting unit to determine if there is an indication that potential
      impairment may exist. One of the most significant assumptions underlying this
      process is the projection of future sales. The Company reviews its assumptions
      when goodwill is tested for impairment and makes appropriate adjustments, if
      any, based on facts and circumstances available at that time. While management
      utilizes all available information in developing these estimates, actual results
      are likely to be different than those estimates.





**Item
      3.**  **Controls
      and Procedures.**





As
      of the
      end of the period covered by this report, we conducted an evaluation, under
      the
      supervision and with the participation of our chief executive officer and chief
      financial officer of our disclosure controls and procedures (as defined in
      Rule
      13a-15(e) and Rule 15d-15(e) of the Exchange Act). Based upon this evaluation,
      our chief executive officer and chief financial officer concluded that our
      disclosure controls and procedures are effective to ensure that information
      required to be disclosed by us in the reports that we file or submit under
      the
      Exchange Act is recorded, processed, summarized and reported, within the time
      periods specified in the Commission’s rules and forms.  The material
      weakness in our internal controls identified in the period ended March 31,
      2007
      relating to the difficulty of access to the financial records of our subsidiary
      has been rectified.




**PART
      II**




**Item
      1.**  **Legal
      Proceedings.**





We
      are
      not a party to any pending legal proceeding, nor is our property the subject
      of
      a pending legal proceeding, that is not in the ordinary course of business
      or
      otherwise material to the financial condition of our business. None of our
      directors, officers or affiliates is involved in a proceeding adverse to our
      business or has a material interest adverse to our business.


24


**Item
      2.**  **Unregistered
      Sales of Equity Securities and Use of Proceeds.**




Not
      applicable





**Item
      3.**  **Defaults
      Upon Senior Securities.**





Not
      applicable.





**Item
      4.**  **Submission
      of Matters to a Vote of Security Holders.**





Not
      applicable.





**Item
      5.**  **Other
      Information.**





Not
      applicable.





**Item
                6.**
            **Exhibits.**





**Exhibit**
              **Number**
            
            **Description**3.10
            
            Restated
                Certificate of Incorporation (Incorporated by reference to the
                Registration Statement on Form SB-2 filed on February 12, 2007.)31.1
            
            Certification
                by Chief Executive Officer, required by Rule 13a-14(a) or Rule 15d-14(a)
                of the Exchange Act.31.2
            
            Certification
                by Chief Financial Officer, required by Rule 13a-14(a) or Rule 15d-14(a)
                of the Exchange Act.32.1
            
            Certification
                by Chief Executive Officer, required by Rule 13a-14(b) or Rule 15d-14(b)
                of the Exchange Act and Section 1350 of Chapter 63 of Title 18 of
                the
                United States Code.32.2
            
            Certification
                by and Chief Financial Officer, required by Rule 13a-14(b) or Rule
                15d-14(b) of the Exchange Act and Section 1350 of Chapter 63 of Title
                18
                of the United States Code.













SIGNATURES





In
      accordance with the requirements of the Exchange Act, the registrant caused
      this
      report to be signed on its behalf by the undersigned, thereunto duly
      authorized.





**LATTICE INCORPORATED**




Date:
                August 20, 2007
            By:
            /s/
                Paul BurgessPaul
                BurgessPresident,
                Chief Executive Officer
              and
                Director




Date:
                August 20, 2007
            By:
            /s/
                Joe NotoJoe
                NotoChief
                Financial Officer and Principal
              Accounting
                Officer





25