Table of Contents





# UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549

---

FORM 10-QSB/A

Amendment No. 1

---

(MARK ONE)

|x | QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR
THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2006
|- | -----------------------------------------------------------------------------------------------------------------------------------

|o | TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT FOR THE TRANSITION FROM _________ TO __________
|- | --------------------------------------------------------------------------------------------------------------------------

# Commission file number 1-31730

---

CapSource Financial, Inc. (Name of Small Business Issuer as Specified in its charter)

|Colorado                 | 84-1334453                       
|------------------------ | ---------------------------------
|(State of incorporation) | (IRS Employer Identification No.)

2305 Canyon Boulevard, Suite 103, Boulder, CO 80302
(Address of principal executive offices and Zip Code)

(Registrants telephone number) (303) 245-0515

---

Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Securities 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

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

There were 20,433,321 shares of common stock outstanding at November 17,
2006.

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





---

On October 5, 2006, the
Registrant filed a registration statement on Form SB-2 (the Registration Statement). This Amendment No. 1 to the
quarterly report on Form 10-QSB for the period ending September 30, 2006 (Amendment No. 1) for the Registrant is being
filed in connection with the Registrants responses to Securities and Exchange Commission comments to the Registration
Statement. This Amendment No. 1 contains a restatement of the Statements of Cash Flows for the period ending September 30,
2006, and the related Note 3 to such financial statements.

The information contained in
this Amendment No. 1 does not reflect events occurring after the filing of the initial quarterly report. Developments with respect
to our business have occurred and are described in filings we have made with the Securities and Exchange Commission after filing
the initial quarterly report.

CapSource Financial, Inc.



INDEX



Part I  Financial InformationPageNo.Item 1. Unaudited Condensed Consolidated Financial StatementsBalance Sheets as of September 30, 2006 and December 31, 2005
        3Statements of Operations for the three-month and nine-month periods ended September 30, 2006 and 2005
        4Statements of Cash Flows for the nine-month periods ended September 30, 2006 and 2005
        5Notes to Unaudited Condensed Consolidated Financial Statements
        6Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
        11Item 3. Controls and Procedures
        16Part II  Other InformationItem 1. Legal Proceedings
        17Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
        17Item 3. Defaults Upon Senior Securities
        17Item 4. Submissions of Matters to a Vote of Security Holders
        17Item 5. Other Information
        17Item 6. Exhibits
        17Signature
        18






2

---

Table of Contents

Part I  Financial Information



Item 1.   Unaudited Condensed, Consolidated Financial Statements



CAPSOURCE FINANCIAL, INC. AND SUBSIDIARIES

Unaudited Condensed Consolidated Balance Sheets



September 30,2006
        
        December 31,2005AssetsCurrent assets:Cash and cash equivalents
        
        $
        2,012,049
        
        $
        612,790Rents and accounts receivable, net
        
        
        3,081,027
        
        
        795,812Mexican value added taxes receivable
        
        
        56,052
        
        
        10,237Inventory
        
        
        7,774,360
        
        
        1,193,701Advances to vendors
        
        
        1,337,114
        
        
        891,256Prepaid insurance and other current assets
        
        
        114,959
        
        
        123,278Total current assets
        
        
        14,375,561
        
        
        3,627,074Property and equipment, net
        
        
        1,200,029
        
        
        1,269,752Other assets
        
        
        47,994
        
        
        155,584Intangible assets
        
        
        465,057
        
        
        Total assets
        
        $
        16,088,641
        
        $
        5,052,410Liabilities and Stockholders EquityCurrent liabilities:Accounts payable and accrued expenses
        
        $
        4,696,667
        
        $
        532,582Deposits for lease/rental
        
        
        74,721
        
        
        66,867Advances from customers
        
        
        4,413,599
        
        
        635,202Notes payable and line of credit
        
        
        2,620,571
        
        
        2,126,209Payable to stockholder
        
        
        1,609,773
        
        
        832,705Total current liabilities
        
        
        13,415,331
        
        
        4,193,565Long-term debt
        
        
        330,000
        
        
        342,000Total liabilities
        
        
        13,745,331
        
        
        4,535,565Commitments and contingencies (Note 12)Stockholders equity:Common stock
        
        
        196,833
        
        
        123,787Additional paid-in capital
        
        
        15,088,826
        
        
        11,722,403Accumulated deficit
        
        
        (12,942,349
        )
        
        (11,329,345
        )Total stockholders equity
        
        
        2,343,310
        
        
        516,845Total liabilities and stockholders equity
        
        $
        16,088,641
        
        $
        5,052,410






See accompanying notes to unaudited condensed consolidated financial statements.



3

---

Table of Contents

CAPSOURCE FINANCIAL, INC. AND SUBSIDIARIES

Unaudited Condensed Consolidated Statements of Operations



THREE MONTHS ENDED
        
        NINE MONTHS ENDEDSeptember 30,2006
        
        September 30,2005
        
        September 30,2006
        
        September 30,2005Net sales and rental income
        
        $
        10,969,188
        
        $
        6,080,492
        
        $
        20,759,467
        
        $
        15,317,032Cost of sales and operating leases
        
        
        (10,310,492
        )
        
        (5,670,903
        )
        
        (19,248,628
        )
        
        (14,302,421
        )Selling, general and administrative
        
        
        (760,467
        )
        
        (539,620
        )
        
        (2,802,609
        )
        
        (1,629,435
        )Operating loss
        
        
        (101,771
        )
        
        (130,031
        )
        
        (1,291,770
        )
        
        (614,824
        )Interest, net
        
        
        (92,475
        )
        
        (98,755
        )
        
        (249,735
        )
        
        (611,366
        )Other income (expense), net
        
        
        6,131
        
        
        (21,316
        )
        
        (35,394
        )
        
        (53,395
        )Loss before income taxes
        
        
        (188,115
        )
        
        (250,102
        )
        
        (1,576,899
        )
        
        (1,279,585
        )Income taxes
        
        
        (3,666
        )
        
        (18,096
        )
        
        (36,105
        )
        
        (39,075
        )Net loss
        
        $
        (191,781
        )
        $
        (268,198
        )
        $
        (1,613,004
        )
        $
        (1,318,660
        )Net loss per basic and diluted share
        
        $
        (0.01
        )
        $
        (0.02
        )
        $
        (0.10
        )
        $
        (0.12
        )Weighted-average sharesoutstanding, basic and diluted
        
        
        19,679,245
        
        
        11,235,800
        
        
        16,416,877
        
        
        10,989,005




See accompanying notes to unaudited condensed consolidated financial statements.





4

---

Table of Contents

CAPSOURCE FINANCIAL, INC. AND SUBSIDIARIES

Unaudited Condensed Consolidated Statements of Cash Flows



NINE MONTHS ENDEDSeptember 30,2006
        
        September 30,2005Cash flows from operating activities:Net loss
        
        $
        (1,613,004
        )
        $
        (1,318,660
        )Adjustments to reconcile net loss to net cash used in operating activities:Provision for (recovery of) doubtful accounts
        
        
        44,602
        
        
        (3,894
        )Depreciation and amortization
        
        
        217,317
        
        
        190,291Accretion of discount on convertible notes payable and payable to stockholder
        
        
        
        
        
        19,998Accretion of discount on payable to stockholder converted to equity prior to maturity
        
        
        
        
        
        353,100Discount on conversion of stockholder debt
        
        
        784,679
        
        
        Gain on disposal of assets
        
        
        
        
        
        (1,537
        )Changes in operating assets and liabilities, net of business acquired:Rents and other receivables
        
        
        (1,963,561
        )
        
        (321,287
        )Inventory
        
        
        (5,545,310
        )
        
        (3,627,540
        )Advances to vendors and other current assets
        
        
        (486,032
        )
        
        218,504Dealer floor plan financing arrangement
        
        
        963,967
        
        
        Accounts payable and accrued expenses
        
        
        4,070,785
        
        
        2,274,795Deposits and advance payments
        
        
        3,786,251
        
        
        183,554Other assets
        
        
        107,590
        
        
        6,945Net cash used in operating activities
        
        
        367,284
        
        
        (2,025,731
        )Cash flows from investing activities:Purchase of acquired business, net of cash acquired
        
        
        (1,014,290
        )
        
        Purchase of property and equipment
        
        
        (138,960
        )
        
        (155,751
        )Proceeds from disposition of property and equipment
        
        
        15,770
        
        
        151,196Net cash used in investing activities
        
        
        (1,137,480
        )
        
        (4,555
        )Cash flows from financing activities:Proceeds from payable to stockholder
        
        
        1,630,200
        
        
        1,623,000Proceeds from notes payable and convertible notes payable
        
        
        274,781
        
        
        1,416,725Repayment of notes payable and payable to stockholder
        
        
        (1,599,734
        )
        
        (1,039,351
        )Proceeds from exercise of common stock warrants
        
        
        137,500
        
        
        Proceeds from sale of common stock
        
        
        2,000,000
        
        
        Offering costs
        
        
        (273,292
        )
        
        Net cash provided by financing activities
        
        
        2,169,455
        
        
        2,000,374Net increase (decrease) in cash and cash equivalents
        
        
        1,399,259
        
        
        (29,912
        )Cash and cash equivalents, beginning of the period
        
        
        612,790
        
        
        211,896Cash and cash equivalents, end of the period
        
        $
        2,012,049
        
        $
        181,984Supplemental cash flow information:Cash paid for interest
        
        $
        226,836
        
        $
        171,428Cash paid for income taxes
        
        $
        45,581
        
        $
        24,171Stockholder debt converted to common stock
        
        $
        871,866
        
        $
        1,100,000




See accompanying notes to unaudited condensed consolidated financial statements.





5

---

Table of Contents

CAPSOURCE FINANCIAL, INC. AND SUBSIDIARIES



Notes to Unaudited Condensed Consolidated Financial Statements



(1)   Nature of OperationsCapSource Financial, Inc. (CapSource or the Company) is a U.S. corporation with its principal place of business in Boulder, Colorado. CapSource is a holding company that sells and leases dry van and refrigerated truck trailers through its wholly owned Mexican operating subsidiaries. In addition, on May 1, 2006, the Company acquired, and began operating, the truck trailer sales business of Prime Time Equipment, Inc., a California based authorized dealer for Hyundai Translead trailers. The Company now operates the acquired business through its wholly owned U.S. subsidiary, CapSource Equipment Company, Inc., d/b/a Prime Time Trailers. The Company operates in one business segment, the sale and lease of trailers, and conducts business in the United States and Mexico.



Prior to May 1, 2006, all of the Companys sales
were generated in Mexico. For the three months and nine months ended September 30, 2006, the geographic distribution of the
Companys net sales (in thousands) was:



|                | Three Months EndedSeptember 30, 2006 |  | Nine Months EndedSeptember 30, 2006
|--------------- | ------------------------------------ |  | -----------------------------------
|
|Mexico          |                                      |  | $                                  
|United States   |                                      |  |                                    
|                |                                      |  |                                    
|Total net sales |                                      |  | $                                  
|                |                                      |  |                                    

(2)   Basis of presentationThe accompanying unaudited condensed consolidated financial statements include the accounts
of CapSource and its wholly owned subsidiaries. All material intercompany balances and transactions have been eliminated in
consolidation. In the opinion of Company management, the accompanying unaudited condensed, consolidated financial statements
contain all adjustments (consisting of only normal recurring adjustments, except as noted elsewhere in the notes to the condensed
consolidated financial statements) necessary to present fairly the financial position of the Company as of September 30, 2006, and
the results of operations and cash flows for the interim periods presented. These statements are condensed and, therefore, do not
include all of the information and notes required by generally accepted accounting principles for complete financial statements.
The statements should be read in conjunction with the consolidated financial statements and footnotes included in the
Companys Annual Report on Form 10-KSB for the year ended December 31, 2005, filed with the Securities and Exchange
Commission on March 30, 2006. The results of operations for the three months and nine months ended September 30, 2006, are not
necessarily indicative of the results to be expected for the full year, or for any other future period.



The financial statements of the Companys Mexican subsidiaries are reported in the local currency, the Mexican peso. However, as substantially all sales and leases are denominated in U.S. dollars, as well as generally all other activities, the functional currency is designated as the U.S. dollar. Any transactions denominated in the local currency are remeasured into the U.S. dollar, creating foreign exchange gains or losses that are included in other income(expense).



(3)   LiquiditySince
its inception, the Company has generated losses from operations, and as of September 30, 2006, had an accumulated deficit of
$12,942,349 and working capital of $960,230. Until such time that the Company achieves profitability, it will need to seek
additional debt and/or equity funding to continue its operations.



On May 1, 2006, the Company increased
its equity by selling 5,000,000 shares of common stock for $2,000,000. In addition, the Companys Chairman and largest
stockholder, converted $871,866 of debt owed to him by the Company, into 2,179,664 shares of Company common stock (See Note 9).



On May 1, 2006, in conjunction with the acquisition of
the Prime Time Trailer business, the Company obtained a revolving floor plan inventory line of credit of approximately $3,000,000,
to finance the purchase of new and used truck trailer inventory in the United States. The floor plan notes, which bear interest at
Prime Rate plus 1.25% (currently 9.5%) for new equipment and at Prime Rate plus 1.75% (currently 10.0%) for used
equipment, are secured by specific trailer inventory and are paid as each financed trailer is sold by the Company.

6

---

Table of Contents



On July 1, 2006, the Companys majority
stockholder exercised warrants to purchase 125,000 shares of Company common stock at the exercise price of $1.10 per share,
pursuant to the terms of the warrants, resulting in a net increase to stockholders equity of $137,500.



On October 23, 2006, the Company and its Mexican
operating subsidiary, RESALTA, obtained a floor plan inventory line of credit of $3,600,000, to finance the purchase and sale of
new and used truck trailers in Mexico. The floor plan notes, which bear interest at LIBOR plus 4.17% (currently 9.5%), are secured
by specific trailer inventory and are paid as each financed trailer is sold by the Company.

In addition to new debt and equity
financing obtained by the Company, the Companys Chairman and largest stockholder has expressed his willingness and ability
to continue to financially support the Company, at least through March 31, 2007 if needed, by way of additional debt and/or
equity contributions. Management believes that the cash on hand at September 30, 2006, and cash expected to be generated by
operations, will provide sufficient operational funds for the next twelve months, and to satisfy obligations as they become due.
If the Company experiences occasional cash short-falls, management expects to cover them with funds provided by the Companys
Chairman.



Correction of Error in Reporting Dealer Floor
Plan Financing Arrangement in the Statements of Cash Flows



The consolidated Statements of Cash Flows for the
nine months ended September 30, 2006 and 2005 have been restated for a correction of an error in the classification of
transactions involving the floor plan inventory line of credit. Although on an overall basis the corrections did not change the
beginning or ending balances of cash and cash equivalents, the previous classifications incorrectly reported such credit line
activities as cash flows provided by or used in operating and financing activities.



A
reconciliation between amounts presented in the restated consolidated statements of cash flows and amounts previously reported is
as follows:

September 30,2006
        
        2005Net cash used in operating activities, as previously reported
        
        $
        (596,683
        )
        (2,025,731
        )Correction of dealer floor plan financing arrangement cash flows
        
        
        963,967
        
        Net cash provided by (used in) operating activities, as corrected
        
        $
        367,284
        
        (2,025,731
        )Net cash provided by financing activities, as previously reported
        
        $
        3,133,422
        
        2,000,374Correction of notes payable cash flows
        
        
        (963,967
        )
        Net cash provided by financing activities, as corrected
        
        $
        2,169,455
        
        2,000,374




(4)   AcquisitionOn
May 1, 2006, the Company, through its wholly-owned subsidiary CapSource Equipment Company, Inc., a Nevada corporation
(CECO), entered into an Asset Purchase Agreement with Prime Time Equipment, Inc. (Prime Time), a Fontana,
California based authorized California dealer for Hyundai Translead trailers and its shareholder, Kenneth Moore, to purchase
substantially all of Prime Times assets and business for total consideration of approximately $1,970,000, of which
$1,014,290 was paid in cash at closing, and the balance consisted of the assumption of certain liabilities that will be paid in
due course. The total purchase price consideration of $1,970,000 has been allocated to the assets acquired, including identifiable
intangible assets, based on their respective fair values at the date of acquisition. Such allocation resulted in goodwill of
approximately $98,000. The purchase price was allocated to intangibles based on managements estimate. Management expects to
finalize the purchase price allocation within twelve months of the acquisition date, as certain initial accounting estimates are
resolved.



The Company acquired Prime Time in order to expand its
operations into the California market as part of its strategic plan to provided equipment and services along the major
transportation corridors to and from Mexico. In addition, the acquisition allows the Company to diversify its concentration in
Mexico. The results of Prime Times operations have been included in the Companys interim consolidated financial
statements since May 1, 2006.



The preliminary purchase price allocation is as follows (in thousands):



Intangibles:Non-compete agreement
        $
        400.0Goodwill
        
        98.3Tangible assets and liabilities acquired:Accounts receivable
        
        412.0Inventory
        
        1,035.3Other assets
        
        24.0Total assets
        
        1,969.6Accrued payable
        
        (93.3
        )Short-term debt
        
        (862.0
        )Net assets acquired
        $
        1,014.3




The acquired intangible asset relates to a 5 year
non-compete agreement with the seller. Accordingly, such intangible asset is amortized over the 5 year non-compete
period.



7

---

Table of Contents

Pro forma Results of Operations



The following presents the unaudited pro forma
combined results of operations of the Company with Prime Time for the three months and nine months ended September 30, 2006 and
2005, after giving effect to certain pro forma adjustments related to the amortization of the acquired intangible asset. These
unaudited pro forma results are not necessarily indicative of the actual consolidated results of operations had the acquisitions
actually occurred on January 1, 2006 and January 1, 2005 or of future results of operations of the consolidated
entities:

Three Months EndedSeptember 30,
        
        Nine Months EndedSeptember 30,2006
        
        2005
        
        2006
        
        2005Revenues
        
        $
        10,969,188
        
        $
        8,616,373
        
        $
        25,411,072
        
        $
        36,928,030Net loss
        
        
        (191,781
        )
        
        (273,575
        )
        
        (1,467,470
        )
        
        (985,600
        )Basic and diluted loss per share
        
        
        (0.01
        )
        
        (0.01
        )
        
        (0.08
        )
        
        (0.05
        )




(5)   Recognition of revenue from
equipment salesRevenue generated by the sale of trailer and semi-trailer equipment is recorded at the
time the equipment is delivered to the buyer, provided the Company has evidence of an arrangement, the sale price is fixed or
determinable and collectibility is reasonably assured.



(6)   Equipment
leasingThe Companys leases are classified as operating leases for all of the Companys leases
and for all lease activity, as the lease contracts do not transfer substantially all of the benefits and risks of ownership of the
equipment to the lessee and, accordingly, do not satisfy the criteria to be recognized as capital leases. In determining whether
or not a lease qualifies as a capital lease, the Company must consider the estimated value of the equipment at lease termination
or residual value.



Leasing revenue consists principally of monthly
rentals and related charges due from lessees. Leasing revenue is recognized ratably over the lease term. Deposits and advance
rental payments are recorded as a liability until repaid or earned by the Company. Operating lease terms range from month-to-month
rentals to five years. Initial direct costs (IDC) are capitalized and amortized over the lease term in proportion to the
recognition of rental income. At September 30, 2006, the Company had no capitalized IDC. Depreciation expense and amortization of
IDC are recorded as direct costs of trailers under operating leases in the accompanying consolidated statements of operations on a
straight-line basis over the estimated useful life of the equipment. Residual values are estimated at lease inception equal to the
estimated fair value of the equipment following termination of the initial lease (which in certain circumstances includes
anticipated re-lease proceeds) as determined by the Company. In estimating such values, the Company considers various information
and circumstances regarding the equipment and the lessee. Actual results could differ significantly from initial estimates, which
could in turn result in impairment or other charges in future periods.



(7)   Income Taxes
The income taxes of $3,666 and $36,105 for the three and nine months ended September 30, 2006, respectively, and $18,096
and $39,075, for the same periods of 2005, respectively, represent an alternative tax on assets incurred by the Companys Mexican
operations. This alternative tax is applicable to some Mexican corporations that have no taxable earnings.



(8)   Comprehensive income (loss)Comprehensive income (loss) includes all changes in stockholders equity (net assets) from non-owner
sources during the reporting period. Since inception, the Companys comprehensive loss has been the same as its net
loss.



(9)   Common stock and warrant
issuanceOn May 1, 2006, the Company increased its equity through a private equity placement, selling
5,000,000 shares of common stock at $0.40 per share for $2,000,000, together with warrants to purchase another 5,000,000 shares of
Company common stock at an exercise price of $0.90 per share (warrant shares). In addition, the private placement
agreements granted the investors the right to purchase a total of an additional 750,000 shares of common stock at $0.40 per share
for $300,000, for a period of up to 180 days after the private placement date. Subsequent to September 30, 2006, the investors
exercised this right to purchase the additional shares, resulting in a total of 5,750,000 shares being issued to the investors in
conjunction with the private equity placement. In addition, since the investors exercised this right to purchase additional
shares, the number of shares covered by the warrants correspondingly increased to a total of 5,750,000 warrant shares.



8

---

Table of Contents

In conjunction with the private equity placement on
May 1, 2006, the Companys Chairman and largest shareholder converted $871,866 of debt owed to him by the Company into
2,179,664 shares of common stock at $0.40 per share, and received warrants to purchase another 2,179,664 shares of
common stock at an exercise price of $.90 per share. Since the shareholders debt was converted at a price discount of $0.36
per share less than the last public trade prior to May 1, 2006 of $0.76 per share, the Company recognized a loss on the
extinguishment of the shareholder debt of the total discount of $784,679. This non-cash loss is recorded in selling, general and
administrative expenses in the Companys consolidated statement of operations for the nine months ended September 30,
2006.

The placement agent that coordinated the private
equity placement initially received a warrant to purchase 500,000 shares of Company common stock at $0.48 per share, together with
another warrant (Sub-Warrant) to purchase up to another 500,000 shares of common stock at $1.08 per share. The placement agent
warrant and Sub-Warrant shares were automatically increased by 75,000 additional shares each, when the investors exercised their
right to purchase the additional 750,000 shares within 180 days after the placement date.

Proceeds from the private equity placement on May 1,
2006 totaled $2,000,000, offset by offering costs of $273,292 incurred in 2006, and $81,284 incurred in prior years, resulting in
a net increase to stockholders equity of $1,645,424. In addition, the conversion of the Companys debt of $871,866 with
the Chairman and largest stockholder, and the related discount of $784,679, resulted in a net increase to stockholders
equity of $1,656,545. The combined impact of the concurrent equity transactions was a net increase to stockholders equity of
$3,301,969 at September 30, 2006 compared to December 31, 2005.



Subsequent to September 30, 2006, the Company issued
an additional 750,000 common shares to the investors, as they exercised the right to purchase such additional shares, pursuant to
the private placement agreement. The total proceeds of $300,000 were offset by offering and issuance costs of $39,000, resulting
in a net increase to stockholders equity of $261,000.



On July 1, 2006, the Companys majority
stockholder exercised warrants to purchase 125,000 shares of Company common stock at the exercise price of $1.10 per share,
pursuant to the terms of the warrants, resulting in a net increase to stockholders equity of $137,500.



On February 18, 2005, the Companys majority
stockholder converted a Company note of $1,100,000 into 1,375,000 shares of Company common stock at the conversion price of $0.80
per share, pursuant to the terms of the convertible note.



The September 30, 2005 consolidated statement of
operations includes a charge of $353,100 to interest expense that represents the amortization of the beneficial conversion feature
discount in connection with the convertible stockholder note.



For the nine months ended September 30, 2006 and 2005,
the Company did not issue any stock-based awards. All stock-based awards granted in previous periods were fully vested as of the
issuance date, except for warrants to purchase 34,834 shares of Company common stock at $2.45 per share that vested to the holder
on August 29, 2004.



(10)   Earnings per shareThe following summarizes the weighted-average common shares issued and outstanding for the three months and nine months ended September 30, 2006 and 2005:



9

---

Table of Contents

Three Months Ended Sept 30
        
        Nine Months Ended Sept 302006
        
        2005
        
        2006
        
        2005Common and common equivalent shares outstanding-beginning of period
        
        19,558,321
        
        11,235,800
        
        12,378,657
        
        9,860,800Common shares issued for sale of common stock
        
        
        
        
        
        5,000,000
        
        Common shares issued for conversion of debt
        
        
        
        
        
        2,179,664
        
        1,375,000Common shares issued for exercise of warrants
        
        125,000
        
        
        
        125,000
        
        Common and common equivalent shares outstanding  end of period
        
        19,683,321
        
        11,235,800
        
        19,683,321
        
        11,235,800Historical common equivalent shares outstanding  beginning of period
        
        19,558,321
        
        11,235,800
        
        12,378,657
        
        9,860,800Weighted average common shares issued during period
        
        120,924
        
        
        
        4,038,220
        
        1,128,205Weighted average common shares outstanding  basic and diluted
        
        19,679,245
        
        11,235,800
        
        16,416,877
        
        10,989,005




Basic loss per share is computed by dividing net loss
by the weighted average number of common shares outstanding. Diluted loss per share is computed by dividing net loss by the
weighted average number of common shares outstanding increased for potentially dilutive common shares outstanding during the
period. The dilutive effect of equity instruments is calculated using the treasury stock method.



Warrants to purchase 8,451,998 and 887,334 common
shares as of September 30, 2006 and 2005, respectively, were excluded from the treasury stock calculation because they were
anti-dilutive due to the Companys net losses.



(11)   Supplemental balance sheet
information



Sept 30,2006
        
        December 31,2005Rents and accounts receivable, net:Rents and accounts receivable
        $
        3,138,194
        
        $
        808,377Allowance for doubtful accounts
        
        (57,167
        )
        
        (12,565
        )Total rents and accounts receivable, net
        $
        3,081,027
        
        $
        795,812Property and equipment, net:Trailer and semi-trailer equipment
        $
        2,060,752
        
        $
        2,057,285Vehicles
        
        108,729
        
        
        68,230Furniture and computer equipment
        
        155,056
        
        
        140,5572,324,537
        
        
        2,266,072Accumulated depreciation
        
        (1,124,508
        )
        
        (996,320
        )Total property and equipment, net
        $
        1,200,029
        
        $
        1,269,752




(12)   Commitments and ContingenciesAs of September 30, 2006, the Company had committed to purchase additional trailers from Hyundai Translead, at a total purchase price of approximately $15,621,140, towards which the Company had made down payments of $1,337,114. Under the terms of the commitment, the Company must pay Hyundai the remaining balance due of approximately $14,284,026 upon taking delivery of the trailers. In addition, the Company has begun to place orders for delivery during 2007 to ensure an uninterrupted supply sufficient to meet anticipated customer demand in 2007.



In conjunction with the private equity placement that
took place on May 1, 2006, the Company is required to prepare and file with the Securities and Exchange Commission, a registration
statement covering all the shares that were or could be issued as a result of the transaction. The Company complied with this
requirement by filing such registration statement Form SB-2 (Registration Statement) on October 5, 2006. However, the Company also
is obliged to have caused such Registration Statement to become effective within 180 days of May 1, 2006, i.e. October 28, 2006.
Any delays in meeting the obligation to have the Registration Statement declared effective within 180 days of May 1, 2006 will
result in the Company being liable to the investors in an amount equal to one percent per month (or part thereof) of the purchase
price paid for the shares, and, if exercised, the warrant shares, for the duration of any such delay. As of November 17, 2006, the
Registration Statement has not been declared effective. Consequently, the Company will be required to pay the investors the fee of
approximately $23,000 for each month (or part thereof) that the effective date of the Registration Statement is delayed, unless
the investors waive such fee.



10

---

Table of Contents

Item 2.   MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS



This discussion contains
statements that, to the extent that they are not recitations of historical fact, constitute forward-looking statements
within the meaning of applicable securities legislation. The SEC encourages companies to disclose forward-looking information so
that investors can better understand a companys future prospects and make informed investment decisions. Forward-looking
statements may include financial and other projections, as well as statements regarding our future plans, objectives or economic
performance, or the assumptions underlying any of the foregoing. We use words such as may, would,
could, will, likely, expect, anticipate, believe,
intend, plan, forecast, project, estimate and similar expressions to
identify forward-looking statements. You can identify forward-looking statements by the fact that they do not relate
strictly to historical or current facts.



Our forward-looking statements are
based on assumptions and analyses made by us in light of our experience and our perception of historical trends, current
conditions and expected future developments, as well as other factors we believe are appropriate and reasonable in the
circumstances. Any statement containing forward-looking information speaks only as of the date on which it is made; and, except to
fulfill our obligations under the U.S. securities laws, we undertake no obligation to update any such statement to reflect events
or circumstances after the date on which it is made. A number of factors could cause the Companys actual results to differ
materially from those indicated in the forward looking statements in this discussion. All such factors are difficult to predict,
contain uncertainties that may materially affect actual results, and may be beyond our control. It is not possible for our
management to predict all of such factors or to assess the effect of each factor on our business. All of our forward-looking
statements should be considered in light of these factors. For more information about such factors and risks, see the other
documents incorporated by reference in this document.



Overview

CapSource Financial, Inc. is a
U.S. corporation engaged principally in the business of selling and leasing over-the-road truck trailers. We conduct this business
through two wholly-owned operating subsidiaries in Mexico  REMEX and RESALTA. In addition, as of May 1, 2006, through our
wholly-owned U.S. subsidiary CapSource Equipment Company, Inc., we acquired and are now operating the truck trailer sales business
of Prime Time Equipment, Inc., a California-based trailer dealer. We operate the acquired business as: d/b/a Prime Time
Trailers.



Through RESALTA, our Mexican
trailer sales company, we have the exclusive right to sell Hyundai truck trailers and related equipment in Mexico from Hyundai
Translead, a subsidiary of the Korean construction, engineering and manufacturing company. RESALTA markets and distributes Hyundai
trailer products through a number of locations in Mexico. Through REMEX, our lease/rental subsidiary in Mexico, we own and manage
a lease/rental fleet of over-the-road truck trailers and related equipment, which are leased to our customers under operating
lease contracts that are denominated in U.S. dollars.



Prime Time Trailers is the sole
authorized distributor for Hyundai Translead truck trailers and related equipment in California. The acquisition of Prime Time
provides CapSource with an established operation with access to markets on the West Coast and in the Southwestern United States.
Prime Time markets and distributes trailers and trailer products from its location in Fontana, California. In September 2006, we
finalized an agreement with Hyundai Translead to be the authorized Hyundai dealer for truck trailers in Texas. We have leased a
facility in the Dallas/Ft. Worth area and are currently applying for the necessary Texas state regulatory permits to operate a
trailer sales facility. We anticipate that we will operate our Texas sales facility under the name: CapSource Equipment Company,
Inc., d/b/a Prime Time Trailers.



Private Equity Placement



On May 1, 2006, we increased
Company equity through a private equity placement, selling 5,000,000 shares of common stock at $0.40 per share for $2,000,000,
together with warrants to purchase another 5,000,000 shares of Company common stock at an exercise price of $0.90 per share
(warrant shares). In addition, the private placement agreements grant the investors the right to purchase a total of
an additional 750,000 shares of common stock at $0.40 per share for a period of up to 180 days after the placement date.
Subsequent to September 30, 2006, the investors exercised this right to purchase the additional shares, resulting in a total of
5,750,000 shares being issued to the investors in conjunction with the private equity placement. In addition, since the investors
exercised this right to purchase additional shares, the number of shares covered by the warrants correspondingly increased to a
total of 5,750,000 warrant shares.



11

---

Table of Contents

In conjunction with the private
equity placement on May 1, 2006, our Company Chairman and largest shareholder converted $871,866 of debt owed to him by the
Company into 2,179,664 shares of common stock at $0.40 per share, and received warrants to purchase another 2,179,664
shares of common stock at an exercise price of $.90 per share. Since the shareholders debt was converted at a price discount
of $0.36 per share less than the last public trade prior to May 1, 2006 of $0.76 per share, the Company recognized a loss on the
extinguishment of the shareholder debt of the total discount of $784,679. This non-cash loss is recorded in selling, general and
administrative expenses in the Companys consolidated statement of operations for the nine months ended September 30,
2006.

The placement agent that
coordinated the private equity placement received a warrant to purchase 500,000 shares of Company common stock at $0.48 per share,
together with another warrant (Sub-Warrant) to purchase up to another 500,000 shares of common stock at $1.08 per share. The
placement agent warrant and Sub-Warrant shares were automatically increased by 75,000 additional shares each, when the investors
exercised their right to purchase the additional 750,000 shares within 180 days of the placement date.

Proceeds from the private equity
placement on May 1, 2006 totaled $2,000,000, offset by offering costs of $273,292 incurred in 2006, and $81,284 incurred in prior
years, resulting in a net increase to stockholders equity of $1,645,424. In addition, the conversion of the Companys debt of
$871,866 with the Chairman and largest stockholder, and the related discount of $784,679, resulted in a net increase to
stockholders equity of $1,656,545. The combined impact of the concurrent equity transactions was a net increase to stockholders
equity of $3,301,969 at September 30, 2006 compared to December 31, 2005.



Subsequent to September 30, 2006,
the Company issued an additional 750,000 common shares to the investors, as they exercised the right to purchase such additional
shares pursuant to the private placement agreement. The total proceeds of $300,000 were offset by offering and issuance costs of
$39,000, resulting in a net increase to stockholders equity of $261,000.



In conjunction with the private equity placement that took place on May 1, 2006, the Company is required to
prepare and file with the Securities and Exchange Commission, a registration statement covering all the shares
that were or could be issued as a result of the transaction.  We complied with this requirement by filing the
Registration Statement Form SB-2 on October 5, 2006.  However, the Company also is obliged to have caused such
Registration Statement to become effective within 180 days of May 1, 2006, i.e. October 28, 2006.  Any delays in
meeting the obligation to have the Registration Statement declared effective within 180 days of May 1, 2006 will
result in the Company being liable to the investors in an amount equal to one percent per month (or part thereof)
of the purchase price paid for the shares, and, if exercised, the warrant shares, for the duration of any such
delay.  As of November 17, 2006, the Registration Statement has not been declared effective.  Consequently, the
Company will be required to pay the investors the fee of approximately $23,000 for each month (or part thereof)
that the effective date of the Registration Statement is delayed, unless the investors waive such fee.



Acquisition



On May 1, 2006, through our
wholly-owned subsidiary CapSource Equipment Company, Inc., a Nevada corporation (CECO), we entered into an Asset
Purchase Agreement with Prime Time Equipment, Inc. (Prime Time), a Fontana, California based authorized California
dealer for Hyundai Translead trailers and its shareholder, Kenneth Moore, to purchase substantially all of Prime Times
assets and business for total consideration of approximately $1,970,000, of which $1,014,290 was paid in cash at closing, and the
balance consisted of the assumption of certain liabilities that will be paid in due course. The total purchase price consideration
of $1,970,000 has been allocated to the assets acquired, including identifiable intangible assets, based on their respective fair
values at the date of acquisition. Such allocation resulted in goodwill of approximately $98,000. The purchase price was allocated
to intangibles based on managements estimate. We expect to finalize the purchase price allocation within twelve months of
the acquisition date as certain initial accounting estimates are resolved. The results of Prime Times operations have been
included in our interim consolidated financial statements since May 1, 2006.



12

---

Table of Contents

Results of Operations

The current consolidated financial statements include the results of Prime Time Trailers, which initiated operations in the United States on May 1, 2006.



Summary of Net Sales and Gross Profit

By Country

(U.S. $ Thousands)



Three Months Ended September 302006
        
        2005Mexico
        
        UnitedStates
        
        Total
        
        Mexico
        
        UnitedStates
        
        TotalNet sales and rental income
        
        $
        9,171.5
        
        1,797.7
        
        10,969.2
        
        6,080.5
        
        N/A
        
        6,080.5Cost of sales and operating leases
        
        
        (8,642.1
        )
        (1,668.4
        )
        (10,310.5
        )
        (5,670.9
        )
        N/A
        
        (5,670.9
        )Gross profit
        
        $
        529.4
        
        129.3
        
        658.7
        
        409.6
        
        N/A
        
        409.6Margin %
        
        
        5.8
        %
        7.2
        %
        6.0
        %
        6.7
        %
        
        
        6.7
        %Nine Months Ended September 302006
        
        2005Mexico
        
        UnitedStates
        
        Total
        
        Mexico
        
        UnitedStates
        
        TotalNet sales and rental income
        
        $
        18,205.6
        
        2,553.9
        
        20,759.5
        
        15,317.0
        
        N/A
        
        15,317.0Cost of sales and operating leases
        
        
        (16,879.4
        )
        (2,369.2
        )
        (19,248.6
        )
        (14,302.4
        )
        N/A
        
        (14,302.4
        )Gross profit
        
        $
        1,326.2
        
        184.7
        
        1,510.9
        
        1,014.6
        
        N/A
        
        1,014.6Margin %
        
        
        7.3
        %
        7.2
        %
        7.3
        %
        6.6
        %
        
        
        6.6
        %




For the third quarter ended September 30, 2006, our consolidated net sales increased 80.4% to $10,969,188 compared to $6,080,492 in the same period last year. Net sales  is made up of two components: trailer sales/service revenues, which grew in the third quarter of 2006 by $4,883,260, or 82.3% compared with the same period of 2005; and lease/rental income, which improved by $5,436, an increase of 4.0% over the same period last year. Trailer sales increased $3,085,597 during the third quarter of 2006 in our Mexican operations, in addition to trailer sales of $1,797,663 in our newly acquired U.S. business. The sales growth in our Mexican operations was driven by our continued emphasis on expanding trailer sales volume in Mexico. We have continued to concentrate our working capital in trailer sales inventory and facilities. In addition, some of the trailer sales growth in the third quarter of
2006 resulted from the resumption of purchasing by certain customers, who had temporarily postponed capital expenditures until after the July 2nd presidential election in Mexico. Prior to the election, we experienced some sales decline due to uncertainties as to its outcome.



For the nine months ended
September 30, 2006, our consolidated net sales grew by 35.5%, or $5,442,435 to $20,759,467, compared to $15,317,032 in the same
period of 2005. This increase resulted from a 32.2% increase in sales volume in 2006, or $4,924,518, of which $2,370,617 was due
to volume growth in our Mexican operations as well as sales of $2,553,901 contributed by our newly acquired U.S. trailer sales
operation. In addition, price increases of approximately 2.8% in our Mexican Operations added $517,917 to the total growth in
consolidated net sales.



Gross profit consists of total revenue less cost of sales and operating leases. For the third quarter ended September 30, 2006, gross profit increased $249,107, or 60.8%, to $658,696 compared to $409,589 for the same period last year. This increase in gross profit was due, in part, to the increase in total sales, partially offset by a reduction in the average gross profit per unit sold. The average gross profit per unit sold declined as a result of pricing pressures by certain high volume, lower margin fleet customers.



For the nine months ended September 30, 2006, gross profit increased $496,228, or 48.9%, to $1,510,839 compared to $1,014,611 for the same period last year. This improvement resulted from the increase in trailer sales, combined with improvement in the average gross profit per unit sold during the first and second quarters of 2006, partially offset by the a decline in average gross profit per unit sold in the third quarter of 2006.



13

---

Table of Contents

Selling, general and administrative expense for the third quarter ended September 30, 2006 was $760,467 compared to $539,620 for the same period last year. This increase was due primarily to expenses incurred in our acquired U.S. operation, as well as an increase in selling expenses related to the increasing sales volume.



For the nine months ended September 30, 2006, selling, general and administrative expense was $2,802,609, including a one-time, non-cash charge of $784,679 related to the discount on the conversion of shareholder debt. Excluding the one-time charge, selling, general and administrative expense for the nine months ended September 30, 2006 increased 23.2% to $2,017,930 compared to $1,629,435 for the same period last year. This increase was due primarily to expenses incurred in our acquired U.S. operation subsequent to its acquisition on May 1, 2006.



Operating loss consists of net sales less cost of sales and operating leases and selling, general and administrative expenses. In the third quarter of 2006, we recognized an operating loss of $101,771, compared to $130,031 for the same period last year. This reduction of $28,260 in the operating loss resulted from the growth in net sales and profit margin, partially offset by the increase in selling, general and administrative expenses.



For the nine months ended September 30, 2006, we recognized an operating loss of $1,291,770, including the one-time, non-cash charge of $784,679. Excluding the one-time charge, the operating loss was $507,091compared to $614,824 for the same period last year. This operating loss improvement of $107,733 resulted from the growth in gross profit, partially offset by the increase in selling, general and administrative expense.



Net interest expense for the third quarter ended September 30, 2006 was $92,475 compared to $98,755 for the same period last year. This decrease of $6,280 was a result primarily of the debt reduction related to the conversion to equity of payable to stockholder during the second quarter of 2006.



Net interest expense for the nine months ended September 30, 2006 was $249,735 compared to $611,366 for the same period last year. Net interest expense in the first nine months of 2005 included a one-time charge of $353,100, which represents the accretion of the beneficial conversion feature discount related to the $1,100,000 of Company debt converted into equity by the Companys majority stockholder on February 18, 2005. Excluding the one-time charge, net interest expense of $249,735 in the first nine months of 2006 was a decrease of $8,531 compared to net interest expense of $258,266 in the same period last year.



Other expense, net, which is primarily foreign exchange gains/(losses), was a gain of $6,131 and a loss of $35,394 in the third quarter and nine months ended September 30, 2006, respectively, compared to a loss of $21,316 and $53,395, respectively, for the same periods of 2005. The foreign exchange gains/(losses) incurred in 2006 were not significantly different from those incurred in the same periods of 2005 because the exchange rate fluctuations of the Mexican peso in relation to the US dollar were similar during the same periods of both years.



Income taxes of $3,666 and $36,105 were accrued for the three and nine months ended September 30, 2006, respectively, compared to $18,096 and $39,075, respectively, in the same periods last year. This tax, which is an alternative tax incurred by our Mexican subsidiaries, is applicable to most Mexican corporations that otherwise have no taxable income.



Our net loss for the third quarter ended September 30, 2006 was $191,781, or $0.01 per diluted share, compared with a net loss of $268,198, or $0.02 per diluted share for the same period last year. The improvement in net loss resulted primarily from the increase in net sales and gross profit, partially offset by the increase in selling, general and administrative expense.



Our net loss for the nine months ended September 30, 2006 was $1,613,004, or $0.10 per diluted share, compared to a net loss of $1,318,660, or $0.12 per diluted share for the same period of 2005. The increase of $294,344 in net loss resulted from the increase in selling, general and administrative expense, including the one-time charge of $784,679 as described above, partially offset by the growth in net sales and gross profit.



14

---

Table of Contents

Liquidity and Capital Resources



Our principal sources of liquidity primarily have been from debt and equity funding provided by our majority stockholder, as well as through our initial public offering that concluded in July 2003. On May 1, 2006, we increased the Companys liquidity by selling 5,000,000 shares of common stock for $2,000,000, which was partially offset by offering costs of $273,292. In addition, on May 1, 2006, the Companys Chairman and largest stockholder, converted $871,866 of debt owed to him by the Company, into 2,179,664 shares of Company common stock at the conversion price of $0.40 per share.



Our principal uses of capital have been to fund our operating losses and to expand our operations pursuant to our strategic business plan, and increasing sales by adding to equipment inventory. In addition, as of May 1, 2006, we acquired and began operating the trailer sales business of Prime Time Equipment, Inc., for a total purchase price of approximately $1,970,000, of which approximately $955,000 was funded by the assumption of certain liabilities, and the remainder of $1,014,290 paid in cash. The purchase price included $400,000 for identifiable intangible assets, and goodwill of approximately $98,000. In conjunction with this acquisition, we obtained a Floor Plan inventory financing credit line of approximately $3,000,000 to finance the purchase of new and used truck trailer inventory. This credit line was initially utilized in the assumption of $862,000 of acquisition debt.



Net cash provided by operating
activities was $367,284 for the first nine months of 2006, compared to cash used in operating activities of $2,025,731 for the
same period last year. Net operating cash provided in the current period increased compared to the same period of last year,
primarily due to the increase in accounts payable, dealer floor plan financing and customer deposits, and partially offset by the
growth in inventory and in rents and accounts receivable.



During the nine months ended September 30, 2006, we acquired the net operating assets of Prime Time Equipment, Inc. for a net cash disbursement of $1,014,290. This disbursement included payment of $498,390 for related intangible assets. In addition, during the first nine months of 2006, we acquired property and equipment of $138,960, which primarily was equipment for the lease/rental pool, offset by proceeds of $15,770 from disposals. This compares to $155,751 and $151,196, respectively, for the nine months ended September 30, 2005. As a result, net cash used in investing activities was $1,137,480 for the nine months ended September 30, 2006, compared to $4,555 for the nine months ended September 30, 2005.



During the nine months ended
September 30, 2006, we received proceeds from the issuance of debt totaling $1,904,981, which was partially offset by debt
repayment of $1,599,734. In addition, we received proceeds of $137,500 from the exercise of common stock warrants, and $2,000,000
from the private sale of common stock, partially offset by offering costs of $273,292. During the same period last year, we
received proceeds from the issuance of debt of $3,039,725, which was partially offset by debt repayment totaling $1,039,351. As a
result, net cash provided by financing activities for the nine months ended September 30, 2006 and 2005 was $2,169,455 and
$2,000,374, respectively.



On May 1, 2006, the Companys Chairman and largest stockholder converted $871,866 of Company notes payable into 2,179,664 shares of Company common stock at the conversion price of $0.40 per share.



On February 18, 2005, the Companys Chairman and largest stockholder converted $1,100,000 of Company notes payable into 1,375,000 shares of Company common stock at the conversion price of $0.80 per share.



On February 15, 2005, the Company entered into a new agreement with Hyundai Translead to extend its contract to sell and Hyundai trailers in Mexico. The previous agreement expired by its terms in November 2004. Under the terms of the new contract, Hyundai Translead provides a credit facility of $1,000,000 to facilitate the Companys inventory of Hyundai trailers in Mexico.



Effective May 1, 2006, in conjunction with our acquisition of the Prime Time trailer sales business, we obtained Floor Plan inventory financing of approximately $3,000,000 by Navistar Financial Corporation, to finance the purchase of new and used truck trailer inventory in the United States.



As of September 30, 2006, we had committed to purchase additional trailers from Hyundai Translead, at a total purchase price of approximately $15,650,000, towards which we had made down payments of $1,337,114. Under the terms of the commitment, we must pay Hyundai the remaining balance due of approximately $14,300,000 upon taking delivery of the trailers. In addition, we have begun to place orders for delivery during the 2007 to ensure an uninterrupted supply sufficient to meet our anticipated customer demand in 2007.



15

---

Table of Contents

On a long-term basis, liquidity is dependent on an adequate supply of inventory available for sale, continuation and expansion of operations, the sale of equipment, the renewal of leases and the receipt of revenue, as well as additional infusions of equity and debt capital. Our Company Chairman and largest stockholder has expressed, in writing, his willingness and ability to continue to financially support the Company, at least until March 31, 2007 if needed, by way of additional debt and/or equity contributions.



As of September 30, 2006, we had an
accumulated deficit of $12,942,349 and working capital of $960,230. We believe that the cash on hand at September 30, 2006,
together with the Floor Plan financing arrangement effective as of May 1, 2006, the Floor Plan financing agreement effective
October 23, 2006, and cash expected to be generated by operations, will provide us with sufficient operational funds for the next
twelve months, and satisfy obligations as they become due. If we experience occasional cash short-falls, we expect to cover them
with funds provided by the Companys Chairman. However, until such time that we achieve profitability, we will need to seek
additional debt and/or equity funding to continue operations.



Item 3.   CONTROLS AND PROCEDURES



As of the end of the period covered by this report, the Company conducted an evaluation, under the supervision and with the participation of the principal executive officer and principal financial officer, of the Companys disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the Exchange Act)). Based on this evaluation, the principal executive officer and principal financial officer concluded that the Companys disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is (i) accumulated and communicated to our management, including our chief executive officer and chief financial officer, to allow timely decisions regarding required disclosure, and (ii) recorded, processed, summarized
and reported within the time periods specified in Securities and Exchange Commission rules and forms.



There was no change in the Companys internal control over financial reporting during the Companys most recently completed fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Companys internal control over financial reporting.



All internal control systems no matter how well designed have inherent limitations. Therefore, even those systems determined to be effective may not prevent or detect misstatements and can provide only reasonable assurance with respect to financial statement preparation and presentation. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. However, our disclosure controls and procedures are designed to provide reasonable assurance of achieving their objectives and our chief executive officer and our chief financial officer concluded that our disclosure controls and procedures are effective at the level of reasonable assurance.



Compliance with Section 404 of Sarbanes-Oxley Act



Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 (the Act), beginning with our Annual Report on Form 10-KSB for the fiscal year ending December 31, 2007, we will be required to furnish a report by our management on our internal control over financial reporting. This report will contain, among other matters, an assessment of the effectiveness of our internal control over financial reporting as of the end of our fiscal year, including a statement as to whether or not our internal control over financial reporting is effective. This assessment must include disclosure of any material weaknesses in our internal control over financial reporting identified by management. If we identify one or more material weaknesses in our internal control over financial reporting, we will be unable to assert that our internal control over financial reporting is effective. This report will also contain a
statement that our independent registered public accountants have issued an attestation report on managements assessment of such internal controls and a conclusion on the operating effectiveness of those controls.



16

---

Table of Contents

Management acknowledges its
responsibility for internal controls over financial reporting and seeks to continually improve those controls. In order to achieve
compliance with Section 404 of the Act within the prescribed period, we will shortly commence performing the system and process
documentation and evaluation needed to comply with Section 404, which is both costly and challenging.



PART II OTHER INFORMATION



Item 1.   LEGAL PROCEEDINGS

None.




Item 2.   UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

None.




Item 3.   DEFAULTS UPON SENIOR SECURITIES

None.




Item 4.   SUBMISSIONS OF MATTERS TO A VOTE OF SECURITY HOLDERS

None.




Item 5.   OTHER INFORMATION

None.




Item 6.   EXHIBITS



LIST OF EXHIBITS



The following exhibits are filed with this Form
10-QSB:



ExhibitNo.
        
        Description*3.1
        
        Articles of Incorporation*3.1.1
        
        Articles of Amendment to the Articles of Incorporation (Name Change)*3.1.2
        
        Articles of Amendment to the Articles of Incorporation (Authorized Capital)*3.2
        
        By-laws**31.1
        
        Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002**31.2
        
        Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002**32.1
        
        Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002**32.2
        
        Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002*
        
        Incorporated by reference to the Companys Registration Statement on Form SB-2 filed October 7, 2002, as
amended by the Companys Amendment No. 1 to Form SB-2 filed December 9, 2002.**
        
        Filed herewith.




The financial statements filed as part of this report are listed separately in the Index to Financial Statements.



17



---

Table of Contents

SIGNATURE



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





CAPSOURCE FINANCIAL, INC.Date: January 17, 2007
        
        By:
        /s/ Fred C. BoethlingFred C. Boethling,
President, Chief Executive Officer
and Director






18

---