** **

**UNITEDSTATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C.  20549**

**FORM 10–Q**

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

**For the quarterly periodended September 30, 2006**

**Commission File Number:      0–19394**

**GTSI****Corp****.**

(Exact name of registrant asspecified in its charter)

| **Delaware**                                               |   | **54–1248422**  |
|------------------------------------------------------------|--------|----------------------|
| (State or other  jurisdiction of                           |   | (I.R.S. Employer     |
| incorporation or  organization)                            |   | Identification  No.) |
|                                                       |   |                 |
| **3901  Stonecroft Boulevard, Chantilly, VA**              |   | **20151-1010**       |
| (Address of  principal executive offices)                  |   | (Zip Code)           |
|                                                       |   |                 |
| **703–502–2000**                                 |
| (Registrant’s  telephone number, including area code) |

 

Indicate by check mark whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days.        YES   x    NO   o

Indicate by check mark whether the registrant is a large acceleratedfiler, an accelerated filer, or a non-accelerated filer.  See definition of “accelerated filer andlarge accelerated filer” in Rule 12b-2 of the Exchange Act.

Large accelerated filer   o    Acceleratedfiler   x   Non-accelerated filer   o

The number of shares of common stock, $0.005 par value, outstanding asof October 31, 2006 was 9,484,723.

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

 

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**GTSICorp.**

**Form 10–Qfor the Quarter Ended September 30, 2006**

**INDEX**
| **PART I – FINANCIAL  INFORMATION** |   |                                                                                                                              |   |
|------------------------------------------|--------|-----------------------------------------------------------------------------------------------------------------------------------|--------|
| ** **                               |   | **Page**                                                                                                                          |   |
| Item 1.                                  |   | Financial Statements –                                                                                                       |   |   |
|                                     |   |                                                                                                                              |   |   |
|                                     |   | Condensed Consolidated Balance Sheets as of September  30, 2006 (Unaudited) and December 31, 2005                            |   | 1 |
|                                     |   |                                                                                                                              |   |   |
|                                     |   | Condensed Consolidated Statements of Operations for  the Three and Nine Months Ended September 30, 2006 and 2005 (Unaudited) |   | 2 |
|                                     |   |                                                                                                                              |   |   |
|                                     |   | Condensed Consolidated Statements of Cash Flows for  the Nine months Ended September 30, 2006 and 2005 (Unaudited)           |   | 3 |
|                                     |   |                                                                                                                              |   |   |
|                                     |   | Notes to Condensed Consolidated Financial Statements  (Unaudited)                                                                 |   | 4 |
|                                     |   |                                                                                                                              |   |   |
| Item 2.                                  |   | Management’s Discussion and Analysis of Financial  Condition and Results of Operations                                       |   | 15 |
|                                     |   |                                                                                                                              |   |
| Item 3.                                  |   | Quantitative And Qualitative Disclosures About Market  Risk                                                                       |   | 27 |
|                                     |   |                                                                                                                              |   |   |
| Item 4.                                  |   | Controls and Procedures                                                                                                           |   | 27 |
|                                     |   |                                                                                                                              |   |   |
| **PART  II – OTHER INFORMATION**    |   |                                                                                                                              |   |
| ** **                               |   |                                                                                                                              |   |
| Item 3.                                  |   | Defaults under senior securities                                                                                                  |   | 29 |   |
|                                     |   |                                                                                                                              |   |   |   |
| Item 6.                                  |   | Exhibits                                                                                                                          |   | 29 |   |
|                                     |   |                                                                                                                              |   |   |   |
| **SIGNATURES**                           |   | 29                                                                                                                                |   |
| ** **                               |   |                                                                                                                              |   |
| **EXHIBIT INDEX**                        |   | 30                                                                                                                                |   |
|                                          |        |                                                                                                                                   |        |  |  |  |

 

----

**PART I.FINANCIAL INFORMATION**

###### **Item 1.****                                                     Financial Statements**

**GTSICORP**

**CONDENSED CONSOLIDATED BALANCE SHEETS**

(In thousands, except share and per share data)
| ** **                                                                                                                                                                                              | ** ** | **September 30,** | ** ** | **December 31,**                | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|------------|--------------------------------------|------------|
| ** **                                                                                                                                                                                              | ** ** | **2006**               | ** ** | **2005**                             | ** ** |
| ** **                                                                                                                                                                                              | ** ** | **(Unaudited)**        | ** ** | **(Restated  see Note 3)** | ** ** |
| **ASSETS**                                                                                                                                                                                              |       |                   |       |                                 |       |
| Current assets:                                                                                                                                                                                         | ** ** | ** **             | ** ** | ** **                           | ** ** |
| Cash                                                                                                                                                                                                    |       | $                      | 6,553      |                                 | $          | 27 |   |
| Accounts  receivable, net                                                                                                                                                                               |       | 202,714                |       | 226,356                              |       |
| Inventory                                                                                                                                                                                               |       | 46,445                 |       | 56,819                               |       |
| Deferred costs                                                                                                                                                                                          |       | 28,036                 |       | 17,069                               |       |
| Other current  assets                                                                                                                                                                                   |       | 21,022                 |       | 8,605                                |       |
| Total current  assets                                                                                                                                                                                   |       | 304,770                |       | 308,876                              |       |
| Depreciable assets,  net                                                                                                                                                                                |       | 13,376                 |       | 13,640                               |       |
| Long-term  financing receivables and other assets                                                                                                                                                       |       | 21,531                 |       | 23,391                               |       |
| Total assets                                                                                                                                                                                            |       | $                      | 339,677    |                                 | $          | 345,907 |   |
|                                                                                                                                                                                                    |       |                   |       |                                 |       |
| **LIABILITIES AND STOCKHOLDERS’  EQUITY**                                                                                                                                                          |       |                   |       |                                 |       |
| Current liabilities:                                                                                                                                                                                    |       |                   |       |                                 |       |
| Borrowings under  credit agreement                                                                                                                                                                      |       | $                      | 48,107     |                                 | $          | 48,014 |   |
| Accounts payable                                                                                                                                                                                        |       | 158,097                |       | 151,995                              |       |
| Financed lease  debt                                                                                                                                                                                    |       | 14,284                 |       | 25,187                               |       |
| Accrued  liabilities                                                                                                                                                                                    |       | 19,275                 |       | 16,603                               |       |
| Deferred revenue                                                                                                                                                                                        |       | 8,174                  |       | 6,020                                |       |
| Accrued warranty  liabilities                                                                                                                                                                           |       | 763                    |       | 849                                  |       |
| Total current  liabilities                                                                                                                                                                              |       | 248,700                |       | 248,668                              |       |
| Long-term debt                                                                                                                                                                                          |       | 10,000                 |       | —                               |       |
| Long-term financed  lease debt                                                                                                                                                                          |       | 10,916                 |       | 15,996                               |       |
| Other  liabilities                                                                                                                                                                                      |       | 2,898                  |       | 3,076                                |       |
| Total  liabilities                                                                                                                                                                                      |       | 272,514                |       | 267,740                              |       |
|                                                                                                                                                                                                    |       |                   |       |                                 |       |
| Commitments and  contingencies                                                                                                                                                                          |       |                   |       |                                 |       |
|                                                                                                                                                                                                    |       |                   |       |                                 |       |
| Stockholders’ equity                                                                                                                                                                               |       |                   |       |                                 |       |
| Common stock -  $0.005 par value, 20,000,000 shares authorized; 9,806,084 issued and  9,484,723 outstanding at September 30, 2006; and 9,806,084 issued and 9,307,606  outstanding at December 31, 2005 |       | 49                     |       | 49                                   |       |
| Capital in  excess of par value                                                                                                                                                                         |       | 45,256                 |       | 45,104                               |       |
| Retained earnings                                                                                                                                                                                       |       | 24,254                 |       | 36,731                               |       |
| Treasury stock,  321,361 shares at September 30, 2006 and 498,478 shares at December 31, 2005,  at cost                                                                                                 |       | (2,396                 | )          | (3,717                               | )          |
| Total  stockholders’ equity                                                                                                                                                                        |       | 67,163                 |       | 78,167                               |       |
| Total  liabilities and stockholders’ equity                                                                                                                                                        |       | $                      | 339,677    |                                 | $          | 345,907 |   |

 

Theaccompanying notes are an integral part of these condensed consolidated financialstatements.

1

----

**GTSICORP.**

**CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS**

(Unaudited)

(In thousands, except per share data)
| ** **                                      | ** ** | **Three months ended** | ** ** | **Nine months ended**      | ** ** |
|-------------------------------------------------|------------|----------------------------------|------------|--------------------------------------|------------|
| ** **                                      | ** ** | **September 30,**           | ** ** | **September 30,**               | ** ** |
| ** **                                      | ** ** | **2006**                         | ** ** | **2005**                             | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                                      | ** ** | ** **                       | ** ** | **(restated  see Note 3)** | ** ** | ** ** | ** ** | **(restated  see Note 3)** | ** ** |
|                                            |       |                             |       |                                 |       |   |   |   |   |
| SALES                                           |       | $                                | 241,569    |                                 | $          | 267,448 |   | $ | 570,805 |   | $ | 603,199 |   |
|                                            |       |                             |       |                                 |       |   |   |   |   |
| COST OF SALES                                   |       | 215,669                          |       | 231,547                              |       | 500,093 |   | 530,842 |   |
|                                            |       |                             |       |                                 |       |   |   |   |   |
| GROSS MARGIN                                    |       | 25,900                           |       | 35,901                               |       | 70,712 |   | 72,357 |   |
|                                            |       |                             |       |                                 |       |   |   |   |   |
| SELLING, GENERAL  & ADMINISTRATIVE EXPENSES |       | 30,220                           |       | 31,927                               |       | 86,944 |   | 88,462 |   |
|                                            |       |                             |       |                                 |       |   |   |   |   |
| (LOSS) INCOME  FROM OPERATIONS                  |       | (4,320                           | )          | 3,974                                |       | (16,232 | ) | (16,105 | ) |
|                                            |       |                             |       |                                 |       |   |   |   |   |
| INTEREST AND  OTHER INCOME                      |       |                             |       |                                 |       |   |   |   |   |
| Lease-related income                            |       | 1,757                            |       | 1,043                                |       | 6,737 |   | 2,503 |   |
| Interest and other income                       |       | 1,132                            |       | 570                                  |       | 1,889 |   | 974 |   |
| Interest and other expense                      |       | (2,072                           | )          | (867                                 | )          | (4,981 | ) | (1,568 | ) |
| Interest and other income, net                  |       | 817                              |       | 746                                  |       | 3,645 |   | 1,909 |   |
|                                            |       |                             |       |                                 |       |   |   |   |   |
| (LOSS) INCOME  BEFORE INCOME TAXES              |       | (3,503                           | )          | 4,720                                |       | (12,587 | ) | (14,196 | ) |
|                                            |       |                             |       |                                 |       |   |   |   |   |
| INCOME TAX  BENEFIT (PROVISION)                 |       | 110                              |       | (1,753                               | )          | 110 |   | 5,380 |   |
|                                            |       |                             |       |                                 |       |   |   |   |   |
| NET (LOSS)  INCOME                              |       | $                                | (3,393     | )                                    | $          | 2,967 |   | $ | (12,477 | ) | $ | (8,816 | ) |
|                                            |       |                             |       |                                 |       |   |   |   |   |
| (LOSS) EARNINGS  PER SHARE                      |       |                             |       |                                 |       |   |   |   |   |
| Basic                                           |       | $                                | (0.36      | )                                    | $          | 0.32 |   | $ | (1.33 | ) | $ | (0.96 | ) |
| Diluted                                         |       | $                                | (0.36      | )                                    | $          | 0.31 |   | $ | (1.33 | ) | $ | (0.96 | ) |
|                                            |       |                             |       |                                 |       |   |   |   |   |
| WEIGHTED AVERAGE  SHARES OUTSTANDING            |       |                             |       |                                 |       |   |   |   |   |
| Basic                                           |       | 9,404                            |       | 9,217                                |       | 9,356 |   | 9,155 |   |
| Diluted                                         |       | 9,404                            |       | 9,477                                |       | 9,356 |   | 9,155 |   |

 

Theaccompanying notes are an integral part of these condensed consolidated financialstatements.

2

----

**GTSICORP.**

**CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS**

(Unaudited)

(In thousands)
| ** **                                                                  | ** ** | **Nine months ended** | ** ** |
|-----------------------------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                                                  | ** ** | **September 30,**          | ** ** |
| ** **                                                                  | ** ** | **2006**                        | ** ** | **2005** | ** ** |
| ** **                                                                  | ** ** | ** **                      | ** ** | **(restated  see Note 3)** | ** ** |
| ** **                                                                  | ** ** | ** **                      | ** ** | ** ** | ** ** |
| **CASH  FLOWS FROM OPERATING ACTIVITIES:**                                  |       |                            |       |   |   |
| Net loss                                                                    |       | $                               | (12,477    | ) | $ | (8,816 | ) |
| Adjustments to  reconcile net loss to net cash used in operating activities |       | (2,744                          | )          | (43,328 | ) |
| Net cash used in operating activities                                       |       | (15,221                         | )          | (52,144 | ) |
|                                                                        |       |                            |       |   |   |
| **CASH  FLOWS FROM INVESTING ACTIVITIES:**                                  | ** ** | ** **                      | ** ** | ** ** | ** ** |
| Purchase of  depreciable assets                                             |       | (2,803                          | )          | (2,890 | ) |
| Net cash used in investing activities                                       |       | (2,803                          | )          | (2,890 | ) |
|                                                                        |       |                            |       |   |   |
| **CASH  FLOWS FROM FINANCING ACTIVITIES:**                                  | ** ** | ** **                      | ** ** | ** ** | ** ** |
| Proceeds from  (payments on) Credit Agreement                               |       | 93                              |       | (1,019 | ) |
| Proceeds from  financed lease debt                                          |       | 13,978                          |       | 56,390 |   |
| Proceeds from  long-term debt                                               |       | 10,000                          |       | — |   |
| Payments to  acquire treasury stock                                         |       | —                          |       | (2,990 | ) |
| Proceeds from  Employee Stock Purchase Plan                                 |       | 95                              |       | 246 |   |
| Proceeds from  exercises of stock options                                   |       | 384                             |       | 2,067 |   |
| Net cash provided by financing activities                                   |       | 24,550                          |       | 54,694 |   |
|                                                                        |       |                            |       |   |   |
| NET INCREASE  (DECREASE) IN CASH                                            |       | 6,526                           |       | (340 | ) |
|                                                                        |       |                            |       |   |   |
| CASH AT  BEGINNING OF PERIOD                                                |       | 27                              |       | 387 |   |
|                                                                        |       |                            |       |   |   |
| CASH AT END OF PERIOD                                                       |       | $                               | 6,553      |   | $ | 47 |   |

 

Theaccompanying notes are an integral part of these condensed consolidated financialstatements.

3

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**GTSI CORP.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**(Unaudited)

**1.  Basis of Presentation**

Theaccompanying unaudited interim condensed consolidated financial statements ofGTSI Corp. and its subsidiaries (“GTSI” or the “Company”) have been preparedpursuant to the rules and regulations of the Securities and Exchange Commissionfor quarterly reports on Form 10-Q and, therefore, omit or condense certainnote disclosures and other information required by U.S. generally acceptedaccounting principles for complete financial statements.  These financial statements should thereforebe read in conjunction with the audited consolidated financial statements andaccompanying notes for the year ended December 31, 2005 included in GTSI’sAnnual Report on Form 10-K/A.

Inthe opinion of management, the accompanying unaudited condensed consolidatedfinancial statements reflect all adjustments of a normal recurring nature(except as disclosed herein) considered necessary to present fairly GTSI’sfinancial position as of September 30, 2006 and its results of operations andcash flows for the three and nine month periods ended September 30, 2006.

Theresults of operations for the three and nine month periods ended September 30,2006 are not necessarily indicative of the results that may be expected for thefull year, or future periods.  GTSI hashistorically experienced significant seasonal fluctuations in operations as aresult of government buying and funding patterns.  These patterns historically have had apositive effect on GTSI’s sales and net income during the quarter endedSeptember 30 (the Federal government’s fiscal year end).

**2.  New Accounting Pronouncements**

InJune 2006, the Financial Accounting Standards Board (“FASB”) issuedInterpretation No. 48, *Accounting for Uncertaintyin Income Taxes* (“FIN 48”), which clarifies the accounting foruncertainty in income taxes recognized in the financial statements inaccordance with FASB Statement No. 109, *Accounting for IncomeTaxes*. FIN 48 provides guidance on the financial statementrecognition, measurement, presentation and disclosure of uncertain taxpositions taken or expected to be taken in income tax returns. FIN 48 iseffective for fiscal years beginning after December 31, 2006. GTSI is currentlyevaluating the impact of this standard on its consolidated financialstatements.

InSeptember 2006, the FASB issued Statement of Financial Accounting Standards (“SFAS”)No. 157, *Fair Value Measurement*, (“FAS 157”),which establishes a framework for measuring fair value in generally acceptedaccounting principles, and expands disclosures about fair value measurements.FAS 157 is effective for interim periods beginning after November 15, 2007.GTSI is currently evaluating the impact of this standard on its consolidated financialstatements.

InSeptember 2006, the SEC released SEC Staff Accounting Bulletin No. 108, *Considering the Effects of Prior Year Misstatementswhen Quantifying Misstatements in Current Year Financial Statements*,(“SAB 108”), which addresses how uncorrected errors in previous yearsshould be considered when quantifying errors in current year financialstatements and requires registrants to consider the effect of all carry overand reversing effects of prior year misstatements when quantifying errors in currentyear financial statements.  SAB 108allows registrants to record the effects of adopting the guidance as acumulative effect adjustment which must be reported as of the beginning of thefirst fiscal year ending after November 15, 2006. The Company does notexpect SAB 108 to have a significant effect on the Company’s consolidatedfinancial position or its results of operations.

4

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**3.  Restatement of Financial Statements**

GTSIrestated its previously issued consolidated financial statements for the year endedDecember 31, 2005 and the three months ended March 31, 2006 which are discussedin detail in GTSI’s Annual Report on Form 10-K/A for the year ended December31, 2005 and Form 10-Q/A for the three months ended March 31, 2006,respectively. The restatements for the three and nine months ended September30, 2005 and as of December 31, 2005 included adjustments for: i) the transferof certain receivables to third parties in accordance with FAS 140, ii)overstatement of certain accounts payable and the related cost of sales, andiii) other miscellaneous adjustments.  Asummary of the aggregate effects on GTSI’s consolidated financial statements isshown below:

ConsolidatedBalance Sheet

December31, 2005

(in thousands)
| ** **                                        | ** ** | **As Previously** | ** ** | ** **           | ** ** |
|---------------------------------------------------|------------|------------------------|------------|----------------------|------------|
| ** **                                        | ** ** | **Reported**           | ** ** | **As Restated** | ** ** |
| Cash                                              |       | $                      | 22         |                 | $          | 27 |   |
| Accounts  receivable, net                         |       | $                      | 207,886    |                 | $          | 226,356 |   |
| Inventory                                         |       | $                      | 56,666     |                 | $          | 56,819 |   |
| Deferred costs                                    |       | $                      | 14,909     |                 | $          | 17,069 |   |
| Other current  assets                             |       | $                      | 9,118      |                 | $          | 8,605 |   |
| Total current  assets                             |       | $                      | 288,601    |                 | $          | 308,876 |   |
| Long-term  financing receivables and other assets |       | $                      | 4,416      |                 | $          | 23,391 |   |
| Total assets                                      |       | $                      | 306,657    |                 | $          | 345,907 |   |
| Accounts payable                                  |       | $                      | 159,038    |                 | $          | 151,995 |   |
| Financed lease  debt                              |       | $                      | —     |                 | $          | 25,187 |   |
| Accrued  liabilities                              |       | $                      | 16,634     |                 | $          | 16,603 |   |
| Deferred revenue                                  |       | $                      | 3,611      |                 | $          | 6,020 |   |
| Accrued warranty  liabilities                     |       | $                      | 744        |                 | $          | 849 |   |
| Total current  liabilities                        |       | $                      | 228,041    |                 | $          | 248,668 |   |
| Long-term  financed lease debt                    |       | $                      | —     |                 | $          | 15,996 |   |
| Other  liabilities                                |       | $                      | 3,922      |                 | $          | 3,076 |   |
| Total  liabilities                                |       | $                      | 231,963    |                 | $          | 267,740 |   |
| Capital in  excess of par value                   |       | $                      | 42,943     |                 | $          | 45,104 |   |
| Retained  earnings                                |       | $                      | 34,396     |                 | $          | 36,731 |   |
| Treasury stock                                    |       | $                      | (2,694     | )                    | $          | (3,717 | ) |
| Total  stockholders’ equity                  |       | $                      | 74,694     |                 | $          | 78,167 |   |
| Total liabilities and  stockholders’ equity  |       | $                      | 306,657    |                 | $          | 345,907 |   |

5

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ConsolidatedCondensed Statements of Operations (Unaudited)

(in thousands, except per share data)
| ** **                              | ** ** | **For the three months ended** | ** ** | **For the nine months ended** | ** ** |
|-----------------------------------------|------------|----------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                              | ** ** | **September 30, 2005**                   | ** ** | **September 30, 2005**                  | ** ** |
| ** **                              | ** ** | **As Reported**                               | ** ** | **As Restated**                              | ** ** | **As Reported** | ** ** | **As Restated** | ** ** |
| Sales                                   |       | $                                                  | 269,861    |                                              | $          | 267,448 |   | $ | 607,028 |   | $ | 603,199 |   |
| Cost of sales                           |       | $                                                  | 237,794    |                                              | $          | 231,547 |   | $ | 540,584 |   | $ | 530,842 |   |
| Gross margin                            |       | $                                                  | 32,067     |                                              | $          | 35,901 |   | $ | 66,444 |   | $ | 72,357 |   |
| Selling, general  & admin. expenses |       | $                                                  | 31,897     |                                              | $          | 31,927 |   | $ | 88,586 |   | $ | 88,462 |   |
| Income (loss)  from operations          |       | $                                                  | 170        |                                              | $          | 3,974 |   | $ | (22,142 | ) | $ | (16,105 | ) |
| Interest and  other income, net         |       | $                                                  | 4,459      |                                              | $          | 746 |   | $ | 5,372 |   | $ | 1,909 |   |
| Income tax (provision)  benefit         |       | $                                                  | (1,582     | )                                                 | $          | (1,753 | ) | $ | 6,389 |   | $ | 5,380 |   |
| Net income  (loss)                      |       | $                                                  | 2,877      |                                              | $          | 2,967 |   | $ | (10,381 | ) | $ | (8,816 | ) |
| Earnings (loss)  per share, basic       |       | $                                                  | 0.31       |                                              | $          | 0.32 |   | $ | (1.13 | ) | $ | (0.96 | ) |
| Earnings (loss) per  share, diluted     |       | $                                                  | 0.30       |                                              | $          | 0.31 |   | $ | (1.13 | ) | $ | (0.96 | ) |

 

CondensedConsolidated Statement of Cash Flows

Forthe Nine Months Ended September 30, 2005

(in thousands, except per share data)
| ** **            | ** ** | **As Previously  Reported** | ** ** | **Adjustment** | ** ** | **As Restated** | ** ** |
|-----------------------|------------|----------------------------------|------------|----------------|------------|----------------------|------------|
| Operating cash  flows |       | 4,560                            |       | (56,704        | )          | (52,144              | )          |
| Investing cash  flows |       | (3,057                           | )          | 167            |       | (2,890               | )          |
| Financing cash flows  |       | (1,855                           | )          | 56,549         |       | 54,694               |       |

 

**4.  Stock-Based Compensation**

Asof September 30, 2006, the Company has four stock-based employee compensationplans, which are described below.  Priorto January 1, 2006, the Company accounted for those plans under the recognitionand measurement provisions of APB Opinion No. 25, *Accountingfor Stock Issued to Employees,*(“APB 25”) and relatedInterpretations, as permitted by FASB Statement No. 123, *Accountingfor Stock-Based Compensation* (“FAS 123”).  No stock-based employee compensation cost wasrecognized in the condensed consolidated Statement of Operations for the threeor nine months ended September 30, 2005, as all options granted under thoseplans had an exercise price equal to the market value of the underlying commonstock on the date of grant.  EffectiveJanuary 1, 2006, the Company adopted the fair value recognition provisions ofFASB Statement No. 123(R), *Share-Based Payment*,(“FAS 123R”), using the modified-prospective-transition method.  Under that transition method, compensationcost recognized in the three and nine months ended September 30, 2006 includes:(a) compensation cost for all share-based payments granted prior to, but notyet vested as of January 1, 2006, based on the grant date fair value estimatedin accordance with the original provisions of FAS 123, and (b) compensationcost for all share-based payments granted subsequent to January 1, 2006, basedon the grant-date fair value estimated in accordance with the provisions of FAS123R.  Results for the prior periods havenot been restated.

Asa result of adopting FAS 123R on January 1, 2006, the Company’s reported lossfrom operations, loss before income taxes and net loss for the three and ninemonths ended September 30, 2006 are $310 thousand and $803 thousand lower,respectively, than if it had continued to account for share-based compensationunder APB 25.

6

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Priorto the adoption of FAS 123R, the Company presented all tax benefits ofdeductions resulting from the exercise of stock options as operating cash flowsin the condensed consolidated Statement of Cash Flows.  FAS 123R requires the cash flows resultingfrom the tax benefits resulting from tax deductions in excess of thecompensation cost recognized for those options (excess tax benefits) to beclassified as financing cash flows. Since there was no tax benefit for stock options during the three ornine months ended September 30, 2006, there was no impact on the Company’sStatement of Cash Flows for the adoption of FAS 123R.

Thefollowing table illustrates the effect on net income (loss) and earnings (loss)per share if the Company had applied the fair value recognition provisions ofFAS 123 to options granted under the Company’s stock option plans for the threeand nine months ended September 30, 2005. For purposes of this pro forma disclosure, the value of the options isestimated using a Black-Scholes-Merton option-pricing formula and amortized toexpense over the options’ vesting periods, as a single award.
| ** **                                                                                                                                        | ** ** | **Three months ended**     | ** ** | **Nine months ended**      | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------|------------|--------------------------------------|------------|
| **(in thousands, except per share data)**                                                                                | ** ** | **September 30, 2005**     | ** ** | **September 30, 2005**     | ** ** |
| ** **                                                                                                                                        | ** ** | **(restated  see Note 3)** | ** ** | **(restated  see Note 3)** | ** ** |
| Net income  (loss) – as reported                                                                                                             |       | $                                    | 2,967      |                                 | $          | (8,816 | ) |
| Deduct: Total  stock-based employee compensation expense determined under the fair value  based method for all awards, net of related tax effects |       | (368                                 | )          | (1,262                               | )          |
| Net income  (loss) – pro forma                                                                                                               |       | $                                    | 2,599      |                                 | $          | (10,078 | ) |
|                                                                                                                                              |       |                                 |       |                                 |       |
| Earnings (loss)  per share - as reported                                                                                                          |       |                                 |       |                                 |       |
| Basic                                                                                                                                             |       | $                                    | 0.32       |                                 | $          | (0.96 | ) |
| Diluted                                                                                                                                           |       | $                                    | 0.31       |                                 | $          | (0.96 | ) |
|                                                                                                                                              |       |                                 |       |                                 |       |
| Earnings (loss)  per share – pro forma                                                                                                       |       |                                 |       |                                 |       |
| Basic                                                                                                                                             |       | $                                    | 0.28       |                                 | $          | (1.10 | ) |
| Diluted                                                                                                                                           |       | $                                    | 0.27       |                                 | $          | (1.10 | ) |

 

*Stock Incentive Plans*

TheCompany has two stockholder approved combination incentive and non-statutorystock incentive plans: the 1994 Stock Option Plan, as amended (“1994 Plan”),and the Amended and Restated 1996 Stock Incentive Plan (“1996 Plan”). Theseplans provide for the granting of options to employees (both plans) andnon-employee directors (only under the 1996 Plan) to purchase up to 300,000 and3,500,000 shares, respectively, of the Company’s common stock. The 1996 Planalso permits the grant of restricted stock units to its employees andnon-employee directors. The Company has another stockholder approved plan, the1997 Non-Officer Stock Option Plan (“1997 Plan”), which provides for thegranting of non-statutory stock options to employees (other than officers anddirectors) to purchase up to 300,000 shares of the Company’s common stock. Inaddition, GTSI has utilized a vehicle permitted under NASDAQ marketplace rulesthat allows a company without stockholder approval to offer stock options toprospective employees as an inducement to join GTSI (“Capitalization Vehicle”).

Underthe 1997, 1996, and 1994 Plans, options have a term of up to ten years,generally vest over four years and option prices are required to be at not lessthan 100% of the fair market value of the Company’s common stock at the date ofgrant and, except in the case of non-employee directors, must be approved bythe Board of Directors or its Compensation Committee.  Options issued under the CapitalizationVehicle have a term of seven years, vest over four years and option pricesequal the fair market value of the Company’s common stock at the date of grant.The vesting period for restricted stock and restricted stock

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unitsis determined by the Compensation Committee on an individual award basis. GTSIrecognizes stock-based compensation expense for these graded vesting awards ona straight-line basis over the requisite service period for the entire award,which is equal to the vesting period specified in the option agreement.

*Valuation Assumptions*

Thefair value of each option award is estimated on the date of grant using aBlack-Scholes-Merton option valuation model that uses the assumptions noted inthe following table.  Expectedvolatilities are based on the historical volatility of GTSI’s stock.  The Company uses historical data to estimateoption exercises and employee terminations within the valuation model.  The expected term of options granted has beendetermined based on historical exercise behavior and represents the period oftime that options granted are expected to be outstanding.  The risk-free interest rate is based on thefive year U.S. Treasury rates at the time of grant which approximates GTSI’s4.7 year expected term of the option.
|                           | ** ** | **Three months ended** | ** ** |
|---------------------------|------------|----------------------------------|------------|
| ** **                | ** ** | **September 30, 2006** | ** ** |
|                      |       |                             |       |
| Expected  volatility      |       | 48.1                             | %          |
| Expected  dividends       |       | —                           |       |
| Expected term  (in years) |       | 4.7                              |       |
| Risk-free rate            |       | 5.0                              | %          |

 

*StockOptions*

Asummary of option activity under the Company’s stock incentive plans as ofSeptember 30, 2006 and changes during the period then ended is presented below:
| **Options**                        | ** ** | **Shares** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** | **Weighted-  Average  Remaining  Contractual  Term** | ** ** | **Aggregate  Intrinsic  Value** | ** ** |
|------------------------------------|------------|------------|------------|-----------------------------------------|------------|------------------------------------------------------|------------|---------------------------------|------------|
| ** **                         | ** ** | **(000)**  | ** ** | ** **                              | ** ** | ** **                                           | ** ** | **($000)**                      | ** ** |
|                               |       |       |       |                                    |       |                                                 |       |                            |       |
| Outstanding at  January 1, 2006    |       | 2,088      |       | $                                       | 8.57       |                                                 |       |                            |       |   |
| Granted                            |       | 783        |       | $                                       | 6.82       |                                                 |       |                            |       |   |
| Exercised                          |       | (183       | )          | $                                       | 4.29       |                                                 |       |                            |       |   |
| Forfeited                          |       | (188       | )          | $                                       | 7.55       |                                                 |       |                            |       |   |
| Expired                            |       | (291       | )          | $                                       | 10.82      |                                                 |       |                            |       |   |
| Outstanding at  September 30, 2006 |       | 2,209      |       | $                                       | 8.09       |                                                 | 4.6        |                            | $          | 17,883 |   |
| Exercisable at  September 30, 2006 |       | 1,340      |       | $                                       | 8.76       |                                                 | 3.5        |                            | $          | 11,736 |   |

 

Theweighted-average grant-date fair value of options granted during the threemonths ended September 30, 2006 and 2005 was $8.09 and $8.02, respectively. Theweighted-average grant-date fair value of options granted during the ninemonths ended September 30, 2006 and 2005 was $6.82 and $7.62,respectively.  The total intrinsic valueof options exercised during the three months ended September 30, 2006 and 2005was $164 thousand and $43 thousand, respectively.  Duringthe three and nine months ended September 30, 2006, 45,000 shares and 182,500shares, respectively, of stock options were exercised under the Company’s stockoption plans. During the nine months ended September 30, 2006, a Companyexecutive exercised 100,000 stock options and received 31,073 shares of GTSIcommon stock in a net share settlement, where he effectively tendered shares.In addition, during the three and nine months ended

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September 30, 2006, 45,000 and 82,500, respectively,other stock options were exercised and common stock were issued from treasurystock.  Due to the full valuationallowance on the Company’s deferred tax assets, no tax benefit for the exerciseof stock options was recognized during the nine months ended September 30,2006. The tax benefit of stock options exercised during the three and ninemonths ended September 30, 2005 was $16 thousand and $791 thousand,respectively.

Forthe nine months ended September 30, 2006 and 2005, the Company recorded chargesof $33 thousand for each period for stock-based compensation granted tonon-employees based on the fair value method.

*Restricted Shares*

Duringthe nine months ended September 30, 2006, 56,331 shares of restricted stockwere granted. During the nine months ended September 30, 2005, the Companyissued restricted stock grants of 26,664 shares of the Company’s common stockto the non-employee members of the Board, which vested in June 2006. During thenine months ended September 30, 2005, the Company also issued 23,333 shares ofrestricted stock to employees, scheduled to vest on the third, fourth and fifthanniversaries of the grant date in equal installments.  The Company recorded $346 thousand and $420thousand, respectively, in stockholders’ equity for deferred compensation forthe nine months ended September 30, 2006 and 2005.  The deferred compensation is amortized on astraight-line basis over the vesting period of the grants. During the ninemonths ended September 30, 2006 and 2005, $157 thousand and $77 thousand,respectively, was recorded as stock compensation expense for restricted stock.

Thefair value of nonvested shares of restricted stock is determined based on theclosing trading price of the Company’s shares on the grant date. A summary ofthe status of Company’s nonvested shares as of September 30, 2006, and changesduring the period ended September 30, 2006, is presented below:
| Nonvested Shares            | ** ** | **Shares** | ** ** | **Weighted-Average  Grant-Date Fair Value** | ** ** |
|----------------------------------|------------|------------|------------|-------------------------------------------------------|------------|
| ** **                       | ** ** | **(000)**  | ** ** | ** **                                            | ** ** |
| Nonvested at  January 1, 2006    |       | 50         |       | $                                                     | 8.16       |   |
| Granted                          |       | 56         |       | $                                                     | 7.34       |   |
| Forfeited                        |       | (8         | )          | $                                                     | 8.09       |   |
| Restricted lapse                 |       | (27        | )          | $                                                     | 8.19       |   |
| Nonvested at September  30, 2006 |       | 71         |       | $                                                     | 7.50       |   |

 

*Unrecognized Compensation*

Asof September 30, 2006, there was $3.2 million of total unrecognizedcompensation cost related to nonvested stock-based awards.  That cost is expected to be recognized over aperiod of 4.7 years.  During the threeand nine months ended September 30, 2006, approximately 8 thousand and 17thousand awards vested.

**5.  Lease Receivables**

TheCompany offers lease arrangements to its customers.  These arrangements typically are for periodsfrom two to four years. The Company’s net investment in leases as included inthe Consolidated Balance Sheets in accounts receivable, net and long-termfinancing receivables and other assets was as follows (in thousands):
| ** **                                | ** ** | **September 30,  2006** | ** ** | **December 31,  2005** | ** ** |
|-------------------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| Future minimum  lease payments receivable |       | $                            | 31,078     |                        | $          | 30,736 |   |
| Unguaranteed  residual values             |       | 10,864                       |       | 8,723                       |       |
| Unearned income                           |       | (8,074                       | )          | (6,328                      | )          |
| Net investment in lease                   |       | $                            | 33,868     |                        | $          | 33,131 |   |

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**6.  Inventory**

Inventoryis valued at the lower of cost or market. The Company writes down its inventoryfor obsolete or excess inventory based on assumptions about future demand andmarket conditions by recording a reserve to inventory on the balance sheet. Asof September 30, 2006 and December 31, 2005, the balance of the reserve was $1.8million and $6.8 million, respectively.

**7.  Debt**

a.  Credit Agreements

During the nine months ended September 30,2006, the Company obtained a $135 million credit agreement with a group oflenders (the “Credit Agreement”). This Credit Agreement replaced GTSI’s formercredit facility which expired on May 31, 2006.

The Credit Agreement provides access tocapital through June 2, 2010 with borrowings secured by substantially all ofthe assets of the Company. Borrowing under the Credit Agreement at any time islimited to the lesser of $135 million or a collateral-based borrowing base lessoutstanding obligations. The Credit Agreement subjects GTSI to certaincovenants limiting its ability to (i) freely incur debt; (ii) make certainguarantees; (iii) make certain restricted payments, purchases or investments;(iv) enter into specified transactions with affiliates; (v) acquire real estateand (vii) enter into sales and leaseback transactions. The Credit Agreementcarries an interest rate generally indexed to the Prime Rate plus 25 basispoints.  The average interest rate forthe three months ended September 30, 2006 was 8.5%.  As of September 30, 2006 GTSI had availablecredit under the Credit Agreement of $37.6 million.

The Credit Agreement contains negativefinancial performance covenants, information covenants and certain affirmativecovenants. As of September 30, 2006, the Company was not in compliancewith a financial covenant, which required the Company to maintain a minimumtrailing twelve month EBITDA. On November 3, 2006 the Company and its lendersentered into an agreement to waive the above-referenced financial covenantdefault during the third quarter of 2006. Non-compliance with covenants would allow the creditors to acceleratethe loan under certain conditions.

At September 30, 2006, the Company has asubordinated secured long-term loan of $10 million (the “Term Loan”). Theinterest rate on the Term Loan is Prime plus 5.0% per annum and is duemonthly.  The average interest rate forthe three months ended September 30, 2006 was 13.3%.  This agreement contains a prepayment penaltywhich is equal to the greater of (i) all interest payable for the first twelvemonths of the agreement, less interest paid through current or (ii) 1% of theamount prepaid.

b.  Financed Lease Debt

As the transfers of the financing receivablesdid not meet the sale criteria under FAS 140, the receipts of cash from thethird party financing companies are accounted for as secured borrowings, whichare included in the accompanying Consolidated Balance Sheets as financed leasedebt.   The Company received no cash forthe three months ended September 30, 2006 and cash of $45.1 million for thethree months ended September 30, 2005, and received cash of $14.0 million and $56.4million for the nine months ended September 30, 2006 and 2005, respectively,related to the transfer of the financing receivables to third parties.

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The terms of the financed lease debtgenerally correspond to the terms of the underlying lease agreements, generallytwo to four years.  The financed debt issecured by the related lease and other receivables.   The Company recognized interest expenseassociated with the secured financing debt of $0.5 million and $0.3 million forthe three months ended September 30, 2006 and 2005, respectively, and of $2.0million and $0.9 million for the nine months ended September 30, 2006 and 2005,respectively.

**8.  Contract Termination Costs**

InOctober 2005 and February 2006 the Company implemented two reductions inworkforce to eliminate duplication within the organization and move out ofactivities which have failed to yield adequate profitability. These actionsresulted in excess office space for which the Company recorded a charge duringthe nine months ended September 30, 2006 of $166 thousand for the consolidationof facilities. Of the remaining $136 thousand liability at September 30, 2006,$73 thousand represents a non-current liability for costs to be incurred though2008 related to facilities that are sub-leased or anticipated to be sub-leasedat rates below the Company’s costs. This charge is included in selling, general& administrative expenses on the accompanying Statement of Operations.Although the sublease ended during the second quarter, the Company continues toactively market the space available in an effort to offset future expenses. Contracttermination cost reserve activities as of and for the nine months endedSeptember 30, 2006 (in thousands) were as follows:
| Contract termination charge                              |   | $   | 166 |   |
|----------------------------------------------------------|--------|-----|-----|--------|
| Less: cash  payments                                     |   | (30 | )   |
| Contract termination  liability as of September 30, 2006 |   | $   | 136 |   |

 

**9.  Earnings Per Share**

Basic(loss) earnings per share is calculated by dividing net loss or income by theweighted average shares outstanding during the period, which includes shares ofrestricted stock that are fully vested. Diluted earnings per share is computed similarly to basic earnings pershare, except that the weighted average shares outstanding are increased toinclude equivalents, when their effect is dilutive.

Anti-dilutiveemployee stock options totaling 161 thousand were excluded for the three monthsended September 30, 2006 and options totaling 257 thousand and 673 thousandshares, respectively, were excluded for the nine months ended September 30,2006 and 2005.  Unvested restricted stockunits totaling 61 thousand and 37 thousand shares, respectively, have beenexcluded for the three and nine months ended September 30, 2006 and unvestedrestricted stock units totaling 45 thousand and 17 thousand, respectively, havebeen excluded for the three and nine months ended September 30, 2005.

The following table sets forth the computation of basic and dilutedearnings per share (in thousands, except per share amounts):

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| ** **                           | ** ** | **Three months ended** | ** ** | **Nine months ended**                  | ** ** |
|--------------------------------------|------------|----------------------------------|------------|--------------------------------------------------|------------|
| ** **                           | ** ** | **September 30,**           | ** ** | **September 30,**                           | ** ** |
| ** **                           | ** ** | **2006**                         | ** ** | **2005**                                         | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                           | ** ** | ** **                       | ** ** | **(restated –  see Note 3)** | ** ** | ** ** | ** ** | **(restated –  see note 3)** | ** ** |
|                                 |       |                             |       |                                             |       |   |   |   |   |
| Numerator:                           |       |                             |       |                                             |       |   |   |   |   |
| Net (loss) income                    |       | $                                | (3,393     | )                                                | $          | 2,967 |   | $ | (12,477 | ) | $ | (8,816 | ) |
|                                 |       |                             |       |                                             |       |   |   |   |   |
| Denominator:                         |       |                             |       |                                             |       |   |   |   |   |
| Weighted average  shares outstanding |       |                             |       |                                             |       |   |   |   |   |
| Basic                                |       | 9,404                            |       | 9,217                                            |       | 9,356 |   | 9,155 |   |
| Effect of dilutive securities        |       | N/A                              |       | 260                                              |       | N/A |   | N/A |   |
| Diluted                              |       | 9,404                            |       | 9,477                                            |       | 9,356 |   | 9,155 |   |
|                                 |       |                             |       |                                             |       |   |   |   |   |
| Net (loss) earnings  per share:      |       |                             |       |                                             |       |   |   |   |   |
| Basic                                |       | $                                | (0.36      | )                                                | $          | 0.32 |   | $ | (1.33 | ) | $ | (0.96 | ) |
| Diluted                              |       | $                                | (0.36      | )                                                | $          | 0.31 |   | $ | (1.33 | ) | $ | (0.96 | ) |

 

**10.  Income Taxes**

TheCompany has provided a valuation allowance against the full amount of the netdeferred tax assets at September 30, 2006 because, in the opinion ofmanagement, it is not more likely than not that these deferred tax assets willbe realized.  The Company recorded a $0.1million benefit in the Statement of Operations during the three and nine monthsended September 30, 2006 related to the release of a tax contingency reservethat was no longer probable.

**11.  Commitments andContingencies**

*Product Warranties*

GTSIoffers extended warranties on certain products which are generally covered forthree or five years beyond the warranty provided by the manufacturer.  Products under extended warranty requirerepair or replacement of defective parts at no cost to the customer.  The Company records warranty liabilities atthe time of sale for the estimated costs that may be incurred under itsextended warranty contracts.  Thefollowing table summarizes the activity related to product warranty liabilities(in thousands):
| ** **                                 | ** ** | **Nine months ended** | ** ** |
|--------------------------------------------|------------|---------------------------------|------------|
| ** **                                 | ** ** | **September 30,**          | ** ** |
| ** **                                 | ** ** | **2006**                        | ** ** | **2005** | ** ** |
| Accrued  warranties at beginning of period |       | $                               | 849        |   | $ | 2,429 |   |
| Charges made  against warranty liabilities |       | (426                            | )          | (989 | ) |
| Adjustments to  warranty reserves          |       | 114                             |       | (612 | ) |
| Accruals for  additional warranties sold   |       | 226                             |       | 183 |   |
| Accrued warranties at  end of period       |       | $                               | 763        |   | $ | 1,011 |   |

 

Revenueand cost of sales from extended warranty contracts is recorded as deferredrevenue and deferred costs, respectively, and subsequently recognized over theterm of the contract.  The followingtable

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summarizesthe activity related to the deferred warranty revenue (in thousands):
| ** **                                        | ** ** | **Nine months ended** | ** ** |
|---------------------------------------------------|------------|---------------------------------|------------|
| ** **                                        | ** ** | **September 30,**          | ** ** |
| ** **                                        | ** ** | **2006**                        | ** ** | **2005** | ** ** |
| Deferred  warranty revenue at beginning of period |       | $                               | 1,361      |   | $ | 2,599 |   |
| Deferred  warranty revenue recognized             |       | (900                            | )          | (1,072 | ) |
| Revenue deferred  for additional warranties sold  |       | 2,194                           |       | 102 |   |
| Deferred warranty  revenue at end of period       |       | $                               | 2,655      |   | $ | 1,629 |   |

 

*Lettersof Credit*

GTSIwas obligated under an operating lease to provide its landlord with a letter ofcredit in the amount of $150 thousand at September 30, 2006 and December 31,2005, as a security deposit for all tenant improvements associated with thelease.

Asof September 30, 2006, the Company had an outstanding letter of credit,scheduled to expire in June 2007, to a customer in the amount of $4.6 millionto guarantee the performance by the Company of its obligations under thecontract. GTSI provided one of its vendors a $3.0 million letter of credit ascollateral for a line of credit of $25 million.

Asof December 31, 2005, GTSI had an outstanding letter of credit to a customer inthe amount of $1.75 million to guarantee the performance by the Company of allobligations under the contract.  Thisobligation expired on February 28, 2006.

*Employment Agreements*

Asof December 31, 2005, the Company had an employment agreement with its formerChief Executive Officer which provided for payment of $0.7 million upontermination of employment. This agreement was terminated on February 15, 2006when the Company entered into a transition agreement with its former CEO (the “TransitionAgreement”). The Transition Agreement provides for a payment of $1.1 million tobe paid out over the next 18 months, as well as reimbursement for certainbenefits and legal fees of approximately $0.1 million.  As a result, the Company recorded severanceexpense of $1.2 million in selling, general & administrative expensesduring the nine months ended September 30, 2006. The balance of the severanceliability related to these severance payments, which is included in accruedliabilities, is $637 thousand as of September 30, 2006.

OnFebruary 16, 2006, GTSI entered into an employment agreement with the Company’scurrent President and Chief Executive Officer. This agreement provides forpayments of 12 months of base salary plus bonus equal to the previous year’sbonus payments upon termination of employment or a change in control. Inaddition, GTSI has change in control agreements with 15 additional executivesand key employees. These arrangements provide for payments of as much as 18months of total target compensation and continuation of benefits upon theoccurrence of specified events. As of September 30, 2006, no accruals have beenrecorded for these agreements.

*Contingencies*

Currently,and from time to time, GTSI is involved in litigation incidental to the conductof its business.  As of September 30,2006, GTSI is not a party to any lawsuit or proceeding that, in the opinion ofmanagement, is likely to have a material adverse effect on its financialposition or results of operations.

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**12.  Subsequent Events**

OnNovember 3, 2006, GTSI received a staff determination letter from NASDAQNational Market granting GTSI an extension to November 30, 2006 to satisfy therequirements for continued listing under Nasdaq Market Place Rule 4310(c)(14),subject to the Company filing its Form 10-Q for the quarter ended June 30,2006, its Form 10-Q for the quarter ended September 30, 2006, and all requiredrestatements of prior period financial statements.

OnNovember 30, 2006, GTSI and its lenders executed a Second Amendment to theCompany’s Credit Agreement to revise several provisions contained inDefinitions, Interest, Minimum EBITDA, and Fixed Charge Coverage Ratiosections.  In exchange for thesefinancial accommodations the Company agreed to make a one-time payment to eachLender in an amount to 0.15% of such Lender’s portion of the Revolving LoanCommitment.

OnNovember 30, 2006, GTSI and its wholly owned subsidiaries also amended theCompany’s Term Loan by entering into an amendment with the Lenders and CrystalCapital Fund, L.P., under similar terms as the above referenced SecondAmendment to the Credit Agreement.

On December 4, 2006,GTSI received a staffdetermination letter from NASDAQ National Market granting GTSI an extension to January 9, 2007 to satisfy the requirements forcontinued listing under Nasdaq Market Place Rule 4310(c)(14), subject to theCompany filing its Form 10-Q for the quarter ended June 30, 2006, its Form 10-Qfor the quarter ended September 30, 2006, and all required restatements.

OnDecember 22, 2006, GTSI filed an amended Form 10-K/A with the SEC to restateits prior financial statements for the quarterly and annual periods endedduring the years ended December 31, 2005 and 2004 and an amended Form 10-Q torestate its prior financial statements for the quarters ended March 31, 2006and March 31, 2005. The restated amounts are included in the comparativeinformation contained in this Form 10-Q as detailed in Note 3 of theconsolidated condensed financial statements. On December 22, 2006 GTSI filed a Form 10-Q for the quarter ended June30, 2006.

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

The following discussionand analysis is provided to increase the understanding of, and should be readin conjunction with, our unaudited condensed consolidated financial statementsand notes included in Part I, Item 1 of this Quarterly Report on Form 10-Q andour consolidated financial statements and notes in our Annual Report on Form10-K/A for the year ended December 31, 2005. We use the terms “GTSI,” “we,” “our,” and “us” to refer to GTSI Corp.and its subsidiaries.

**DisclosureRegarding Forward-Looking Statements**

Readers are cautionedthat this Quarterly Report on Form 10-Q contains forward-looking statementswithin the meaning of Section 27A of the Securities Act of 1933, as amended,and Section 21E of the Securities Exchange Act of 1934, as amended, relating toour operations that are based on our current expectations, estimates, forecastsand projections.  Words such as “expect,”“plan,” “believe,” “anticipate,”  “intend”and similar expressions are intended to identify these forward-lookingstatements.  These statements are notguarantees of future performance and are subject to risks, uncertainties andassumptions that are difficult to predict. Therefore, actual results in future periods may differ materially fromthose expressed or projected in any forward-looking statements because of anumber of risks and uncertainties, including:

·                  Materialweaknesses in our internal control over financial reporting;

·                  Theuncertainty surrounding our ability to meet the covenants under our CreditAgreement in future periods;

·                  Infrastructurefailures;

·                  Ourexposure to inventory risks;

·                  Changesin our management team, including our Chief Executive Officer who resigned February15, 2006;

·                  Continuingnet losses, if we fail to align costs with our sales levels;

·                  Ourreliance on a small number of large transactions for significant portions ofour sales and gross margins;

·                  Ourability to shift our business model from a reseller of products to a high-endsolutions provider;

·                  Potentialadditional expenses to comply with the changing regulations of corporategovernance and public disclosure;

·                  Ourability to attract and retain talented employees;

·                  Ourquarterly sales and cash flows are volatile, which makes our future financialresults difficult to forecast;

·                  Unsatisfactoryperformance by third parties with which we work could hurt our reputation,operating results and competitiveness;

·                  Anyissue that compromises our relationship with agencies of the Federal governmentwould cause serious harm to our business;

·                  Competitionand loss of market share;

·                  Ourqualifications as a small business for new contract awards; and

·                  Changes inFederal government fiscal spending.

For a detailed discussionof risk factors affecting GTSI’s business and operations, see Item 1A, RiskFactors in our Annual Report on Form 10-K/A for the year ended December 31,2005. We undertake no obligation to revise or update any forward-lookingstatements.

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**Restatement**

In August 2006,management concluded that GTSI’s financial statements for the year endedDecember 31, 2005 and the quarter ended March 31, 2006 should be restated tocorrect the accounting for the transfer of receivables, the overstatement ofaccounts payable and the related costs of sales, and the recording ofmiscellaneous accounting adjustments appropriate for the fair presentation ofthe financial statements. As result of the corrections of these errors, werestated our financial statements as described more fully in Note 3 of ourunaudited condensed consolidated financial statements.  These restatements resulted in a decrease tonet loss of $1.6 million and decreased loss per share by $0.18 for the ninemonths ended September 30, 2005. Additionally, the restatement entries affectedthe Statement of Cash Flows by moving cash flows from operations to cash flowsfrom financing activities, resulting in a decrease to cash provided byoperating activities of $56.7 million and increases to cash provided byinvesting and financing activities of $0.2 million and $56.5 million,respectively, for the nine months ended September 30, 2006. Management’sDiscussion and Analysis of Financial Condition and Results of Operations hasbeen modified and updated to reflect the effect of these restatements.

**Overview**

GTSI has more than 20years of experience in selling IT products and solutions primarily to U.S.Federal Government customers.  We believeour key differentiators to be our strong brand among government customers,extensive contract portfolio and wide variety of vendors.

The vast majority of theIT solutions we offer to our customers have a strong product component, andmany are entirely product-based.  Weconnect IT’s leading vendors, products and services inside the core technologyareas most critical to government success by partnering with global IT leaderssuch as Panasonic, HP, Cisco and Sun Microsystems.  In our traditional reseller capacity, we providegovernment with products for workgroup computing, such as workstations anddesktops; mobility computing and communications, such as wireless-equippednotebooks and PDAs; core computing, such as servers, high-end computing, andstorage systems; networking products; and a wide range of peripherals.

During 2005, we focusedon application areas in which our government customers have consistentlydemonstrated the greatest immediate strategic interest, and which provide uswith the greatest opportunity for sustained return on investment.  Our primary solution attention is beingdirected toward IT consolidation, disaster recovery and backup, e-mailmanagement, and visual communication support for remote workers and distributedoffices, including collaboration, presentation, and broadcast systems.

To help our customersacquire, manage and refresh this technology in a strategic andapplication-appropriate manner, GTSI has created a mix of financial servicescapable of managing the entire technology lifecycle.  We offer leasing arrangements to allowgovernment agencies to acquire access to technology as an evenly distributedoperating expense, rather than the much more budget-sensitive and discontinuouscapital expenditures.  This model is inhigh demand from our customers, and we believe it represents a distinctiveadvantage.  We expect to continue toexpand our sales from leasing arrangements for IT products and solutions in2006 and 2007.

As discussed in moredetail throughout our MD&A for the nine months ended September 30, 2006compared to the nine months ended September 30, 2005:

·                  Totalsales declined $32.4 million;

·                  Grossmargin as a percentage of sales increased 40 basis points;

·                  Operatingexpenses were impacted by approximately $5.3 million of non-recurring charges

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related to refinancingour debt, severance and restatement fees; and

·                  Loss beforeincome taxes for the nine months ended September 30, 2006 decreased $1.6million.

We are looking forward tosignificant improvements in operational and financial performance throughimproved margin percentages.  We have putin place a multi-element plan to move the business from lower margin productsales to higher margin solutions sales. In the first element of our plan, we identified and exited failing ornon-strategic activities, including two reductions in workforce totaling over100 full time positions and realigning functions throughout GTSI to increasemargin improvement through cost reductions. In the second and third elements of our plan, which will progressthroughout 2006 and 2007, we will work to improve execution of the currentbusiness and deliver high value solutions. We believe there are significant opportunities to increase ourrelatively low market share within the government IT market as we pursue adistinctive business model combining the concepts of a value added provider ofcomplex IT solutions with a traditional reseller.

**CriticalAccounting Estimates and Policies**

Our unaudited condensedconsolidated financial statements are based on the selection of accountingpolicies and the application of significant accounting estimates, some of whichrequire management to make significant assumptions.  We believe that some of the more criticalestimates and related assumptions that affect our financial condition andresults of operations pertain to revenue recognition, financing receivables,valuation of inventory, capitalized internal use software, accounts payable andincome taxes. For more information on critical accounting estimates and policiessee the MD&A included in our Annual Report on Form 10-K/A for the yearended December 31, 2005.  We havediscussed the application of these critical accounting estimates and policieswith the Audit Committee of our Board of Directors.

We adopted SFAS No. 123(Revised 2004), *Share-Based Payment*(“FAS 123R”) as of January 1, 2006 and as a result, we changed theaccounting for our stock option plans from the intrinsic value method, usedprior to 2006, to the fair value method as required by FAS 123R. We adopted FAS123R using the modified-prospective-transition method. As a result of theadoption, our stock-based compensation expense increased $0.8 million duringthe nine months ended September 30, 2006 as compared with the nine months endedSeptember 30, 2005, which was recorded as selling, general & administrativeexpenses on our condensed consolidated Statement of Operations. In accordancewith the modified-prospective-transition method, our consolidated financialstatements for prior periods have not been restated to reflect, and do notinclude, the impact of FAS 123R. There was no stock-based compensation expenserelated to employee stock options recognized during the nine months endedSeptember 30, 2005 because the exercise price of the stock options granted toemployees and directors equaled the fair market value of the underlying stockon the date of grant.

We expect that theadoption of FAS 123R will result in additional stock-based compensation expenseof approximately $1.1 million for the year ended December 31, 2006.  We are unable to predict the ultimate impactto our operations, as it will depend on the level of share-based awards in 2006and thereafter, and the actual rate of forfeitures, as compared to our estimateof forfeitures.

FAS 123R requirescompanies to estimate the fair value of share-based payment awards on the dateof grant using an option-pricing model. The value of the portion of the awardthat is ultimately expected to vest is recognized as expense over the requisiteservice periods in our condensed consolidated Statement of Operations. Ourdetermination of fair value of share-based payment awards on the date of grantusing an option-pricing model is affected by assumptions regarding a number ofhighly complex and subjective variables. These variables include our expectedstock price volatility, expected term, risk free interest

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rates, and actual andprojected employee stock option exercise behaviors.

We analyzed ourhistorical volatility to estimate the expected volatility, consistent with FAS123R. The risk-free interest rate assumption is the five-year U.S. Treasuryrates at the date of grant. The estimated expected life represents theweighted-average period the stock options are expected to remain outstandingand has been determined based on an analysis of historical exercise behavior.

As stock-basedcompensation expense recognized in the condensed consolidated Statement ofOperations for the third quarter of 2006 is based on awards ultimately expectedto vest, it has been reduced for estimated forfeitures. Forfeitures wereestimated based on historical experience. As of September 30, 2006, the totalcompensation cost related to nonvested awards not yet recognized was $3.2million, which will be recognized over a period of 4.7 years.

During the year endedDecember 31, 2005, the Company’s Board of Directors approved the accelerationof the vesting of unvested stock options with an exercise price higher than$8.09, the market value on the date of the acceleration, previously awarded toemployees, officers and directors under GTSI’s stock option plans.  This action affected unvested options topurchase an aggregate of 515 thousand shares of common stock at exercise pricesper share between $8.23 and $13.67.  Thevesting of these options was accelerated to avoid recognizing compensationexpense in future financial statements upon the adoption of FAS 123R.

**HistoricalResults of Operations**

The following tableillustrates the unaudited percentage of sales represented by items in ourcondensed consolidated statements of operations for the periods presented.
| ** **                                      | ** ** | **Three months ended** | ** ** | **Nine months ended** | ** ** |
|-------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                      | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **                                      | ** ** | **2006**                         | ** ** | **2005**                        | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                                      | ** ** | ** **                       | ** ** | **(restated)**                  | ** ** | ** ** | ** ** | **(restated)** | ** ** |
| Sales                                           |       | 100.0                            | %          | 100.0                           | %          | 100.0 | % | 100.0 | % |
| Cost of sales                                   |       | 89.3                             |       | 86.6                            |       | 87.6 |   | 88.0 |   |
| Gross margin                                    |       | 10.7                             |       | 13.4                            |       | 12.4 |   | 12.0 |   |
| Selling, general  & administrative expenses |       | 12.5                             |       | 11.9                            |       | 15.2 |   | 14.7 |   |
| (Loss) income  from operations                  |       | (1.8                             | )          | 1.5                             |       | (2.8 | ) | (2.7 | ) |
| Interest and  other income, net                 |       | 0.3                              |       | 0.3                             |       | 0.6 |   | 0.3 |   |
| (Loss) income before  income taxes              |       | (1.5                             | )          | 1.8                             |       | (2.2 | ) | (2.4 | ) |
| Income tax  benefit (provision)                 |       | —                           |       | (0.7                            | )          | — |   | 0.9 |   |
| Net (loss) income                               |       | (1.5                             | )%         | 1.1                             | %          | (2.2 | )% | (1.5 | )% |

 

The followingtables indicate, for the periods indicated (dollars in millions), theapproximate sales by type and vendor along with related percentages of totalsales.
| ** **                           | ** ** | **Three months ended September 30,** | ** ** | **Nine months ended September 30** | ** ** |
|--------------------------------------|------------|----------------------------------------------------------|------------|--------------------------------------------------------|------------|
| **Sales by Type**                    | ** ** | **2006**                                                 | ** ** | **2005**                                               | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                           | ** ** | ** **                                               | ** ** | ** **                                             | ** ** | **(restated)** | ** ** | ** ** | ** ** | ** ** | ** ** | **(restated)** | ** ** |
| Hardware, net of  reserves           |       | $                                                        | 178.7      |                                                   | 74.1       | % | $ | 221.7 |   | 82.9 | % | $ | 424.7 |   | 74.4 | % | $ | 485.9 |   | 80.6 | % |
| Software                             |       | 35.4                                                     |       | 14.6                                                   |       | 37.2 |   | 13.9 |   | 82.4 |   | 14.4 |   | 81.7 |   | 13.5 |   |
| Resold  third-party service products |       | 10.3                                                     |       | 4.2                                                    |       | 2.9 |   | 1.1 |   | 25.5 |   | 4.5 |   | 22.0 |   | 3.6 |   |
| Services                             |       | 17.2                                                     |       | 7.1                                                    |       | 5.6 |   | 2.1 |   | 38.2 |   | 6.7 |   | 13.6 |   | 2.3 |   |
| Total                                |       | $                                                        | 241.6      |                                                   | 100.0      | % | $ | 267.4 |   | 100.0 | % | $ | 570.8 |   | 100.0 | % | $ | 603.2 |   | 100.0 | % |

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| ** **              | ** ** | **Three months ended September 30,** | ** ** | **Nine months ended September 30** | ** ** |
|-------------------------|------------|----------------------------------------------------------|------------|--------------------------------------------------------|------------|
| **Sales by  Vendor**    | ** ** | **2006**                                                 | ** ** | **2005**                                               | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **              | ** ** | ** **                                               | ** ** | ** **                                             | ** ** | **(restated)** | ** ** | ** ** | ** ** | ** ** | ** ** | **(restated)** | ** ** |
| Panasonic               |       | $                                                        | 43.5       |                                                   | 18.1       | % | $ | 52.2 |   | 19.5 | % | $ | 107.7 |   | 18.8 | % | $ | 124.9 |   | 20.7 | % |
| Cisco                   |       | 48.1                                                     |       | 19.9                                                   |       | 43.5 |   | 16.3 |   | 95.2 |   | 16.7 |   | 75.7 |   | 12.6 |   |
| Sun Microsystems        |       | 25.7                                                     |       | 10.6                                                   |       | 49.6 |   | 18.6 |   | 54.6 |   | 9.6 |   | 79.7 |   | 13.2 |   |
| HP                      |       | 19.1                                                     |       | 7.9                                                    |       | 27.5 |   | 10.3 |   | 53.5 |   | 9.4 |   | 66.2 |   | 11.0 |   |
| Microsoft               |       | 4.4                                                      |       | 1.8                                                    |       | 7.7 |   | 2.9 |   | 28.3 |   | 5.0 |   | 27.0 |   | 4.5 |   |
| Other, net of  reserves |       | 100.8                                                    |       | 41.7                                                   |       | 86.9 |   | 32.4 |   | 231.5 |   | 40.5 |   | 229.7 |   | 38.0 |   |
| Total                   |       | $                                                        | 241.6      |                                                   | 100.0      | % | $ | 267.4 |   | 100.0 | % | $ | 570.8 |   | 100.0 | % | $ | 603.2 |   | 100.0 | % |

 

**ThreeMonths Ended September 30, 2006 Compared With the Three Months Ended September30, 2005**

*Sales*

Sales consist of revenuefrom products delivered and services sold or rendered, net of allowances forcustomer returns. Sales for the three months ended September 30, 2006 decreased$25.9 million, or 9.7%, compared to the three months ended September 30, 2005.  The reasons for the sales declines includeweak performance associated with certain sales teams resulting in lower thanexpected bookings. Sales were also impacted by the non-recurrence of a largelease transaction for $25.1 million that occurred during the three monthsended September 30, 2005 and not during the three months ended September 30,2006. Sales to certain government agencies were below previous periods, and wehave taken steps to align the resources in the organization with the marginpotential.

An analysis of sales bytype indicates the $43.0 million decrease in hardware sales was the predominantdriver of the overall sales decline of $25.9 million period over period. Thedecline in hardware sales was partially offset by the $11.6 million increase inservice sales and the $7.4 million increase in resold third party product salesduring the same period. Our services sales more than tripled period over periodto $17.2 million for the three months ended September 30, 2006 from $5.6million for the three months ended September 30, 2005.  The increase in services sales waspredominantly due to significant growth in our professional services team.  Consistent with our plans to become ahigh-end solutions provider, we expect to continue to have a strong growthrate, in terms of gross margin dollars, in this department during 2007.

Other than sales ofCisco, our sales from our other top four vendors declined quarter overquarter.   The $25.9 million decrease insales mainly comprised a $8.7 million, or 16.7%, decrease in sales of our topvendor, Panasonic and a $23.9 million, or 48.2%, decrease in Sun Microsystemssales.  These declines were partiallyoffset by the $4.6 million increase in Cisco and the $13.9 million increase in othervendors, net of reserves, during the three months ended September 30, 2006.

*GrossMargin*

Gross margin is salesless cost of sales, which includes product cost, freight, warranty maintenancecost and certain other expenses related to the cost of acquiring products.Gross margin decreased $10.0

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million, or 27.9%, from$35.9 million for the three months ended September 30, 2005 to $25.9 millionfor the three months ended September 30, 2006. This decrease was caused by the$25.9 million decease in sales and the lower decrease in cost of sales of $15.9million. The gross margin decrease was related to decreases in vendor incentivefunds of $3.5 million and contract price protection of $8.3 million, both ofwhich are recorded as a reduction of cost of sales. Vendor incentive fundsdecreased due to decreased sales period over period and changes in vendorincentive fund programs.

As a result of increasedcosts described above, gross margin as a percentage of sales decreased 2.7percentage points to 10.7% in the third quarter of 2006 from 13.4% in the thirdquarter of 2005. Gross margin percentages vary over time and may changesignificantly depending on our customers’ use of available contract vehiclesand the mix of products sold.

*Selling,General & Administrative Expenses*

During the three monthsended September 30, 2006, selling, general & administrative (“SG&A”)expenses decreased $1.7 million, or 5.3%, from the same period in 2005.  This decrease is due to a $0.8 milliondecrease in salary expense as a result of our reductions in work force, anddecreased commission expense of $1.3 million, due to decreased sales and grossmargins results through September 30, 2006. In addition, net salaries and benefits expenses decreased approximately$0.5 million quarter over quarter as more labor was capitalized in connectionwith our next release of GEMS.

These decreases wereoffset by additional costs during the three months ended September 30, 2006,primarily associated with the restatement of our financial statements for theyears ended December 31, 2005, 2004 and 2003, as well as the three months endedMarch 31, 2006.  As a result ofrestatement efforts, the following expenses increased during the three monthsended September 30, 2006, as compared with the three months ended September 30,2005 consultants expense increased $0.8 million from $1.6 million to $2.4million, legal fees increased $0.4 million from $0.1 million to $0.5 million,and accounting fees increased from $0.2 million to $0.4 million.  SG&A expenses also increased $0.3 millionfor stock-based compensation for stock options upon the adoption of FAS 123R.

Expressed as a percentageof total sales, SG&A expenses increased from 11.9% during the three monthsended September 30, 2005 to 12.5% for the same period of the current year.

*Interestand Other Income, Net*

Interest and otherincome, increased $0.1 million, or 9.5%, from the three months ended September30, 2005 to the same period in 2006.  Theincrease to interest and other income, net was due mainly to increased interestand other income, offset by increased interest expense, due to increased fees,higher borrowings, and a higher interest rate under our Credit Agreement, aswell as $1.2 million increase in interest expense due to the financed leasedebt balances recorded in accordance with FAS 140.

*Income Taxes*

We recorded a tax benefitof $0.1 million for the three months ended September 30, 2006 compared toa tax provision of $1.8 million in the same period last year.  The taxbenefit recorded during the three months ended September 30, 2006 resulted fromthe release of a tax contingency reserve that is no longer probable and we haveprovided a valuation allowance against the full amount of the net deferred taxassets at September 30, 2006.  The taxprovision recorded during the three months ended September 30, 2005 was due toGTSI’s income before income taxes of $4.7 million for the three months endedSeptember 30, 2005.

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# **Nine months Ended September 30, 2006 Compared Withthe Nine months Ended September 30, 2005**

*Sales*

Sales for the nine monthsended September 30, 2006 were $570.8 million, compared to $603.2 million forthe nine months ended September 30, 2005, a decrease of $32.4 million, or5.4%.  Our year to date sales decline isdue to the $8.4 million decrease in first quarter sales and the $25.9 milliondecrease in the third quarter sales, related to weak performance associatedwith certain sales teams resulting in lower than expected bookings. Thisdecline was partially offset during the second quarter by the increase inservices sales.

An analysis of sales bytype indicates the $61.2 million decrease in hardware sales was the predominantdriver of the overall sales decline of $32.4 million period over period.Decreased hardware sales were partially offset by the $24.6 million increase inservices sales and the $3.5 million increase in resold third party productsales during the same period. Our services sales increased 180% period overperiod to $38.2 million for the nine months ended September 30, 2006 from $13.6million for the nine months ended September 30, 2005.  The increase in services sales is consistentwith our plans to become a high-end solutions provider. We achieved recordsales with our U.S. Communities contract, which was renewed in April 2006 foran additional two years. As a result, management expects our sales to state andlocal governments to continue to increase as a percentage of our total sales.

Other than sales of Ciscoand Microsoft, our sales from our other top three vendors declined year overyear.  Our $32.4 million decrease insales mainly comprised a $17.2 million, or 13.8%, decrease in sales of our topvendor, Panasonic, and a $25.1 million, or 31.5%, decrease in Sun Microsystemssales.  In addition, sales from HPdecreased $12.7 million year over year. These declines were partially offset by the $19.5 million increase inCisco and the $1.3 million increase in Microsoft during the nine months endedSeptember 30, 2006.

*GrossMargin*

Gross margin decreased$1.6 million during the nine months ended September 30, 2006 as compared to theprior period. This decrease was caused by the $32.4 million decease in salesand the lower decrease in cost of sales of $30.7 million.  Gross margin decreases were due to a declinein vendor incentive funds of $3.6 million, which is recorded as a reduction ofcost of sales. Vendor incentive funds decreased due to decreased sales periodover period and changes in vendor incentive fund programs.

Gross margin decreaseswere partially offset by a decrease in the inventory reserve account of $8.3million, which was driven by a decrease in inventory balances related to atrisk inventory as of September 30, 2006. Gross margin as a percentage of sales increased 0.4 percentage points to12.4% for the nine months ended September 30, 2006 primarly due to improvedproduct mix, increased services revenue, and centralized pricing initiativesimplemented by management.

*Selling,General & Administrative Expenses*

SG&A expenses for thenine months ended September 30, 2006 decreased $1.5 million, or 1.7%, duringthe nine months ended September 30, 2006 as compared to the prior period.SG&A expenses as a percentage of sales increased to 15.2% for the ninemonths ended September 30, 2006 from 14.7% in the prior period. During the ninemonths ended September 30, 2006, SG&A expenses included a $1.2 millionseverance expense under the terms of the transition agreement with our formerCEO.

The decrease in SG&Aexpenses is due to a $1.3 million decrease in salary expense and $1.0 milliondecrease in training expense, as a result of our reductions in work forceduring the year.  In addition, netsalaries and benefits expenses decreased approximately $2.3 million from theprior period, as more labor

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was capitalized inconnection with our next release of GEMS.

The decreases in SG&Aexpenses were partially offset by additional costs associated with therestatement of our financial statements for the years ended December 31, 2005,2004 and 2003, as well as the three months ended March 31, 2006.  As a result of restatement efforts, thefollowing expenses increased during the nine months ended September 30, 2006,as compared with the nine months ended September 30, 2005: consultants expenseincreased $0.3 million from $3.9 million to $4.2 million and legal fees increased$0.5 million from $0.9 million to $1.4 million, respectively.

Other increased costsincluded incentive compensation and bonus expenses, which increased $1.5million over the same period of last year, which was primarily related to theaccrual for bonuses to our executive officers and other eligible employees inan effort to promote retention and performance in 2006 and beyond.  SG&A expenses increased $0.8 million forstock-based compensation for our stock options upon the adoption of FAS 123R.

*Interestand Other Income, Net*

Interest and other incomeincreased $1.7 million, or 90.9%, from the nine months ended September 30, 2005to the same period in 2006.  The increaseto interest and other income, net was due mainly to increased lease-relatedincome from higher financing receivables. These increases were offset by increased interest expense, due toincreased fees, higher borrowings, and a higher interest rate under our CreditAgreement and $3.4 million increase in interest expense due the financed leasedebt balances recorded in accordance with FAS 140.

*IncomeTaxes*

Our income tax provisiondeclined from $5.4 million for the nine months ended September 30, 2005 to$0.1 million for the nine months ended September 30, 2006. The tax benefitrecorded during the nine months ended September 30, 2006 resulted from therelease of a tax contingency reserve that is no longer probable and we haveprovided a valuation allowance against the full amount of the net deferred taxassets at September 30, 2006.  The taxprovision recorded during the nine months ended September 30, 2005 was due toGTSI’s loss before income taxes of $14.2 million for the nine months endedSeptember 30, 2005.

**SeasonalFluctuations**

Historically inexcess of 95% of our annual sales have been earned from departments andagencies of the U.S. Federal Government, either directly or indirectly throughsystem integrators to which GTSI is a sub-contractor. We have historicallyexperienced, and expect to continue to experience, significant seasonalfluctuations in our operations as a result of government buying and fundingpatterns, which also affect the buying patterns of GTSI’s prime contractorcustomers.  These buying and fundingpatterns historically have had a significant positive effect on our bookings inthe third quarter ended September 30 each year (the Federal government’s fiscalyear end), and consequently on sales and net income in the third and fourthquarters of each year.

Historically,sales during the first nine months of our fiscal year have averagedapproximately 69% of our annual sales. Our SG&A expenses are more levelthroughout the year. Quarterly financial results are also affected by thetiming of contract awards and the receipt of products by our customers.  The seasonality of our business, and theunpredictability of the factors affecting such seasonality, makes GTSI’squarterly and annual financial results difficult to predict and subject tosignificant fluctuation.

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**Liquidity and Capital Resources**
| **Cash flows for the nine months ended  September 30,**(in millions) | ** ** | **2006**   | ** ** | **2005**       | ** ** | **Increase**   | ** ** |
|---------------------------------------------------------------------------|------------|------------|------------|----------------|------------|----------------|------------|
| ** **                                                                | ** ** | ** ** | ** ** | **(restated)** | ** ** | **(Decrease)** | ** ** |
| Cash used in  operating activities                                        |       | $          | (15.2      | )              | $          | (52.1          | )          | $ | (36.9 | ) |
| Cash used in  investing activities                                        |       | $          | (2.8       | )              | $          | (2.9           | )          | $ | 0.1 |   |
| Cash provided by  financing activities                                    |       | $          | 24.6       |           | $          | 54.7           |       | $ | (30.1 | ) |

 

During the nine monthsended September 30, 2006, our cash balance increased $6.5 million from ourDecember 31, 2005 balance. Although the balance under our Credit Agreementremained consistent, our long term borrowings under the Term Loan increased $10million. GTSI’s current assets decreased $4.1 million as of September 30, 2006when compared to our December 31, 2005 balance. This decrease is due to decreasedaccounts receivable of $23.6 million as a result of lower sales during 2006, offsetby increased deferred costs and prepaid expenses as of September 30, 2006.

Our capital expendituresremained consistent during the nine months ended September 30, 2006 and 2005.These expenditures were primarily for consulting costs associated with thepreparation for a future release of GEMS during 2006 and the implementation ofGEMS in April 2005.

Cash provided byfinancing activities decreased $30.1 million for the nine months endedSeptember 30, 2006, as compared with the same period in 2005, predominantly dueto $42.4 million less proceeds from financed lease debt caused by a lower valueof receivables sold during the period, offset by the $10.0 million increase inlong term debt under the Term Loan. Cash used to purchase treasury stockdeclined $3.0 million period over period since we did not purchase anyshares during 2006. This decrease was partially offset by the decrease inproceeds from the exercise of stock options. The amendment of our ESPP discountas of January 1, 2006 from 15% to 5% resulted in 61% less proceeds from ourESPP during the nine months ended September 30, 2006.

*Liquidity*

Our working capital decreased$4.2 million to $56.1 million  as of September 30, 2006 when compared toour December 31, 2005 balance.  GTSI’scurrent assets increased $0.3 million as of September 30, 2006 when compared toour December 31, 2005 balance. This increase is due to increased deferredcosts, prepaid expenses and income tax receivable as of September 30, 2006,offset by decreased accounts receivable of $23.6 million as a result of lowersales during 2006.

Our treasury stock isgenerally reissued upon exercise of employee stock options and for the employeestock purchase plan. No shares of common stock were purchased during the ninemonths ended September 30, 2006 for treasury stock.  Although $5.1 million remains authorized byour Board of Directors for share repurchases, the terms of our Credit Agreementrestrict us from purchasing treasury stock until 2010.

*CreditAgreements*

During the nine monthsended September 30, 2006, we obtained a credit agreement of $135 million with agroup of lenders (the “Credit Agreement”). This Credit Agreement replaced ourformer credit facility which expired on May 31, 2006.

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The Credit Agreementprovides access to capital through June 2, 2010 with borrowings secured by substantiallyall of GTSI’s assets. As of September 30, 2006, borrowing under the CreditAgreement at any time is limited to the lesser of $135 million or acollateral-based borrowing base less outstanding obligations. The CreditAgreement subjects GTSI to certain covenants limiting its ability to (i) freelyincur debt; (ii) make certain guarantees; (iii) make certain restrictedpayments, purchases or investments; (iv) enter into specified transactions withaffiliates; (v) acquire real estate and (vii) enter into sales and leasebacktransactions. The Credit Agreement carries an interest rate generally indexedto the Prime Rate plus 25 basis points. As of September 30, 2006 our available credit under the Credit Agreementwas $37.6 million.

The Credit Agreement containsnegative financial performance covenants, information covenants and certainaffirmative covenants.  As ofSeptember 30, 2006, we were not in compliance with a financial covenant,which required us to maintain a minimum trailing twelve month EBITDA. OnNovember 3, 2006 we entered into an agreement with our lenders to waive theabove-referenced financial covenant default during the third quarter of2006.  Non-compliance with covenantswould allow the creditors to accelerate the loan under certain conditions.

At September 30, 2006, wehave a subordinated secured long-term loan of $10 million with an interest rateof Prime plus 5.0% per annum and is due monthly.  This agreement contains a prepayment penaltywhich is equal to the greater of (i) all interest payable for the first twelvemonths of the agreement, less interest paid through current or (ii) 1% of theamount prepaid.

On November 30, 2006,GTSI and our lenders executed a Second Amendment to our Credit Agreement torevise several provisions contained in Definitions, Interest, Minimum EBITDA,and Fixed Charge Coverage Ratio sections. In exchange for these financial accommodations we agreed to make aone-time payment to each Lender in an amount to 0.15% of such Lender’s portionof the Revolving Loan Commitment.

On November 30, 2006,GTSI and its wholly owned subsidiaries also amended our subordinated securedTerm Loan by entering into an amendment with the Lenders and Crystal CapitalFund, L.P., under similar terms as the above referenced Second Amendment to ourCredit Agreement.

*CapitalRequirements*

Our ongoing capitalrequirements depend on a variety of factors, including the extent to which weare able to fund the cash needs of our business from operations. GTSI recordeda net loss of $12.5 million for the nine months ended September 30, 2006. Netcash used in operations for the nine month ended September 30, 2006 was $15.2and we anticipate that we will continue to rely primarily on our CreditAgreement to finance our operating cash needs.

During the nine monthsended September 30, 2006 our obligations under letters of credit increased $5.9million to $7.8 million as a result of collateral for a performance bond and avendor line of credit, offset by the expiration of a letter of credit to acustomer upon successful completion of a physical security project. We have nocommitments to purchase inventory or equipment, nor do we have any off-balancesheet arrangements.

**NewAccounting Pronouncements**

In June 2006, theFinancial Accounting Standards Board (“FASB”) issued Interpretation No. 48 (“FIN48”), *Accounting for Uncertainty in IncomeTaxes*, which clarifies the accounting for uncertainty in incometaxes recognized in the financial statements in accordance with FASB StatementNo. 109,

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*Accountingfor Income Taxes*. FIN 48 provides guidance on the financialstatement recognition, measurement, presentation and disclosure of uncertaintax positions taken or expected to be taken in income tax returns. FIN 48 iseffective for fiscal years beginning after December 31, 2006. We are currentlyevaluating the impact of this standard on our consolidated financialstatements.

In September 2006, theFASB issued statement of Financial Accounting Standards (“SFAS”) No. 157, *Fair Value Measurement*, (“FAS 157”), whichestablishes a framework for measuring fair value in generally acceptedaccounting principles, and expands disclosures about fair value measurements.FAS 157 is effective for interim periods beginning after November 15, 2007. Weare currently evaluating the impact of this standard on our consolidatedfinancial statements.

In September 2006, theSEC released SEC Staff Accounting Bulletin No. 108, *Considering the Effects of Prior Year Misstatementswhen Quantifying Misstatements in Current Year Financial Statements*,(“SAB 108”) which addresses how uncorrected errors in previous yearsshould be considered when quantifying errors in current year financialstatements and requires registrants to consider the effect of all carry overand reversing effects of prior year misstatements when quantifying errors incurrent year financial statements.  SAB108 allows registrants to record the effects of adopting the guidance as acumulative effect adjustment which must be reported as of the beginning of thefirst fiscal year ending after November 15, 2006. We do not expect SAB 108to have a significant effect on our consolidated financial position or resultsof operations.

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**Outlook**

Ourefforts are focused on creating significant value for our stockholders during2006 and beyond. Our CEO has begun implementing a turnaround strategy for usand plans to move GTSI away from our profile as a reseller toward that of asolution provider. As part of our shift from reseller to solutions provider,GTSI is integrating commercial products with off-the-shelf software to providetailored engineering solutions for customers.

Theturnaround strategy is focused on stabilizing and improving our supply chain,developing and selling value-added solutions and integration services, andincreasing sales under leasing arrangements. Management feels we have madesteady progress in improving our supply chain process. Our supply chain wasreorganized to report to a single organization under common leadership, to helpsolve some of the supply chain issues which have hindered GTSI since the GEMSimplementation.

Welaunched our dedicated solutions team and continue to expand and refine oursolution offerings. We are in process of defining a number of repeatablesolutions that address significant problems to every government agency. Weanticipate growing our systems engineering and services offerings as part ofthe effort to focus GTSI as a solutions provider, and we plan to focus more onproviding solutions to our customers, instead of commodity products.

Growthin annual sales under leasing arrangements is anticipated as our customers takeincreasing advantage of the ability to finance IT investments as recurringoperating expenses. In addition to the priorities in the turnaround strategy,we are also focusing on driving productivity throughout the organization.

Asignificant shift of sales from the third quarter of 2006 to the fourth quarterof 2006 has been observed as we entered the fourth quarter of 2006 with greaterthan $292 million in sales backlog.

Weare working to bring our expenses more in line with our margin production.Furthermore, we anticipate high industry growth in the areas of storage, networkingand physical security translating into additional sales for GTSI.  We believe we can make improvements to ouroperating results during the next three years. We are aggressively tacklingproductivity issues, with the goal to realize significant progress in themonths ahead.  The improvement in ouroverall annual turnover rate from 50% at December 31, 2005 to 9% at September30, 2006 will have a positive effect on overall productivity. Theseproductivity improvements are expected to lower SG&A expense as apercentage of sales.

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**ITEM 3.****                                                     QUANTITATIVEAND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

GTSI had a $135 millionCredit Agreement indexed at Prime plus 25 basis points per annum and a TermLoan of $10 million indexed at Prime plus five percent as of September 30,2006. These credit facilities expose us to market risk from changes in interestrates. For purposes of specific risk analysis, we use sensitivity analysis todetermine the effects that market risk exposures may have.

Our results of operationsare affected by changes in interest rates due to the impact those changes haveon borrowings under our credit facilities. If interest rates increase, our debtservice obligations on the variable rate indebtedness would increase eventhough the amount borrowed remained the same, which would require more cash toservice our indebtedness. The effect of a 5% increase in interest rates wouldhave resulted in additional interest expense during the three months endedSeptember 30, 2006 of $0.1 million based on our average monthly balances. Wehave not used derivative instruments to alter the interest rate characteristicsof our borrowings. At September 30, 2006 we had $48.4 million of variable ratedebt subject to interest.

Included in ourclassification of long-term debt are amounts related to leasetransactions.  We have reported theseamounts in Note 3 as long-term financed lease debt.  These amounts will amortize over the periodof the lease instruments with no cash affect to the Company.  The balances of these liabilities were $10.9million and $16.0 million at September 30, 2006 and December 31, 2005,respectively.  A change in interest rateswould result in no additional interest expense related to financed lease debt.

**ITEM 4.****                                                     CONTROLSAND PROCEDURES**

**Evaluation of Disclosure Controls and Procedures**

Anevaluation was carried out under the supervision and with the participation ofour management including our Chief Executive Officer and Chief FinancialOfficer, of the effectiveness of the design and operation of our disclosurecontrols and procedures (as defined in Rules13a-15(e) or 15d-15(e) under theSecurities Exchange Act of 1934, as amended) as of September 30, 2006.  Our disclosure controls and procedures aredesigned to (i) ensure that information required to be disclosed by us inreports we file or submit under the Exchange Act is recorded, processed,summarized and reported within the time periods specified in the Securities andExchange Commission’s rules and forms and (ii) is accumulated and communicatedto GTSI’s management including our principal executive officer and ourprincipal financial officer, as appropriate to allow timely decisions regardingrequired disclosures.  Based on thisevaluation, our Chief Executive Officer and Chief Financial Officer concludedthat our disclosure controls and procedures were not effective as of September30, 2006.

**Changesin Internal Control Over Financial Reporting and Management’s RemediationInitiatives**

Duringmanagement’s assessment of the effectiveness of our internal control overfinancial reporting as of December 31, 2005, we identified five materialweaknesses, which are described in Item 9A of our Annual Report on Form 10-K/Afor the year ended December 31, 2005. We are currently making progress asdescribed below on our planned remediation actions and expect to finalize themby mid-2007.

Withrespect to increasing the size, expertise and training of the finance andaccounting staff to include adequate resources for ensuring GAAP compliance, wecontinued to hire consultants to supplement our remaining openings while wecontinue our active personnel searches in the revenue recognition and generalledger accounting functions.

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Inregards to our remediation plan for upgrading the capabilities of certain staffin existing finance and accounting positions to improve the overall quality andintegrity of record keeping and financial reporting, certain members ofaccounting management attended training relevant to the achievement of those objectives.

Withrespect to ensuring that the purchasing, order fulfillment and customer servicedepartments are appropriately staffed and trained, several permanent positionshave been filled including the newly created Inventory Control Supervisorposition. In addition, we are conducting active searches for the remainingopenings and are supplementing with consultants. We plan to continue to useexternal resources until the hiring and training of permanent staff iscompleted.

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**PART II.  OTHER INFORMATION**

**Item 3.  Defaults UponSenior Securities**

Asof September 30, 2006, the Company was not in compliance with a financialcovenant under its Credit Agreement, which required the Company to maintain aminimum trailing twelve month EBITDA. On November 3, 2006 the Company and itslenders entered into an agreement to waive the above-referenced financialcovenant default during the third quarter of 2006.

**Item 6.  Exhibits**

The exhibits set forth inthe Exhibit Index are filed as part of this Quarterly Report on Form 10-Q.

**SIGNATURES**

Pursuant to the requirements of the Securities Exchange Act of 1934,the registrant has duly caused this report to be signed on December 22, 2006 onits behalf by the undersigned thereunto duly authorized.
| ** ** | **GTSI Corp.**                                     |
|------------|----------------------------------------------------|
| ** ** | ** **                                         |
| ** ** | ** **                                         |
|       | /s/ JAMES J.  LETO                                 |   |
|       | James J. Leto                                      |
|       | President and  Chief Executive Officer             |
|       |                                               |
|       |                                               |
|       | /s/ JOE RAGAN                                      |   |
|       | Joe Ragan                                          |
|       | Senior Vice  President and Chief Financial Officer |

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**EXHIBIT INDEX**
| Exhibit    | ** ** | ** **                                                                                                                                                           |
|------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| **Number** | ** ** | **Description**                                                                                                                                                      |
| 10.1       |       | Credit Agreement dated as of June 2, 2006 between  GTSI Corp., SunTrust Bank and Bank of America (1)                                                                 |
| 10.2       |       | Credit Agreement dated as of June 2, 2006 between  GTSI Corp., and Crystal Capital Fund, L.P. (1)                                                                    |
| 10.3       |       | First Amendment to Credit Agreement dated as of July  13, 2006 between GTSI Corp., SunTrust Bank and Bank of America (2)                                             |
| 10.4       |       | First Amendment to Credit Agreement dated as of July  13, 2006 between GTSI Corp. and Crystal Capital Fund, L.P. (2)                                                 |
| 10.5       |       | Second Amendment to Credit Agreement dated as of  November 30, 2006 between GTSI Corp. the Lenders, the other Borrower Parties,  and SunTrust Bank. (3)              |
| 10.6       |       | Second Amendment to Credit Agreement dated as of  November 30, 2006 between GTSI Corp.. the Lenders, the other Borrower  Parties, and Crystal Capital Fund, L.P. (3) |
| 31.1       |       | Section 302 Certification of Chief Executive Officer  (filed herewith)                                                                                               |
| 31.2       |       | Section 302 Certification of Chief Financial Officer  (filed herewith)                                                                                               |
| 32         |       | Section 906 Certification of Chief Executive Officer  and Chief Financial Officer (filed herewith)                                                                   |

 

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| (1) |   | Incorporated by reference to the Registrant’s  current report on Form 8-K dated June 2, 2006.     |
|-----|--------|--------------------------------------------------------------------------------------------------------|
| (2) |   | Incorporated by reference to the Registrant’s  current report on Form 8-K dated July 13, 2006.    |
| (3) |   | Incorporated by reference to the Registrant’s  current report on Form 8-K dated December 5, 2006. |

 

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