**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**Washington,
      D.C. 20549**




**FORM
      10-K/A**


Amendment
      No. 1




**x**
              **Annual
                  report pursuant to section 13 or 15(d) of the Securities Exchange Act
                  of 1934.******
                **For
                  the fiscal year ending December 31,
                  2006**




**Or**





**o**
            **Transition
                report pursuant to Section 13 or 15(d) of the Securities Exchange Act
                of 1934. **********
              ****For
                the transition period from
                ________    to ________.****




**Commission
      file number  001-32623**




**CONVERSION
      SERVICES INTERNATIONAL, INC.**


(Exact
      name of registrant as specified in its charter)




**Delaware**
            
            **20-0101495**(State
                or other jurisdiction
              of
                incorporation or organization)
            
            (IRS
                Employer
              Identification
                number)**100
                Eagle Rock Avenue, East Hanover, NJ**
            
            **07936**(Address
                of Principal Executive Offices)
            
            (Zip
                Code)




**973-560-9400**


(Registrant’s
      Telephone Number, Including Area Code)




Securities
      registered pursuant to Section 12(b) of the Act:




**Title
                of Each Class**
            
            **Name
                of Each Exchange**
              **On
                Which Registered**Common
                Stock, $.001 par value
            
            American
                Stock Exchange





Securities
      registered pursuant to Section 12(g) of the Act: None




Indicate
      by check mark if the registrant is a well-known seasoned issuer, as defined
      in
      Rule 405 of the Securities


Act. Yes  o No  x .




Indicate
      by check mark if the registrant is not required to file reports pursuant to
      Section 13 or Section 15(d) of the Exchange


Act. Yes  o    No  x .





Indicate
      by check mark whether the registrant (1) has filed all reports required to
      be
      filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
      the preceding 12 months (or for such shorter period that the registrant was
      required to file such reports) and (2) has been subject to such filing
      requirements for the past 90 days.


YES  x NO  o




Indicate
      by check mark if disclosure of delinquent filers pursuant to Item 405 of
      Regulation S-K is not contained herein, and will not be contained, to the best
      of registrant’s knowledge, in definitive proxy or information statements
      incorporated by reference in Part III of this Form 10-K or any amendment to
      this
      Form 10-K.  o




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




Large
                accelerated filer  o
            
            Accelerated
                filer  o
            
            Non-accelerated
                filer  x




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




The
      aggregate market value of the voting and non-voting common equity held by
      non-affiliates of the registrant was approximately $5,541,871 as of March 27,
      2007 (based on the closing price for such stock as of March 27,
      2007).





As
      of
      March 27, 2007, there were 56,480,153 shares of common stock, par value $0.001
      per share, of the registrant outstanding.





DOCUMENTS
      INCORPORATED BY REFERENCE





None


Explanatory
          Note
 
 This
          Amendment No. 1 to this Annual Report on Form 10-K for the year ended December
          31, 2006 was filed in order to provide selected quarterly financial data
          required by Item 302 of Regulation S-K and to clarify our disclosure of
          the
          effectiveness of the Company’s controls and procedures.
 
 Part
          II,
          Item 9A. was amended to reflect the controls and procedures disclosure
          and the
          Notes to Consolidated Financial Statements have been amended to include
          Note-25,
          Quarterly Information. This amendment does not otherwise update information
          in
          the original filing to reflect facts or events occurring subsequent to
          the date
          of the original filing. All information contained in this document and
          the
          original filing is subject to updating and supplementing as provided in
          periodic
          reports subsequent to the original filing date of this Form 10-K/A with
          the
          Securities and Exchange Commission.







**TABLE
      OF CONTENTS**





**PART
                I****Item
                1.**
            **Business**
            **3****Item
                1A.**
            **Risk
                Factors**
            **18****Item
                1B.**
            **Unresolved
                Staff Comments**
            **35****Item
                2.**
            **Properties**
            **35****Item
                3.**
            **Legal
                Proceedings**
            **35****Item
                4.**
            **Submission
                of Matters to a Vote of Security Holders**
            **36****PART
                II****Item
                5.**
            **Market
                For Registrant's Common Equity, Related Stockholder Matters and Issuer
                Purchases of Equity Securities**
            **37****Item
                6. .**
            **Selected
                Financial Data**
            **38****Item
                7.**
            **Management's
                Discussion and Analysis of Financial Condition and Results of
                Operations**
            **39****Item 7A.**
            **Quantitative
                and Qualitative Disclosures About Market Risk**
            **62****Item
                8.**
            **Financial
                Statements and Supplementary Data**
            **62****Item
                9.**
            **Changes
                in and Disagreements with Accountants on Accounting **and
                Financial Disclosure****
            **63****Item 9A.**
            **Controls
                and Procedures**
            **63****Item 9B.**
            **Other
                Information**
            **65****PART
                III****Item
                10.**
            **Directors
                and Executive Officers of the Registrant**
            **66****Item
                11.**
            **Executive
                Compensation**
            **71****Item
                12.**
            **Security
                Ownership of Certain Beneficial Owners and Management and Related
                Stockholder Matters**
            **86****Item
                13.**
            **Certain
                Relationships and Related Transactions**
            **88****Item
                14.**
            **Principal
                Accounting Fees and Services**
            **90****PART
                IV****Item
                15.**
            **Exhibits
                and Financial Statement Schedules**
            **91**




2




**PART
      I**




**ITEM
      1.  BUSINESS**




References
      in this Form 10-K to the “Company,” “CSI,” “we,” “our” and “us” refer to
      Conversion Services International, Inc. and our consolidated subsidiaries.
      We
      are a technology firm providing professional services to the Global 2000 as
      well
      as mid-market clientele. Our core competency areas include strategic consulting,
      data warehousing, business intelligence and data management consulting. Our
      clients are primarily in the financial services, pharmaceutical, healthcare
      and
      telecommunications industries, although we do have clients in other industries.
      Our clients are primarily located in the northeastern United States. We enable
      organizations to leverage their corporate information assets by providing
      strategy, process, methodology, data warehousing, business intelligence,
      enterprise reporting and analytic solutions. Our organization delivers value
      to
      our clients, utilizing a combination of business acumen, technical proficiency,
      experience and a proven set of “best practices” methodologies to deliver cost
      effective services primarily through time and material engagements.





We
      believe that our primary strengths that distinguish us from our competitors
      are
      our:





·
              role
                  as a full life-cycle solution
                  provider;


·
              ability
                  to provide strategic guidance and ensure that business requirements
                  are
                  properly supported by technology;


·
              ability
                  to provide solutions that integrate people, improve process and
                  integrate
                  technologies;


·
              extensive
                  service offerings as it relates to data warehousing, business
                  intelligence, strategy and data
                  quality;


·
              perspective
                  regarding the accuracy of data and our data purification
                  process;


·
              best
                  practices methodology, process and
                  procedures;


·
              experience
                  in architecting, recommending and implementing large and complex
                  data
                  warehousing and business intelligence solutions;


·
              understanding
                  of data management solutions; and


·
            ability
                to consolidate inefficient environments into robust, scalable, reliable
                and manageable enterprise
                solutions.





Our
      goal
      is to be the premier provider of data warehousing, business intelligence and
      related strategic consulting services for organizations seeking to leverage
      their corporate information. In support of this goal we intend to:





·
              enhance
                  our brand and mindshare;


·
              continue
                  growth both organically and via
                  acquisition;


·
              increase
                  our geographic coverage;


·
              expand
                  our client relationships;


·
              introduce
                  new and creative service offerings;
                  and


·
            leverage
                our strategic alliances.




3




We
      are
      committed to being a leader in data warehousing and business intelligence
      consulting. As a data warehousing and business intelligence specialist, we
      approach business intelligence from a strategic perspective, providing
      integrated data warehousing and business intelligence strategy and technology
      implementation services to clients that are attempting to leverage their
      enterprise information. Our matrix of services includes strategy consulting,
      data warehousing and business intelligence architecture and implementation
      solutions, data quality solutions and data management solutions. We have
      developed a methodology which provides a framework for each stage of a client
      engagement, from helping the client conceive its strategy, to architecting,
      engineering and extending its information. We believe that our integrated
      methodology allows us to deliver reliable, robust, scalable, secure and
      extensible business intelligence solutions in rapid timeframes based on accurate
      information.





We
      are a
      Delaware corporation formerly named LCS Group, Inc. In January 2004, a
      privately-held company named Conversion Services International, Inc. (“Old CSI”)
      merged with and into our wholly owned subsidiary, LCS Acquisition Corp. In
      connection with such transaction: (i) a 14-year old information technology
      business (formed in 1990) became our operating business, (ii) the former
      stockholders of Old CSI assumed control of our Board of Directors and were
      issued approximately 75.9% of the outstanding shares of our common stock at
      that
      time (due to subsequent events, that percentage of ownership has decreased),
      and
      (iii) we changed our name to “Conversion Services International, Inc.”





On
      September 21, 2005, our common stock began trading on the American Stock
      Exchange under the symbol “CVN”.





Our
      offices are located at 100 Eagle Rock Avenue, East Hanover, New Jersey 07936,
      and our telephone number is (973) 560-9400.





**Our
      Services**





As
      a full
      service strategic consulting, business intelligence, data warehousing and data
      management firm, we offer services in the following solution
      categories:





**Strategic
      Consulting:** Involves
      planning and assessing both process and technology, performing gap analysis,
      making recommendations regarding technology and business process improvements
      to
      help our clients realize their business goals and maximize their investments
      in
      people and technology.





Business
      and Process Consulting





·
              Information,
                  Process and Infrastructure (IPI) Diagrams (Claritypath) - A blueprinting
                  process and service that facilitates and accelerates the strategic
                  planning process.


·
            Change
                Management Consulting - Assist clients with implementing project
                management governance and best practices for large scale change
                initiatives, including consolidations, conversions, integration of
                new
                business processes and systems
                applications.




4






·
              Integration
                  Management, Mergers and Acquisitions - Work with clients to implement
                  best
                  practices for mergers and acquisitions. Support all aspects of
                  the
                  integration process from initial assessment through implementation
                  support.


·
              Acquisition
                  Readiness - Work with clients to better prepare them for large
                  scale
                  acquisitions in the financial services domain. This includes building
                  best
                  practices, mapping and gapping and implementing a strategic roadmap
                  to
                  integrate multiple companies.


·
              Process
                  Improvement (Lean, Six Sigma) - Provide a full array of products
                  and
                  services in support of Lean and Six Sigma, including training,
                  process
                  improvement, project management and implementation
                  support.


·
              Regulatory
                  Compliance (The Health Insurance Portability and Accountability
                  Act of
                  1996, Basel II) - Work with clients to analyze, design and implement
                  operational control, procedures and business intelligence that
                  will align
                  the organization to meet new regulatory requirements.


·
              Project
                  Management (PMO) - Setting up an internal office at a client location,
                  staffed with senior/certified project managers that act in accordance
                  with
                  the policies and procedures identified in CSI Best Practices for
                  Project
                  Management.


·
            Request
                For Proposal Creation and Responses - Gather user and technical
                requirements and develop Requests For Proposals (RFP) on behalf of
                our
                clients. Respond to client RFPs with detailed project plans, solutions
                and
                cost.





Technology
      Consulting





·
              Data
                  Warehousing and Business Intelligence Strategic Planning - Helping
                  clients
                  develop a strategic roadmap to align with a data warehouse or business
                  intelligence implementation. These engagements are focused on six
                  strategic domains that have been identified and documented by CSI:
                  Business Case, Program Formulation, Organizational Design, Program
                  Methodologies, Architecture and Operations and Servicing.


·
              Business
                  Technology Alignment - A strategic offering that consists of a
                  series of
                  interviews including both the business and technology constituents
                  to
                  collect information regarding user satisfaction, user requirements
                  and
                  expectations, as well as the technology groups understanding of
                  needs and
                  current and future deliverables. The result is a set of recommendations
                  that will better align the user and technology groups and deliver
                  more
                  perceived value.


·
              Business
                  Intelligence Strategy - Helping clients develop a roadmap to leverage
                  a
                  business intelligence platform throughout the enterprise aligning
                  the
                  client with best practices.


·
            BI/DW
                Software Selection - Evaluation, analysis and recommendation of
                appropriate software tools for deploying business intelligence/data
                warehousing solutions. Gather business and technical requirements
                and
                measure those requirements against the capabilities of available
                tools in
                the current marketplace. Software evaluated and recommended include
                reporting, ad-hoc query, analytics, extract, transform and load processes
                (ETL), data profiling, database and data
                modeling.




5




**Business
      Intelligence:** A
      category of applications and technologies for gathering, storing, analyzing
      and
      providing access to data to help enterprise users make better and quicker
      business decisions.





·
              Business
                  Intelligence, Architecture and Implementation - Develop architecture
                  plans
                  and install all tools required to implement a business intelligence
                  solution, including enterprise reporting, ad-hoc reporting, analytical
                  views and data mining. Solutions are typically developed using
                  tools such
                  as Cognos, Business Objects, MicroStrategy, SAS and Crystal
                  Reports.


·
              Business
                  Intelligence Competency Center - Set up an internal office at a
                  client
                  location, staffed with a mix of senior business intelligence developers
                  and business intelligence architects that will implement best practices,
                  policies, procedures, standards and provide training and mentoring
                  to
                  further increase the use of the data warehouse and facilitate the
                  business
                  owners embracing of the business intelligence
                  solution.


·
              Analytics
                  and Dashboards - Identify and document dashboard requirements.
                  These
                  requirements are typically driven by Key Performance Indicators
                  (KPIs)
                  identified by upper management. Architect a supporting database
                  structure
                  to support the identified hierarchies, drill-downs and slice and
                  dice
                  requirements, implement a dashboard tool, provide training and
                  education.


·
              Business
                  Performance Management - Leveraging a new or existing business
                  intelligence implementation to monitor and manage both business
                  process
                  and IT events through key performance
                  indicators.


·
              Data
                  Mining - Implementing data mining tools that extract implicit,
                  previously
                  unknown, and potentially useful information from data. These tools
                  typically use statistical and visualization techniques to discover
                  and
                  present knowledge in a form which is easily comprehensible to humans.
                  Business intelligence tools will answer questions based on information
                  that has already been captured (history). Data mining tools will
                  discover
                  information and project information based on historic
                  information.


·
              Proof
                  of Concepts and Prototypes - Gather requirements, design and implement
                  a
                  small scale business intelligence implementation called a Proof
                  of
                  Concept. The Proof of Concept will validate the technology and/or
                  business
                  case, as well as “sell” the concept of business intelligence to
                  management.


·
              Outsourcing
                  - Development of new reports offsite/offshore and redeployment
                  of reports
                  in new technologies in support of technology
                  consolidation.


·
            Training
                and Education - Provide formal classroom training for Business Objects
                software products. Provide training in data warehousing and business
                intelligence methodologies and best practices, as well as technology
                tool
                training, including business intelligence tools such as Cognos and
                MicroStrategy.





**Data
      Warehousing:** A
      consolidated view of high quality enterprise information, making it simpler
      and
      more efficient to analyze and report on that information.





·
            Data
                Warehousing and Data Mart Design, Development and Implementation
                - Design,
                development and implementation of custom data warehouse solutions.
                These
                solutions are based on our methodology and best
                practices.






6




·
              Proof
                  of Concepts and Prototypes - Gather requirements, design and implement
                  a
                  small scale data warehouse that is called a Proof of Concept. The
                  Proof of
                  Concept will validate the technology and/or business case, as well
                  as
                  “sell” the concept of data warehousing to
                  management.


·
              Extract,
                  Transformation and Loading (ETL) - Design, development and implementation
                  of data integration solutions with particular expertise and best
                  practices
                  for integrating ETL tools with other data warehouse
                  tools.


·
              Enterprise
                  Information Integration (EII) - Enterprise Information Integration
                  tools
                  are used to integrate information by providing a logical view of
                  data
                  without moving any data. This is particularly useful when bridging
                  a
                  business intelligence tool to multiple data marts or data
                  warehouses.


·
            Outsourcing
                - Implementing and supporting a client data warehouse solution at
                a CSI
                location.





**Data
      Management:** Innovative
      solutions for managing data (information) throughout an enterprise.





·
              Enterprise
                  Information Architecture - Leveraging our Information, Process
                  and
                  Infrastructure (IPI) Diagrams to create a “snapshot” of the current
                  information flow and desired information flow throughout the enterprise.


·
              Metadata
                  Management - Based on our Data Warehouse Framework, we will build
                  a
                  metadata repository that is integrated with all tools used in a
                  data
                  warehouse implementation and will be leveraged by the business
                  intelligence environment.


·
              Data
                  Quality Center of Excellence - Set up an internal office at a client
                  location, staffed with a mix of senior data quality developers
                  and data
                  quality architects that will implement best practices, policies,
                  procedures, standards and provide training and mentoring to further
                  increase the level of data quality throughout the enterprise and
                  increase
                  the awareness and importance of data quality as it pertains to
                  decision
                  making.


·
              Data
                  Quality/Cleansing/Profiling - Leveraging profiling as an automated
                  data
                  analysis process that significantly accelerates the data analysis
                  process.
                  Leveraging our best practices to identify data quality concerns
                  and
                  provide rules to cleanse and purify the
                  information.


·
              Data
                  Migrations and Conversions - Design, development and implementation
                  of
                  custom data migrations. These solutions are based on our methodology
                  and
                  best practices.


·
              Quality
                  Assurance Testing (Verification, Validation, Certification) - We
                  have
                  developed a quality assurance process referred to as Verification,
                  Validation, Certification (VVC) of information. This is a repeatable
                  process that will insure that all data has been validated to be
                  accurate,
                  consistent and trustworthy.


·
            Application
                Development - Custom application development or integration to support
                data management or data warehouse initiatives. This may include
                modification of existing enterprise applications to capture additional
                information required in the warehouse or may be a standalone application
                developed to facilitate improved integration of existing
                information.




7







·
            Infrastructure
                Management and Support - An infrastructure must be in place to support
                any
                data warehouse or data management initiative. This may include servers,
                cables, disaster recovery or any process and procedure needed to
                support
                these types of initiatives.





The
      following illustrates the revenues provided by each category of services as
      a
      component of total revenues from continuing operations:





For
                  the year ended December 31,2006
              
              2005
              
              2004$
              
              %
                  of total revenues
              
              $
              
              %
                  of total revenues
              
              $
              
              %
                  of total revenuesStrategic
                  Consulting
              
              
              11,811,153
              
              
              46.0
              %
              
              11,221,888
              
              
              40.6
              %
              
              8,577,625
              
              
              35.9
              %Business
                  Intelligence
              
              
              5,061,205
              
              
              19.7
              %
              
              6,184,955
              
              
              22.4
              %
              
              5,423,735
              
              
              22.7
              %Data
                  Warehousing
              
              
              6,285,363
              
              
              24.6
              %
              
              6,299,619
              
              
              22.8
              %
              
              3,990,149
              
              
              16.7
              %Data
                  Management
              
              
              2,478,348
              
              
              9.7
              %
              
              3,647,148
              
              
              13.2
              %
              
              5,590,987
              
              
              23.4
              %Software
                  & Support
              
              
              -
              
              
              -
              %
              
              -
              
              
              -
              %
              
              238,931
              
              
              1.0
              %Other
              
              
              37,988
              
              
              -
              %
              
              276,299
              
              
              1.0
              %
              
              71,679
              
              
              0.3
              %Totals
              
              
              25,674,057
              
              
              100.0
              %
              
              27,629,909
              
              
              100.0
              %
              
              23,893,106
              
              
              100.0
              %





**Recent
      Acquisitions and Divestiture**





We
      will
      continue to pursue strategic acquisitions that strengthen our ability to compete
      and extend our ability to provide clients with a core comprehensive services
      offering.





In
      March
      2004, we acquired DeLeeuw Associates, Inc. (“DeLeeuw Associates”), a management
      consulting firm in the information technology sector with core competency in
      delivering Change Management Consulting, including both Six Sigma and Lean
      domain expertise to enhance service delivery, with proven process methodologies
      resulting in time to market improvements within the financial services and
      banking industries.





Integration
      of DeLeeuw Associates’s Change Management Consulting practices with CSI’s Data
      Warehousing and Business Intelligence core competency “The Center for Data
      Warehousing” was completed in 2004. The Change Management, Six Sigma and Lean
      methodology have been introduced to our clients along with our innovative
      Information, Process and Infrastructure (IPI) Diagrams, which provide detailed
      blueprints of our client’s information, business processes and infrastructure on
      a single highly detailed diagram. These diagrams can be utilized for risk
      management, compliance, validation, planning and budgeting requirements. In
      addition, we expanded our Data Warehouse Assessment, Business Technology
      Alignment (BTA) and Quality Management Offering (QMO) related offerings in
      2005,
      which was the focus of our marketing and communications programs for 2006.
      A QMO
      offering is a combination of methodologies, best practices and automated
      techniques leveraged to establish and enforce standards and procedures as it relates
      to elevating the quality of executive information in an efficient and
      effective manner. We believe that these offerings will drive greater
      understanding and demand for both data warehousing and business intelligence
      implementations by delivering best practices methodologies, tools and techniques
      to reduce risk, time to market and total cost of ownership of these engagements.
      One component of our business strategy is to continue to enhance and expand
      our
      offerings which include best practices, process improvement and methodologies,
      advisory services and implementation expertise.




8




In
      May
      2004, CSI acquired 49% of all issued and outstanding shares of common stock
      of
      Leading Edge Communications Corporation (LEC). LEC provides enterprise software
      and services solutions for technology infrastructure management. Previously,
      in
      November 2003, CSI executed an Independent Contractor Agreement with LEC,
      whereby CSI agreed to be a subcontractor for LEC, and to provide consultants
      as
      required to LEC. In return for these services, CSI receives a fee from LEC
      based
      on the hourly rates established for consultants subcontracted to
      LEC.





In
      June
      2004, we acquired substantially all of the assets and assumed substantially
      all
      of the liabilities of Evoke Software Corporation (“Evoke”), which designed,
      developed, marketed and supported software programs for data analysis, data
      profiling and database migration applications and provides related support
      and
      consulting services. In July 2005, we completed the sale of substantially all
      of
      the assets of Evoke to Similarity Systems (“Similarity”) and Similarity Vector
      Technologies, Ltd. (“SVT”). In February 2006, the Company received $2,050,000
      from Informatica, Similarity and SVT related to Informatica’s acquisition of
      Similarity and SVT as final payment on all future consideration related to
      our
      agreement with SVT and Similarity.





In
      July
      2005, we acquired McKnight Associates, Inc. ("McKnight Associates"). Since
      inception, McKnight Associates has focused on successfully designing, developing
      and implementing data warehousing and business intelligence solutions for its
      clients in numerous industries. Mr. William McKnight joined the Company as
      Senior Vice President - Data Warehousing and is
      a
      well-known industry leader, frequently
      speaks at national trade shows and contributes
      to major data management trade publications.





In
      July
      2005, we acquired Integrated Strategies, Inc. ("ISI"). ISI is a professional
      services firm with a solutions-oriented approach to complex business and
      technical challenges. The operations of ISI were folded into DeLeeuw
      Associates.





We
      believe that as new opportunities are created, Global 2000 companies will
      continue the trend of expanding the utilization of external consulting expertise
      to support corporate initiatives focused on maximizing Return On Investment
      (ROI), leveraging existing technology infrastructure through optimizations
      and
      best practices and will continue to leverage and derive value from corporate
      information assets such as data warehousing, business intelligence and
      analytics. We believe that we are positioned to expand our client base by
      delivering business value resulting from our 17 years of domain expertise,
      proven best practices, methodologies, processes and automation within data
      warehousing architecture and implementation. Our ability to apply Six Sigma
      and
      Lean core competency to client processes and implementation strategies further
      strengthens our competitive standing. CSI is well positioned to support the
      increasing industry emphasis on data quality and the use of automation to reduce
      the costs associated with data warehouse and business intelligence projects,
      data migrations and conversions, as well as packaged application implementations
      such as Enterprise Resource Planning (ERP), Customer Relationship Management
      (CRM) and Supply Chain Management (SCM) by leveraging the automation and
      validation gained by the use of data profiling technology.




9




**Recent
      Financings**





The
      Company effectuated the following financing transactions between January 1,
      2006
      and March 28, 2007:





*Taurus*





In
      February 2006, we entered into a Securities Purchase Agreement with investors
      represented by Taurus Advisory Group, LLC (“Taurus”), pursuant to which
      we issued 19,000 shares of our newly created Series A Convertible Preferred
      Stock, $.001 par value (the “Series A Preferred”). Each share of Series A
      Preferred has a stated value of $100.00. We received proceeds of
      $1,900,000.  The
      Series A Preferred has a cumulative annual dividend equal to five percent (5%),
      which is payable semi-annually  in cash or common stock, at our election,
      and is convertible into shares of the Company’s common stock at any time at a
      price equal to $0.50 per share (subject to adjustment). In addition, the Series
      A Preferred has no voting rights, but has liquidation preferences and certain
      other privileges. All shares of Series A Preferred not previously converted
      shall be redeemed by the Company, in cash or common stock, at the election
      of
      the Taurus investors, on February 1, 2011. Pursuant to the Securities Purchase
      Agreement, the Taurus investors were also granted a warrant to purchase
      1,900,000 shares of our common stock exercisable at a price of $0.60 per share
      (subject to adjustment), exercisable for a period of five years.





In
      August
      2006, we entered into a Stock Purchase Agreement with an investor represented
      by
      Taurus, pursuant to which we issued 20,000 shares of our newly created
      Series B Convertible Preferred Stock, $.001 par value (the “Series B
      Preferred”). Each share of Series B Preferred has a stated value of $100.00. We
      received proceeds of $2,000,000. The Series B Preferred has a cumulative annual
      dividend equal to the Prime Rate plus one percent (1%), which is payable
      monthly in cash or common stock, at our election, and is convertible into
      shares of our common stock at any time at a price equal to the lower of (1)
      $0.85 or (2) the average daily volume weighted market price for the five
      consecutive trading days immediately prior to the date for which such price
      is
      determined, with a minimum price of $0.50. In addition, the Series B Preferred
      has no voting rights, but has liquidation preferences and certain other
      privileges. Pursuant to the Stock Purchase Agreement, warrants to purchase
      1,276,471 shares of our common stock were issued, exercisable at a price of
      $0.94 per share (subject to adjustment), and exercisable for a period of five
      years.




In
      December 2006, we entered into a Stock Purchase Agreement with certain investors
      pursuant to which we issued 3,000,000 shares of our common stock, and we
      received proceeds of $750,000. T he
      investors were
      also
      granted a warrant to purchase 1,500,000 shares of our common stock, exercisable
      at a price of $0.30 per share (subject to adjustment).  The warrant is
      exercisable for a period of five years.




In
      March
      2007, we issued a 10% Convertible Unsecured Note to certain investors
      represented by TAG Virgin
      Islands, Inc .
      for
      $4.0 million.  The 10% Convertible Unsecured Note will automatically
      convert into 13,333,333 shares of our common stock, upon the effectiveness
      of
      the Information Statement on Schedule 14C, filed with the SEC on March 8, 2007.
      This Information Statement relates to the proposed increase in the number of
      authorized shares of common stock, from 100,000,000 to
      200,000,000. T he
      investors were
      also
      granted a warrant to purchase 13,333,333 shares of our common stock, exercisable
      at a price of $0.33 per share (subject to adjustment).   The warrant
      is exercisable for a period of five years .
      The
      note was subsequently amended in March 2007 to $4.25 million and the number
      of
      shares of common stock that the note will convert into was increased to
      14,166,667 shares of our common stock. Additionally, the warrant was also
      amended to entitled the investor to purchase 14,166,667 shares of our common
      stock, exercisable at a price of $0.33 per share (subject to adjustment). The
      warrant is exercisable for a period of five years.




10




*Laurus*





In
      August
      2004, we replaced our $3.0 million line of credit with North Fork Bank with
      a
      revolving line of credit with Laurus Master Fund, Ltd. (“Laurus”). The Company
      renegotiated the terms of this financing arrangement several times between
      August 2004 and December 2005.





On
      February 1, 2006, the Company restructured its financing with Laurus again
      by
      entering into financing agreements with Laurus, pursuant to which it, among
      other things, (a) issued a secured non-convertible term note in the principal
      amount of $1.0 million to Laurus (the “Term Note”), (b) issued a secured
      non-convertible revolving note in the principal amount of $10.0 million to
      Laurus (the “Revolving Note”, collectively with the Term Note, the “Notes”), and
      (c) issued an option to purchase up to 3,080,000 shares of the Company's common
      stock to Laurus (the “Option”) at an exercise price of $.001 per share. Laurus
      exercised a portion of this option in 2006 when they purchased 1,580,000 shares
      of the Company’s common stock. An option to purchase 1,500,000 shares remains
      outstanding as of December 31, 2006. The proceeds from the issuance of the
      Notes
      were used to refinance the Company’s outstanding obligations under the existing
      facility with Laurus (originally entered into in August 2004 and subsequently
      amended in July 2005) at a 5% premium. Amounts due under the Revolving Note
      as
      of February 1, 2006 included $3,101,084 which was loaned to the Company under
      an
      Overadvance Side Letter. The Notes bear an annual interest rate of prime (as
      reported in the Wall Street Journal, which was 7.25% as of January 31, 2006)
      plus 1.0%, with a floor of 5.0%. Payments of principal and interest were to
      be
      made in equal monthly amounts until maturity of both notes on December 31,
      2007.





In
      March
      2007, we repaid in full the Overadvance Side Letter, dated as of February 1,
      2006, with a cash payment of $2,601,084 and the issuance of a warrant to
      purchase 1,785,714 shares of Common Stock at an exercise price of $0.01 (after
      making the first two payments in February 2007, we were to pay Laurus
      approximately $258,424 per month until the aggregate principal amount of
      $3,101,084 was paid in full by December 31, 2007).  Further, we satisfied
      in full the outstanding amount on the Term Note with a cash payment of
      approximately $409,722.




*Laidlaw/Sands*





In
      September 2004, the Company borrowed an aggregate of $1.0 million, due in one
      year and bearing interest at 8% per annum, from three affiliates of Sands
      Brothers Venture Capital (“Sands”). Upon maturity of the notes in September
      2005, the Company executed an amended note with these affiliates of Sands for
      an
      aggregate principal amount of $1.08 million, due in January 2007 and bearing
      interest at 12% per annum.




11




Between
      January and March 2007, we executed several extension agreements with Sands
      to
      repay the amended subordinated secured convertible promissory notes, in which
      we
      agreed to pay $1.05 million cash, as well as issue shares of Common Stock and
      warrants to purchase Common Stock, on four separate payment dates of April
      2,
      2007, July 2, 2007, October 1, 2007 and December 31, 2007.  We paid Sands a
      total of $0.65 million between February and March 2007. The remaining $0.4
      million is due to be paid between October and December 2007.





**Clients**





For
      17
      years, we have helped our clients develop strategies and implement technology
      solutions to help them leverage corporate information.





Our
      clients are primarily in the financial services, pharmaceutical, healthcare
      and
      telecommunications industries and are primarily located in the northeastern
      United States. During 2006, the Company had sales to three major customers,
      Sapphire Technologies (17.6%) Comsys (9.7%), and LEC, a related party (9.7%),
      which accounted collectively for approximately 37.0% of revenues. During the
      year ended December 31, 2005, two of our clients, LEC, a related party (13.4%),
      and Bank of America (27.2%), accounted collectively for approximately 40.6%
      of
      total revenues. During the year ended December 31, 2004, two of our clients,
      LEC, a related party, (16.1%) and Bank of America (16.7%), accounted
      collectively for approximately 32.8% of total revenues. As we continue to pursue
      and consummate acquisitions, our dependence on these customers should be less
      significant. We do not have long-term contracts with any of these customers.
      The
      loss of any of our largest customers could have a material adverse effect on
      our
      business. We have not had any collections problems with any of these customers
      to date.





**Marketing**





We
      currently market our services through our internal marketing group and our
      sales
      force comprised of 14 employees as of December 31, 2006. We
      also
      receive new business opportunities through referrals from current clients,
      strategic partners, independent industry analysts and industry associations.
      We
      are engaging in the following specific sales related programs and activities
      to
      expand our brand awareness and generate sales leads:





·
            *Advertising
                and Sponsorships*:
                Through advertising and sponsorship programs within the leading industry
                publications, we obtain new business leads and further increase our
                brand
                awareness. Throughout the year, we sponsor publications and newsletters
                published by DM Review, The Business Intelligence Network, The Data
                Warehousing Institute and iSix Sigma. Most of these sponsorships
                include
                web banner advertising and registration vehicles to promote CSI white
                papers and best practices research.





·
            *Web
                Site Promotion*:
                Our website (www.csiwhq.com)
                provides a comprehensive view of our service offerings and promotes
                our
                subject matter expertise via white papers, articles and industry
                presentations. We are currently promoting our website through internet
                search engine advertising, direct marketing and through reciprocity
                from
                partner sites.




12




·
            *Trade
                Show and Conference Participation*:
                Our participation in trade shows and conferences has further solidified
                our position in our industry. There are a number of trade shows and
                conferences within our target industry that provide significant exposure
                to prospective customers, business and trade media and industry analysts,
                as well as collaborative networking with technology partners. As
                with most
                trade show events, the higher the level of sponsorship, the greater
                exposure and benefits received, such as the location of our booth,
                banner
                and advertising space, and position on the conference agenda. We
                participated at the Shared Insights/DCI Data Warehousing and Business
                Intelligence Conference with a sponsorship, exhibit and keynote
                presentations. We are a partner member of The Data Warehouse Institute
                (TDWI) and we sponsor and provide speakers for several of the conferences
                TDWI holds each year.





·
            *Web
                Seminars:*Participation in web seminars provides exposure to new sales prospects
                and
                affords us the opportunity to demonstrate our subject matter expertise.
                We
                sponsor approximately three web seminars annually, in addition to
                participating as guest presenters at partner and vendor sponsored
                web
                seminars.





·
            *Thought
                Leadership:*We
                continually demonstrate our thought leadership by writing and promoting
                our white papers via our web site, the TDWI web site and through
                direct
                mail. Monthly articles by our consultants are published in DM Review,
                on
                The Business Intelligence Network Pharmaceutical Channel and the
                iSix
                Sigma financial services channel. We intend to continue and expand
                all our
                publishing activities, including blogs, by-line articles and expert
                web
                channels where our experts respond to end-user questions (searchCRM
                and
                searchDataManagement.com).





·
            *Sponsorships
                of Vendor Marketing Activities*: 
                We expect that joint marketing activities with leading software vendors
                should also stimulate new business prospect generation.  This
                participation also enhances the market perception of CSI as experts
                in
                individual product areas by co-sponsoring and participating in vendor
                marketing activities. We are invited to write white papers and articles
                for vendors such as Microsoft, Teradata and Dataflux. We sponsor
                and
                present at the Annual User Conferences for Business Objects and Teradata,
                as well as new product launch seminars with Business Objects and
                Cognos.




13




·
            *Vendor
                Relations*:
                We are continually identifying key vendor relationships. With the
                ability
                to leverage our 17 year history, we intend to continue to forge and
                maintain relationships with technical, service and industry vendors.
                We
                have solidified and continue to develop strategic relationships with
                technology vendors in the data warehousing and business intelligence
                arena. These relationships designate our status as a systems integration
                and/or reseller which authorizes us to provide consulting services
                and to
                resell select vendor software. We employ certified consultants in
                our
                vendor partner technology platforms. We maintain vendor independence
                by
                consistently evaluating the respective vendors’ technologies in our lab
                located at our headquarters in East Hanover, New Jersey.  We
                regularly attend vendor partnership events, including partner summits
                and
                user group meetings, in support of our partnership programs. We currently
                maintain relationships with the
                following:




**Database
                  Vendors:****Oracle**
              We
                  are part of the Oracle Partner Program (OPP) as a Certified Solution
                  Provider (CSP). We also employ certified Oracle professionals and
                  our
                  partnership allows us to utilize Oracle support channels for technical
                  advisement.**Microsoft**
              We
                  are a Gold Microsoft Certified Solution Provider. We maintain the
                  required
                  number of Microsoft certified professionals to hold this
                  designation.**Netezza**
              We
                  are a Systems Integration and Reseller Partner.**Business
                  Intelligence Vendors:****Business
                  Objects**
              We
                  are a Systems Integration and Reseller Partner. We employ and maintain
                  a
                  staff of professionals that are certified in the vendor’s technology. In
                  addition, we are a Certified Onsite Education Partner, which allows
                  us to
                  directly market and provide a certified training partner, which
                  enables us
                  to provide onsite training classes in the respective vendor
                  technology.**Cognos**
              We
                  are a Systems Integration and Reseller Partner. We employ and maintain
                  a
                  staff of professionals that are certified in the vendor’s
                  technology.******Exeros**
              We
                  are an alliance partner.**APOS**
              We
                  are a Systems Integration and Reseller Partner.**Data
                  Warehousing Vendors:****Appfluent**
              We
                  are a strategic marketing and reseller partner.**Master
                  Data Management Vendors:****Siperian**
              We
                  are a Systems Integration and Reseller
                  Partner.





·
            *Expanded
                Direct Sales Activities*:
                We are continually updating and increasing our direct contact programs
                for
                lead generation, cross selling and up-selling. We conduct direct
                sales
                activities, such as email and direct mail campaigns, telemarketing,
                networking and attending partnership functions to generate leads
                for
                direct sales opportunities. In addition, we have developed a number
                of
                best practices service offerings which encompass selection, deployment,
                implementation, maintenance and knowledge transfer. In some cases,
                these
                service offerings include methodologies and best practices for integrating
                several vendor technology platforms resulting in cross selling and
                up
                selling opportunities when applicable.




14




**Protection
      Against Disclosure of Client Information**





As
      our
      core business relates to the storage and use of client information, which is
      often confidential, we have implemented policies to prevent client information
      from being disclosed to unauthorized parties or used inappropriately. Our
      employee handbook, of which every employee receives and acknowledges, mandates
      that it is strictly prohibited for employees to disclose client information
      to
      third parties. Our handbook further mandates that disciplinary action be taken
      against those who violate such policy, including possible termination. Our
      outside consultants sign non-disclosure agreements prohibiting disclosure of
      client information to third parties, among other things, and we perform
      background checks on employees and outside consultants.





**Intellectual
      Property**





The
      trademarks “TECH SMART BUSINESS WISE”, “QUALITY MANAGEMENT OFFICE”, “QMO” and
      DQXPRESS have been registered with the United States Patent and Trademark
      Office. We use non-disclosure agreements with our employees, independent
      contractors and clients to protect information which we believe are proprietary
      or constitute trade secrets.





**Competition**





To
      our
      knowledge, there are no publicly-traded competitors that focus solely on data
      warehousing and business intelligence consulting and strategy. However, we
      have
      several competitors in the general marketplace, including data warehouse and
      business intelligence practices within large international, national and
      regional consulting and implementation firms, as well as smaller boutique
      technology firms. Many
      of
      our competitors are large companies that have substantially greater market
      presence, longer operating histories, more significant client bases, and
      financial, technical, facilities, marketing, capital and other resources than
      we
      have. We
      believe that we compete with these firms on the basis of the quality of our
      services, industry reputation and price. **** We
      believe our competitors include firms such as:





·
              Accenture


·
              Cap
                  Gemini Ernst & Young


·
              IBM
                  Global Services


·
              Keane


·
              Bearing
                  Point


·
              Answerthink


·
            Hitachi
                Consulting




15




**Employees**





As
      of
      December 31, 2006, we had 35 outside consultants, 87 consultants on the payroll
      and 41 non-consultant employees. Outside
      consultants are not our employees, and as such, do not receive benefits or
      have
      taxes withheld.   These consultants are members or employees of
      separate corporations, they are responsible for providing us with a current
      certificate of insurance and they are responsible for filing and payment of
      their own taxes.  We maintain relationships with these consultants and
      their status is updated in a proprietary data base application that we have
      built. Consultants on the payroll are our employees who are consultants. Such
      consultants are billable to clients, and they have taxes withheld similar to
      other employees.





None
      of
      our employees are represented by a labor union or subject to a collective
      bargaining agreement. We have never experienced a work stoppage and we believe
      that our relations with employees are good.




**Available
      Information**





We
      file
      annual, quarterly and current reports, proxy statements and other information
      with the Securities and Exchange Commission (the “Commission”). You may read and
      copy any document we file with the Commission at the Commission's public
      reference rooms at 450 Fifth Street, N.W., Washington, D.C. 20549, 233 Broadway,
      New York, New York 10279, and Citicorp Center, 500 West Madison Street, Suite
      1400, Chicago, Illinois 60661-2511. Please call the Commission at 1-800-SEC-0330
      for further information on the public reference rooms. Our Commission filings
      are also available to the public from the Commission's Website at
      "http://www.sec.gov." We make available free of charge our annual, quarterly
      and
      current reports, proxy statements and other information upon request. To request
      such materials, please send a written request to William Hendry, our Chief
      Financial Officer, at our address as set forth above or at (973)
      560-9400.





We
      maintain a website at www.csiwhq.com (this is not a hyperlink, you must visit
      this website through an internet browser). Our website and the information
      contained therein or connected thereto are not incorporated into this Annual
      Report on Form 10-K.




***SPECIAL
      NOTE ON FORWARD LOOKING STATEMENTS***




*In
      addition to historical information, this Annual Report on Form 10-K contains
      forward looking statements within the meaning of the Private Securities
      Litigation Reform Act of 1995.  The forward-looking statements are subject
      to certain risks and uncertainties that could cause actual results to differ
      materially from those reflected in such forward-looking statements. 
Factors that might cause such a difference include, but are not limited to,
      those discussed in the sections entitled “Business”, “Risk Factors”, and
“Management’s Discussion and Analysis or Plan of Operation.”  Readers are
      cautioned not to place undue reliance on these forward-looking statements,
      which
      reflect management’s opinions only as of the date thereof.  We undertake no
      obligation to revise or publicly release the results of any revision of these
      forward-looking statements.  Readers should carefully review the risk
      factors described in this Annual Report and in other documents that we file
      from
      time to time with the Securities and Exchange Commission.*




16




*In
      some cases, you can identify forward-looking statements by terminology such
      as
“may,” “will,” “should,” “expects,” “plans,” “anticipates,” “believes,”
“estimates,” “predicts,” “potential,” “proposed,” “intended,” or “continue” or
      the negative of these terms or other comparable terminology. You should read
      statements that contain these words carefully, because they discuss our
      expectations about our future operating results or our future financial
      condition or state other “forward-looking” information. There may be events in
      the future that we are not able to accurately predict or control. You should
      be
      aware that the occurrence of any of the events described in these risk factors
      and elsewhere in this Annual Report could substantially harm our business,
      results of operations and financial condition, and that upon the occurrence
      of
      any of these events, the trading price of our securities could decline. Although
      we believe that the expectations reflected in the forward-looking statements
      are
      reasonable, we cannot guarantee future results, growth rates, levels of
      activity, performance or achievements.*





*Except
      as required by applicable law, including the securities laws of the United
      States, we do not intend to update any of the forward-looking statements to
      conform these statements to actual results. The following discussion should
      be
      read in conjunction with our financial statements and the related notes that
      appear elsewhere in this report.*





*We
      cannot give any guarantee that these plans, intentions or expectations will
      be
      achieved. All forward-looking statements involve risks and uncertainties, and
      actual results may differ materially from those discussed in the forward-looking
      statements as a result of various factors, including those factors described
      in
      the “Risk Factors” section of this Annual Report. Listed below and discussed
      elsewhere in this Annual Report are some important risks, uncertainties and
      contingencies that could cause our actual results, performances or achievements
      to be materially different from the forward-looking statements included in
      this
      Annual Report. These risks, uncertainties and contingencies include, but are
      not
      limited to, the following:*




·
            *our
                ability to finance our operations on acceptable terms, either through
                the
                raising of capital, the incurrence of convertible or other indebtedness
                or
                through strategic financing
                partnerships;*




·
            *our
                ability to retain members of our management team and our
                employees;*




·
              *our
                  ability to retain existing clients or attract new
                  clients;*


·
              *our
                  ability to adapt to the rapid technological change constantly occurring
                  in
                  the areas in which we provide
                  services*


·
              *our
                  ability to offer pricing for services which is acceptable to clients;*


·
              *the
                  competition that may arise in the future;
                  and*


·
            *identifying
                suitable acquisition candidates and integrating new
                acquisitions.*





*The
      foregoing does not represent an exhaustive list of risks. Please see “Risk
      Factors” below for additional risks which could adversely impact our business
      and financial performance. Moreover, new risks emerge from time to time and
      it
      is not possible for our management to predict all risks, nor can we assess
      the
      impact of all risks on our business or the extent to which any risk, or
      combination of risks, may cause actual results to differ from those contained
      in
      any forward-looking statements. All forward-looking statements included in
      this
      Report are based on information available to us on the date of this Report.
      Except to the extent required by applicable laws or rules, we undertake no
      obligation to publicly update or revise any forward-looking statement, whether
      as a result of new information, future events or otherwise. All subsequent
      written and oral forward-looking statements attributable to us or persons acting
      on our behalf are expressly qualified in their entirety by the cautionary
      statements contained throughout this Report.*





17




**Item
      1A. Risk Factors**





The
      following factors should be considered carefully in evaluating the Company
      and
      its business:




**Risks
      Relating to Our Business**




**Because
      we depend on a small number of key clients, non-recurring revenue and contracts
      terminable on short notice, our business could be adversely affected if we
      fail
      to retain these clients and/or obtain new clients at a level sufficient to
      support our operations and/or broaden our client base.**





During
      the year ended December 31, 2006, services provided to three of our clients,
      Sapphire Technologies (17.6%), Comsys (9.7%) and LEC, a related party (9.7%)
      accounted for an aggregate of approximately 37.0% of total revenues. During
      the
      year ended December 31, 2005, two of our clients, LEC, a related party (13.4%),
      and Bank of America (27.2%), accounted collectively for approximately 40.6%
      of
      total revenues. Further, the majority of our current assets consist of accounts
      receivable, and as of December 31, 2006, receivables relating to Sapphire
      Technologies, Comsys and LEC accounted for 28.2%, 4.2%, and 7.5% of our accounts
      receivable balance, respectively. With the acquisition of new businesses and
      our
      objective of acquiring more over the next year, we believe that our reliance
      on
      these clients will continue to decline in the future. The loss of any of our
      largest clients could have a material adverse effect on our business. In
      addition, our contracts provide that our services are terminable upon short
      notice, typically not more than 30 days. Non-renewal or termination of contracts
      with these or other clients without adequate replacements could have a material
      and adverse effect upon our business. In addition, a large portion of our
      revenues are derived from information technology consulting services that are
      generally non-recurring in nature. There can be no assurance that we
      will:





·
            obtain
                additional contracts for projects similar in scope to those previously
                obtained from our clients;





·
            be
                able to retain existing clients or attract new
                clients;





·
            provide
                services in a manner acceptable to
                clients;




18




·
            offer
                pricing for services which is acceptable to clients; or





·
            broaden
                our client base so that we will not remain largely dependent upon
                a
                limited number of clients that will continue to account for a substantial
                portion of our revenues.





**The
      Company has received a modified audit opinion on its ability to continue
      as a going concern.**





The
      audit
      report our independent registered public accounting firm issued on our audited
      financial statements for the fiscal year ended December 31, 2006 contains a
      modification regarding our ability to continue as a going concern. This
      modification indicates that the
      Company’s recent losses, negative cash flows for operations, its net working
      capital deficiency and its ability to pay its outstanding debt raisessubstantial doubt on the part of our independent registered public
      accounting firm that we can continue as a going concern.  Such an opinion
      from our independent registered public accounting firm may limit our ability
      to
      access certain types of financing, or may prevent us from obtaining financing
      on
      acceptable terms.





**Our
      internal controls and procedures have been materially deficient, and we are
      in
      the process of correcting internal control deficiencies.**





In
      the
      first quarter of 2005, resulting from comments from the SEC related to our
      Registration Statement on Form SB-2/A, we and our independent registered public
      accounting firm recognized that our internal controls had material weaknesses.
      In April 2005, we restated our results of operations for our quarterly results
      for the quarters ended March 31, 2004, June 30, 2004 and September 30, 2004
      related primarily to our purchase accounting for two acquisitions completed
      in
      2004. In November 2005, resulting from discussions with the Staff of the SEC,
      we
      restated our results of operations for the quarters ended June 30, 2004,
      September 30, 2004 and March 31, 2005, and for the year ended December 31,
      2004
      primarily as a result of revised accounting treatment related to our issuance
      of
      financial instruments in 2004 and to properly record the loss resulting from
      the
      fair value adjustment of the financial instruments. Finally, with the filing
      of
      our Form 10-Q for the period ending June 30, 2006, resulting from discussions
      with the Staff of the SEC, we restated the manner in which we recorded and
      accounted for the beneficial conversion feature associated with convertible
      notes issued in 2004 in our results of operations for our quarterly results
      for
      the quarters ended September 30, 2004, March 31, 2005, June 30, 2005 and
      September 30, 2005, and for the year ended December 31, 2004. As a result of
      this latest restatement, we were unable to file our Form 10-KSB for the fiscal
      year ended December 31, 2005 in a timely fashion. Further restatements could
      cause us to miss our filing deadlines in the future, which could bring us out
      of
      compliance with the continued listing standards of the American Stock Exchange
      and/or cause us to default on certain of our financing arrangements, which
      would
      have a material adverse effect on our business.




19




If
      we
      cannot rectify these material weaknesses through remedial measures and
      improvements to our systems and procedures, management may encounter
      difficulties in timely assessing business performance and identifying incipient
      strategic and oversight issues. Management is currently focused on remedying
      internal control deficiencies, and this focus will require management from
      time
      to time to devote its attention away from other planning, oversight and
      performance functions.





We
      cannot
      provide assurances as to the timing of the completion of these efforts. We
      cannot be certain that the measures we take will ensure that we implement and
      maintain adequate internal controls in the future. Any failure to implement
      required new or improved controls, or difficulties encountered in their
      implementation, could harm our operating results or cause us to fail to meet
      our
      reporting obligations.





**Certain
      client-related complications may materially adversely affect our
      business.**





We
      may be
      subject to additional risks relating to our clients that could materially
      adversely affect our business, such as delays in clients paying their
      outstanding invoices, lengthy client review processes for awarding contracts,
      delay, termination, reduction or modification of contracts in the event of
      changes in client policies or as a result of budgetary constraints, and/or
      increased or unexpected costs resulting in losses under fixed-fee contracts,
      which factors could also adversely affect our business.





**We
      have a history of losses and we could incur losses in the
      future.**





During
      the year ended December 31, 2006 and the fiscal years ended December 31, 2005
      and 2004, we sustained operating losses and cannot be sure that we will operate
      profitably in the future. During the year ended December 31, 2006, we recorded
      a
      net loss in the approximate amount of ($9.6 million). During the fiscal year
      ended December 31, 2005, we reported a net loss in the approximate amount of
      ($5.1 million). During the fiscal year ended December 31, 2004, we sustained
      a
      net loss in the approximate amount of ($35.3 million). If we do not become
      profitable, we could have difficulty obtaining funds to continue our operations.
      We have incurred net losses since our merger with LCS Group, Inc. We may
      continue to generate losses from the ongoing business prior to returning to
      profitability.





**We
      have a significant amount of debt, which, in the event of a default, could
      have
      material adverse consequences upon us.**





Our
      total
      debt as of December 31, 2006 was approximately $15.1 million and, as of March
      27, 2007 was $14.6 million (which includes the $4.25 million convertible note
      issued to Taurus in March 2007, convertible upon the effectiveness of the
      Information Statement referenced above). The degree to which we are leveraged
      could have important consequences to us, including the following:





·
            A
                portion of our cash flow must be used to pay interest on our indebtedness,
                and therefore is not available for use in our
                business;




20




·
            Our
                indebtedness increases our vulnerability to changes in general economic
                and industry conditions;





·
            Our
                ability to obtain additional financing for working capital, capital
                expenditures, general corporate purposes or other purposes could
                be
                impaired;





·
            Our
                failure to comply with restrictions contained in the terms of our
                borrowings could lead to a default which could cause all or a significant
                portion of our debt to become immediately payable;
                and





·
            If
                we default, the loans will become due and we may not have the funds
                to
                repay the loans, and we could discontinue our business and investors
                could
                lose all their money.





In
      addition, certain terms of such loans require the prior consent of Laurus Master
      Fund, Ltd. on many corporate actions including, but not limited to, mergers
      and
      acquisitions--which is part of our ongoing business strategy.





**If
      an event of default occurs under our notes with Laurus, it could seriously
      harm
      our operations.**





On
      February 1, 2006, we issued two separate secured non-convertible term notes
      to
      Laurus in the amounts of up to $10 million and $1 million (the $1 million note
      was repaid in full in March 2007). The note and related agreements contain
      several events of default which include:





·
            failure
                to pay interest, principal payments or other fees when
                due;





·
            failure
                to pay taxes when due unless such taxes are being contested in good
                faith;





·
            breach
                by us of any material covenant or term or condition of the notes
                or any
                agreements made in connection
                therewith;





·
            default
                on any indebtedness to which we or our subsidiaries are a
                party;





·
            breach
                by us of any material representation or warranty made in the notes
                or in
                any agreements made in connection
                therewith;





·
            attachment
                is made or levy upon collateral securing the Laurus debt which is
                valued
                at more than $150,000 and is not timely
                mitigated;





·
            any
                lien created under the notes and agreements is not valid and perfected
                having a first priority interest;





·
            assignment
                for the benefit of our creditors, or a receiver or trustee is appointed
                for us;




21




·
            bankruptcy
                or insolvency proceeding instituted by or against us and not dismissed
                within 30 days;





·
            the
                inability to pay debts as they become due or cease business
                operations;





·
            sale,
                assignment, transfer or conveyance of any assets except as
                permitted;





·
            a
                person or group becomes a beneficial owner of 35% on a fully diluted
                basis
                of the outstanding voting equity interest or the present directors
                cease
                to be the majority on the Board of
                Directors;





·
            indictment
                or threatened criminal indictment, or commencement of threatened
                commencement of any criminal or civil proceeding against us or any
                executive officer; and





·
            common
                stock suspension for five consecutive days or five days during any
                10
                consecutive days from a principal market, provided that we are unable
                to
                cure such suspension within 30 days or list our common stock on another
                principal market within 60 days.





If
      we
      default on the notes and the holder demands all payments due and payable, the
      cash required to pay such amounts would most likely come out of working capital,
      which may not be sufficient to repay the amounts due. The default payment shall
      be 115% of the outstanding principal amount of the note, plus accrued but unpaid
      interest, all other fees then remaining unpaid, and all other amounts payable
      thereunder. In addition, since we rely on our working capital for our day to
      day
      operations, such a default on the note could materially adversely affect our
      business, operating results or financial condition to such extent that we are
      forced to restructure, file for bankruptcy, sell assets or cease operations.
      Further, our obligations under the notes are secured by substantially all of
      our
      assets. Failure to fulfill our obligations under the notes and related
      agreements could lead to loss of these assets, which would be detrimental to
      our
      operations.





**Our
      operating results are difficult to forecast.**





We
      may
      increase our general and administrative expenses in the event that we increase
      our business and/or acquire other businesses, while our operating expenses
      for
      sales and marketing and costs of services for technical personnel to provide
      and
      support our services also increases. Additionally, although many of our clients
      are large, creditworthy entities, at any given point in time, we may have
      significant accounts receivable balances with clients that expose us to credit
      risks if such clients either delay or elect not to pay or are unable to pay
      such
      obligations. If we have an unexpected shortfall in revenues in relation to
      our
      expenses, or significant bad debt experience, our business could be materially
      and adversely affected.




22




Our
      profitability, if any, will suffer if we are not able to retain existing clients
      or attract new clients. A continuation of current pricing pressures could result
      in permanent changes in pricing policies and delivery capabilities.





Our
      gross
      profit margin is largely a function of the rates we are able to charge for
      our
      information technology services. Accordingly, if we are not able to maintain
      the
      pricing for our services or an appropriate utilization of our professionals
      without corresponding cost reductions, our margins will suffer. The rates we
      are
      able to charge for our services are affected by a number of factors,
      including:





·
            our
                clients' perceptions of our ability to add value through our
                services;





·
            pricing
                policies of our competitors;





·
            our
                ability to accurately estimate, attain and sustain engagement revenues,
                margins and cash flows over increasingly longer contract
                periods;





·
            the
                use of globally sourced, lower-cost service delivery capabilities
                by our
                competitors and our clients; and





·
            general
                economic and political conditions.





Our
      gross
      margins are also a function of our ability to control our costs and improve
      our
      efficiency. If the continuation of current pricing pressures persists it could
      result in permanent changes in pricing policies and delivery capabilities and
      we
      must continuously improve our management of costs.





**Unexpected
      costs or delays could make our contracts unprofitable.**





In
      the
      future, we may have many types of contracts, including time-and-materials
      contracts, fixed-price contracts and contracts with features of both of these
      contract types. Any increased or unexpected costs or unanticipated delays in
      connection with the performance of these engagements, including delays caused
      by
      factors outside our control, could make these contracts less profitable or
      unprofitable, which would have an adverse effect on all of our margins and
      potential net income.





**Our
      business could be adversely affected if we fail to adapt to emerging and
      evolving markets.**





The
      markets for our services are changing rapidly and evolving and, therefore,
      the
      ultimate level of demand for our services is subject to substantial uncertainty.
      Most of our historic revenue was generated from providing information technology
      and strategic consulting services. During the last several years, we have
      focused our efforts on providing data warehousing and other strategic services
      since we believe that there is going to be an increased need in this area.
      Any
      significant decline in demand for programming, applications development,
      information technology, strategic services or data warehousing consulting
      services could materially and adversely affect our business and
      prospects.




23




Our
      ability to achieve growth targets is dependent in part on maintaining existing
      clients and continually attracting and retaining new clients to replace those
      who have not renewed their contracts. Our ability to achieve market acceptance,
      including for data warehousing, will require substantial efforts and
      expenditures on our part to create awareness of our services.





**Our
      business could be adversely affected if we fail to adapt to emerging and
      evolving markets.**





The
      markets for our services are changing rapidly and evolving and, therefore,
      the
      ultimate level of demand for our services is subject to substantial uncertainty.
      Most of our historic revenue was generated from providing information technology
      services only. During the last several years, we have focused our efforts on
      providing data warehousing services in particular since we believe that there
      is
      going to be an increased need in this area. Any significant decline in demand
      for programming, applications development, information technology or data
      warehousing consulting services could materially and adversely affect our
      business and prospects.





Our
      ability to achieve growth targets is dependent in part on maintaining existing
      clients and continually attracting and retaining new clients to replace those
      who have not renewed their contracts. Our ability to achieve market acceptance,
      including for data warehousing, will require substantial efforts and
      expenditures on our part to create awareness of our services.





**If
      we should experience rapid growth, such growth could strain our managerial
      and
      operational resources, which could adversely affect our
      business.**





Any
      rapid
      growth that we may experience would most likely place a significant strain
      on
      our managerial and operational resources. If we continue to acquire other
      companies, we will be required to manage multiple relationships with various
      clients, strategic partners and other third parties. Further growth (organic
      or
      by acquisition) or an increase in the number of strategic relationships may
      increase this strain on existing managerial and operational resources,
      inhibiting our ability to achieve the rapid execution necessary to implement
      our
      growth strategy without incurring additional corporate expenses.





**Lack
      of detailed written contracts could impair our ability to collect fees, protect
      our intellectual property and protect ourselves from liability to
      others.**





We
      try to
      protect ourselves by entering into detailed written contracts with our clients
      covering the terms and contingencies of the client engagement. In some cases,
      however, consistent with what we believe to be industry practice, work is
      performed for clients on the basis of a limited statement of work or verbal
      agreements before a detailed written contact can be finalized. To the extent
      that we fail to have detailed written contracts in place, our ability to collect
      fees, protect our intellectual property and protect ourselves from liability
      from others may be impaired.




24




**Failure
      to achieve and maintain effective internal controls in accordance with Section
      404 of the Sarbanes-Oxley Act of 2002 could have a material adverse effect on
      our business and operating results. In addition, current and potential
      stockholders could lose confidence in our financial reporting, which could
      have
      a material adverse effect on our stock price.**





Effective
      internal controls are necessary for us to provide reliable financial reports
      and
      effectively prevent fraud. If we cannot provide reliable financial reports
      or
      prevent fraud, our operating results could be harmed.





Commencing
      in December 2007, we will be required to document and test our internal control
      procedures in order to satisfy the requirements of Section 404 of the
      Sarbanes-Oxley Act, which requires annual management assessments of the
      effectiveness of our internal controls over financial reporting and, effective
      in 2008, a report by our independent registered public accounting firm
      addressing these assessments. During the course of our testing, we may identify
      deficiencies which we may not be able to remediate in time to meet the deadline
      imposed by the Sarbanes-Oxley Act for compliance with the requirements of
      Section 404. In addition, if we fail to maintain the adequacy of our internal
      controls, as such standards are modified, supplemented or amended from time
      to
      time, we may not be able to ensure that we can conclude on an ongoing basis
      that
      we have effective internal controls over financial reporting in accordance
      with
      Section 404 of the Sarbanes-Oxley Act. Failure to achieve and maintain an
      effective internal control environment could also cause investors to lose
      confidence in our reported financial information, which could have a material
      adverse effect on our stock price.





**Compliance
      with changing regulation of corporate governance and public disclosure may
      result in additional expenses.**





Changing
      laws, regulations and standards relating to corporate governance and public
      disclosure, including the Sarbanes-Oxley Act, new SEC regulations and exchange
      rules (although not, as of the date of this Annual Report, applicable to us),
      are creating uncertainty for companies such as ours. These new or changed laws,
      regulations and standards are subject to varying interpretations in many cases
      due to their lack of specificity, and as a result, their application in practice
      may evolve over time as new guidance is provided by regulatory and governing
      bodies, which could result in continuing uncertainty regarding compliance
      matters and higher costs necessitated by ongoing revisions to disclosure and
      governance practices. We are committed to maintaining high standards of
      corporate governance and public disclosure. As a result, our efforts to comply
      with evolving laws, regulations and standards have resulted in, and are likely
      to continue to result in, increased general and administrative expenses and
      a
      diversion of management time and attention from revenue-generating activities
      to
      compliance activities. In particular, our efforts to comply with Section 404
      of
      the Sarbanes-Oxley Act and the related regulations regarding our required
      assessment of our internal controls over financial reporting and our independent
      registered public accounting firm's audit of that assessment will require the
      commitment of significant financial and managerial resources. Further, our
      Board
      members, chief executive officer and chief financial officer could face an
      increased risk of personal liability in connection with the performance of
      their
      duties. As a result, we may have difficulty attracting and retaining qualified
      Board members and executive officers, which could harm our business. If our
      efforts to comply with new or changed laws, regulations and standards differ
      from the activities intended by regulatory or governing bodies due to
      ambiguities related to practice, our reputation may be harmed.




25




**We
      face intense competition and our failure to meet this competition could
      adversely affect our business.**





Competition
      for our information technology consulting services, including data warehousing,
      is significant and we expect that this competition will continue to intensify
      due to the low barriers to entry. We may not have the financial resources,
      technical expertise, sales and marketing or support capabilities to adequately
      meet this competition. We compete against numerous large companies, including,
      among others, multi-national and other major consulting firms. These firms
      have
      substantially greater market presence, longer operating histories, more
      significant client bases and greater financial, technical, facilities,
      marketing, capital and other resources than we have. If we are unable to compete
      against such competitors, our business will be adversely affected.





Our
      competitors may respond more quickly than us to new or emerging technologies
      and
      changes in client requirements. Our competitors may also devote greater
      resources than we can to the development, promotion and sales of our services.
      If one or more of our competitors develops and implements methodologies that
      result in superior productivity and price reductions without adversely affecting
      their profit margins, our business could suffer. Competitors may
      also:





·
            engage
                in more extensive research and
                development;





·
            undertake
                more extensive marketing campaigns;





·
            adopt
                more aggressive pricing policies;
                and





·
            make
                more attractive offers to our existing and potential employees and
                strategic partners.





In
      addition, current and potential competitors have established or may establish
      cooperative relationships among themselves or with third parties that could
      be
      detrimental to our business.





New
      competitors, including large computer hardware, software, professional services
      and other technology companies, may enter our markets and rapidly acquire
      significant market share. As a result of increased competition and vertical
      and
      horizontal integration in the industry, we could encounter significant pricing
      pressures. These pricing pressures could result in substantially lower average
      selling prices for our services. We may not be able to offset the effects of
      any
      price reductions with an increase in the number of clients, higher revenue
      from
      consulting services, cost reductions or otherwise.




26




In
      addition, professional services businesses are likely to encounter consolidation
      in the future, which could result in decreased pricing and other
      competition.





**If
      we fail to adapt to the rapid technological change constantly occurring in
      the
      areas in which we provide services, including data warehousing, our business
      could be adversely affected.**





The
      market for information technology consulting services and data warehousing
      is
      rapidly evolving. Significant technological changes could render our existing
      services obsolete. We must adapt to this rapidly changing market by continually
      improving the responsiveness, functionality and features of our services to
      meet
      clients' needs. If we are unable to respond to technological advances and
      conform to emerging industry standards in a cost-effective and timely manner,
      our business could be materially and adversely affected.





**We
      depend on our management. If we fail to retain key personnel, our business
      could
      be adversely affected.**





There
      is
      intense competition for qualified personnel in the areas in which we operate.
      The loss of existing personnel or the failure to recruit additional qualified
      managerial, technical and sales personnel, as well as expenses in connection
      with hiring and retaining personnel, particularly in the emerging area of data
      warehousing, could adversely affect our business. We also depend upon the
      performance of our executive officers and key employees in particular, Messrs.
      Scott Newman and Glenn Peipert. Although we have entered into employment
      agreements with Messrs. Newman and Peipert, the loss of either of these
      individuals could have a material adverse effect upon us. In addition, we have
      not obtained "key man" life insurance on the lives of Messrs. Newman and
      Peipert.





We
      will
      need to attract, train and retain more employees for management, engineering,
      programming, sales and marketing, and client service and support positions.
      As
      noted above, competition for qualified employees, particularly engineers,
      programmers and consultants, continues to be intense. Consequently, we may
      not
      be able to attract, train and retain the personnel we need to continue to offer
      solutions and services to current and future clients in a cost effective manner,
      if at all.





**If
      we fail to raise capital that we may need to support and increase our
      operations, our business could be adversely affected.**





Our
      future capital uses and requirements will depend on several factors,
      including:





·
            the
                extent to which our solutions and services gain market
                acceptance;





·
            the
                level of revenues from current and future solutions and
                services;





·
            the
                expansion of operations;




27




·
            the
                costs and timing of product and service developments and sales and
                marketing activities;





·
            the
                costs related to acquisitions of technology or businesses;
                and





·
            competitive
                developments.





We
      will
      require additional capital in order to continue to support and increase our
      sales and marketing efforts, continue to expand and enhance the solutions and
      services we are able to offer to current and future clients and fund potential
      acquisitions. This capital may not be available on terms acceptable to us,
      if at
      all. In addition, we may be required to spend greater-than-anticipated funds
      if
      unforeseen difficulties arise in the course of these or other aspects of our
      business. As a consequence, we will be required to raise additional capital
      through public or private equity or debt financings, collaborative
      relationships, bank facilities or other arrangements. We cannot assure that
      such
      additional capital will be available on terms acceptable to us, if at all.
      Further, if we raise capital through an equity or debt financing at a reduced
      exercise or conversion price, it could trigger certain anti-dilution provisions
      with other investors. Any additional equity financing is expected to be dilutive
      to our stockholders, and debt financing, if available, may involve restrictive
      covenants and increased interest costs. Our inability to obtain sufficient
      financing may require us to delay, scale back or eliminate some or all of our
      expansion programs or to limit the marketing of our services. This could have
      a
      material and adverse effect on our business.





**We
      could have potential liability for intellectual property infringement, personal
      injury, property damage or breach of contract to our clients that could
      adversely affect our business.**





Our
      services involve development and implementation of computer systems and computer
      software that are critical to the operations of our clients' businesses. If
      we
      fail or are unable to satisfy a client's expectations in the performance of
      our
      services, our business reputation could be harmed or we could be subject to
      a
      claim for substantial damages, regardless of our responsibility for such failure
      or inability. In addition, in the course of performing services, our personnel
      often gain access to technologies and content which include confidential or
      proprietary client information.





Although
      we have implemented policies to prevent such client information from being
      disclosed to unauthorized parties or used inappropriately, any such unauthorized
      disclosure or use could result in a claim for substantial damages. Our business
      could be adversely affected if one or more large claims are asserted against
      us
      that are uninsured, exceed available insurance coverage or result in changes
      to
      our insurance policies, including premium increases or the imposition of large
      deductible or co-insurance requirements. Although we maintain general liability
      insurance coverage, including coverage for errors and omissions, there can
      be no
      assurance that such coverage will continue to be available on reasonable terms
      or will be available in sufficient amounts to cover one or more large
      claims.




28




**We
      do not intend to pay dividends on shares of our common stock in the foreseeable
      future.**





We
      have
      never paid cash dividends on our common stock. Our current Board of Directors
      does not anticipate that we will pay cash dividends in the foreseeable future.
      Instead, we intend to retain future earnings for reinvestment in our business
      and/or to fund future acquisitions. In addition, our security agreement with
      Laurus Master Fund, Ltd. requires that we obtain their consent prior to paying
      any dividends on our common stock.





**Our
      management group owns or controls a significant number of the outstanding shares
      of our common stock and will continue to have significant ownership of our
      voting securities for the foreseeable future.**





Scott
      Newman and Glenn Peipert, our principal stockholders, our executive officers
      and
      two of our directors, beneficially own approximately 34.7% and 18.2%,
      respectively, of our outstanding common stock. This concentration of ownership
      of our common stock may:





·
            delay
                or prevent a change in the control;





·
            impede
                a merger, consolidation, takeover or other transaction involving
                us;
                or





·
            discourage
                a potential acquirer from making a tender offer or otherwise attempting
                to
                obtain control of us.





**The
      authorization and issuance of “blank check” preferred stock could have an
      anti-takeover effect detrimental to the interests of our
      stockholders.**





Our
      certificate of incorporation allows the Board of Directors to issue 20,000,000
      shares of preferred stock with rights and preferences set by our Board without
      further stockholder approval. The issuance of shares of this "blank check
      preferred" under particular circumstances could have an anti-takeover effect.
      For example, in the event of a hostile takeover attempt, it may be possible
      for
      management and the Board to endeavor to impede the attempt by issuing shares
      of
      blank check preferred, thereby diluting or impairing the voting power of the
      other outstanding shares of common stock and increasing the potential costs
      to
      acquire control of us. Our Board of Directors has the right to issue blank
      check
      preferred without first offering them to holders of our common stock, as the
      holders of our common stock have no preemptive rights. To date, the Company
      has
      issued 19,000 shares of Series A Convertible Preferred Stock to investors
      represented by Taurus Advisory Group, LLC and 20,000 shares of Series B
      Convertible Preferred Stock to an individual investor.





**Our
      services or solutions may infringe upon the intellectual property rights of
      others.**





We
      cannot
      be sure that our services and solutions, or the solutions of others that we
      offer to our clients, do not infringe on the intellectual property rights of
      third parties, and we may have infringement claims asserted against us or
      against our clients. These claims may harm our reputation, cost us money and
      prevent us from offering some services or solutions. In some instances, the
      amount of these expenses may be greater than the revenues we receive from the
      client. Any claims or litigation in this area, whether we ultimately win or
      lose, could be time-consuming and costly, injure our reputation or require
      us to
      enter into royalty or licensing arrangements. We may not be able to enter into
      these royalty or licensing arrangements on acceptable terms. To the best of
      our
      knowledge, we have never infringed upon the intellectual property rights of
      another individual or entity.




29




**We
      could be subject to systems failures that could adversely affect our
      business.**





Our
      business depends on the efficient and uninterrupted operation of our computer
      and communications hardware systems and infrastructure. We currently maintain
      our computer systems in our facilities at our offices in New Jersey and
      elsewhere. We do not have complete redundancy in our systems and therefore
      any
      damage or destruction to our systems would significantly harm our business.
      Although we have taken precautions against systems failure, interruptions could
      result from natural disasters as well as power losses, telecommunications
      failures and similar events. Our systems are also subject to human error,
      security breaches, computer viruses, break-ins, "denial of service" attacks,
      sabotage, intentional acts of vandalism and tampering designed to disrupt our
      computer systems. We also lease telecommunications lines from local and regional
      carriers, whose service may be interrupted. Any damage or failure that
      interrupts or delays network operations could materially and adversely affect
      our business.





**Our
      business could be adversely affected if we fail to adequately address security
      issues.**





We
      have
      taken measures to protect the integrity of our technology infrastructure and
      the
      privacy of confidential information. Nonetheless, our technology infrastructure
      is potentially vulnerable to physical or electronic break-ins, viruses or
      similar problems. If a person or entity circumvents our security measures,
      it
      could jeopardize the security of confidential information stored on our systems,
      misappropriate proprietary information or cause interruptions in our operations.
      We may be required to make substantial additional investments and efforts to
      protect against or remedy security breaches. Security breaches that result
      in
      access to confidential information could damage our reputation and expose us
      to
      a risk of loss or liability.





**Risks
      Relating To Acquisitions**


**We
      face intense competition for acquisition candidates, and we may have limited
      cash available for such acquisitions.**





There
      is
      a high degree of competition among companies seeking to acquire interests in
      information technology service companies such as those we may target for
      acquisition. We are expected to continue to be an active participant in the
      business of seeking business relationships with, and acquisitions of interests
      in, such companies. A large number of established and well-financed entities,
      including venture capital firms, are active in acquiring interests in companies
      that we may find to be desirable acquisition candidates. Many of these
      investment-oriented entities have significantly greater financial resources,
      technical expertise and managerial capabilities than we do. Consequently, we
      may
      be at a competitive disadvantage in negotiating and executing possible
      investments in these entities as many competitors generally have easier access
      to capital, on which entrepreneur-founders of privately-held information
      technology service companies generally place greater emphasis than obtaining
      the
      management skills and networking services that we can provide. Even if we are
      able to compete with these venture capital entities, this competition may affect
      the terms and conditions of potential acquisitions and, as a result, we may
      pay
      more than expected for targeted acquisitions. If we cannot acquire interests
      in
      attractive companies on reasonable terms, our strategy to build our business
      through acquisitions may be inhibited.




30




**We
      will encounter difficulties in identifying suitable acquisition candidates
      and
      integrating new acquisitions.**





A
      key
      element of our expansion strategy is to grow through acquisitions. If we
      identify suitable candidates, we may not be able to make investments or
      acquisitions on commercially acceptable terms. Acquisitions may cause a
      disruption in our ongoing business, distract management, require other resources
      and make it difficult to maintain our standards, controls and procedures. We
      may
      not be able to retain key employees of the acquired companies or maintain good
      relations with their clients or suppliers. We may be required to incur
      additional debt and to issue equity securities, which may be dilutive to
      existing stockholders, to effect and/or fund acquisitions.





**We
      cannot assure you that any acquisitions we make will enhance our
      business.**





We
      cannot
      assure you that any completed acquisition will enhance our business. Since
      we
      anticipate that acquisitions could be made with both cash and our common stock,
      if we consummate one or more significant acquisitions, the potential impacts
      are:





·
            a
                substantial portion of our available cash could be used to consummate
                the
                acquisitions and/or we could incur or assume significant amounts
                of
                indebtedness;





·
            losses
                resulting from the on-going operations of these acquisitions could
                adversely affect our cash flow; and





·
            our
                stockholders could suffer significant dilution of their interest
                in our
                common stock.





Also,
      we
      are required to account for acquisitions under the purchase method, which would
      likely result in our recording significant amounts of goodwill. The inability
      of
      a subsidiary to sustain profitability may result in an impairment loss in the
      value of long-lived assets, principally goodwill and other tangible and
      intangible assets, which would adversely affect our financial statements.
      Additionally, we could choose to divest any acquisition that is not
      profitable.




**Risks
      Relating To Our Common Stock**




**We
      may be de-listed from the AMEX if we do not meet continued listing
      requirements.**





Our
      common stock commenced trading on the AMEX on September 21, 2005. On June 29,
      2006, we received a letter from AMEX indicating that we are below certain of
      the
      Exchange's continued listing standards as set forth in Sections 1003(a)(i),
      1003(a)(ii) and 1003(a)(iv) of the AMEX Company Guide. We were afforded the
      opportunity to submit a plan of compliance to the Exchange by July 31, 2006
      that
      demonstrates our ability to regain compliance with Section 1003 of the AMEX
      Company Guide within 18 months. We submitted our plan to AMEX on July 31, 2006,
      and AMEX accepted our plan on September 26, 2006. We were granted
      an extension until December 28, 2007 to regain compliance with the continued
      listing standards. We are subject to periodic review by the Exchange Staff
      during the extension period. Failure to make progress consistent with the plan
      or to regain compliance with the continued listing standards by the end of
      the
      extension period could result in our common stock being delisted from the
      Exchange .




31




On
      January 25, 2007, we received notice from AMEX indicating that we no longer
      comply with the Exchange’s continued listing standards and our plan of
      compliance submitted in July 2006, and that our securities are subject to be
      delisted from the Exchange. The Company has filed an appeal of this
      determination and has a hearing before a committee of AMEX planned for April
      2007. If the committee does not grant the relief sought by the Company, its
      securities will be delisted from AMEX and may continue to be quoted on the
      OTC
      Bulletin Board.





As
      a
      result of failing to file our Annual Report on Form 10-KSB/A for fiscal 2005
      in
      a timely fashion, we failed to meet the continued listing requirements of the
      AMEX from its due date on April 17, 2006 until April 21, 2006. In the future,
      if
      we fail to timely file our required reports, we could be subject to
      delisting.





If
      our
      common stock is delisted by the AMEX, trading of our common stock would
      thereafter likely be conducted on the OTC Bulletin Board. In such case, the
      market liquidity for our common stock would likely be negatively affected,
      which
      may make it more difficult for holders of our common stock to sell their
      securities in the open market and we could face difficulty raising capital
      necessary for our continued operations.





**Our
      relationship with our majority stockholders presents potential conflicts of
      interest, which may result in decisions that favor them over our other
      stockholders.**





Our
      principal beneficial owners, Scott Newman and Glenn Peipert, provide management
      and financial assistance to us. When their personal investment interests diverge
      from our interests, they and their affiliates may exercise their influence
      in
      their own best interests. Some decisions concerning our operations or finances
      may present conflicts of interest between us and these stockholders and their
      affiliated entities.





**The
      limited prior public market and trading market may cause possible volatility
      in
      our stock price.**





There
      has
      only been a limited public market for our securities and there can be no
      assurance that an active trading market in our securities will be maintained.
      In
      addition, the overall market for securities in recent years has experienced
      extreme price and volume fluctuations that have particularly affected the market
      prices of many smaller companies. The trading price of our common stock is
      expected to be subject to significant fluctuations including, but not limited
      to, the following:





·
            quarterly
                variations in operating results and achievement of key business
                metrics;




32




·
            changes
                in earnings estimates by securities analysts, if
                any;





·
            any
                differences between reported results and securities analysts' published
                or
                unpublished expectations;





·
            announcements
                of new contracts or service offerings by us or our
                competitors;





·
            market
                reaction to any acquisitions, divestitures, joint ventures or strategic
                investments announced by us or our
                competitors;





·
            demand
                for our services and products;





·
            shares
                being sold pursuant to Rule 144 or upon exercise of warrants;
                and





·
            general
                economic or stock market conditions unrelated to our operating
                performance.





These
      fluctuations, as well as general economic and market conditions, may have a
      material or adverse effect on the market price of our common stock.





**Additional
      authorized shares of our common stock and preferred stock available for issuance
      may adversely affect the market.**





We
      are
      authorized to issue 100,000,000 shares of our common stock.  On March 8,
      2007, we preliminarily filed an Information Statement on Schedule 14C with
      the
      SEC relating
      to a stockholder action which has been approved by written consent of
      stockholders of the Company who hold approximately 56% (in excess of a majority)
      of the voting power of our common stock.  Such stockholder action approved
      a Certificate of Amendment to our Certificate of Incorporation pursuant to
      which
      our authorized common stock will be increased from 100,000,000 shares up to
      200,000,000 shares of such Common Stock.  In addition, the Information
      Statement disclosed the issuance of a convertible note in which 13,333,333
      shares of common stock will be issued upon the effectiveness of the Information
      Statement (and the issuance of a warrant to purchase an additional 13,333,333
      shares of common stock). This Information Statement will be as subsequently
      amended to reflect the modification of the convertible note in which 14,166,667
      shares of common stock will now be issued upon the effectiveness of the
      Information Statement (and the issuance of a warrant to purchase an additional
      14,166,667 shares of common stock).




As
      of
      March 27, 2007, there were 56,480,153 shares of common stock issued and
      outstanding. However, the total number of shares of our common stock issued
      and
      outstanding does not include shares reserved in anticipation of the conversion
      of notes or the exercise of options or warrants. As of March 27, 2007, we had
      15,436,507 shares of common stock underlying convertible notes (including the
      note mentioned in the prior paragraph that will automatically convert upon
      the
      effectiveness of the Information Statement), and we will have reserved shares
      of
      our common stock for issuance in connection with the potential conversion
      thereof as of the effectiveness of the Information Statement.  As of March
      27, 2007, we had outstanding stock options and warrants to purchase
      approximately 30,890,298 shares of our common stock, the exercise prices of
      which range between $0.01
      and
      $5.25 **** per
      share, and we will have reserved shares of our common stock for issuance in
      connection with the potential exercise thereof upon the effectiveness of the
      Information Statement.  Of the reserved shares, a total of 10,000,000
      shares are currently reserved for issuance in connection with our 2003 Incentive
      Plan.  To the extent such options or warrants are exercised, the holders of
      our common stock will experience further dilution.  In addition, in the
      event that any future financing should be in the form of, be convertible into
      or
      exchangeable for, equity securities, and upon the exercise of options and
      warrants, investors may experience additional dilution.




33




The
      exercise of the outstanding convertible securities will reduce the percentage
      of
      common stock held by our stockholders. Further, the terms on which we could
      obtain additional capital during the life of the convertible securities may
      be
      adversely affected, and it should be expected that the holders of the
      convertible securities would exercise them at a time when we would be able
      to
      obtain equity capital on terms more favorable than those provided for by such
      convertible securities. As a result, any issuance of additional shares of common
      stock may cause our current stockholders to suffer significant dilution which
      may adversely affect the market.





In
      addition to the above-referenced shares of common stock which may be issued
      without stockholder approval, we have 20 million shares of authorized preferred
      stock, the terms of which may be fixed by our Board of Directors. To date,
      we
      have issued 19,000 shares of Series A Convertible Preferred Stock to Taurus
      Advisory Group LLC (convertible into 3,800,000 shares of common stock) and
      20,000 shares of Series B Convertible Preferred Stock (convertible into up
      to
      4,000,000 shares of common stock based upon the lowest contractual conversion
      price) to an individual investor. While we presently have no plans to issue
      any
      more additional shares of preferred stock, our Board of Directors has the
      authority, without stockholder approval, to create and issue one or more series
      of such preferred stock and to determine the voting, dividend and other rights
      of holders of such preferred stock. The issuance of any of such series of
      preferred stock may have an adverse effect on the holders of common
      stock.





**Shares
      eligible for future sale may adversely affect the market.**





From
      time
      to time, certain of our stockholders may be eligible to sell all or some of
      their shares of common stock by means of ordinary brokerage transactions in
      the
      open market pursuant to Rule 144, promulgated under the Securities Act of 1933
      (Securities Act), subject to certain limitations. In general, pursuant to Rule
      144, a stockholder (or stockholders whose shares are aggregated) who has
      satisfied a one-year holding period may, under certain circumstances, sell
      within any three-month period a number of securities which does not exceed
      the
      greater of 1% of the then outstanding shares of common stock or the average
      weekly trading volume of the class during the four calendar weeks prior to
      such
      sale. Rule 144 also permits, under certain circumstances, the sale of
      securities, without any limitation, by our stockholders that are non-affiliates
      that have satisfied a two-year holding period. Any substantial sale of our
      common stock pursuant to Rule 144 or pursuant to any resale prospectus may
      have
      a material adverse effect on the market price of our securities.




34




**Director
      and officer liability is limited.**





As
      permitted by Delaware law, our certificate of incorporation limits the liability
      of our directors for monetary damages for breach of a director's fiduciary
      duty
      except for liability in certain instances. As a result of our charter provision
      and Delaware law, stockholders may have limited rights to recover against
      directors for breach of fiduciary duty. In addition, our certificate of
      incorporation provides that we shall indemnify our directors and officers to
      the
      fullest extent permitted by law.





**ITEM
      1B. UNRESOLVED STAFF COMMENTS**





None





**ITEM
      2.**  **DESCRIPTION
      OF PROPERTY**




The
      Company's corporate headquarters are located at 100 Eagle Rock Avenue, East
      Hanover, New Jersey 07936, where it operates under an amended lease agreement
      expiring December 31, 2010. In addition to minimum rentals, the Company is
      liable for its proportionate share of real estate taxes and operating expenses,
      as defined. DeLeeuw Associates, Inc. has an office at Suite 1460, Charlotte
      Plaza, 201 South College Street, Charlotte, North Carolina 28244. DeLeeuw
      Associates leases this space which has a stated expiration date of December
      31,
      2010.





The
      Company is committed under several operating leases for automobiles that expire
      during 2007.





**ITEM
      3.**  **LEGAL
      PROCEEDINGS**




On
      August
      1, 2005, Sridhar Bhupatiraju and Scosys, Inc. commenced legal action against
      the
      Company in the Superior Court of New Jersey. The complaint alleges, among other
      things, the Company’s failure to make certain payments pursuant to an asset
      purchase agreement with Scosys, Inc. and the Company’s failure to make certain
      payments to Sridhar Bhupatiraju in accordance with his employment agreement
      with
      the Company. The plaintiffs are seeking unspecified compensatory damages,
      punitive damages, fees and other costs. On September 30, 2005, the Company
      filed
      its answer to complaint and third-party complaint against Scorpio Systems,
      alleging that Mr. Bhupatiraju embarked on a scheme to circumvent his contractual
      obligations under the asset purchase agreement, his non-compete agreement with
      the Company, and in violation of his duties of loyalty and fidelity to his
      employer (the Company) via Scorpio Systems, among other things. Notwithstanding
      Mr. Bhupatiraju’s contractual obligations, the Company alleges that he sold the
      assets of Scosys while at the same time operating and/or owning a competing
      business, Scorpio Systems. The
      case
      was dismissed with prejudice in favor of CSI on December 4, 2006, and the
      Company is presently considering whether to continue its
      countersuit.




35




In
      July
      2005, in conjunction with the acquisition of Integrated Strategies, Inc.
      (“ISI”), the Company issued a subordinated promissory note in the principal
      amount of $165,000 payable to Adam Hock and Larry Hock (the “Hocks”), the former
      principal stockholders of ISI. This note, along with $35,000 cash, was to be
      held in escrow for 15 months. This note matured on October 28, 2006. Pursuant
      to
      the indemnification provisions of the merger agreement among the Company and
      the
      Hocks, the $200,000 was to be held in escrow to cover any liabilities by any
      failure of any representation or warranty of ISI or the Hocks to be true and
      correct at or before the closing, and any act, omission or conduct of ISI and
      the Hocks prior to the closing, whether asserted or claimed prior to, or at
      or
      after, the closing. After the note matured, the Hocks requested the entire
      $200,000 from the Company, while the Company, after offsetting certain
      undisclosed liabilities, responded that the actual amount owed is significantly
      less. The Hocks then filed a lawsuit in the State of Florida on December 22,
      2006 for recovery of the entire $200,000. On March 1, 2007, a circuit court
      in
      Hillsborough County, Florida denied the Company’s motion to dismiss the lawsuit
      for lack of jurisdiction without explanation to its ruling. The Company is
      appealing this decision. Management
      believes the suit against the Company to be without merit and intends to
      vigorously defend the Company against this action and is presently considering
      a
      countersuit.





On
      March
      21, 2007, we filed a lawsuit in the Superior Court of New Jersey against our
      former employees, Timothy Furey and Craig Cordasco.  We are alleging that
      Messrs. Furey and Cordasco misappropriated confidential information, broke
      their
      outstanding contractual obligations to us, unfairly competed, and tortuously
      interfered with economic gain.  We are seeking injunctive relief and
      monetary damages.




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




No
      matters were submitted to a vote of security holders during the fourth quarter
      of the fiscal year ended December 31, 2006.





36


**PART
      II**




**ITEM
              5.**
            **MARKET
                FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES
                OF
                EQUTY SECURITIES**




*(a)*  ***Market
      Information*** .
      From
      February 3, 2004 through September 20, 2005, our common stock traded on the
      OTC
      Bulletin Board under the symbol “CSII.” On September 21, 2005, our common stock
      began trading on the American Stock Exchange under the symbol
“CVN.”





The
      following chart sets forth the high and low bid prices for each quarter from
      January 1, 2005 through September 20, 2005 and the closing
      high and low sales prices of the Company’s common stock as reported by the
      American Stock Exchange  for
      each
      quarter from September 20, 2005 through December 31, 2006. All numbers give
      effect to a 1 for 15 reverse stock split effected on September 20,
      2005.




**High**
              
              **Low****2005
                  by Quarter**January
                  1 - March 31
              
              $
              3.825
              
              $
              2.175April
                  1 - June 30
              
              $
              4.20
              
              $
              1.67July
                  1 - September 30
              
              $
              2.33
              
              $
              1.28October
                  1 - December 31
              
              $
              2.01
              
              $
              0.40**2006
                  by Quarter**January
                  1 - March 31
              
              $
              1.49
              
              $
              0.41April
                  1 - June 30
              
              $
              1.15
              
              $
              0.65July
                  1 - September 30
              
              $
              1.01
              
              $
              0.52October
                  1 - December 31
              
              $
              0.56
              
              $
              0.25





On
      March
      27, 2007, the closing price for shares of our common stock, as reported by
      the
      American Stock Exchange, was $0.27.





No
      prediction can be made as to the effect, if any, that future sales of shares
      of
      our common stock or the availability of our common stock for future sale will
      have on the market price of our common stock prevailing from time-to-time.
      The
      additional registration of our common stock and the sale of substantial amounts
      of our common stock in the public market could adversely affect the prevailing
      market price of our common stock.





*(b)*  ***Record
      Holders*** .
      As of
      March 27, 2007, there were 461 registered holders of our common stock, including
      shares held in street name. As of March 27, 2007, there were 56,480,153 shares
      of common stock issued and outstanding.





*(c)*  ***Dividends*** .
      We have
      not paid dividends on our common stock in the past and do not anticipate doing
      so in the foreseeable future. We currently intend to retain future earnings,
      if
      any, to fund the development and growth of our business. In addition, the
      security agreement with Laurus Master Fund, Ltd. requires that we obtain their
      consent prior to paying any dividends.




37




***(d)***  ***Sales
      of Unregistered Securities***




During
      the period covered by this Annual Report, we did not issue any securities that
      were not registered under the Securities Act of 1933, as amended, except as
      previously disclosed in a quarterly report on Form 10-Q or a current report
      on
      Form 8-K.




**ITEM
              6.**
            **SELECTED
                FINANCIAL DATA**





The
      following tables should be read in conjunction with our financial statements
      and
      the notes thereto appearing elsewhere in this Annual Report on Form 10-K.
      The selected financial data has been derived from our financial statements,
      which have been audited by Friedman LLP, independent registered public
      accounting firm, as indicated in their report included elsewhere herein.




**SELECTED
      FINANCIAL DATA**


For
      the
      fiscal year ending December 31, 2006


2006
              
              2005
                  (b)
              
              2004
                  (a)
              
              2003
                  (c)
              
              2002
                  (c)Net
                  revenue
              
              $
              25,674,057
              
              $
              27,629,909
              
              $
              23,893,106
              
              $
              14,366,456
              
              $
              16,244,790Gross
                  profit
              
              
              5,743,123
              
              
              7,097,506
              
              
              5,046,129
              
              
              4,100,648
              
              
              5,567,264Income
                  (loss) from continuing operations
              
              
              (11,661,778
              )
              
              (4,014,302
              )
              
              (22,697,298
              )
              
              (306,763
              )
              
              623,249Income
                  (loss) from discontinued operations
              
              
              2,050,000
              
              
              (1,103,971
              )
              
              (12,650,908
              )
              
              -
              
              
              -Net
                  income (loss)
              
              
              (9,611,778
              )
              
              (5,118,273
              )
              
              (35,348,206
              )
              
              (306,763
              )
              
              623,249Net
                  income (loss) attributable to common stockholders
              
              
              (10,204,128
              )
              
              (5,118,273
              )
              
              (35,348,206
              )
              
              (306,763
              )
              
              623,249Basic
                  income (loss) per common share:From
                  continuing operations
              
              $
              (0.23
              )
              $
              (0.08
              )
              $
              (0.49
              )From
                  discontinued operations
              
              $
              0.04
              
              $
              (0.02
              )
              $
              (0.27
              )Net
                  loss per common share
              
              $
              (0.19
              )
              $
              (0.10
              )
              $
              (0.76
              )Net
                  loss per common share attributable to common stockholders
              
              $
              (0.20
              )
              $
              (0.10
              )
              $
              (0.76
              )Diluted
                  income (loss) per common share:From
                  continuing operations
              
              $
              (0.23
              )
              $
              (0.08
              )
              $
              (0.49
              )From
                  discontinued operations
              
              $
              0.04
              
              $
              (0.02
              )
              $
              (0.27
              )Net
                  loss per common share
              
              $
              (0.19
              )
              $
              (0.10
              )
              $
              (0.76
              )Net
                  loss per common share attributable to common stockholders
              
              $
              (0.20
              )
              $
              (0.10
              )
              $
              (0.76
              )Working
                  capital
              
              $
              (6,272,148
              )
              $
              (7,587,860
              )
              $
              (13,923,181
              )
              $
              (655,496
              )
              $
              (89,710
              )Total
                  assets
              
              
              14,530,811
              
              
              18,478,469
              
              
              28,868,029
              
              
              4,759,900
              
              
              3,212,218Long-term
                  obligations and redeemable preferred stock
              
              
              3,729,693
              
              
              5,178,682
              
              
              7,099,017
              
              
              270,828
              
              
              464,965Total
                  stockholders' equity (deficit)
              
              
              (513,129
              )
              
              1,629,139
              
              
              1,294,522
              
              
              1,219,144
              
              
              766,233




(a)
                Includes
                    the results from the acquisition to the end of the fiscal year
                    of both
                    DeLeeuw Associates, which was acquired on March 4, 2004, and
                    Evoke
                    Software Corporation, which was acquired on June 28,
                    2004.
 (b)
                  Includes
                      the results from the acquisition to the end of the fiscal year
                      of both
                      McKnight Associates, which was acquired on July 22, 2005, and
                      Integrated
                      Strategies, Inc., which was acquired on July 29, 2005. Also,
                      reflects the disposition of substantially all of the assets
                      of Evoke
                      Software Corporation in July,
                      2005.
 (c)
                  Prior
                      to the period when the Company became publicly traded and,
                      as a result,
                      does not reflect the
                      recapitalization.
  38


**ITEM
                7.**
            **MANAGEMENT’S
                DISCUSSION AND ANALYSIS OR PLAN OF
                OPERATION.**





**Overview
      of our Business**





Management’s
      Discussion and Analysis contains statements that are forward-looking. These
      statements are based on current expectations and assumptions that are subject
      to
      risks and uncertainties. Actual results could differ materially because of
      factors discussed in “Risk Factors” and elsewhere in this report. The Company
      undertakes no duty to update any forward-looking statement to conform the
      statement to actual results or changes in the Company’s expectations.





Conversion
      Services International, Inc. provides professional services to the Global 2000,
      as well as mid-market clientele relating to strategic consulting, data
      warehousing, business intelligence and data management and, through strategic
      partners, the sale of software. The Company’s services based clients are
      primarily in the financial services, pharmaceutical, healthcare and
      telecommunications industries, although it has clients in other industries
      as
      well. The Company’s clients are primarily located in the northeastern United
      States.





The
      Company began operations in 1990. Its services were originally focused on
      e-business solutions and data warehousing. In the late 1990s, the Company
      strategically repositioned itself to capitalize on its data warehousing
      expertise in the fast growing business intelligence/data warehousing space.
      The
      Company became a public company via its merger with a wholly owned subsidiary
      of
      LCS Group, Inc., effective January 30, 2004.





The
      Company’s core strategy includes capitalizing on the already established
      in-house business intelligence/data warehousing (“BI/DW”) technical expertise
      and its strategic consulting division. This is expected to result in organic
      growth through the addition of new customers. In addition, this foundation
      will
      be leveraged as the Company pursues targeted strategic acquisitions.




The
      Company derives a majority of its revenue from professional services
      engagements. Its revenue depends on the Company’s ability to generate new
      business, in addition to preserving present client engagements. The general
      domestic economic conditions in the industries the Company serves, the pace
      of
      technological change, and the business requirements and practices of its clients
      and potential clients directly affect our ability to accomplish these goals.
      When economic conditions decline, companies generally decrease their technology
      budgets and reduce the amount of spending on the type of information technology
      (IT) consulting provided by the Company. The Company’s revenue is also impacted
      by the rate per hour it is able to charge for its services and by the size
      and
      chargeability, or utilization rate, of its professional workforce. If the
      Company is unable to maintain its billing rates or sustain appropriate
      utilization rates for its professionals, its overall profitability may decline.
      The Company has noted improvements in economic conditions, which have recently
      resulted in increased spending on consulting services in certain vertical
      markets, particularly in financial services. However, several large clients
      have
      changed their business practices with respect to consulting services. Such
      clients now require that we contract with their vendor management organizations
      in order to continue to perform services. These organizations charge fees
      generally based upon the hourly rates being charged to the end client. Our
      revenues and gross margins are being negatively affected by this
      practice.




39





The
      Company will continue to focus on a variety of growth initiatives in order
      to
      improve its market share and increase revenue. Moreover, as the Company
      endeavors to achieve top line growth, through entry on new approved vendor
      lists, penetrating new vertical markets, and expanding its time and material
      and
      permanent placement business, the Company will concentrate its efforts on
      improving margins and driving earnings to the bottom line.




In
      addition to the conditions described above for growing the Company’s current
      business, the Company expects to continue to grow through acquisitions. 
One of the Company’s objectives is to make acquisitions of companies offering
      services complementary to the Company’s lines of business. This is expected to
      accelerate the Company’s business plan at lower costs than it would generate
      internally and also improve its competitive positioning and expand the Company’s
      offerings in a larger geographic area. The service industry is very fragmented,
      with a handful of large international firms having data warehousing and/or
      business intelligence divisions, and hundreds of regional boutiques throughout
      the United States.  These smaller firms do not have the financial
      wherewithal to scale their businesses or compete with the larger players. 
To that end, the service industry has experienced consolidation during the
      past
      36 months and the Company has been a participant in this consolidation. The
      Company has been active in acquiring companies during the last three
      years:




·  In
      March
      2004, the Company acquired DeLeeuw Associates, a management consulting firm
      in
      the information technology sector with core competency in delivering Change
      Management Consulting, including both Six Sigma and Lean domain expertise to
      enhance service delivery, with proven process methodologies resulting in time
      to
      market improvements within the financial services and banking industries.
      Historically, the DeLeeuw Associates business was involved in the operational
      integration of mergers and acquisitions, and would prescribe the systems
      integration work necessary. DeLeeuw Associates has now begun to sell the
      expanded suite of services offered by the Company, from operational integration
      to systems integration.





·  In
      May
      2004, the Company acquired 49% of all issued and outstanding shares of common
      stock of Leading Edge Communications Corporation (“LEC”). LEC provides
      enterprise software and services solutions for technology infrastructure
      management.





·In
      June 2004, the Company acquired
      substantially all of the assets and assumed substantially all of the liabilities
      of Evoke Software Corporation, which designed, developed, marketed and supported
      software programs for data analysis, data profiling and database migration
      applications and provides related support and consulting services. In July
      2005,
      the Company divested substantially all of the assets of Evoke Software
      Corporation. The market for software has changed, and the Company determined
      that data profiling should no longer be a standalone product and needed to
      be
      part of a suite of tools. This is evidenced by the subsequent acquisition of
      the
      Evoke software product by Similarity Systems in July 2005 and then Informatica
      in January 2006.




40





·  In
      July
      2005, the Company acquired McKnight Associates, Inc. Since inception, McKnight
      Associates has focused on successfully designing, developing and implementing
      data warehousing and business intelligence solutions for its clients in numerous
      industries. Mr. William McKnight, the founder of McKnight Associates who joined
      the Company as Senior Vice President - Data Warehousing, is
      a
      well-known industry leader, frequently
      speaks at national trade shows and contributes
      to major data management trade publications.





·In
      July 2005, the Company acquired
      Integrated Strategies, Inc. (“ISI”). ISI is a professional services firm with a
      solutions-oriented approach to complex business and technical challenges.
      Similar to our wholly owned subsidiary, DeLeeuw Associates, which is best known
      for its large-scale merger integration management and business process change
      programs for the financial services markets, ISI also counts industry leaders
      in
      this sector among its customers. Because of this shared focus, the operations
      of
      ISI were merged into DeLeeuw Associates.





The
      Company’s most significant costs are personnel expenses, which consist of
      consultant fees, benefits and payroll-related expenses.





SFAS
      No. 123 (Revised 2004) (“SFAS No. 123R”), “ *Share-Based
      Payment* ,”
was
      issued in December 2004 and is a revision of FASB Statement 123, “ *Accounting
      for Stock-Based Compensation* ”.
      The
      Statement focuses primarily on accounting for transactions in which an entity
      obtains employee services in share-based payment transactions. SFAS
      No. 123R requires a public entity to measure the cost of employee services
      received in exchange for an award of equity instruments based on the grant-date
      fair value of the award (with limited exceptions). That cost will be recognized
      over the period during which an employee is required to provide service in
      exchange for the award. The Company is required to adopt this standard effective
      with the beginning of the first annual reporting period that begins after
      December 15, 2005, therefore, we have adopted the standard in the first quarter
      of fiscal 2006. We previously accounted for share-based payments to employees
      using the intrinsic value method prescribed in APB Opinion 25 and, as such,
      generally recognized no compensation cost for employee stock options. SFAS
      No. 123(R) also requires the benefits of tax deductions in excess of
      recognized compensation cost to be reported as a financing cash flow, rather
      than as an operating cash flow as required under current literature. This
      requirement will reduce net operating cash flows and increase net financing
      cash
      flows in future periods. As a result of our adoption of SFAS No. 123R in 2006,
      we recognized stock compensation expense totaling $2.0 million.





**Years
      Ended December 31, 2006 and 2005**





The
      Company’s revenues are primarily comprised of billing to clients for consulting
      hours worked on client projects. Revenues of $25.7 million for the year ended
      December 31, 2006 decreased by $1.9 million, or 7.1%, compared to revenues
      of
      $27.6 million for the year ended December 31, 2005.





Revenues
      for the Company are categorized by strategic consulting, business intelligence,
      data warehousing and data management. The chart below reflects revenue by line
      of business for the years ended December 31, 2006, 2005 and 2004.




41




For
                  the year ended December 31,2006
              
              2005
              
              2004$
              
              %
                  of total revenues
              
              $
              
              %
                  of total revenues
              
              $
              
              %
                  of total revenuesStrategic
                  Consulting
              
              
              11,811,153
              
              
              46.0
              %
              
              11,221,888
              
              
              40.6
              %
              
              8,577,625
              
              
              35.9
              %Business
                  Intelligence
              
              
              5,061,205
              
              
              19.7
              %
              
              6,184,955
              
              
              22.4
              %
              
              5,423,735
              
              
              22.7
              %Data
                  Warehousing
              
              
              6,285,363
              
              
              24.6
              %
              
              6,299,619
              
              
              22.8
              %
              
              3,990,149
              
              
              16.7
              %Data
                  Management
              
              
              2,478,348
              
              
              9.7
              %
              
              3,647,148
              
              
              13.2
              %
              
              5,590,987
              
              
              23.4
              %Software
                  & Support
              
              
              -
              
              
              -
              %
              
              -
              
              
              -
              %
              
              238,931
              
              
              1.0
              %Other
              
              
              37,988
              
              
              -
              %
              
              276,299
              
              
              1.0
              %
              
              71,679
              
              
              0.3
              %Totals
              
              
              25,674,057
              
              
              100.0
              %
              
              27,629,909
              
              
              100.0
              %
              
              23,893,106
              
              
              100.0
              %


Strategic
      Consulting





The
      strategic consulting line of business includes work related to planning and
      assessing both process and technology for clients, performing gap analysis,
      making recommendations regarding technology and business process improvements
      to
      assist clients to realize their business goals and maximize their investments
      in
      both people and technology. The Company performs strategic consulting work
      through its DeLeeuw Associates and Integrated Strategies divisions.





Strategic
      consulting revenues of $11.8 million and 46.0% of total revenues for the year
      ended December 31, 2006, increased by $0.6 million, or 5.4% points, as compared
      to revenues of $11.2 million, or 40.6% of total revenues for the comparable
      prior year period. The Company acquired Integrated Strategies (“ISI”) during
      July 2005. ISI’s revenues are entirely in the strategic consulting category of
      services. Revenues recognized by the Company relating to ISI during the full
      year 2006 of $2.9 million, increased by $1.0 million, from revenues of $1.9
      million recognized during the five months subsequent to the acquisition in
      2005.
      DeLeeuw’s largest customer, Bank of America, implemented a change in their
      business model during the beginning of 2006 which required DeLeeuw to invoice
      its vendor management organization, Sapphire Technologies, for work performed
      at
      Bank of America. As a result of this change, the hourly billing rates for many
      of the DeLeeuw consultants were reduced by approximately 8% to Bank of America
      and additional fees were charged by Sapphire Technologies. These changes reduced
      the Company’s Bank of America related revenue during 2006 by approximately $1.0
      million as compared to the prior year. Partially offsetting this decline was
      a
      $0.4 million increase in Six Sigma consulting business during 2006 at another
      DeLeeuw client.





Business
      Intelligence





The
      business intelligence line of business includes work performed with various
      applications and technologies for gathering, storing, analyzing and providing
      clients with access to data in order to allow enterprise users to make better
      and faster business decisions. This type of work is generally invoiced to
      clients on a time and materials basis.





Business
      intelligence revenues of $5.1 million were 19.7% of total revenues for the
      year
      ended December 31, 2006, decreasing by $1.1 million, or 2.7% points, as compared
      to business intelligence revenues of $6.2 million, or 22.4% of total revenues
      for the comparable prior year period. During 2006, the practice director and
      several lead consultants in the business intelligence line of business left
      the
      Company. Since the nature of the business intelligence work is relatively
      short-term project type work, the revenue base in this category temporarily
      declined, utilization of the consultants declined by approximately 9%, and
      the
      Company suffered a corresponding decline in billable hours during this
      transition period. A new practice director was appointed in December 2006 and
      is
      attempting to rebuild this line of business. Additionally, the Company reduced
      its number of business intelligence strategic partnerships to focus on the
      most
      profitable partnerships.




42





Data
      Warehousing





The
      data
      warehousing line of business includes work performed for client companies to
      provide a consolidated view of high quality enterprise information. CSI provides
      services in the data warehouse and data mart design, development and
      implementation, prepares proof of concepts, implements data warehouse solutions
      and integrates enterprise information.





Data
      warehousing revenues of $6.3 million were 24.6% of total revenues for the year
      ended December 31, 2006, remaining even with the prior year’s data warehousing
      revenues, but increasing by 1.8% points of total revenues, as compared to $6.3
      million, or 22.8% of total revenues for the year ended December 31,
      2005. **** The
      Company acquired McKnight Associates (“McKnight”) during July 2005. McKnight’s
      revenues are all attributable to the data warehousing line of business.
      McKnight’s revenues in this category during the full year 2006 of $1.0 million
      increased by $0.5 million, from revenues recognized during the five months
      subsequent to the acquisition in 2005 of $0.5 million. CSI’s data warehousing
      practice declined in revenue, during 2006, by $0.5 million. Billable hours
      declined by approximately 14.8% during 2006 as compared to the prior year.
      This
      decline was partially offset by an increase in average bill rates of
      approximately 22.2%. The decline in billable hours was primarily due to the
      loss
      of approximately six consultants at a large client during the year. This client
      hired several of the Company’s consultants and several others completed their
      projects at the client during the year.





Data
      Management





The
      data
      management line of business includes such activities as Enterprise Information
      Architecture, Metadata Management, Data Quality/Cleansing/Profiling. The Company
      performs these activities through its exclusive subcontractor agreement with
      its
      related party, LEC.





Data
      management revenues of $2.5 million were 9.7% of total revenues for the year
      ended December 31, 2006, decreasing by $1.1 million, or 3.5% points as compared
      to data management revenues of $3.6 million, or 13.2% of total revenues, for
      the
      comparable prior year period. This category of services is less profitable
      to
      the Company than the other service categories. As a result, the Company has
      not
      pursued opportunities in this category. During 2006, CSI’s only participation in
      this line of business was through its exclusive subcontractor agreement with
      its
      related party, LEC. CSI’s billable hours for consultants assigned to LEC
      projects declined in 2006, as compared to 2005, by 41.9%. This is due to a
      47%
      reduction in the number of consultants billing through LEC during the current
      year. Additionally, the Company suffered a 6.3% reduction in the average bill
      rate during 2006 as compared to 2005.





***Cost
      of revenue***





Cost
      of
      revenue includes payroll and benefit and other direct costs for the Company’s
      consultants. Cost of revenue of $19.9 million was 77.6% of total revenues for
      the year ended December 31, 2006, decreasing by $0.6 million, but increasing
      as
      a percent of total revenue by 3.3% points as compared to cost of revenue of
      $20.5 million, or 74.3% of total revenues, for the comparable prior year
      period.




43





*Services*





Cost
      of
      services of $17.6 million was 76.1% of services revenues for the year ended
      December 31, 2006, increasing by $0.3 million or 2.1% points as compared to
      cost
      of services of $17.3 million, or 74.0% of services revenue, for the comparable
      prior year period. The Company realized increased cost of services during 2006
      of $0.4 million relating to stock
      compensation charges due to the Company’s implementation of SFAS 123(R) in 2006.
      Additionally, the number of employee consultants declined by 13 people, for
      a
      reduction in payroll expense of $0.6 million, during 2006 as compared to the
      prior year, however, the number of independent contractors employed by the
      Company during 2006 increased by 10 contractors, an additional $0.8 million
      in
      independent contractor fees, as compared to the prior year. Consultant travel
      expense, primarily in the business intelligence services category, declined
      by
      $0.3 million during 2006.





*Related
      Party Services*





Cost
      of
      related party services of $2.3 million was 93.1% of related party services
      revenues for the year ended December 31, 2006, decreasing $0.9 million, but
      increasing 6.9% points as compared to cost of related party services of $3.2
      million, or 86.2% of related party services revenues, for the comparable prior
      year period. **** The
      decline in the absolute dollars corresponds to the reduction in related party
      service revenues, however, the 6.9% point increase in related party cost of
      revenues as a percentage of related party revenues is due to both a 7.9% average
      pay increase during 2006 and the hiring of independent contractors to replace
      employee consultants that left the Company. The independent contractors have
      a
      higher pay rate than the employees, however, the bill rate was not increased
      enough to maintain the margin percentage.





***Gross
      profit***





Gross
      profit of $5.7 million or 22.4% of total revenues for the year ended December
      31, 2006, decreased by $1.4 million or 3.3% points as compared to gross profit
      of $7.1 million or 25.7% of total revenues for the comparable prior year
      period.





*Services*





Gross
      profit from services of $5.5 million or 23.9% of services revenues for the
      year
      ended December 31, 2006, decreased by $0.5 million or 2.1% points as compared
      to
      gross profit from services of $6.1 million, or 26.0% of services revenues,
      for
      the comparable prior year period. This decrease has been outlined previously
      in
      the revenues and cost of revenue discussions.




44





*Related
      Party Services*





Gross
      profit from related party services of $0.2 million or 6.9% of related party
      services revenues, decreased by $0.3 million or 6.9% points as compared to
      gross
      profit from related party services of $0.5 million, or 13.8% of related party
      services revenues, for the comparable prior year period. This decrease has
      been
      outlined previously in the revenues and cost of revenue
      discussions.




***Selling
      and marketing***




Selling
      and marketing expenses include payroll, employee benefits and other
      headcount-related costs associated with sales and marketing personnel and
      advertising, promotions, tradeshows, seminars and other programs.  Selling
      and marketing expenses of
      $5.1
      million, or 19.8% of revenue for the year ended December 31, 2006, increased
      by
      $0.6 million, or 3.4% points of total revenue, as compared to $4.5 million,
      or
      16.4% of total revenue, for the year ended December 31, 2005. The $0.6 million
      increase in selling and marketing expense is primarily due to $1.0
      million of stock compensation charges resulting from the Company’s
      implementation of SFAS 123(R) in 2006 . This
      increase was partially offset by a $0.1 million reduction in payroll expense
      due
      to a reduction in sales and marketing headcount and reduced revenues during
      the
      current period. Additionally, advertising expense declined by an aggregate
      of
      $0.3 million due to a reduction in trade shows attended and industry activities
      during the current year as the Company attempted to reduce discretionary
      costs.





***General
      and administrative***




General
      and administrative costs include payroll, employee benefits and other
      headcount-related costs associated with the finance, legal, facilities, certain
      human resources and other administrative headcount, and legal and other
      professional and administrative fees . General
      and administrative costs of $5.5 million or 21.2% of revenue for the year ended
      December 31, 2006, decreased by $0.9 million or 2.0% points of total revenues
      as
      compared to $6.4 million, or 23.2% of total revenues for the year ended December
      31, 2005. The
      $0.9
      million decrease in general and administrative expense is primarily due to
      $0.6
      million of reduced payroll cost both due to the reclassification of a company
      executive from general and administrative to selling and marketing in July
      2005
      and to reduced headcount during the current year, a $0.4 million overall
      reduction in accounting, legal and professional fees during the current year
      due
      to reduced transaction and consulting related costs, a $0.1 million reduction
      in
      bad debt expense, and $0.1 million of various other reductions. These reductions
      were partially offset by a $0.1 million increase in stock compensation expense
      recorded in the current period resulting from the Company’s implementation of
      SFAS 123(R) in 2006, and $0.2 million of increased business licenses, taxes
      and
      AMEX stock exchange related fees in the current period.





***Goodwill
      and intangibles impairment***





Goodwill
      impairment of $0.3 million for the year ended December 31, 2006 resulted
      primarily from an unfavorable change with respect to the economics of the
      Integrated Strategies business. An impairment of the Integrated Strategies
      goodwill of $0.3 million was recorded during 2006. Additionally, the Company
      determined that, due to a change in the Company’s marketing and positioning of
      the Scosys business, the $20,000 intangible for the rights to use the Scosys
      name has been impaired and recorded a charge during 2006. Statement of Financial
      Accounting Standards No. 142 (“SFAS No. 142”), *“Goodwill
      and Other Intangible Assets”* ,
      instructs the Company to test intangible assets for impairment annually, or
      more
      frequently if events or changes in circumstances indicate that the asset might
      be impaired. Goodwill and intangibles impairment of $1.3 million for the year
      ended December 31, 2005 resulted from the Company’s annual impairment review for
      the ISI and McKnight Associates acquisitions which occurred in 2005.




45





***Depreciation
      and amortization***




Depreciation
      expense is recorded on the Company’s property and equipment, which is generally
      depreciated over a period between three to seven years. Amortization of
      leasehold improvements is taken over the shorter of the estimated useful life
      of
      the asset or the remaining term of the lease. The Company amortizes deferred
      financing costs utilizing the effective interest method over the term of the
      related debt instrument. Acquired software is amortized on a straight-line
      basis
      over an estimated useful life of three years. Acquired contracts are amortized
      over a period of time that approximates the estimated life of the contracts,
      based upon the estimated annual cash flows obtained from those contracts,
      generally five to six years. **** Depreciation
      and amortization expenses were $0.8 million for the year ended December 31,
      2006, decreasing by $0.1 million as compared to $0.9 million for the year ended
      December 31, 2005. Amortization expense decreased by $0.3 million during 2006
      due to the reduction in deferred financing costs resulting from the
      restructuring of the Company’s line of credit. However, amortization expense
      increased in 2006 by $0.2 million due to the recording of a full year of
      amortization expense on the McKnight intangible assets in the current year
      versus only five months of amortization in the prior year.





***Other
      income (expense)***




In
      February 2006, the Company restructured its debt with Laurus. This restructuring
      was treated, for accounting purposes, as an early extinguishment of debt. A
      loss
      of $2,040,837 was recognized on this extinguishment. Additionally, due to
      issuances of warrants to Taurus in February and March 2006 relating to the
      $1.0
      million short term loan obtained in December 2005, the Company had an early
      extinguishment of this debt in both February and March 2006. The Company
      recorded an aggregate $270,642 loss on these two early extinguishments of debt.
      For the year ended December 31, 2005, the Company recorded a $1,607,763 loss
      on
      early extinguishment of debt as the result of recording early extinguishments
      of
      the Laurus debt in July and November 2005.





During
      the year ended December 31, 2006, the Company recognized a $0.4 million loss
      on
      the revaluation of its Compound Embedded Derivative Liabilities and on the
      revaluation of its freestanding derivative financial instruments relating to
      its
      warrants. During the year ended December 31, 2005, the Company recorded a $7.8
      million gain on the revaluation of its Compound Embedded Derivative Liabilities
      and on the revaluation of its freestanding derivative financial instruments
      relating to its warrants.




46




Interest
      expense, which includes amortization of the discount on debt of $1.3 million
      and
      $2.8 million for the years ended December 31, 2006 and 2005, respectively,
      was
      $3.1 million and $4.2 million for the years ended December 31, 2006 and 2005,
      respectively. The reduction in interest expense in the current year was
      primarily due to the reduction in the amortization of the discount on debt.
      The
      amortization of the discount on debt was reduced due to early extinguishments
      of
      the related Laurus debt.





These
      reductions were offset by $0.1 million of increased interest on short term
      notes
      as compared to the prior year.  Included
      as a component of the interest expense for the year ended December 31, 2006
      is a
      $0.5 million increase of expense related to amortization of relative fair value
      on Taurus warrants.





***Income
      Taxes***




The
      Company evaluates the amount of deferred tax assets that are recorded against
      expected taxable income over its forecasting cycle which is currently two years.
      As a result of this evaluation, the Company has recorded a valuation allowance
      of $12.4 million and $9.5 million during the years ended December 31, 2006
      and
      2005, respectively. This allowance was recorded because, based on the weight
      of
      available information, it is more likely than not that some, or all, of the
      deferred tax asset may not be realized.





**Years
      Ended December 31, 2005 and 2004**





***Revenue***





The
      Company’s revenues are primarily comprised of billings to clients for consulting
      hours worked on client projects. Revenues for the year ended December 31, 2005
      were $27.6 million, an increase of $3.7 million, or 15.6%, as compared to
      revenues of $23.9 million for the year ended December 31, 2004.





Strategic
      Consulting




The
      strategic consulting line of business includes work related to planning and
      assessing both process and technology for clients, performing gap analysis,
      making recommendations regarding technology and business process improvements
      to
      assist clients to realize their business goals and maximize their investments
      in
      both people and technology. The Company performs strategic consulting work
      through its DeLeeuw Associates and Integrated Strategies (beginning in July
      2005) divisions.





Strategic
      consulting revenues of $11.2 million were 40.6% of total revenues for the year
      ended December 31, 2005, increasing by $2.6 million or 4.7% points as compared
      to $8.6 million or 35.9% of total revenues for the comparable prior year period.
      During March 2004, the Company acquired DeLeeuw Associates, whose revenue base
      is entirely in the strategic consulting category of services. In July 2005,
      the
      Company acquired Integrated Strategies, Inc. (ISI), whose revenue base is also
      entirely in the strategic consulting category of services. DeLeeuw and ISI
      account for all of the Company’s strategic consulting revenues. For the year
      ended December 31, 2005, DeLeeuw revenues were $9.3 million, as compared to
      $5.5
      million year ended December 31, 2004, representing an increase of $3.8 million.
      The increase is mostly attributable to the increase in revenues at **** DeLeeuw’s
      largest client, which represented a $3.5 million increase in billings for the
      year ended December 31, 2005 and the addition of a new client that produced
      $0.7
      million in revenues for that period. ISI’s revenues were $1.9 million for the
      year ended December 31, 2005.




47





The
      DeLeeuw Associates acquisition in 2004 and the ISI acquisition in 2005 increased
      the Company’s revenue base and, as a result, the percentage of revenues
      contributed by each of the other services categories was impacted by the
      increased overall revenues in the strategic consulting category.





Business
      Intelligence





The
      business intelligence line of business includes work performed with various
      applications and technologies for gathering, storing, analyzing and providing
      clients with access to data in order to allow enterprise users to make better
      and faster business decisions. This type of work is generally invoiced to
      clients on a time and materials basis.





Business
      intelligence service revenues of $6.2 million were 22.4% of total revenues
      for
      the year ended December 31, 2005, increasing by $0.8 million, but decreasing
      by
      0.3% points as a percentage of total revenues as compared to $5.4 million or
      22.7% of total revenues for the comparable prior year period. On an absolute
      dollar basis, business intelligence revenues increased by $0.8 million for
      the
      year ended December 31, 2005 from $5.4 million for the year ended December
      31,
      2004 to $6.2 million for the year ended December 31, 2005. This increase is
      primarily attributable to an increase in average billing rates of 19.2% for
      the
      year ended December 31, 2005 versus the prior period, though it is partially
      offset by a 12.0% decrease in billable hours for this line of business. The
      increase in billing rates is attributable to the utilization of higher skilled
      consultants, while the decrease in billable hours is attributable to the
      reduction in the number of consultants utilized. The average number of
      consultants utilized for the year ended December 31, 2005 decreased by 10.9%
      as
      compared to the prior year.





Data
      Warehousing





The
      data
      warehousing line of business includes work performed for client companies to
      provide a consolidated view of high quality enterprise information. CSI provides
      services in the data warehouse and data mart design, development and
      implementation, prepares proof of concepts, implements data warehouse solutions
      and integrates enterprise information.





Data
      warehousing revenues of $6.3 million were 22.8% of total revenues for the year
      ended December 31, 2005, increasing by $2.3 million or 6.1% points as compared
      to $4.0 million or 16.7% of total revenues for the comparable prior year period.
      On an absolute dollar basis, data warehousing revenues increased by $2.3 million
      for the year ended December 31, 2005, primarily attributable to $0.5 million
      of
      revenues from McKnight Associates, and a 48.7% increase in total hours billed
      in
      this line of business in CSI for the period versus the same period in the prior
      year, though it is partially offset by a 13.2% decrease in billable rates for
      this line of business. The increase in billable hours is attributable to an
      increase in number of consultants utilized, which includes McKnight’s
      contribution of hours. The decrease in billable rates is primarily attributable
      to a reduction of higher-skilled consultants utilized by the Company. The
      average number of consultants utilized for the year ended December 31, 2005
      increased by 57.1% as compared to the prior year.




48





Data
      Management





The
      data
      management line of business includes such activities as Enterprise Information
      Architecture, Metadata Management, Data Quality/Cleansing/Profiling. During
      2005, the Company performed these activities through its exclusive subcontractor
      agreement with its related party, LEC. During 2004, CSI performed a portion
      of
      this work through LEC and performed some work directly.





Data
      management revenues were $3.6 million, or 13.2% of total revenues, for the
      year
      ended December 31, 2005, decreasing by $2.0 million, or 10.2% points as compared
      to $5.6 million, or 23.4% of total revenues, for the comparable prior year
      period. Related party revenues were $3.6 million for the year ended December
      31,
      2005, declining by $0.2 million as compared to $3.8 million for the year ended
      December 31, 2004. This decline is primarily attributable to a 16.5% reduction
      in billable hours for the current year, which was partially offset by an 11.6%
      increase in average bill rates. The decline in billable hours is due to a
      reduction in the number of consultants required by LEC to service its business
      during 2005. This category of services is less profitable to the Company than
      the other service categories and, as a result, is being de-emphasized and the
      Company’s resources are being focused on the more profitable service categories.





***Cost
      of revenue***




Cost
      of
      revenue primarily includes payroll and benefits costs for the Company’s
      consultants.   Cost of revenue was $20.5 million, or 74.3% of revenue,
      for the year ended December 31, 2005, compared to $18.8 **** million,
      or 78.9% of total revenue, for the year ended December 31, 2004, representing
      an
      increase of $1.7 million, or 8.9% as compared to the prior year. Cost
      of
      revenue for the year ended December 31, 2004 included a $1.4 million charge
      for
      stock based compensation. The cost of revenue would have been $17.4 million
      had
      this charge not occurred, or 73.0% of cost of revenue. The cost of revenue
      would
      have increased by 1.3% for the year ended December 31, 2005 compared to the
      year
      ended December 31, 2004.





*Services*





Cost
      of
      services was $17.3 million, or 74.0% of services revenue, for the year ended
      December 31, 2005, compared to $15.4 million, or 77.8% of services revenue,
      for
      the year ended December 31, 2004, representing an increase of $1.9 million,
      or
      12.7%. DeLeeuw Associates generated a $2.4 million increase in cost of services,
      directly associated with its increase in revenues in this category, for the
      year
      ended December 31, 2005 as compared to the 10 month period subsequent to the
      acquisition of DeLeeuw Associates in the prior year. ISI and McKnight
      contributed a cost of services of $1.5 million and $0.4 million in 2005.
      Partially  offsetting
      this increase was a reduction in cost of services of  $0.5
      million resulting from a  25.7%
      decrease in billable hours due to a  19.0%
      reduction in the number of consultants on billing and a  22.0%
      increase in the average pay rates for consultants. This shift reflects the
      higher skilled consultants employed in the categories of strategic consulting
      and data warehousing, whose revenues increase as a percentage of revenues as
      compared to the lower skilled consultants required in the shrinking category
      of
      data management.




49





*Related
      party services*





Cost
      of related
      party ** services
      was $3.2 million, or 86.2% of related party services revenue, for the year
      ended
      December 31, 2005, compared to $3.3 million, or 87.2% of related party services
      revenue, for the year ended December 31, 2004, respectively. The decreased
      cost
      as a percentage of related party services revenue is due to a 16.5% decrease
      in
      hours offset by an 18.2% increase in average pay rate. The decrease in billable
      hours is attributable to a reduction in the number of consultants utilized,
      while the increase in average pay reflects a reduction in the use of lower
      skilled consultants, resulting in an average higher pay rate.





***Gross
      Profit***




Gross
      profit of $7.1 million, or 25.7% of total revenue, for the year ended December
      31 ,
      2005,
      increased by $2.1 million or 4.6% points as compared to $5.0 million, or 21.1%
      of total revenue, for the year ended December
      31 ,
      2004.  Gross profit for the year ended December 31, 2004 included a $1.4
      million charge for stock based compensation. The gross profit would have been
      27.0% had this charge not occurred, in which case gross profit would have
      decreased by 1.3% points for the year ended December 31, 2005 compared to the
      year ended December 31, 2004.




As
      a
      percentage of total gross profit for the years ended December
      31 ,
      2005
      and 2004, respectively, services contributed 85.6%  and
      87.0%
      (89.8% if the charge for stock-based compensation had not occurred),
      respectively, related party services contributed 7.3% and 9.7% (7.6% if the
      charge for stock-based compensation had not occurred), respectively, and other,
      including software, support and maintenance contributed 7.1% and 3.3% (2.6%
      if
      the charge for stock-based compensation had not occurred), respectively.





*Services*




Gross
      profit from services of
      $6.1
      million, or 26.0% of services revenue, for the year ended December 31, 2005,
      increased by $1.7 million or 3.8% points as compared to $4.4 million, or 22.2%
      services revenue, for the year ended December 31, 2004, respectively. Gross
      profit from services for the year ended December 31, 2004 included a $1.4
      million charge for stock based compensation. The gross profit from services
      would have been $5.8 million or 29.3% for the year ended December 31, 2004
      had
      this charge not occurred, or an increase instead of $0.3 million from the year
      ended December 31, 2005 compared to the year ended December 31, 2004. This
      change in gross profit from services as compared to the prior year has been
      outlined previously in the revenues and cost of revenues analysis.




50





*Related
      party services*





Gross
      profit from related party services was $0.5 million,  or
      13.8%
      of related party services revenue, for the year ended December 31, 2005,
      representing no change in gross profit but increasing by 1.0% points of related
      party services revenue as compared to $0.5 million, or 12.8% of related party
      services revenue, for the year ended December 31, 2004,
      respectively.  Gross
      profit was flat due to  a
      11.6%
      increase in billable rates, which was impacted by an 18.2% increase in average
      pay rate, as well as a 16.5% reduction in billable hours.




***Selling
      and marketing***




Selling
      and marketing expenses include payroll, employee benefits and other
      headcount-related costs associated with sales and marketing personnel and
      advertising, promotions, tradeshows, seminars and other programs.  Selling
      and marketing expenses were $4.5 million, or 16.4% of revenue for the year
      ended
      December 31, 2005, compared to $3.2 million, or 13.4% of revenue for the year
      ended December 31, 2004, representing an increase of $1.3 million, or 3.0%
      points of revenue, as compared to the prior year.  $0.7
      million of this increase relates to increased payroll expense, of which $0.4
      million relates to the reclassification of a senior executive of the Company
      from general and administrative expense to sales and marketing expense and
      $0.3
      million of the increase relates to increases in salaries and commissions.
      Additionally, $0.2 million of the increase relates to increased advertising,
      public relations and trade show expense during the year as the Company has
      continued to increase its visibility in the industry and the marketplace, $0.2
      million relates to the acquisition of ISI in 2005, and the remaining $0.2
      million primarily relates to increased professional fees, travel and
      subscriptions.




***General
      and administrative***




General
      and administrative costs include payroll, employee benefits and other
      headcount-related costs associated with the finance, legal, facilities, certain
      human resources and other administrative headcount, and legal and other
      professional and administrative fees.  General and administrative costs
      were $6.4 million, or 23.2% of revenue for the year ended December 31, 2005
      compared to $6.1 million, or 25.5% of revenue for the year ended December 31,
      2004, representing an increase of $0.3 million, or 2.3% points of revenues,
      as
      compared to the prior year. General
      and administrative expense increased by $0.4 million as a result of the ISI
      and
      McKnight Associates acquisitions that occurred during 2005. Additionally, the
      Company recorded charges of $0.5 million in 2005 due to issuances of stock
      at
      below market prices, professional fees and insurance expense increased by $0.2
      million, and other expenses increased by $0.1 million. These increases were
      partially offset by a $0.2 million reduction in bad debt expense, a $0.3 million
      reduction in current year expense due to costs associated with the addition
      of
      certain employees of Software Forces and the LCS reverse merger in 2004 that
      did
      not recur in 2005, and $0.4 million reduction due to the reclassification of
      a
      senior executive of the Company.





***Goodwill
      and intangibles impairment***





Impairment
      of goodwill of $1.3 million for the year ended December 31, 2005 resulted from
      the Company’s annual impairment review of the goodwill for the ISI and McKnight
      Associates acquisitions which occurred in 2005. Statement of Financial
      Accounting Standards No. 142 (“SFAS No. 142”), *“Goodwill
      and Other Intangible Assets”* ,
      instructs the Company to test intangible assets for impairment annually, or
      more
      frequently if events or changes in circumstances indicate that the asset might
      be impaired. There were no specific events or changes in circumstances in either
      of the two acquired companies that would have required an interim impairment
      charge. The Company performed its annual impairment review as of December 31,
      2005 and determined that a goodwill impairment charge of $0.8 million was
      required relating to the goodwill associated with the ISI acquisition and $0.5
      million related to the goodwill associated with the McKnight Associates
      acquisition. The $12.2 million impairment charge for the year ended December
      31,
      2004 resulted from an $11.5 million impairment of the DeLeeuw Associates
      goodwill and a $0.7 million impairment of goodwill recorded for other Company
      assets.




51





***Depreciation
      and amortization***




Depreciation
      expense is recorded on the Company’s property and equipment which is generally
      depreciated over a period between three to seven years. Amortization of
      leasehold improvements is taken over the shorter of the estimated useful life
      of
      the asset or the remaining term of the lease. The Company amortizes deferred
      financing costs utilizing the effective interest method over the term of the
      related debt instrument. Acquired software is amortized on a straight-line
      basis
      over an estimated useful life of three years. Acquired contracts are amortized
      over a period of time that approximates the estimated life of the contracts,
      based upon the estimated annual cash flows obtained from those contracts,
      generally five to six years.   Depreciation and amortization expenses
      were $0.9 million for the year ended December 31, 2005 compared to
      $0.5
      million for the year ended December 31, 2004, representing an increase of $0.4
      million as compared to the prior year. $0.2 million of this increase relates
      to
      amortization of intangibles associated with the McKnight Associates acquisition
      which occurred in 2005. The remaining $0.2 million increase relates to the
      amortization of the deferred financing costs being amortized for a full year
      in
      2005 as opposed to four months in 2004.





***Interest
      Expense***





The
      Company incurs interest expense on loans from financial institutions, from
      capital lease obligations related to the acquisition of equipment used in its
      business, and on outstanding convertible line of credit notes. Amortization
      of
      the discount on debt issued of $2.8 million and $0.9 million for the years
      ended
      December 31, 2005 and 2004, respectively, is also recorded as interest expense.
      In 2004, a $1.2 million charge for a beneficial conversion feature was also
      recorded as interest expense. Interest expense recorded was $4.2 million for
      the
      year ended December 31, 2005 compared to $5.0 million for the year ended
      December 31, 2004. This increase is primarily related to the Laurus, Sands
      and
      Taurus financing transactions described below in the Liquidity and Capital
      Resources section.





***Other
      income (expense)***





The
      Company recorded interest income of $69,000 and no other income for the year
      ended December 31, 2005, compared to interest income of $22,000 and other income
      of $7,300 for the year ended December 31, 2004. The
      Company recorded equity income in its investments in DeLeeuw International
      (Turkey) and Leading Edge Communications Corporation of approximately $5,000
      for
      the year ended December 31, 2005 and $6,000 for the year ended December 31,
      2004.




52





The
      Company adjusts the fair value of its financial instruments relating to its
      warrant and embedded derivative liabilities each quarter and records a gain
      or
      loss on the instruments. During the year ended December 31, 2005, the Company
      recorded a $7.8 million gain on the financial instruments and during the year
      ended December 31, 2004, the Company recorded a $0.5 million loss on the
      financial instruments. For
      accounting purposes, the Company recorded the renegotiation of the Laurus debt
      instruments in July 2005 and November 2005 as early extinguishments of debt
      and
      recorded the remaining discount and liability to gain or loss on the early
      extinguishments of debt. See
      Footnote 10 **** of
      the
      Notes to the Consolidated Financial Statements for further
      discussion.




***Income
      Taxes***




The
      Company evaluates the amount of deferred tax assets that are recorded against
      expected taxable income over its forecasting cycle which is currently two years.
      As a result of this evaluation, the Company has recorded a valuation allowance
      of $9.5 million and $7.7 million during the years ended December 31, 2005 and
      2004, respectively. This allowance was recorded because, based on the weight
      of
      available information, it is more likely than not that some, or all, of the
      deferred tax asset may not be realized.





**LIQUIDITY
      AND CAPITAL RESOURCES**





The
      Company has relied upon cash from its financing activities to fund its ongoing
      operations as it has not been able to generate sufficient cash from its
      operating activities in the past, and there is no assurance that it will be
      able
      to do so in the future. The Company has incurred net losses and negative cash
      flows from operating activities for the years ended December 31, 2006, 2005
      and
      2004, and had an accumulated deficit of ($51.0 million) at December 31, 2006.
      Due to this history of losses and operating cash consumption, we cannot predict
      how long we will continue to incur further losses or whether we will become
      profitable again, or if the Company’s business will improve. These factors raise
      substantial doubt as to our ability to continue as a going concern.





The
      Company has experienced continued losses that exceeded expectations from 2004
      through 2006. To that extent, the Company has continued to experience negative
      cash flow which has perpetuated the Company’s liquidity issues. To address the
      liquidity issue, the Company entered into various debt instruments between
      August 2004 and December 2006 and, as of December 31, 2006 had approximately
      $11.2 million of debt outstanding in addition to an aggregate of $3.9 million
      of
      Series A and Series B Convertible Preferred Stock which was issued in 2006.
      Additionally, the Company raised $0.75 million through the sale of common stock
      in the Company during 2006.




53





Financing
      transactions effectuated in 2006, and through March 27, 2007, are as
      follows:





*Taurus*





In
      February 2006, we entered into a Securities Purchase Agreement with investors
      represented by Taurus, pursuant to which we issued 19,000 shares of our
      newly created Series A Convertible Preferred Stock, $.001 par value (the “Series
      A Preferred”). Each share of Series A Preferred has a stated value of $100.00.
      We received proceeds of $1,900,000.  The
      Series A Preferred has a cumulative annual dividend equal to five percent (5%),
      which is payable semi-annually  in cash or common stock, at our election,
      and is convertible into shares of the Company’s common stock at any time at a
      price equal to $0.50 per share (subject to adjustment). In addition, the Series
      A Preferred has no voting rights, but has liquidation preferences and certain
      other privileges. All shares of Series A Preferred not previously converted
      shall be redeemed by the Company, in cash or common stock, at the election
      of
      the Taurus investors, on February 1, 2011. Pursuant to the Securities Purchase
      Agreement, the Taurus investors were also granted a warrant to purchase
      1,900,000 shares of our common stock exercisable at a price of $0.60 per share
      (subject to adjustment), exercisable for a period of five years.





In
      August
      2006, we entered into a Stock Purchase Agreement with an investor represented
      by
      Taurus, pursuant to which we issued 20,000 shares of our newly created
      Series B Convertible Preferred Stock, $.001 par value (the “Series B
      Preferred”). Each share of Series B Preferred has a stated value of $100.00. We
      received proceeds of $2,000,000. The Series B Preferred has a cumulative annual
      dividend equal to the Prime Rate plus one percent (1%), which is payable
      monthly in cash or common stock, at our election, and is convertible into
      shares of our common stock at any time at a price equal to the lower of (1)
      $0.85 or (2) the average daily volume weighted market price for the five
      consecutive trading days immediately prior to the date for which such price
      is
      determined, with a minimum price of $0.50. In addition, the Series B Preferred
      has no voting rights, but has liquidation preferences and certain other
      privileges. Pursuant to the Stock Purchase Agreement, warrants to purchase
      1,276,471 shares of our common stock were issued, exercisable
      at a price of $0.94 per share (subject to adjustment), and exercisable for
      a period of five years.




In
      December 2006, we entered into a Stock Purchase Agreement with certain investors
      pursuant to which we issued 3,000,000 shares of our common stock, and we
      received proceeds of $750,000. T he
      investors were
      also
      granted a warrant to purchase 1,500,000 shares of our common stock, exercisable
      at a price of $0.30 per share (subject to adjustment).  The warrant is
      exercisable for a period of five years.




In
      March
      2007, we issued a 10% Convertible Unsecured Note to certain investors
      represented by TAG Virgin
      Islands, Inc .
      for
      $4,000,000.  The 10% Convertible Unsecured Note will automatically convert
      into 13,333,333 shares of our common stock, upon the effectiveness of the
      Information Statement on Schedule 14C, filed with the SEC on March 8, 2007.
       T he
      investors were
      also
      granted a warrant to purchase 13,333,333 shares of our common stock, exercisable
      at a price of $0.33 per share (subject to adjustment).   The warrant
      is exercisable for a period of five years. The
      note
      was subsequently amended in March 2007 to $4.25 million and the number of shares
      of common stock that the note will convert into was increased to 14,166,667
      shares of our common stock. Additionally, the warrant was also amended to
      entitle the investor to purchase 14,166,667 shares of our common stock,
      exercisable at a price of $0.33 per share (subject to adjustment). The warrant
      is exercisable for a period of five years.




54





*Laurus*





In
      August
      2004, we replaced our $3.0 million line of credit with North Fork Bank with
      a
      revolving line of credit with Laurus Master Fund, Ltd. (“Laurus”). These
      agreements were renegotiated several times between August 2004 and December
      2005.





On
      February 1, 2006, the Company restructured its financing with Laurus again
      by
      entering into financing agreements with Laurus, pursuant to which it, among
      other things, (a) issued a secured non-convertible term note in the principal
      amount of $1.0 million to Laurus (the “Term Note”), (b) issued a secured
      non-convertible revolving note in the principal amount of $10.0 million to
      Laurus (the “Revolving Note”, collectively with the Term Note, the “Notes”), and
      (c) issued an option to purchase up to 3,080,000 shares of the Company's common
      stock to Laurus (the “Option”) at an exercise price of $.001 per share. Laurus
      exercised a portion of this option in 2006 when they purchased 1,580,000 shares
      of the Company’s common stock. An option to purchase 1,500,000 shares remains
      outstanding as of December 31, 2006. The proceeds from the issuance of the
      Notes
      were used to refinance the Company’s outstanding obligations under the existing
      facility with Laurus (originally entered into in August 2004 and subsequently
      amended in July 2005) at a 5% premium. Amounts due under the Revolving Note
      as
      of February 1, 2006 included $3,101,084 which was loaned to the Company under
      an
      Overadvance Side Letter. The Notes bear an annual interest rate of prime (as
      reported in the Wall Street Journal, which was 7.25% as of January 31, 2006)
      plus 1.0%, with a floor of 5.0%. Payments of principal and interest were to
      be
      made in equal monthly amounts until maturity of both notes on December 31,
      2007.





In
      March
      2007, we repaid in full the Overadvance Side Letter, dated as of February 1,
      2006, with a cash payment of $2,601,084 and the issuance of a warrant to
      purchase 1,785,714 shares of Common Stock at an exercise price of $0.01 (after
      making the first two payments in February 2007, we were to pay Laurus
      approximately $258,424 per month until the aggregate principal amount of
      $3,101,084 was paid in full by December 31, 2007).  Further, we satisfied
      in full the outstanding amount on the Term Note with a cash payment of
      approximately $409,722.




*Laidlaw/Sands*





In
      September 2004, the Company borrowed an aggregate of $1.0 million, due in one
      year and bearing interest at 8% per annum, from three affiliates of Sands
      Brothers Venture Capital (“Sands”). Upon maturity of the notes in September
      2005, the Company executed an amended note with these affiliates of Sands for
      an
      aggregate principal amount of $1.08 million, due in January 2007 and bearing
      interest at 12% per annum.





Between
      January and March 2007, we executed several extension agreements with Sands
      to
      repay the amended subordinated secured convertible promissory notes, in which
      we
      agreed to pay $1.05 million cash, as well as issue shares of Common Stock and
      warrants to purchase Common Stock, on four separate payment dates of April
      2,
      2007, July 2, 2007, October 1, 2007 and December 31, 2007.  We paid Sands a
      total of $0.65 million between February and March 2007. The remaining $0.4
      million is due to be paid between October and December 2007.




55





As
      of
      December 31, 2006, the Company’s debt level required interest and dividends of
      approximately $104,000 per month. Approximately, $4.9 million of debt
      instruments mature on or before December 31, 2007. Additionally, the Company’s
      line of credit expires on December 31, 2007 and $1.5 million of short term
      notes
      are currently being extended on a month-to-month basis.





In
      order
      to fund these maturities, the Company obtained $4.25 million in new financing
      in
      March 2007 and repaid both the Laurus overadvance and the Laurus term note,
      in
      full, through a combination of a $3.1 million cash payment and $0.5 million
      in a
      warrant to purchase common stock. Additionally, a $0.6 million cash payment
      was
      paid to Sands. A final cash payment of $0.4 million and additional common stock
      and warrants is to be made in the fourth quarter of 2007 to satisfy this
      obligation in full.





The
      $4.25
      million of new financing was in the form of a promissory note bearing a 10%
      annual interest rate and a maturity date of August 31, 2007, which will
      automatically convert to common stock at such time as the Company has authorized
      shares sufficient to complete the transaction. This is expected to occur in
      April 2007. As a result, the Company expects to incur approximately $60,000
      of
      interest under this note prior to conversion to equity. Subsequent to this
      instrument being converted to equity, the Company’s monthly debt service
      obligation is expected to decline to approximately $68,000 per month, of which
      $23,000 will continue to be paid in Company common stock and the remaining
      $45,000 will require monthly interest payments.





Cash
      totaled $0.7 million as of December 31, 2006, compared to $0.2 million as of
      December 31, 2005. The Company’s cash balance is primarily derived from customer
      remittances, bank borrowings and acquired cash and is used for general working
      capital needs.





The
      Company’s working capital deficit is ($6.3 million) as of December 31, 2006
      compared to ($7.6 million) **** as
      of
      December 31, 2005. The Company’s working capital position has improved during
      the current year primarily due to proceeds received from the sale of equity
      securities and a significant reduction in the financial instruments liability
      during the current year. However, the losses generated by the Company during
      the
      current year have resulted in the need for $1.0 million of additional borrowings
      against the Company’s line of credit and $3.9 million raised through the sale of
      Series A and Series B preferred stock. Additionally, a $1.08 million note due
      January 1, 2007 was reclassified from long term to current liabilities during
      the year.





Cash
      used
      in operating activities during the year ended December 31, 2006 was $4.8
      million, an increase in cash used in operating activities of $1.2 million from
      $3.6 million for the year ended December 31, 2005.  Cash used in operating
      activities primarily relates to a $3.8 million “cash-based” loss from operating
      activities, as determined by adding the non-cash charges incurred of $7.9
      million to the reported loss from continuing operations of $11.7 million for
      the
      year ended December 31, 2006, a $0.5 million increase in accounts receivable
      due
      primarily to the shift to the vendor management organization for the work that
      was previously paid directly by Bank of America, a $0.2 million decrease in
      the
      related party receivables due to the declining business, a $0.6 million decrease
      in accounts payable and accrued expenses during the year largely due to a $0.3
      million payment to William McKnight during 2006 as part of the acquisition
      agreement and reductions in trade accounts payable, a $0.2 million increase
      in
      the allowance for doubtful accounts due to the increased age of the open
      accounts receivable, and $0.1 million of various other declines.




56





Cash
      provided by investing activities of $2.05 million during 2006 relates to a
      settlement payment received from Similarity Systems relating to the sale of
      Evoke Software to Similarity Systems in July 2005. Cash used by investing
      activities was $2.5 million during 2005.  This was due to $3.1 million of
      acquisition payments for Integrated Strategies and McKnight Associates,
      partially offset by $0.6 million received from the sale of Evoke
      Software.





Cash
      provided by financing activities was $3.2 million during the year ended December
      31, 2006.  During 2006, $3.9 million was raised from the issuance Series A
      and Series B preferred stock, $0.5 million from the issuance of a short term
      note payable, $0.75 million from the sale of Company common stock, $0.4 million
      in proceeds from the issuance of a long term note payable, and $0.8 million
      in
      additional borrowings from the line of credit. However, $1.8 million was paid
      by
      the Company to acquire treasury stock, $0.6 million was repaid to related
      related parties, $0.5 million of principal was repaid on long term debt, the
      Company incurred $0.1 million in financing costs and $0.1 million was paid
      on
      capital lease obligations.





There
      are
      currently no material commitments for capital expenditures.





The
      Sarbanes-Oxley Act of 2002 requires the Company’s management to provide its
      assessment of internal controls for the year ended December 31, 2007. As a
      result, the Company expects to incur costs, in 2007, of approximately $0.2
      million in order to provide its assessment of controls surrounding financial
      reporting and disclosure in order to comply with this requirement.





As
      of
      December 31, 2006 and 2005, the Company had accounts receivable due from LEC
      of
      approximately $0.3 million and $0.6 million, respectively. There are no known
      collections problems with LEC.





For
      the
      years ended December 31, 2006 and 2005, we invoiced LEC $2.5 million and $3.7
      million, respectively, for the services of consultants subcontracted to LEC
      by
      us. The majority of its billing is derived from Fortune 100 clients.  The
      collection process is slow, as these clients require separate approval on their
      own internal systems, which extends the payment cycle.




On
      January 29, 2007, the Company announced that it received notice from the Staff
      of the American Stock Exchange indicating that the Company no longer complies
      with the Exchange's continued listing standards due to the Company's inability
      to maintain compliance with certain AMEX continued listing requirements, as
      set
      forth in Sections 1003(a)(i), 1003(a)(ii) and 1003(a)(iv) of the AMEX Company
      Guide and its plan of compliance submitted in July 2006, and that its securities
      are subject to be delisted from the Exchange. The Company received notice on
      June 29, 2006, from the Staff indicating that the Company was below certain
      of
      the Exchange's continued listing standards. The Company was afforded the
      opportunity to submit a plan of compliance to the Exchange; and on July 31,
      2006, the Company presented its plan to the Exchange. On September 26, 2006,
      the
      Exchange notified the Company that it accepted the Company's plan of compliance
      and granted the Company an extension until December 28, 2007, to regain
      compliance with the continued listing standards.




57




The
      Company has filed an appeal of this determination and has a hearing before
      a
      committee of AMEX planned for April 2007. Once filed, the appeal automatically
      stays the delisting of the Company's common stock pending a hearing date and
      the
      Exchange's decision. The time and place of such a hearing will be determined
      by
      the Exchange. There can be no assurance that the Company's request for continued
      listing will be granted. If the committee does not grant the relief sought
      by
      the Company, its securities will be delisted from the Exchange and may continue
      to be quoted on the OTC Bulletin Board.




As
      of
      December 31, 2006, Mr. Newman had no outstanding loan balance to the Company.
      Mr. Peipert’s outstanding loan balance to the Company was approximately $0.1
      million. The unsecured loan by Mr. Peipert accrues interest at a simple rate
      of
      8% per annum, and has a term expiring on April 30, 2007.





The
      following is a summary of the debt instruments outstanding as of March 27,
      2007:




Lender
              
              Type
                  of facility
              
              Outstanding
                  as of March 27, 2007 (not including interest) (all numbers
                  approximate)
              
              Remaining
                  Availability (if applicable)Laurus
                  Master Fund, Ltd.
              
              
              Line
                  of Credit
              
              $
              2,200,000
              
              $
              0Sands
                  Brothers Venture Capital LLC and affiliates
              
              
              Short
                  term notes payable
              
              $
              400,000
              
              $
              0Taurus
                  Advisory Group, LLC investors
              
              
              Short
                  term notes payable
              
              $
              5,750,000
              
              $
              0Taurus
                  Advisory Group, LLC investors
              
              
              Long
                  term debt
              
              $
              2,000,000
              
              $
              0Taurus
                  Advisory Group, LLC investors
              
              
              Series
                  A and B Convertible Preferred Stock
              
              $
              3,900,000
              
              $
              0Larry
                  and Adam Hock
              
              
              Short
                  term notes payable
              
              $
              200,000
              *
              $
              0Glenn
                  Peipert
              
              
              Related
                  party note payable
              
              $
              105,000
              
              $
              0TOTAL
              
              
              
              
              $
              14,555,000
              
              $
              0


·
            The
                Company and the Hocks are presently disputing how much is owed under
                this
                promissory note. See Item 3 - Legal
                Proceedings.





The
      Company needs additional capital in order to survive because
      of the Company’s recent losses, negative cash flows for operations, its net
      working capital deficiency and its ability to pay its outstanding debt.
      Additional capital will be needed to fund current working capital requirements,
      ongoing debt service and to repay the obligations that are maturing over the
      upcoming 12 month period. Our primary sources of liquidity are cash flows from
      operations, borrowings under our revolving credit facility, and various short
      and long term financings. We plan to continue to strive to increase revenues
      and
      to continue to execute on our expense reduction program which began in 2006
      in
      order to reduce, or eliminate, the operating losses. Additionally, we will
      continue to seek equity financing in order to enable us to continue to meet
      our
      financial obligations until we achieve profitability. There can be no assurance
      that any such funding will be available to us on favorable terms, or at all.
      Certain short term note holders have agreed to extend their maturity dates
      of
      the notes on a month-to-month basis until the Company raises sufficient funds
      to
      pay the notes in full. Amounts outstanding under the notes at December 31,
      2006
      were $1.5 million. Failure to obtain sufficient equity financing would have
      substantial negative ramifications to the Company.




58




***Off-balance
      sheet arrangements***





The
      Company does not have any transactions, agreements or other contractual
      arrangements that constitute off-balance sheet arrangements.




***Contractual
      Obligations***




At
      December 31, 2006, the Company had certain contractual cash obligations and
      other commercial commitments, as set forth in the following table (amounts
      in
      table are noted in millions):




Contractual
                  Obligations
              
              Total
              
              Less
                  than 1 year
              
              1-3
                  years
              
              4-5
                  yearsLong-term
                  debt
              
              $
              2.6
              
              $
              0.6
              
              $
              2.0
              
              $
              -Related
                party note payable
              
              
              0.1
              
              
              0.1
              
              
              -
              
              
              -Operating
                  leases
              
              
              1.1
              
              
              0.4
              
              
              0.7
              
              
              -Employment
                  agreements
              
              
              3.0
              
              
              3.0
              
              
              -
              
              
              -Total
              
              $
              6.8
              
              
              4.1
              
              $
              2.7
              
              $
              -




**APPLICATION
      OF CRITICAL ACCOUNTING POLICIES**





***Revenue
      recognition***





Our
      revenue recognition policy is significant because revenues are a key component
      of our results from operations. In addition, revenue recognition determines
      the
      timing of certain expenses, such as incentive compensation. We follow very
      specific and detailed guidelines in measuring revenue; however, certain
      judgments and estimates affect the application of the revenue policy. Revenue
      results are difficult to predict and any shortfall in revenues or delay in
      recognizing revenues could cause operating results to vary significantly from
      quarter to quarter and could result in future operating losses or reduced net
      income.





***Services***





Revenue
      from consulting and professional services is recognized at the time the services
      are performed on a project by project basis. For projects charged on a time
      and
      materials basis, revenue is recognized based on the number of hours worked
      by
      consultants at an agreed-upon rate per hour. For large services projects where
      costs to complete the contract could reasonably be estimated, the Company
      undertakes projects on a fixed-fee basis and recognizes revenues on the
      percentage of completion method of accounting based on the evaluation of actual
      costs incurred to date compared to total estimated costs. Revenues recognized
      in
      excess of billings are recorded as costs in excess of billings. Billings in
      excess of revenues recognized are recorded as deferred revenues until revenue
      recognition criteria are met. Reimbursements, including those relating to travel
      and other out-of-pocket expenses, are included in revenues, and an equivalent
      amount of reimbursable expenses are included in cost of services.




59





***Business
      Combinations***





We
      are
      required to allocate the purchase price of acquired companies to the tangible
      and intangible assets acquired and liabilities assumed based on their estimated
      fair values. Such a valuation requires us to make significant estimates and
      assumptions, especially with respect to intangible assets. Critical estimates
      in
      valuing certain intangible assets include, but are not limited to, future
      expected cash flows from customer contracts, customer lists, distribution
      agreements and acquired developed technologies, and estimating cash flows from
      projects when completed
      and discount rates. Our estimates of fair value are based upon assumptions
      believed to be reasonable, but which are inherently uncertain and unpredictable
      and, as a result, actual results may differ from estimates. These estimates
      may
      change as additional information becomes available regarding the assets acquired
      and liabilities assumed. Additionally,
      in accordance with “EITF 99-12,” the Company values an acquisition based upon
      the market price of its common stock for a reasonable period before and after
      the date the terms of the acquisition are agreed to and announced.





***Impairment
      of Goodwill, Intangible Assets and Other Long-Lived
      Assets***





We
      evaluate our identifiable goodwill, intangible assets, and other long-lived
      assets for impairment on an annual basis and whenever events or changes in
      circumstances indicate that the carrying value of an asset may not be
      recoverable based on expected undiscounted cash flows attributable to that
      asset. Future impairment evaluations could result in impairment charges, which
      would result in an expense in the period of impairment and a reduction in the
      carrying value of these assets.





***Stock-based
      Compensation***





SFAS
      No. 123 (Revised 2004) (“SFAS No. 123R”), “Share-Based Payment,”
issued in December 2004, is a revision of FASB Statement 123, “Accounting for
      Stock-Based Compensation” and supersedes APB Opinion No. 25, “Accounting
      for Stock Issued to Employees,” and its related implementation guidance. The
      Statement focuses primarily on accounting for transactions in which an entity
      obtains employee services in share-based payment transactions. SFAS
      No. 123R requires a public entity to measure the cost of employee services
      received in exchange for an award of equity instruments based on the grant-date
      fair value of the award (with limited exceptions). That cost will be recognized
      over the period during which an employee is required to provide service in
      exchange for the award. On March 29, 2005, the SEC issued Staff Accounting
      Bulletin No. 107 (“SAB No. 107”), which provides the Staff’s views
      regarding interactions between SFAS No. 123R and certain SEC rules and
      regulations and provides interpretations of the valuation of share-based
      payments for public companies.





SFAS
      No. 123(R) permits public companies to adopt its requirements using one of
      two methods:





(1)
      A
“modified prospective” method in which compensation cost is recognized beginning
      with the effective date (a) based on the requirements of SFAS
      No. 123(R) for all share-based payments granted after the effective date
      and (b) based on the requirements of SFAS No. 123 for all awards
      granted to employees prior to the effective date of SFAS No. 123(R) that
      remain unvested on the effective date.





(2)
      A
“modified retrospective” method which includes the requirements of the modified
      prospective method described above, but also permits entities to restate based
      on the amounts previously recognized under SFAS No. 123 for purposes of pro
      forma disclosures either (a) all prior periods presented or (b) prior
      interim periods of the year of adoption.





This
      statement is effective for the beginning of the first annual reporting period
      that begins after June 15, 2005, therefore, we adopted the standard in the
      first quarter of fiscal 2006 using the modified prospective method. As permitted
      by SFAS No. 123, we previously accounted for share-based payments to
      employees using the intrinsic value method prescribed in APB Opinion 25 and,
      as
      such, generally recognized no compensation cost for employee stock options.
      SFAS
      No. 123(R) also requires the benefits of tax deductions in excess of
      recognized compensation cost to be reported as a financing cash flow, rather
      than as an operating cash flow as required under current literature. This
      requirement will reduce net operating cash flows and increase net financing
      cash
      flows in periods after adoption.




60





***Deferred
      Income Taxes***





Determining
      the consolidated provision for income tax expense, income tax liabilities and
      deferred tax assets and liabilities involves judgment.  We record a
      valuation allowance to reduce our deferred tax assets to the amount of future
      tax benefit that is more likely than not to be realized. We have considered
      future taxable income and prudent and feasible tax planning strategies in
      determining the need for a valuation allowance. A valuation allowance is
      maintained by the Company due to the impact of the current years net operating
      loss (NOL). In the event that we determine that we would not be able to realize
      all or part of our net deferred tax assets, an adjustment to the deferred tax
      assets would be charged to net income in the period such determination is made.
      Likewise, if we later determine that it is more likely than not that the net
      deferred tax assets would be realized, then the previously provided valuation
      allowance would be reversed. Our current valuation allowance relates
      predominately to benefits derived from the utilization of our
      NOL’s.





**Recent
      Pronouncements**





In
      February 2006, the FASB issued SFAS 155 - “Accounting for Certain Hybrid
      Financial Instruments—an amendment of FASB Statements No. 133 and 140.” 
This Statement amends FASB Statements No. 133, Accounting for Derivative
      Instruments and Hedging Activities, and No. 140, Accounting for Transfers and
      Servicing of Financial Assets and Extinguishments of Liabilities. This Statement
      resolves issues addressed in Statement 133 Implementation Issue No. D1,
“Application of Statement 133 to Beneficial Interests in Securitized Financial
      Assets.”  This Statement:


a.
              Permits
                  fair value remeasurement for any hybrid financial instrument that
                  contains
                  an embedded derivative that otherwise would require
                  bifurcation


b.
                Clarifies
                    which interest-only strips and principal-only strips are not
                    subject to
                    the requirements of Statement 133
  c.
                    Establishes
                        a requirement to evaluate interests in securitized financial
                        assets to
                        identify interests that are freestanding derivatives or that
                        are hybrid
                        financial instruments that contain an embedded derivative
                        requiring
                        bifurcation
 d.
                        Clarifies
                            that concentrations of credit risk in the form of subordination
                            are not
                            embedded derivatives
 e.
                            Amends
                                Statement 140 to eliminate the prohibition on a qualifying
                                special-purpose
                                entity from holding a derivative financial instrument
                                that pertains to a
                                beneficial interest other than another derivative
                                financial
                                instrument.


This
      Statement is effective for all financial instruments acquired or issued after
      the beginning of our first fiscal year that begins after September 15,
      2006.  The fair value election provided for in paragraph 4(c) of this
      Statement may also be applied upon adoption of this Statement for hybrid
      financial instruments that had been bifurcated under paragraph 12 of Statement
      133 prior to the adoption of this Statement. Earlier adoption is permitted
      as of
      the beginning of our fiscal year, provided we have not yet issued financial
      statements, including financial statements for any interim period, for that
      fiscal year. Provisions of this Statement may be applied to instruments that
      we
      hold at the date of adoption on an instrument-by-instrument basis.  The
      Company does not expect the adoption of this pronouncement to have a material
      impact on it’s consolidated financial statements.




61





In
      July
      2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainties in
      Income Taxes” (FIN 48). The Company does not expect the adoption of this
      pronouncement to have a material impact on it’s consolidated financial
      statements.




In
      August
      2006, the FASB Emerging Issues Task Force Issued EITF 06-6, “Debtor’s Accounting
      for a Modification (or Exchange) of Convertible Debt Instruments”. EITF 06-6
      addresses the issue of how a modification of a debt instrument (or an exchange
      of debt instruments) that affects the terms of an embedded conversion option
      should be considered in the issuer’s analysis of whether debt extinguishment
      accounting should be applied. The Company does not expect the adoption of this
      pronouncement to have a material impact on it’s consolidated financial
      statements.





In
      September 2006, the FASB issued FAS 157, “Fair Value Measurements,” which
      defines fair value, establishes a framework for measuring fair value and expands
      disclosures about fair value measurements. FAS 157 does not require any new
      fair
      value measurements. The Company is required to adopt this statement effective
      the first quarter of 2008, and is currently evaluating the impact the new
      standard will have on the Company.




In
      September 2006, the Securities and Exchange Commission issued Staff Accounting
      Bulletin (“SAB”) 108, “Quantifying Financial Statement Misstatements.” In SAB
      108, the Securities and Exchange Commission’s staff establishes an approach that
      requires quantification of financial statement errors based on the effects
      of
      the error on each of the Company’s consolidated financial statements and the
      related consolidated financial statement disclosures. SAB 108 is effective
      for
      the Company as of December 31, 2006; however it is not expected to have a
      material affect on the Company’s consolidated financial statements.




**ITEM
              7A.**
            **QUANTITATIVE
                AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**.





The
      Company’s financial instruments include cash and cash equivalents. Cash and cash
      equivalents include cash on hand, demand deposits and short-term investments
      with maturities of three months or less when acquired. Cash equivalents
      represent a deposit in a money market account and a certificate of deposit.
      The
      Company does not utilize derivative financial instruments, derivative commodity
      instruments or other market risk sensitive instruments, positions or
      transactions in any material fashion. The principal objective of the Company’s
      asset management activities is to maximize net investment income, while
      maintaining acceptable levels of interest rate risk and facilitating its funding
      needs. At March 15, 2007, the carrying values of the Company’s financial
      instruments approximated fair values based upon current market prices and
      rates.




**ITEM
              8**
            **FINANCIAL
                STATEMENTS AND SUPPLEMENTARY
                DATA**





Reference
      is made to pages 97 through 133 comprising a portion of this Annual
      Report on Form 10-K.




62




**ITEM
              9.**
            **CHANGES
                IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
                DISCLOSURE****.**





Not
      applicable.


.


**ITEM
              9A.**
            **CONTROLS
                AND PROCEDURES**




**Evaluation
      of disclosure controls and procedures.**





Under
      the
      supervision and with the participation of our management, including our chief
      executive officer and our chief financial officer, we have evaluated the
      effectiveness of the design and operation of our disclosure controls and
      procedures pursuant to Securities Exchange Act of 1934 Rule 13a-15(e) as of
      the
      end of the period covered by this report. Based on that evaluation, the
      chief
      executive officer and chief financial officer concluded that the design and
      operation of these disclosure controls and procedures were not effective to
      ensure that information required to be disclosed by the Company in reports
      that
      it files or submits under the Exchange Act is recorded, processed, summarized
      and reported within the time periods specified in the Securities and Exchange
      Commission’s rules and forms due to a control deficiency related to lack
      of
      certain internal controls over period-end
      financial reporting.


In
        connection with the preparation of our Annual Reports for the years ended
        December 31, 2004 and December 31, 2005, our management identified certain
        weaknesses in our internal control procedures and in our evaluation of complex
        financing transactions in 2004 and 2005, and in the valuation and purchase
        accounting of our acquisitions in 2004. In addition, management previously
        identified another internal control matter regarding period-end financial
        reporting related to the identification of transactions, primarily contractual,
        and accounting for them in the proper periods. We believe that we have
        satisfactorily addressed the control deficiencies and material weakness relating
        to the accounting for complex financing transactions and the valuation and
        purchase accounting for acquisitions during 2005 and 2006. The following
        action
        plan has been established to address the control deficiency related to the
        lack
        of certain internal controls over period-end financial
        reporting.





Management
      established an action plan in the first quarter of 2005, which continues through
      the date of this Annual Report, that it believes will correct the control
      deficiency described above. Measures included in our action plan are as
      follows:





·  Our
      Disclosure Committee, formed in the second quarter of 2005, consists of our
      chief executive officer, chief operating officer, senior vice presidents and
      general counsel, chaired by our chief financial officer. The Disclosure
      Committee is comprised of these key members of senior management who have
      knowledge of significant portions of our internal control system, as well as
      the
      business and competitive environment in which we operate. One of the key
      responsibilities of each Disclosure Committee member is to review quarterly
      reports, annual reports and registration statements to be filed with the SEC
      as
      each progress through the preparation process. Open lines of communication
      to
      financial reporting management exist for Disclosure Committee members to convey
      comments and suggestions;




63




· A
        process
        has been established whereby material agreements are reviewed by the legal
        and
        sales departments and an executive management member that includes determination
        of appropriate accounting and disclosure;




·  Our
      accounting and legal departments are working closely and in conjunction to
      accurately account for period-end financial reporting and complex financing
      transactions;





·  We
      are
      constantly assessing our existing environment and continue to make further
      changes, as appropriate, in our finance and accounting organization to create
      clearer segregation of responsibilities and supervision, and to increase the
      level of technical accounting expertise including the use of outside accounting
      experts;





·  There
      has
      been closer monitoring of the preparation of our monthly and quarterly financial
      information.





·  We
      have
      conducted quarterly reviews of the effectiveness of our disclosure controls
      and
      procedures, and we have enhanced
      our quarterly close process to include detailed analysis in support of the
      financial accounts, and improved supervision over the process.





We
        believe that we will satisfactorily address the control deficiencies and
        material weakness relating to these matters by the end of fiscal 2007, although
        there can be no assurance that we will do so.
 
 Management,
        including our chief executive officer and our chief financial officer, does
        not
        expect that our disclosure controls and internal controls will prevent all
        error
        or all fraud, even as the same are improved to address any deficiencies and/or
        weaknesses. A control system, no matter how well conceived and operated,
        can
        provide only reasonable, not absolute, assurance that the objectives of the
        control system are met. Over time, controls may become inadequate because
        of
        changes in conditions or deterioration in the degree of compliance with policies
        or procedures. Further, the design of a control system must reflect the fact
        that there are resource constraints, and the benefits of controls must be
        considered relative to their costs. Because of the inherent limitations in
        all
        control systems, no evaluation of controls can provide absolute assurance
        that
        all control issues and instances of fraud, if any, within the Company have
        been
        detected. These inherent limitations include the realities that judgments
        in
        decision-making can be faulty, and that breakdowns can occur because of simple
        error or mistake. Additionally, controls can be circumvented by the individual
        acts of some persons, by collusion of two or more people, or by management
        override of the control.
 
 **Changes
        in internal control over financial reporting.**
 
 Our
        company also maintains a system of internal controls. The term “internal
        controls,” as defined by the American Institute of Certified Public Accountants’
Codification of Statement on Auditing Standards, AU Section 319, means controls
        and other procedures designed to provide reasonable assurance regarding the
        achievement of objectives in the reliability of our financial reporting,
        the
        effectiveness and efficiency of our operations and our compliance with
        applicable laws and regulations. In connection with the preparation of this
        Annual Report, our management identified certain weaknesses in our internal
        control procedures and in our evaluation of complex financing transactions
        in
        2004 and 2005, and in the valuation and purchase accounting of our acquisitions
        in 2004. Our management and Board of Directors adopted corrective measures
        in
        the first quarter 2005, and such corrective measures were incorporated into
        the
        controls and procedures of the Company, finally effective as of the third
        quarter 2006. As a result, no significant changes were made in our internal
        control over financial reporting during the Company’s fourth quarter that have
        materially affected, or are reasonably likely to materially affect, the
        Company’s internal control over financial reporting.


64





**ITEM
      9B.**  **OTHER
      INFORMATION**





Not
      applicable.




65






**PART
      III**





**ITEM
      10.**  **DIRECTORS,
      EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION
      16(A)
      OF THE EXCHANGE ACT** **.**





The
      following table sets forth the names and ages of our current directors and
      executive officers, the principal offices and positions with us held by each
      person and the date such person became a director or executive officer. Our
      Board of Directors elects our executive officers annually. Each year the
      stockholders elect the members of our Board of Directors.





Our
      directors and executive officers are as follows:


**Name**
              
              **Year**
                **First
                  Elected**
                **as
                  Director**
                **or
                  Officer**
              
              **Age**
              
              **Positions
                  Held**Scott
                  Newman
              
              2004
              
              47
              
              President,
                  Chief Executive Officer and ChairmanGlenn
                  Peipert
              
              2004
              
              46
              
              Executive
                  Vice President, Chief Operating Officer and DirectorWilliam
                  Hendry
              
              2006
              
              46
              
              Vice
                  President, Chief Financial Officer and TreasurerWilliam
                  McKnight
              
              2005
              
              41
              
              Senior
                  Vice President - Data WarehousingBryan
                  Carey
              
              2007
              
              49
              
              Senior
                  Vice President - Strategic ConsultingLawrence
                  K. Reisman*
              
              2004
              
              45
              
              DirectorFrederick
                  Lester**
              
              2006
              
              49
              
              DirectorThomas
                  Pear***
              
              2006
              
              54
              
              Director




*
      Chair
      of the Audit Committee, and member of the Compensation and Stock Option
      Committee and the Nominating and Corporate Governance Committee.





**
      Chair
      of the Nominating and Corporate Governance Committee, and member of the Audit
      Committee and the Compensation and Stock Option Committee.





***
      Chair
      of the Compensation and Stock Option Committee, and member of the Audit
      Committee and the Nominating and Corporate Governance Committee.




66




**SCOTT
      NEWMAN** has been
      our President, Chief Executive Officer and Chairman since January 2004. Mr.
      Newman founded the former Conversion Services International, Inc. in 1990
      (before its merger with and into LCS Group, Inc. in 2004) and is our largest
      stockholder. He has over twenty years of experience providing technology
      solutions to major companies internationally. Mr. Newman has direct experience
      in strategic planning, analysis, design, testing and implementation of complex
      big-data solutions. He possesses a wide range of software and hardware
      architecture/discipline experience, including, client/server, data discovery,
      distributed systems, data warehousing, mainframe, scaleable solutions and
      e-business. Mr. Newman has been the architect and lead designer of several
      commercial software products used by Chase, Citibank, Merrill Lynch and Jaguar
      Cars. Mr. Newman advises and reviews data warehousing and business intelligence
      strategy on behalf of our Global 2000 clients, including AT&T Capital,
      Jaguar Cars, Cytec and Chase. Mr. Newman is a member of the Young Presidents
      Organization, a leadership organization that promotes the exchange of ideas,
      pursuit of learning and sharing strategies to achieve personal and professional
      growth and success. Mr. Newman received his B.S. from Brooklyn College in
      1980.




**GLENN
      PEIPERT** has been
      our Executive Vice President, Chief Operating Officer and Director since January
      2004. Mr. Peipert held the same positions with the former Conversion Services
      International, Inc. since its inception in 1990. Mr. Peipert has over two
      decades of experience consulting to major organizations about leveraging
      technology to enable strategic change. He has advised clients representing
      a
      broad cross-section of rapid growth industries worldwide. Mr. Peipert has hands
      on experience with the leading data warehousing products. His skills include
      architecture design, development and project management. He routinely
      participates in architecture reviews and recommendations for our Global 2000
      clients. Mr. Peipert has managed major technology initiatives at Chase, Tiffany,
      Morgan Stanley, Cytec and the United States Tennis Association. He speaks
      nationally on applying data warehousing technologies to enhance business
      effectiveness and has authored multiple white papers regarding business
      intelligence. Mr. Peipert is a member of the Institute of Management
      Consultants, as well as TEC International, a leadership organization whose
      mission is to increase the effectiveness and enhance the lives of chief
      executives and those they influence. Mr. Peipert received his B.S. from Brooklyn
      College in 1982.




**WILLIAM
      HENDRY** has been
      our Vice President, Chief Financial Officer and Treasurer since October 2006.
      Mr. Hendry previously served as the Company’s Controller from 2004-2006. Prior
      to joining the Company, Mr. Hendry was controller of Scientific Games Online
      Entertainment Systems, a developer, installer and operator of online, instant
      and video lottery systems, from 2002-2004. From 2000-2002, Mr. Hendry was a
      consultant to Cipolla Sziklay Zak & Co. and Pharmacia. Prior to this, Mr.
      Hendry served as the corporate controller of AlphaNet Solutions, a publicly-held
      information technology professional services company, as the corporate
      controller of Biosource International, a publicly-held international
      manufacturer of technology products, and as vice president - finance of
      Quarterdeck, a publicly-held publisher of utility and software applications.
      Mr.
      Hendry began his career at KPMG LLP. Mr. Hendry has an M.B.A. in finance and
      a
      B.S. in accounting from Fairleigh Dickinson University, is a certified public
      accountant in New Jersey, and is a member of the American Institute of Certified
      Public Accountants, the New Jersey Society of Certified Public Accountants,
      and
      the Financial Executive Institute.





**WILLIAM
      MCKNIGHT** has been
      our Senior Vice President - Data Warehousing since July 2005. Mr. McKnight
      founded McKnight Associates, Inc. in 1998. Prior to forming his company, from
      1992-1998, Mr. McKnight held various information technology management positions
      at Visa, and Anthem Blue Cross Blue Shield. From 1990-1992, Mr. McKnight was
      a
      consultant for Platinum Technology, and he was a developer of the DB2 product
      at
      IBM from 1987-1990. Mr. McKnight received his B.S. in Computer Science from
      Southern College in 1987 and received his M.B.A. from Santa Clara University
      in
      1994.




67





**BRYAN
      CAREY** has been
      our Senior Vice President - Strategic Consulting, and managing director of
      our
      wholly owned subsidiary DeLeeuw Associates, since February 2007. Prior
      to
      joining DeLeeuw Associates in 2000 as a senior vice president of business
      development, Carey spent nearly 20 years as an executive in project and change
      management in the banking industry, including Bank of America. Mr. Carey was
      promoted to executive vice president of DeLeeuw Associates in 2003, where he
      was
      responsible for major account relationships, project oversight and business
      development. Mr. Carey built DeLeeuw Associates's Lean and Six Sigma practice
      providing the leadership, consulting, training and discipline to grow the
      business from a start-up to a successful, thriving business. Most recently,
      Mr.
      Carey has led Lean Six Sigma roll-out initiatives at NY Independent System
      Operators, Bank of New York, Cendant Corporation and JPMorgan Chase. Mr. Carey
      has spoken at numerous Six Sigma events, as well as authored a number of
      articles on change and project management utilizing Lean and Six Sigma. Mr.
      Carey received his B.S in Philosophy from Notre Dame in 1980 and received his
      M.B.A. in finance from the University of South Carolina in 1983.




68




**LAWRENCE
      K. REISMAN** has been
      a Director of our company since February 2004, is Chairman of the Board’s Audit
      Committee, and a member of the Compensation and Stock Option Committee and
      the
      Nominating and Corporate Governance Committee. Mr. Reisman is a Certified Public
      Accountant who has been the principal of his own firm, The Accounting Offices
      of
      L.K. Reisman, since 1986. Prior to forming his company, Mr. Reisman was a tax
      manager at Coopers & Lybrand and Peat Marwick Mitchell. He routinely
      provides accounting services to small and medium-sized companies, which services
      include auditing, review and compilation of financial statements, corporate,
      partnership and individual taxation, designing accounting systems and management
      consulting services. Mr. Reisman received his B.S. and M.B.A. in Finance from
      St. John’s University in 1981 and 1985, respectively.




**FREDERICK
      LESTER** has
      been
      a Director of our company since August 2006, is Chairman of the Board’s
      Nominating and Corporate Governance Committee, and a member of the Audit
      Committee and the Compensation and Stock Option Committee. Presently he is
      the
      Regional Consulting Partner, NE Banking & Capital Markets, Teradata
      Corporation. From 2005-2006, Mr. Lester was the Consulting Director at Cognos
      Corporation, and from 1999-2005, he was the Managing Director at Competitive
      Advantage, Inc. Prior to this, Mr. Lester served as Consulting Director for
      KPMG
      and Managing Partner at Teradata. Mr.
      Lester’s undergraduate studies at Columbia University focused on nuclear physics
      and mathematics.




**THOMAS
      PEAR** has
      been
      a Director of our company since August 2006, is Chairman of the Board’s
      Compensation and Stock Option Committee, and a member of the Audit Committee
      and
      the Nominating and Corporate Governance Committee . 
      Presently he is a principal in Saw Mill Sports Management and
      a management consultant.    From 1993 to 2006, Mr. Pear
      served as chief financial officer of The Atlantic Club, and also served as
      its
      president from 2002 to 2006.  Prior to this, Mr. Pear served as vice
      president and general manager of DM Engineering, vice president and chief
      financial officer of Tennis Equities, and staff accountant at Malkin, Studley
      and Ramey CPA, PC.  Mr. Pear received his B.S. in Accounting from Nichols
      College in 1974.





**Code
      of Conduct and Ethics**





Our
      Board
      of Directors has adopted a Code of Conduct and Ethics which is applicable to
      all
      our directors, officers, employees, agents and representatives, including our
      principal executive officer and principal financial officer, principal
      accounting officer or controller, or other persons performing similar functions.
      We have made available on our website copies of our Code of Conduct and Ethics
      and charters for the committees of our Board and other information that may
      be
      of interest to investors.





**Director
      Independence**





The
      Board
      has reviewed each of the directors' relationships with the Company in
      conjunction with Section 121(A) of the listing standards of the American Stock
      Exchange and has affirmatively determined that three of our directors, Lawrence
      K. Reisman, Frederick Lester and Thomas Pear are independent of management
      and
      free of any relationship that would interfere with the independent judgment
      as
      members of the Board of Directors or any committee thereof.




69





**Committees
      of the Board of Directors**





The
      Board
      of Directors has established three standing committees: (1) the Audit Committee,
      (2) the Compensation and Stock Option Committee  and
      (3)
      the Nominating and Corporate Governance Committee. Each committee operates
      under
      a charter that has been approved by the Board. Copies of the charters of the
      Audit Committee, the Compensation and Stock Option Committee and the Nominating
      and Corporate Governance Committee are posted on our website. Mr. Reisman,
      Mr.
      Lester and Mr. Pear are members of each of such committees.





**Audit
      Committee**





The
      Audit
      Committee was formed in April 2005. The Audit Committee met 6 times in fiscal
      year 2006 and each member of the Audit Committee was present at such meeting,
      and acted by unanimous written consent 1 time. The Audit Committee is
      responsible for matters relating to financial reporting, internal controls,
      risk
      management and compliance. These responsibilities include appointing,
      overseeing, evaluating and approving the fees of our independent auditors,
      reviewing financial information which is included in our Annual Report on Form
      10-K, discussions with management and the independent auditors the results
      of
      the annual audit and our quarterly financial statements, reviewing with
      management our system of internal controls and financial reporting process
      and
      monitoring our compliance program and system.





The
      Audit
      Committee operates pursuant to a written charter, which sets forth the functions
      and responsibilities of this committee. A copy of the charter can be viewed
      on
      our website. All members of this committee are independent directors under
      the
      SEC rules. The Board of Directors has determined that Lawrence K. Reisman,
      the
      committee’s chairman, meets the SEC criteria of an “audit committee financial
      expert”, as defined in Item 401(h) of Regulation S-K.





**Compensation
      and Stock Option Committee**





The
      Compensation Committee and the Stock Option Committee merged in March 2007,
      and
      acted by written consent 5 times during fiscal 2006. The Compensation and Stock
      Option Committee is responsible for matters relating to the development,
      attraction and retention of the Company’s management and for matters relating to
      the Company’s compensation and benefit programs. As part of its
      responsibilities, this committee evaluates the performance and determines the
      compensation of the Company’s Chief Executive Officer and approves the
      compensation of our senior officers, as well as to fix and determine awards
      to
      employees of stock options, restricted stock and other types of stock-based
      awards.





The
      Compensation and Stock Option Committee operates under a written charter that
      sets forth the functions and responsibilities of this committee. A copy of
      the
      charter can be viewed on our website. Pursuant to its charter, the Compensation
      and Stock Option Committee must be comprised of at least two (2) Directors
      who,
      in the opinion of the Board of Directors, must meet the definition of
“independent director” within the rules and regulations of the SEC. The Board of
      Directors has determined that all members of this committee are independent
      directors under the SEC rules.




70





**Nominating
      and Corporate Governance Committee**





The
      Nominating and Corporate Governance Committee is responsible for providing
      oversight on a broad range of issues regarding our corporate governance
      practices and policies and the composition and operation of the Board of
      Directors. These responsibilities include reviewing potential candidates for
      membership on the Board and recommending to the Board nominees for election
      as
      directors of the Company. The Nominating and Corporate Governance Committee
      was
      formed in May 2005 and met 1 time during fiscal 2006. A complete description
      of
      the Nominating and Corporate Governance Committee’s responsibilities is set
      forth in the Nominating and Corporate Governance written charter. A copy of
      the
      charter is available to stockholders on the Company’s website. All members of
      the Nominating and Corporate Governance Committee are independent directors
      as
      defined by the rules and regulations of the SEC. The Nominating and Corporate
      Governance Committee will consider director nominees recommended by
      stockholders. There are no minimum qualifications for consideration for
      nomination to be a director of the Company. The nominating committee will assess
      all director nominees using the same criteria. Nominations made by stockholders
      must be made by written notice received by the Secretary of the Company within
      30 days of the date on which notice of a meeting for the election of directors
      is first given to stockholders. The Nominating and Corporate Governance
      Committee and the Board of Directors carefully consider nominees regardless
      of
      whether they are nominated by stockholders, the Nominating and Corporate
      Governance Committee or existing Board members.





**Section
      16(a) Beneficial Ownership Reporting Compliance**





Section
      16(a) of the Securities Exchange Act of 1934, as amended, requires our officers,
      directors and persons who beneficially own more than 10% of a registered class
      of our equity securities (“ten percent stockholders”) to file reports of
      ownership and changes in ownership with the Securities and Exchange
      Commission.  Officers, directors and ten percent stockholders are charged
      by the SEC regulations to furnish us with copies of all Section 16(a) forms
      they
      file.




Based
      solely upon a review of Forms 3, 4 and 5 and amendments thereto furnished to
      us
      during the past fiscal year, and, if applicable, written representations that
      Form 5 was not required, we believe that all Section 16(a) filing requirements
      applicable to our officers, directors and ten percent stockholders were
      fulfilled.




**ITEM
      11.**  **EXECUTIVE
      COMPENSATION.**





The
      following table summarizes compensation information for the last three fiscal
      years for (i) Mr. Scott Newman, our Principal Executive Officer,
      (ii) Mr. William Hendry, our Principal Financial Officer and
      (iii) the three most highly compensated executive officers other than the
      Principal Executive Officer and Principal Financial Officer, who were serving
      as
      executive officers at the end of the fiscal year and who we refer to
      collectively, the Named Executive Officers.




71




**SUMMARY
      COMPENSATION TABLE**


**Name
                  and Principal Position**
              
              
              **Year**
              
              
              **Salary**
              
              
              **Bonus**
              
              
              **Stock
                  Awards**
              
              
              **Option
                  Awards(s)**
              
              
              **Non-Equity
                  Incentive Plan Compensation**
              
              
              **Non-Qualified
                  Deferred Compensation Earnings**
              
              
              **All
                  Other Compensation**
              
              
              **Total****($)**
              
              
              **($)**
              
              
              **($)**
              
              
              **($)**
              
              
              **($)**
              
              
              
              
              
              **($)**
              
              
              **($)**Scott
                  Newman
              
              
              2006
              
              
              479,167
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              45,401
              (1)
              
              524,568President,
                  Chief Executive
              
              
              2005
              
              
              500,000
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              51,208
              (1)
              
              551,208Officer
                  and Chairman
              
              
              2004
              
              
              500,000
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              42,455
              (1)
              
              542,455Glenn
                  Peipert
              
              
              2006
              
              
              359,375
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              38,300
              (1)
              
              397,675Executive
                  Vice President, Chief
              
              
              2005
              
              
              375,000
              
              
              —
              
              
              —
              
              
              179,050
              
              
              —
              
              
              —
              
              
              37,151
              (1)
              
              591,201Operating
                  Officer and Director
              
              
              2004
              
              
              375,000
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              36,690
              (1)
              
              411,690William
                  Hendry, Vice
              
              
              2006
              
              
              155,250
              
              
              5,000
              
              
              —
              
              
              33,555
              
              
              —
              
              
              —
              
              
              
              (2)
              
              193,805President,
                  Chief Financial
              
              
              2005
              
              
              142,224
              
              
              —
              
              
              —
              
              
              20,541
              
              
              —
              
              
              —
              
              
              
              (2)
              
              162,765Officer
                  and Treasurer
              
              
              2004
              
              
              90,250
              (3)
              
              —
              
              
              —
              
              
              72,663
              
              
              —
              
              
              —
              
              
              
              (2)
              
              162,913Robert
                  C. DeLeeuw
              
              
              2006
              
              
              415,959
              
              
              —
              
              
              —
              
              
              392,100
              
              
              —
              
              
              —
              
              
              21,147
              (1)
              
              829,206Senior
                  Vice President
              
              
              2005
              
              
              350,000
              
              
              —
              
              
              —
              
              
              179,050
              
              
              —
              
              
              —
              
              
              21,379
              (1)
              
              550,4292004
              
              
              329,400
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              17,462
              (1)
              
              346,862William
                  McKnight, Senior Vice
              
              
              2006
              
              
              250,000
              
              
              39,510
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              23,373
              (1)
              
              312,883President
                  -Data Warehousing
              
              
              2005
              
              
              125,047
              (3)
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              
              (2)
              
              125,047


(1)
              Amounts
                  shown reflect payments related to medical, dental and life insurance,
                  car
                  payments and 401(k) contributions by the
                  Company.





(2)
            The
                annual amount of perquisites and other personal benefits, if any,
                did not
                exceed $10,000 for each named executive officer and has therefore
                been
                omitted, unless otherwise stated
                above.





(3)
            Represents
                a partial year of compensation.




72


The
      following table summarizes grants of plan-based awards to each Named Executive
      Officer during 2006:




**Grants
      of Plan-Based Awards for 2006**


Estimated
                  Future
                Payouts
                  Under Non-
                Equity
                  Incentive Plan
                Awards
              
              Estimated
                  Future Payouts
                Under
                  Equity Incentive
                PlanAwards
              
              All
                  Other Stock  Awards: Number of
              
              All
                  Other Option Awards: Number of Securities
              
              Exercise
                  or Base Price ofName
              
              Grant
                  Date
              
              Tresh-old
                ($)
              
              Target
                ($)
              
              Maximum
                ($)
              
              Treshold
                (#)
              
              Target
                (#)
              
              Maximum
                (#)
              
              Shares
                  of Stock or Units (#)
              
              Underlying
                  Options
                (#)
              
              Option
                  Awards
                ($/Sh)(a)
              
              (b)
              
              (c)
              
              (d)
              
              (e)
              
              (f)
              
              (g)
              
              (h)
              
              (i)
              
              (j)
              
              (k)William
                  Hendry
              
              
              10/10/06
              
              
              -
              
              
              -
              
              
              -
              
              
              150,000
              
              
              150,000
              
              
              150,000
              
              
              -
              
              
              -
              
              $
              0.25Robert
                  C. DeLeeuw
              
              
              1/9/06
              
              
              -
              
              
              -
              
              
              -
              
              
              1,000,000
              
              
              1,000,000
              
              
              1,000,000
              
              
              **-**
              
              
              -
              
              $
              0.46




73




The
      following table shows outstanding equity awards at December 31,
      2006:




**Outstanding
      Equity Awards at Fiscal Year-End**


Option
                  Awards
              
              Stock
                  AwardsName
              
              Number
                  of Securities Underlying Unexercised Options
                (#)
                  Exercisable
              
              Number
                  of Securities Underlying Unexercised Options
                (#)
                  Unexercisable
              
              Equity
                  Incentive Plan Awards: Number of Securities Underlying Unexercised
                  Unearned Options (#)
              
              Option
                  Exercise Price ($)
              
              Option
                  Expiration Date
              
              Number
                  of Shares or Units of Stock That Have Not Vested (#)
              
              Market
                  Value of Shares or Units of Stock That Have Not Vested ($)
              
              Equity
                  Incentive Plan Awards: Number of Unearned Shares, Units or Other
                  Rights
                  That Have Not Vested (#)
              
              Equity
                  Incentive Plan Awards: Market or Payout Value of Unearned Shares,
                  Units or
                  Other Rights That have not Vested ($)(a)
              
              (b)
              
              (c)
              
              (d)
              
              (e)
              
              (f)
              
              (g)
              
              (h)
              
              (i)
              
              (j)Glenn
                  Peipert
              
              
              83,333
              
              
              166,667
              
              
              -
              
              $
              0.83
              
              
              11/16/10
              
              
              —
              
              
              —
              
              
              —
              
              
              —William
                  Hendry
              
              
              20,000
                10,000
                -
              
              
              10,000
                20,000
                150,000
              
              
              -
                -
                -
              
              $
                $
                $
              3.00
                0.83
                0.25
              
              
              5/28/14
                11/16/15
                10/10/16
              
              
              -
                -
                -
              
              
              -
                -
                -
              
              
              -
                -
                -
              
              
              -
                -
                -Robert
                  DeLeeuw
              
              
              250,000
                1,000,000
              
              
              -
                -
              
              
              -
              
              $
                $
              0.83
                0.46
              
              
              11/16/15
                1/9/16
              
              
              -
                -
              
              
              -
                -
              
              
              -
                -
              
              
              -
                -





The
      following table shows the option awards exercised, value realized on exercise,
      number of stock awards acquired and value of stock awards realized for each
      our
      Named Executive Officers during 2006:




**Option
      Exercises and Stock Vested for 2006**


Option
                  Awards
              
              Stock
                  AwardsName
              
              Number
                  of Shares Acquired on Exercise
                (#)
              
              Value
                  Realized on Exercise
                ($)
              
              Number
                  of Shares Acquired on Vesting
                (#)
              
              Value
                  Realized on Vesting
                ($)(a)
              
              (b)
              
              (c)
              
              (d)
              
              (e)Glenn
                  Peipert
              
              
              -
              
              
              -
              
              
              83,333
              
              
              25,000William
                  Hendry
              
              
              -
              
              
              -
              
              
              20,000
              
              
              11,300Robert
                  C. DeLeeuw
              
              
              -
              
              
              -
              
              
              1,250,000
              
              
              421,667





74




**Pension
      Benefits for 2006**





N/A





**Nonqualified
      Deferred Compensation for 2006**





N/A




The
      following table shows the details of compensation paid to outside directors
      of
      the Company during 2006:




**Director
      Compensation for 2006**


Name
              
              Fees
                Earnedor
                PaidinCash
                ($)
              
              Stock
                Awards
                ($)
              
              Option
                Awards
                ($)
              
              Non-Equity
                Incentive
                  Plan
                Compensation
                ($)
              
              Change
                  in
                Pension
                Value
                  and
                Nonqualified
                Deferred
                Compensation
                Earnings
              
              All
                  Other
                Compensation
                ($)
              
              Total
                ($)(a)
              
              (b)
              
              (c)
              
              (d)
              
              (e)
              
              (f)
              
              (g)
              
              (h)Frederick
                  Lester
              
              
              -
              
              
              -
              
              
              5,592
              
              
              -
              
              
              -
              
              
              -
              
              
              5,592Thomas
                  Pear
              
              
              -
              
              
              -
              
              
              5,592
              
              
              -
              
              
              -
              
              
              -
              
              
              5,592Lawrence
                  K. Reisman
              
              
              -
              
              
              -
              
              
              5,592
              
              
              -
              
              
              -
              
              
              -
              
              
              5,592




75




**COMPENSATION
      DISCUSSION AND ANALYSIS**




Our
      Compensation Discussion and Analysis addresses the following
      topics:





*  The
      members and role of our Compensation Committee;





*  Our
      compensation-setting process;




*  Our
      compensation philosophy and policies regarding executive
      compensation;





*  The
      components of our executive compensation program; and





*  Our
      compensation decisions for fiscal year 2006.





In
      this
“Compensation Discussion and Analysis” section, the terms, "we," "our," "us,"
      and the "Committee" refer to the Compensation Committee of our Board of
      Directors.





The
      Compensation and Stock Option Committee





Committee
      Members and Independence





Thomas
      Pear, Frederick Lester and Lawrence K. Reisman are the members of the
      Compensation and Stock Option Committee. Mr. Pear is the Committee Chairman.
      Each member of the Compensation and Stock Option Committee qualifies as an
      independent director under American Stock Exchange listing
      standards.





Role
      of
      Committee





We
      operate under a written charter adopted by the Board. A copy of the charter
      is
      available at www.csiwhq.com under Investors - Corporate Governance - Committee
      Charters. The fundamental responsibilities of our Committee are:




a.
            Set
                the compensation for the Chairman of the Board and the Chief Executive
                Officer ("CEO");




b.
            Set
                the compensation of other executive officers based upon the recommendation
                of the CEO;




c.
            Make
                awards to executives under the 2003 Incentive Plan and other plans
                as
                approved by the Board of Directors;




76




d.
            Review
                and approve the design of other benefit plans pertaining to executives
                of
                the company;




e.
            Approve
                such reports on compensation as are necessary for filing with the
                SEC and
                other government bodies;




f.
            Review,
                recommend to the Board of Directors, and administer all plans that
                require
                “disinterested administration” under Rule 16b-3 under the Securities
                Exchange Act of 1934, as amended;




g.
            Approve
                the amendment or modification of any compensation or benefit plan
                pertaining to executives of the Company that does not require stockholder
                approval;




h.
            Review
                and recommend to the Board of Directors changes to the outside directors'
                compensation;




i.
            Retain
                outside consultants and obtain assistance from members of management
                as
                the Committee deems appropriate in the exercise of its
                authority;




j.
            Make
                reports and recommendations to the Board of Directors within the
                scope of
                its functions;




k.
            Approve
                all special perquisites, special cash payments and other special
                compensation and benefit arrangements for the Company's executive
                officers; and




l.
            Review
                the Committee charter from time to time and recommend any changes
                thereto
                to the Board of Directors.




Committee
      Meetings





Our
      Committee meets as often as necessary to perform its duties and
      responsibilities. We held one meeting during fiscal 2006 and have held one
      meeting so far during fiscal 2007. We intend to schedule more regular meetings
      without management present.





We
      receive and review materials in advance of each meeting. These materials include
      information that management believes will be helpful to the Committee as well
      as
      materials that we have specifically requested. Depending on the agenda for
      the
      particular meeting, these materials may include:





*  Financial
      reports on year-to-date performance compared to prior year
      performance;





*  Calculations
      and reports on levels of achievement of individual and corporate performance
      objectives;




77





*  Information
      on the executive officers' stock ownership, employment agreements and option
      holdings;





*  Information
      regarding equity compensation plan dilution;





*  Estimated
      grant-date values of stock options (using the Black-Scholes valuation
      methodology);





*
            Tally
                sheets setting forth the total compensation of the named executive
                officers, including base salary and cash incentives;
                and





*
              Equity
                  awards, perquisites and other compensation and any amounts payable
                  to the
                  executives upon voluntary or involuntary termination, early or
                  normal
                  retirement or following a change-in-control of
                  CSI.





The
      Committee Process





A
      Continuing Process





Although
      many compensation decisions are made in the first quarter of a fiscal year,
      our
      compensation planning process neither begins nor ends with any particular
      Committee meeting. Compensation decisions are designed to promote our
      fundamental business objectives and strategy. Business and succession planning,
      evaluation of management performance and consideration of the business
      environment are year-round processes.





Management's
      Role in the Compensation-Setting Process





Executive
      Management plays a significant role in the compensation-setting process. The
      most significant aspects of management's role are:





* E valuating
      employee performance;





* E stablishing
      business performance targets and objectives; and





* R ecommending
      salary levels and option awards.





Executive
      Management works with the General Counsel and Committee Chair in establishing
      the agenda for Committee meetings. Management also prepares meeting information
      for each Committee meeting.





Executive
      Management also participates in Committee meetings at the Committee's request
      to
      provide:





*  Background
      information regarding CSI’s strategic objectives;





*  Their
      evaluation of the performance of the senior executive officers; and




78




*  Compensation
      recommendations as to senior executive officers.





Committee
      Advisors





The
      Committee Charter grants us the sole and direct authority to hire and fire
      our
      advisors and compensation consultants and approve their compensation. CSI is
      obligated to pay our advisors and consultants. If hired, these advisors would
      report directly to the Committee.





Annual
      Evaluation





We
      meet
      in executive session each year to evaluate the performance of the named
      executive officers, to determine their bonuses, if any, for the prior fiscal
      year, to set their base salaries for the next calendar year (assuming such
      salary is not already mandated by an employment agreement), and to consider
      and
      approve any grants to them of equity incentive compensation.





Performance
      Objectives





We
      are
      considering beginning a process to establish individual and corporate
      performance objectives for senior executive officers in the first quarter of
      each fiscal year. We would engage in an active dialogue with the Chief Executive
      Officer concerning strategic objectives and performance targets. We would review
      the appropriateness of the financial measures used in incentive plans and the
      degree of difficulty in achieving specific performance targets. Corporate
      performance objectives would typically be established on the basis of a targeted
      return on capital employed for CSI or a particular business unit.





Benchmarking





We
      do not
      believe that it is appropriate to establish compensation levels primarily based
      on benchmarking. We believe that information regarding pay practices at other
      companies is useful in two respects, however. First, we recognize that our
      compensation practices must be competitive in the marketplace. Second, this
      marketplace information is one of the many factors that we could consider in
      assessing the reasonableness of compensation.





Targeted
      Compensation Levels





Together
      with the performance objectives, we intend to establish targeted total
      compensation levels (i.e., maximum achievable compensation) for each of the
      senior executive officers. In making this determination, we will be guided
      by
      the compensation philosophy described below. We also will consider historical
      compensation levels and the relative compensation levels among the Company's
      senior executive officers. We may also consider industry conditions, corporate
      performance versus a peer group of companies and the overall effectiveness
      of
      our compensation program in achieving desired performance levels.




79


Performance
        Pay


As
      targeted total compensation levels are determined, we also will consider
      determining the portion of total compensation that will be contingent,
      performance-based pay. Performance-based pay generally includes cash bonuses
      for
      achievement of specified performance objectives and stock-based compensation
      whose value is dependent upon long-term appreciation in stock
      price.





Committee
      Effectiveness





We
      will
      review, on an annual basis, the performance of our Committee and the
      effectiveness of our compensation program in obtaining desired
      results.





Compensation
      Philosophy





Our
      executive compensation program is designed with one fundamental objective:
      to
      support CSI’s core values and strategic objectives. Our compensation philosophy
      is intended to align the interests of management with those of our stockholders.
      The following principles influence and guide our compensation
      decisions:





We
      Believe in a Pay for Performance Culture





At
      the
      core of our compensation philosophy is our guiding belief that pay should be
      directly linked to performance. This philosophy has will guide many compensation
      related decisions in fiscal 2007:





*
            We
                would like to have a substantial portion of executive officer compensation
                contingent on, and variable with, achievement of objective corporate
                and/or individual performance
                objectives.





*
            It
                is our policy to prohibit discounted stock options, reload stock
                options
                and re-pricing of stock options.





Compensation
      and Performance Pay Should Reflect Position and Responsibility





Total
      compensation and accountability should generally increase with position and
      responsibility. Consistent with this philosophy:





*
            Total
                compensation is higher for individuals with greater responsibility
                and
                greater ability to influence CSI’s achievement of targeted results and
                strategic initiatives.





*
            As
                position and responsibility increases, a greater portion of the executive
                officer's total compensation is performance-based pay contingent
                on the
                achievement of performance
                objectives.





*
            Equity-based
                compensation is higher for persons with higher levels of responsibility,
                making a significant portion of their total compensation dependent
                on
                long-term stock appreciation.




80




Compensation
      Decisions Should Promote the Interests of Stockholders





Compensation
      should focus management on achieving strong short-term (annual) performance
      in a
      manner that supports and ensures the Company's long-term success and
      profitability. We believe that stock options create long-term incentives that
      align the interest of management with the long-term stockholders.





Compensation
      should be Reasonable and Responsible





It
      is
      essential that CSI’s overall compensation levels be sufficiently competitive to
      attract talented leaders and motivate those leaders to achieve superior results.
      At the same time, we believe that compensation should be set at responsible
      levels. Our executive compensation is intended to be consistent with CSI’s
      constant focus on controlling costs.





Compensation
      Disclosures Should be clear and complete





We
      believe that all aspects of executive compensation should be clearly,
      comprehensibly and promptly disclosed in plain English. We believe that
      compensation disclosures should provide all of the information necessary to
      permit stockholders to understand our compensation philosophy, our
      compensation-setting process and how and how much our executives are
      paid.





Elements
      of Executive Compensation




Base
      Salary





Base
      pay
      is a critical element of executive compensation because it provides executives
      with a base level of monthly income. In determining base salaries, we consider
      the executive's qualifications and experience, scope of responsibilities and
      future potential, the goals and objectives established for the executive, the
      executive's past performance, competitive salary practices, internal pay equity
      and the tax deductibility of base salary.





Equity
      Based Compensation





We
      believe that equity compensation is an effective means of creating a long-term
      link between the compensation provided to officers and other key management
      personnel with gains realized by the stockholders. We have elected to use stock
      options as the equity compensation vehicle. All stock options incorporate the
      following features:





*
            The
                term of the grant does not exceed 5-10
                years;





*
            The
                grant price is not less than the market price on the date of
                grant;





*
            Grants
                do not include "reload" provisions;





*
            Repricing
                of options is prohibited; and




81




*
            Options
                vest 33.33% per year over three years beginning with the first anniversary
                of the date of grant.





We
      will
      continue to use stock options as a long-term incentive vehicle
      because:





*
            Stock
                options align the interests of executives with those of the stockholders,
                support a pay-for-performance culture, foster employee stock ownership,
                and focus the management team on increasing value for the
                stockholders.





*
            Stock
                options are performance based. All the value received by the recipient
                from a stock option is based on the growth of the stock price above
                the
                option price.





*
            The
                vesting period encourages executive retention and the preservation
                of
                stockholder value.





In
      determining the number of options to be granted to senior executive officers,
      we
      will take into account the individual's position, scope of responsibility,
      ability to affect profits and stockholder value and the individual’s historic
      and recent performance and the value of stock options in relation to other
      elements of total compensation.





Additional
      Benefits





Executive
      officers participate in other employee benefit plans generally available to
      all
      employees on the same terms as similarly situated employees.





Our
      Compensation Decisions




This
      section describes the compensation decisions that we made with respect to the
      named executive officers for fiscal 2006 and during the first quarter of fiscal
      2007.





Executive
      Summary





In
      summary, the compensation decisions made in fiscal 2006 and the first quarter
      of
      fiscal 2007 for the named executive officers were as follows:





*
            We
                did not increase base salaries for the named executive officers,
                and there
                is no plan to do so in fiscal 2007.





*
            In
                2006, no bonuses were awarded to the then-named executive officers
                in 2006
                (except for the bonus granted to William McKnight pursuant to his
                employment agreement).





*
            In
                2006, only one then-named executive officer received a stock option
                grant.




82




*
            Performance-based
                pay represented 0% of the total compensation actually paid to the
                named
                executive officers for fiscal 2006, and the Committee is presently
                assessing this for fiscal 2007.





We
      believe that these decisions are consistent with our core compensation
      principles:





*
            We
                believe in a pay for performance
                culture;





*
            Compensation
                decisions should promote the interests of long-term stockholders;
                and





*
            Compensation
                should be reasonable and
                responsible.





Base
      Salary





The
      base
      salaries are mandated in employment agreements with the named executive
      officers:





**Name**
            
            
            **Title**
            
            
            **2007
                Base Salary**Scott
                Newman
            
            
            President
                and Chief Executive Officer
            
            $
            500,000Glenn
                Peipert
            
            
            Executive
                Vice President and Chief Operating Officer
            
            $
            375,000William
                McKnight
            
            
            Senior
                Vice President - Data Warehousing
            
            $
            250,000




Stock
      Option Grants





We
      granted the following stock options to the named executive officers in fiscal
      2006:





Name
            
            Options
                Granted (# of underlying shares)William
                Hendry (1)
            
            
            150,000Robert
                C. DeLeeuw (2)
            
            
            1,000,000





(1)
      The
      options vest ratably over a three year period and expire ten years from the
      date
      of grant.





(2)
      Mr.
      DeLeeuw’s employment with CSI ended on December 31, 2006. All 1,250,000 options
      that had been granted to Mr. DeLeeuw were fully vested on December 31,
      2006.





Employment
      Agreements




83




Scott
      Newman, our President and Chief Executive Officer, agreed to a five-year
      employment agreement dated as of March 26, 2004. The agreement provides for
      an
      annual salary to Mr. Newman of $500,000 and an annual bonus to be awarded by
      the
      Committee. The agreement also provides for health, life and disability
      insurance, as well as a monthly car allowance.





Glenn
      Peipert, Executive Vice President and Chief Operating Officer, agreed to a
      five-year employment agreement dated as of March 26, 2004. The agreement
      provides for an annual salary to Mr. Peipert of $375,000 and an annual bonus
      to
      be awarded by the Committee. The agreement also provides for health, life and
      disability insurance, as well as a monthly car allowance.





William
      McKnight, Senior Vice President - Data Warehousing, agreed to a three-year
      employment agreement dated as of July 22, 2005. The agreement provides for
      an
      annual salary to Mr. McKnight of $250,000 and an annual bonus to be awarded
      by
      the Committee. The agreement also provides for health, life and disability
      insurance.





Severance
      Arrangements





The
      following named executive officers have arrangements that provide for payment
      of
      severance payments:





*
            In
                the event that Scott Newman’s employment is terminated other than with
                good cause, Mr. Newman will receive a lump sum payment of 2.99 times
                his
                base salary.





*
            In
                the event that Glenn Peipert’s employment is terminated other than with
                good cause, Mr. Peipert will receive a lump sum payment of 2.99 times
                his
                base salary.





*
            In
                the event that William McKnight’s employment is terminated other than with
                good cause, Mr. McKnight will receive a lump sum payment of the longer
                of
                (1) one year's base salary or (2) the period from the date of termination
                through the expiration date.





Change-in-Control
      Arrangements





Messrs.
      Newman, Peipert and McKnight would be entitled to the above severance
      arrangements on a change of control. Further, our 2003 Incentive Plan provides
      that upon a change in control, all unvested stock options shall immediately
      become vested (unless the Committee determines otherwise).





At
      present, the named executive officers hold the following unvested stock options
      that would become vested upon a change in control.





Name
            
            
            Number
                of Shares Underlying Vested Options (#)
            
            
            Number
                of Shares Underlying Unvested Options (#)Glenn
                Peipert
            
            
            83,333
            
            
            166,667William
                Hendry
            
            
            30,000
            
            
            180,000Bryan
                Carey
            
            
            63,888
            
            
            244,445





84





Stock
      Ownership Requirement for Management





The
      Company does not have a formal policy requiring stock ownership by management.
      One of the key objectives of the 2003 Incentive Plan is to promote ownership
      of
      the Company’s stock by management.




Compensation
      Policies




Internal
      Pay Equity





We
      believe that internal equity is an important factor to be considered in
      establishing compensation for the officers. We have not established a policy
      regarding the ratio of total compensation of the Chief Executive Officer to
      that
      of the other officers, but we do review compensation levels to ensure that
      appropriate equity exists. We intend to continue to review internal compensation
      equity and may adopt a formal policy in the future if we deem such a policy
      to
      be appropriate.




Internal
      Revenue Code Section 162(m)





Section 162(m)
      of the Internal Revenue Code generally disallows a tax deduction to public
      companies for compensation in excess of $1 million paid to the CEO or any named
      executive officer unless such compensation is paid pursuant to a qualified
      performance-based compensation plan. We believe that the 2003 Incentive Plan
      qualifies under the current IRS definition of performance-based compensation.
      The Committee has expressed the intention of continued reliance upon such
      performance-based compensation in order to preserve its deductibility for
      federal income tax purposes to the extent reasonably practicable.





Financial
      Restatement





It
      is the
      Board of Directors' Policy that the Committee will, to the extent permitted
      by
      governing law, have the sole and absolute authority to make retroactive
      adjustments to any cash or equity based incentive compensation paid to executive
      officers and certain other officers where the payment was predicated upon the
      achievement of certain financial results that were subsequently the subject
      of a
      restatement. Where applicable, the Company will seek to recover any amount
      determined to have been inappropriately received by the individual
      executive.





Timing
      of
      Stock Option Grants





CSI
      has
      adopted a policy on stock option grants that includes the following provisions
      relating to the timing of option grants:





*
            CSI
                executives make recommendations to the Committee related to selecting
                the
                grant date.




85




*
            The
                grant date of the stock options is always the date of approval of
                the
                grants (or a specified later date if for any reason the grant is
                approved
                during a time when CSI is in possession of material, non-public
                information).





*
            The
                exercise price is the closing price of the underlying common stock
                on the
                grant date.





**ITEM
      12.**  **SECURITY
      OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER
      MATTERS**




The
      following table sets forth certain information regarding the beneficial
      ownership of our common stock, our only class of outstanding voting securities
      as of March 27, 2007, based on 56,480,153 aggregate shares of common stock
      outstanding as of such date, by: (i) each person who is known by us to own
      beneficially more than 5% of our outstanding common stock with the address
      of
      each such person, (ii) each of our present directors and officers, and (iii)
      all
      officers and directors as a group:





**Name
                and Address of**
              **Beneficial
                Owner****(1)(2)**
            
            
            **Amount
                of Common Stock Beneficially Owned**
            
            
            **Percentage
                of Outstanding Common Stock Beneficially Owned**Scott
                Newman(3)
            
            
            19,619,385
            
            
            34.7
            %Glenn
                Peipert(4)
            
            
            10,281,227
            
            
            18.2
            %William
                Hendry(5)
            
            
            30,000
            
            
            *William
                McKnight(6)
            
            
            829,091
            
            
            1.5
            %Bryan
                Carey (7)
            
            
            63,888
            
            
            *Lawrence
                K. Reisman(8)
            
            
            26,666
            
            
            *Frederick
                Lester(9)
            
            
            0
            
            
            *Thomas
                Pear(10)
            
            
            200
            
            
            *Robert
                C. DeLeeuw(11)
            
            
            6,558,334
            
            
            11.4
            %All
                directors and officers as a group (8 persons)
            
            
            30,850,457
            
            
            54.4
            %







*
            Represents less than 1% of the issued and outstanding Common
                Stock.




(1)
            Each
                stockholder, director and executive officer has sole voting power
                and sole
                dispositive power with respect to all shares beneficially owned by
                him,
                unless otherwise indicated.




(2)
            All
                addresses are c/o Conversion Services International, Inc.,100
                Eagle Rock Avenue, East Hanover, New Jersey
                07936.




86




(3)
            Mr.
                Newman is the Company’s President, Chief Executive Officer and Chairman of
                the Board.




(4)
            Mr.
                Glenn Peipert is the Company’s Executive Vice President, Chief Operating
                Officer and Director. Consists of an option to purchase 83,333 shares
                of
                Common Stock granted on November 16, 2005, and expiring on November
                16,
                2010, at an exercise price of $0.83 per share, and does not include
                an
                option to purchase 166,667 shares of Common Stock which vest as follows:
                (i) 83,333 on November 16, 2007 and (ii) 83,334 on November 16, 2008.




(5)
            Mr.
                William Hendry is the Company’s Vice President, Chief Financial Officer
                and Treasurer. Consists of an option to purchase 20,000 shares of
                Common
                Stock granted on May 28, 2004, and expiring on May 28, 2014, at an
                exercise price of $3.00 per share, and does not include an option
                to
                purchase 10,000 shares of Common Stock, which shall vest on May 28,
                2007.****Consists
                of an option to purchase 10,000 shares of Common Stock granted on
                November
                16, 2005, and expiring on November 16, 2015, at an exercise price
                of $0.83
                per share, and does not include an option to purchase 20,000 shares
                of
                Common Stock which vest as follows: (i) 10,000 on May 16, 2007 and
                (ii)
                10,000 on May 16, 2008. Does not include an option to purchase 150,000
                shares of Common Stock granted on October 10, 2006, and expiring
                on
                October 10, 2016, at an exercise price of $0.25, which vests as follows:
                (i) 50,000 on October 10, 2007, (ii) 50,000 on October 10, 2008 and
                (iii)
                50,000 on October 10, 2009.




(6)
            Mr.
                McKnight is the Company’s Senior Vice President - Data
                Warehousing.




(7)
            Mr.
                Carey is the Company’s Senior Vice President - Strategic Consulting.
                Consists of an option to purchase 22,222 shares of Common Stock granted
                on
                May 28, 2004, and expiring on May 28, 2014, at an exercise price
                of $3.00
                per share, and does not include an option to purchase 11,111 shares
                of
                Common Stock, which shall vest on May 28, 2007.****Consists
                of an option to purchase 41,666 shares of Common Stock granted on
                November
                16, 2005, and expiring on November 16, 2015, at an exercise price
                of $0.83
                per share, and does not include an option to purchase 83,334 shares
                of
                Common Stock which vest as follows: (i) 41,666 on May 16, 2007 and
                (ii)
                41,668 on May 16, 2008. Does not include an option to purchase 150,000
                shares of Common Stock granted on October 10, 2006, and expiring
                on
                October 10, 2016, at an exercise price of $0.25, which vests as follows:
                (i) 50,000 on October 10, 2007, (ii) 50,000 on October 10, 2008 and
                (iii)
                50,000 on October 10, 2009.





(8)
            Mr.
                Reisman is a Director. Consists of an option to purchase 20,000 shares
                of
                Common Stock granted on May 28, 2004, and expiring on May 28, 2014,
                at an
                exercise price of $3.00 per share, and does not include an option
                to
                purchase 10,000 shares of Common Stock, which shall vest on May 28,
                2007.****Consists
                of an option to purchase 6,666 shares of Common Stock granted on
                November
                16, 2005, and expiring on November 16, 2015, at an exercise price
                of $0.83
                per share, and does not include an option to purchase 13,334 shares
                of
                Common Stock which vest as follows: (i) 6,666 on November 16, 2007
                and
                (ii) 6,668 on November 16, 2008. Does not include an option to purchase
                25,000 shares of Common Stock granted on October 10, 2006, and expiring
                on
                October 10, 2016, at an exercise price of $0.25, which vests as follows:
                (i) 8,333 on October 10, 2007, (ii) 8,333 on October 10, 2008 and
                (iii)
                8,334 on October 10, 2009.





(9)
            Mr.
                Lester is a Director.  Does not include an option to purchase 25,000
                shares of Common Stock granted on October 10, 2006, and expiring
                on
                October 10, 2016, at an exercise price of $0.25, which vests as follows:
                (i) 8,333 on October 10, 2007, (ii) 8,333 on October 10, 2008 and
                (iii)
                8,334 on October 10, 2009.





(10)
            Mr.
                Pear is a Director. Does not include an option to purchase 25,000
                shares
                of Common Stock granted on October 10, 2006, and expiring on October
                10,
                2016, at an exercise price of $0.25, which vests as follows: (i)
                8,333 on
                October 10, 2007, (ii) 8,333 on October 10, 2008 and (iii) 8,334
                on
                October 10, 2009.





(11)
            Mr.
                DeLeeuw was formerly the Company’s Senior Vice President and director.
                Includes a fully vested option to purchase 250,000 shares of Common
                Stock
                granted on November 16, 2005 and expiring on November 16, 2015 at
                an
                exercise price of $0.83 per share. Also includes a fully vested option
                to
                purchase 1,000,000 shares of Common Stock granted on January 9, 2006
                and
                expiring on January 9, 2016 at an exercise price of $0.46 per
                share.




87




**ITEM
      13.**  **CERTAIN
      RELATIONSHIPS AND RELATED PARTY TRANSACTIONS** ****





In
      November 2003, the Company executed an Independent Contractor Agreement with
      LEC, whereby the Company agreed to be a subcontractor for LEC, and to provide
      consultants as required to LEC. In return for these services, the Company
      receives a fee from LEC based on the hourly rates established for consultants
      subcontracted to LEC. In May 2004, the Company acquired 49% of all issued and
      outstanding shares of common stock of LEC. For the years ended December 31,
      2006, 2005 and 2004, the Company invoiced LEC $2,478,342, $3,731,198 and
      $3,837,065, respectively, for the services of consultants subcontracted to
      LEC
      by the Company. As of December 31, 2006, 2005 and 2004, the Company had accounts
      receivable due from LEC of approximately $330,000, $570,000 and $781,000,
      respectively. There are no known collection problems with respect to LEC. The
      majority of their billing is derived from Fortune 1000 clients. The collection
      process is slow as these clients require separate approval on their own internal
      systems, which extends the payment cycle.





On
      November 8, 2004, Mr. Glenn Peipert entered into a stock purchase agreement
      with
      a private investor, CMKX-treme, Inc.  Pursuant to the agreement,
      CMKX-treme, Inc. agreed to purchase 377,778 shares of common stock for a
      purchase price of $500,000.  As of June 9, 2005, CMKX-treme, Inc. remitted
      final payment for the shares.





On
      November 10, 2004, the Company and Dr. Michael Mitchell, the former President,
      Chief Executive Officer and sole director of LCS, executed a one-year consulting
      agreement whereby Dr. Mitchell would perform certain consulting services on
      behalf of the Company. Dr. Mitchell was to receive an aggregate amount of $0.25
      million as compensation for services provided to the Company. During 2004 and
      2005, an aggregate amount of $225,000 was paid to Mr. Mitchell for services
      provided under this consulting agreement.





As
      of
      November 16, 2004, Mr. Newman and Mr. Peipert repaid in full to the Company
      loans in the aggregate of approximately $0.2 million, including accrued
      interest. These loans bore interest at 3% per annum and were due and payable
      by
      December 31, 2005.





As
      of
      August 23, 2006, approximately $0.6 million and $0.5 million remained
      outstanding to Messrs. Newman and Peipert, respectively, on their loans to
      the
      Company. On August 23, 2006, p ursuant
      to a unanimous resolution of the independent members of the Board of Directors,
      certain loans made to the Company by Messrs.
      Newman and Peipert were
      converted into shares of common stock of the Company. Per the Board resolution,
      the shares of common stock received were based on a conversion price of $0.63,
      or the closing market price of the Company's common stock on the American Stock
      Exchange on the date of conversion (August 23, 2006). Mr. Newman received
      980,491 shares of restricted common stock, and Mr. Peipert received 851,862
      shares of restricted common stock.




88





As
      of
      December 31, 2006, Mr. Newman had no outstanding loan balance to the Company,
      and Mr. Peipert’s outstanding loan balance to the Company was $0.1 million. The
      unsecured loan by Mr. Peipert accrues interest at a simple rate of 8% per annum,
      and has a term expiring on April 30, 2007.





Other
      than those described above, during the last two fiscal years, we have no
      material transactions which involved or are planned to involve a direct or
      indirect interest of a director, executive officer, greater than 5% stockholder
      or any family of such parties.




89





**ITEM
      14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.**





The
      following table sets forth fees billed to us by our independent registered
      public accounting firms during the fiscal years ended December 31, 2006 and
      December 31, 2005 for: (i) services rendered for the audit of our annual
      financial statements and the review of our quarterly financial statements;
      (ii)
      services by our independent registered public accounting firms that are
      reasonably related to the performance of the audit or review of our financial
      statements and that are not reported as Audit Fees; (iii) services rendered
      in
      connection with tax compliance, tax advice and tax planning; and (iv) all other
      fees for services rendered.




December
                  31, 2006
              
              
              December
                  31, 2005Audit
                  Fees
              
              $
              256,367
              
              $
              319,748Audit
                  Related Fees
              
              $
              2,500
              
              $
              8,700Tax
                  Fees
              
              $
              93,733
              
              
              78,850All
                  Other Fees
              
              $
              18,030
              
              $
              -$
              370,630
              
              $
              407,298
  Audit
      Committee Policies





The
      Board
      of Directors is solely responsible for the approval in advance of all audit
      and
      permitted non-audit services to be provided by the independent auditors
      (including the fees and other terms thereof), subject to the de minimus
      exceptions for non-audit services provided by Section 10A(i)(1)(B) of the
      Exchange Act, which services are subsequently approved by the Board of Directors
      prior to the completion of the audit. None of the fees listed above are for
      services rendered pursuant to such de minimus exceptions.




90




**Part
      IV**





**ITEM
      15.**  **EXHIBITS**




2.1  Agreement
        and Plan of Reorganization, dated August 21, 2003, among Registrant, LCS
        Acquisition Corp., Conversion Services International, Inc. and certain
        affiliated stockholders of Conversion Services International, Inc. (filed
        as
        Appendix A on Schedule 14A on January 5, 2004).
 
 2.2  First
        Amendment to Agreement and Plan of Reorganization, dated November 28, 2003,
        among Registrant, LCS Acquisition Corp., Conversion Services International,
        Inc.
        and certain affiliated stockholders of Conversion Services International,
        Inc.
        (filed as Appendix A on Schedule 14A on January 5, 2004).
 
 2.3  Certificate
        of Merger, dated January 30, 2004, relating to the merger of LCS Acquisition
        Corp. and Conversion Services International, Inc. (filed as Exhibit 2.3 on
        Form
        8-K on February 17, 2004).
 
 2.4  Acquisition
        Agreement, dated February 27, 2004, among the Company, DeLeeuw Associates,
        Inc.
        and Robert C. DeLeeuw (filed as Exhibit 2.1 on Form 8-K on March 16,
        2004).
 
 2.5  Plan
        and
        Agreement of Merger and Reorganization, dated February 27, 2004, among
        Registrant, DeLeeuw Associates, Inc. and DeLeeuw Conversion LLC filed as
        Exhibit
        2.1 on Form 8-K on March 16, 2004).
 
 2.6  Asset
        Purchase Agreement, dated May 26, 2004, among Registrant, Evoke Asset Purchase
        Corp. and Evoke Software Corporation (filed as Exhibit 2.1 on Form 8-K on
        July
        13, 2004).
 
 2.7  Asset
        Purchase Agreement dated July 18, 2005 by and among Registrant, Similarity
        Vector Technologies (Sivtech) Limited (d/b/a Similarity Systems), Similarity
        Systems Inc. and Evoke Software Corporation (filed as Exhibit 2.1 on Form
        8-K on
        September 27, 2004).
 
 2.8  Agreement
        and Plan of Merger dated July 22, 2005 among Registrant, McKnight Associates,
        Inc., McKnight Associates, Inc. and William McKnight (filed as Exhibit 2
        on Form
        8-K on July 28, 2005).
 
 2.9  Agreement
        and Plan of Merger dated July 28, 2005 among Registrant, ISI Merger Corp.,
        a
        Delaware corporation, Integrated Strategies, Inc., a Delaware corporation,
        ISI
        Consulting, LLC, a Delaware limited liability company, Adam Hock, and Larry
        Hock
        (filed as Exhibit 2 on Form 8-K on August 2, 2005).
 
 3.1  Certificate
        of Incorporation, as amended (filed as Exhibit 3.1 on Form 10-SB on December
        9,
        1999).
 
 3.2  Certificate
        of Amendment to Certificate of incorporation, dated January 27, 2004, amending,
        among other things, the authorized shares of common and preferred stock (filed
        as Exhibit 3.1 on Form 8-K on February 17, 2004).
 
 3.3  Certificate
        of Amendment to Certificate of Incorporation, dated January 30, 2004, changing
        the name of the Company from LCS Group, Inc. to Conversion Services
        International, Inc. (filed as Exhibit 3.2 on Form 8-K on February 17,
        2004).
 
 3.4  Certificate
        of Amendment to Certificate of Incorporation, dated September 20, 2005,
        effecting, among other things, the 1 for 15 reverse stock split (filed as
        Exhibit D on Schedule 14A on July 26, 2005).
 
 3.5  Certificate
        of Amendment to Certificate of Incorporation, dated August 8, 2006, increasing
        the authorized shares of common stock (filed as Exhibit A on Schedule 14A
        on
        July 17, 2006).




91




3.6  Certificate
        of Designations of Preferences, Rights and Limitations of Series A Convertible
        Preferred Stock of Registrant dated February 2, 2006 (filed as Exhibit 4.1
        on
        Form 8-K on February 8, 2006).
 
 3.7  Certificate
        of Designations of Preferences, Rights and Limitations of Series B Convertible
        Preferred Stock of Registrant (filed as Exhibit 4.1 on Form 8-K on August
        16,
        2006).
 
 3.8  Amended
        and Restated Bylaws (filed as Exhibit 3.3 on Form 8-K on February 17,
        2004).
 
 4.1  Common
        Stock Purchase Warrant, dated August 16, 2004, in favor of Laurus Master
        Fund,
        Ltd. (filed as Exhibit 4.7 on Form 10-QSB on August 23, 2004).
 
 4.2  Senior
        Subordinated Secured Convertible Promissory Note, dated September 22, 2004,
        in
        favor of Sands Brothers Venture Capital LLC (filed as Exhibit 10.1 on Form
        8-K
        on September 27, 2004).
 
 4.3  Senior
        Subordinated Secured Convertible Promissory Note, dated September 22, 2004,
        in
        favor of Sands Brothers Venture Capital III LLC (filed as Exhibit 10.2 on
        Form
        8-K on September 27, 2004).
 
 4.4  Senior
        Subordinated Secured Convertible Promissory Note, dated September 22, 2004,
        in
        favor of Sands Brothers Venture Capital IV LLC (filed as Exhibit 10.3 on
        Form
        8-K on September 27, 2004).
 
 4.5
        Common Stock Purchase Warrant, dated September 22, 2004, in favor of Sands
        Brothers Venture Capital LLC (filed as Exhibit 4.1 on Form 8-K on September
        27,
        2004).
  4.6  Common
        Stock Purchase Warrant, dated September 22, 2004, in favor of Sands Brothers
        Venture Capital III LLC (filed as Exhibit 4.2 on Form 8-K on September 27,
        2004).
 
 4.7  Common
        Stock Purchase Warrant, dated September 22, 2004, in favor of Sands Brothers
        Venture Capital IV LLC (filed as Exhibit 4.3 on Form 8-K on September 27,
        2004).
 
 4.8  Amended
        And Restated Secured Convertible Term Note dated August 16, 2004 as amended
        and
        restated on July 28, 2005 in favor of Laurus Master Fund, Ltd. (filed as
        Exhibit
        10.2 on Form 8-K on December 6, 2005).
 
 4.9  Option
        to
        purchase shares of common stock dated February 1, 2006, in favor of Laurus
        Master Fund, Ltd. (filed as Exhibit 4.1 on Form 8-K on February 7,
        2006).
 
 4.10  Secured
        Non-Convertible Revolving Note dated February 1, 2006 in favor of Laurus
        Master
        Fund, Ltd. (filed as Exhibit 10.1 on Form 8-K on February 7, 2006).
 
 4.11  Common
        Stock Purchase Warrant dated February 2, 2006, in favor of Taurus Advisory
        Group, LLC (filed as Exhibit 10.3 on Form 8-K on February 8, 2006).
 
 4.12  Common
        Stock Purchase Warrant, dated August 11, 2006, in favor of Matthew J. Szulik
        (filed as Exhibit 10.3 on Form 8-K on August 16, 2006).
 
 4.13  Common
        Stock Purchase Warrant, dated August 11, 2006, in favor of Feiner Family
        Trust
        (filed as Exhibit 10.4 on Form 8-K on August 16, 2006).
 
 4.14  Common
        Stock Purchase Warrant in favor of certain investors represented by Taurus
        Advisory Group, LLC, dated December 29, 2006 (filed as Exhibit 10.3 on Form
        8-K
        on January 5, 2007).




92
 
  4.15  Common
          Stock Purchase Warrant in favor of investors represented by TAG Virgin
          Islands,
          Inc., dated March 1, 2007 (filed as Exhibit 10.3 on Form 8-K on March 7,
          2007).
 
 4.16  Common
          Stock Warrant in favor of Laurus Master Fund, Ltd., dated March 1, 2007
          (filed
          as Exhibit 10.6 on Form 8-K on March 7, 2007).
 
 4.17  10%
          Convertible Unsecured Note issued to investor represented by TAG Virgin
          Islands,
          Inc., dated March 1, 2007 (filed as Exhibit 10.1 on Form 8-K on March 7,
          2007).
 
 10.1  Employment
          Agreement among Registrant and Scott Newman, dated March 26, 2004 (filed
          as
          Exhibit 10.1 on Form 8-K/A on April 1, 2004).
 
 10.2  Employment
          Agreement among Registrant and Glenn Peipert, dated March 26, 2004 (filed
          as
          Exhibit 10.2 on Form 8-K/A on April 1, 2004).
 
 10.3  Employment
          Agreement among Registrant and Mitchell Peipert, dated March 26, 2004 (filed
          as
          Exhibit 10.3 on Form 8-K/A on April 1, 2004).
 
 10.4  Employment
          Agreement among Registrant and Robert DeLeeuw, dated March 26, 2004 (filed
          as
          Exhibit 10.4 on Form SB-2/A on September 30, 2004).
 
 10.5  2003
          Incentive Plan, as amended (filed as Exhibit 4.1 on Form S-8 POS on October
          18,
          2006).
 
 10.6  Security
          Agreement, dated September 22, 2004, among Registrant, Sands Brothers Venture
          Capital LLC, Sands Brothers Venture Capital III LLC and Sands Brothers
          Venture
          Capital IV LLC (filed as Exhibit 10.4 on Form 8-K on September 27,
          2004).
 
 10.7  Subordination
          Agreement, dated September 22, 2004, among Registrant, Sands Brothers Venture
          Capital LLC, Sands Brothers Venture Capital III LLC, Sands Brothers Venture
          Capital IV LLC and Laurus Master Fund, Ltd. (filed as Exhibit 10.5 on Form
          8-K
          on September 27, 2004).
 
 10.8  Registration
          Rights Agreement, dated September 22, 2004, among Registrant, Sands Brothers
          Venture Capital LLC, Sands Brothers Venture Capital III LLC and Sands Brothers
          Venture Capital IV LLC (filed as Exhibit 4.4 on Form 8-K on September 27,
          2004).
 
 10.9  Bill
          of
          Sale, Assignment And Assumption Agreement dated July 18, 2005 by and among
          Evoke
          Software Corporation and Similarity Vector Technologies (Sivtech) Limited
          (filed
          as Exhibit 2.2 on Form 8-K on July 22, 2005).
 
 10.10  Bill
          of
          Sale, Assignment and Assumption Agreement dated July 18, 2005 by and among
          Evoke
          Software Corporation and Similarity Systems, Inc. (filed as Exhibit 2.3
          on Form
          8-K on July 22, 2005).





93




10.11  Restricted
        Account Agreement by and among Registrant, North Fork Bank and Laurus Master
        Fund, Ltd. (filed as Exhibit 10.11 on Form 10-KSB/A on July 26,
        2005).
 
 10.12  Employment
        Agreement dated July 22, 2005 by and between Registrant and William McKnight
        (filed as Exhibit 10.1 on Form 8-K on July 28, 2005).
 
 10.13  Omnibus
        Amendment dated July 28, 2005 with Laurus Master Fund, Ltd. (filed as Exhibit
        10.3 on Form 8-K on August 3, 2005).
 
 10.14  Joinder
        In Subsidiary Guaranty, Master Security Agreement, Stock Pledge Agreement
        and
        Security Agreement with Laurus Master Fund, Ltd., dated July 28, 2005 (filed
        as
        Exhibit 10.4 on Form 8-K on August 3, 2005).
 
 10.15  Reaffirmation
        and Ratification Agreement with Laurus Master Fund, Ltd., dated July 28,
        2005
        (filed as Exhibit 10.5 on Form 8-K on August 3, 2005).
 
 10.16  Overadvance
        Letter with Laurus Master Fund, Ltd., dated July 28, 2005 (filed as Exhibit
        10.4
        on Form 8-K on August 3, 2005).
 
 10.17  Omnibus
        Amendment with Laurus Master Fund, Ltd., dated November 30, 2005 (filed as
        Exhibit 10.4 on Form 8-K on December 6, 2005).
 
 10.18  Reaffirmation
        and Ratification Agreement with Laurus Master Fund, Ltd., dated November
        30,
        2005 (filed as Exhibit 10.5 on Form 8-K on December 6, 2005).
 
 10.19  Security
        Agreement dated February 1, 2006 by and among Laurus Master Fund, Ltd.,
        Registrant, DeLeeuw Associates, LLC, CSI Sub Corp. (DE), Integrated Strategies,
        Inc., CSI Sub Corp. II (DE), and McKnight Associates, Inc. (filed as Exhibit
        10.3 on Form 8-K on February 7, 2006).
 
 10.20  Stock
        Pledge Agreement with Laurus Master Fund, Ltd., dated February 1, 2006 (filed
        as
        Exhibit 10.4 on Form 8-K on February 7, 2006).
 
 10.21  Overadvance
        Side Letter with Laurus Master Fund, Ltd., dated February 1, 2006 (filed
        as
        Exhibit 10.5 on Form 8-K on February 7, 2006).
 
 10.22  Stock
        Purchase Agreement dated February 2, 2006 by and between Registrant and Taurus
        Advisory Group, LLC (filed as Exhibit 10.1 on Form 8-K on February 7,
        2006).
 
 10.23  Registration
        Rights Agreement dated February 2, 2006 by and between Registrant and Taurus
        Advisory Group, LLC (filed as Exhibit 10.1 on Form 8-K on February 7,
        2006).
 
 10.24  Stock
        Purchase Agreement dated August 11, 2006 by and between Registrant and Matthew
        J. Szulik (filed as Exhibit 10.1 on Form 8-K on August 16, 2006).


94




10.25  Registration
        Rights Agreement dated August 11, 2006 by and between Registrant, Matthew
        J.
        Szulik and the Feiner Family Trust (filed as Exhibit 10.2 on Form 8-K on
        August
        16, 2006).
 
 10.26  Stock
        Purchase Agreement by and between Registrant and certain investors represented
        by Taurus Advisory Group, LLC, dated December 29, 2006 (filed as Exhibit
        10.1 on
        Form 8-K on January 5, 2007).
 
 10.27  Registration
        Rights Agreement by and between Registrant and certain investors represented by
        Taurus Advisory Group, LLC, dated December 29, 2006 (filed as Exhibit 10.2
        on
        Form 8-K on January 5, 2007).
 
 10.28  Registration
        Rights Agreement by and between Registrant and investor represented by TAG
        Virgin Islands, Inc., dated March 1, 2007 (filed as Exhibit 10.2 on Form
        8-K on
        March 7, 2007).
 
 10.29  Third
        Extension Agreement among Registrant and Sands Brothers Venture Capital LLC,
        Sands Brothers Venture Capital III LLC and Sands Brothers Venture Capital
        IV
        LLC, dated March 1, 2007 (filed as Exhibit 10.4 on Form 8-K on March 7,
        2007).
 
 10.30  Omnibus
        Amendment and Waiver No. 2 among Registrant, CSI Sub Corp. (DE), DeLeeuw
        Associates, Inc. and Laurus Master Fund, Ltd. dated March 1, 2007 (filed
        as
        Exhibit 10.5 on Form 8-K on March 7, 2007).
 
 10.31  Assumption,
        Adoption and Consent Agreement among Registrant, CSI Sub Corp. (DE), DeLeeuw
        Associates, Inc. and Laurus Master Fund, Ltd. dated March 1, 2007 (filed
        as
        Exhibit 10.7 on Form 8-K on March 7, 2007).
 
 10.32  Amended
        and Restated Registration Rights Agreement among Registrant and Laurus dated
        March 1, 2007 (filed as Exhibit 10.8 on Form 8-K on March 7,
        2007).





95




21* Subsidiaries
        of Registrant.
  23.1*  
          Consent of Friedman LLP, Independent Registered Public Accounting
          Firm
 
 31.1*  Certification
        of Registrant’s Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of
        the Securities Exchange Act of 1934.
 
 31.2*  Certification
        of Registrant’s Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of
        the Securities Exchange Act of 1934.
 
 32.1*  Certification
        of Registrant’s Chief Executive Officer pursuant to Rule 13a-14(b)/15d-14(b) of
        the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350.
 
 32.2*  Certification
        of Registrant’s Chief Financial Officer pursuant to Rule 13a-14(b)/15d-14(b) of
        the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350.
 ____________________
 *
        filed
        herewith


96






**REPORT
      OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**




The
      Board
      of Directors and Stockholders


Conversion
      Services International, Inc. and Subsidiaries


East
      Hanover, New Jersey





We
      have
      audited the accompanying consolidated balance sheets of Conversion Services
      International, Inc. and Subsidiaries as of December 31, 2006 and 2005, and
      the
      related consolidated statements of operations, stockholders' equity (deficit),
      and cash flows for the years ended December 31, 2006, 2005 and 2004. These
      consolidated financial statements are the responsibility of the Company's
      management. Our responsibility is to express an opinion on these financial
      statements based on our audits.





We
      conducted our audits in accordance with the standards of the Public Company
      Accounting Oversight Board (United States). Those standards require that we
      plan
      and perform the audit to obtain reasonable assurance about whether the financial
      statements are free of material misstatement. An audit includes examining,
      on a
      test basis, evidence supporting the amounts and disclosures in the financial
      statements. An audit also includes assessing the accounting principles used
      and
      significant estimates made by management, as well as evaluating the overall
      financial statement presentation. We believe that our audits provide a
      reasonable basis for our opinion.





In
      our
      opinion, the financial statements referred to above present fairly, in all
      material respects, the consolidated financial position of Conversion Services
      International, Inc. and Subsidiaries as of December 31, 2006 and 2005, and
      the
      consolidated results of its operations and its cash flows for the years ended
      December 31, 2006, 2005 and 2004, in conformity with accounting principles
      generally accepted in the United States of America.





As
      discussed in Note 1 to the consolidated financial statements, effective January
      1, 2006 the Company adopted Statement of Financial Accounting Standards (“SFAS”)
“ *Share-Based
      Payment” (“SFAS 123(R)”)* which
      requires companies to estimate fair value of share-based payment awards on
      the
      date of grant using an option-pricing model.





The
      accompanying consolidated financial statements have been prepared assuming
      that
      the Company will continue as a going concern. As discussed in Note 2 to the
      consolidated financial statements, the Company's recurring losses, negative
      cash
      flows from operations, its net working capital deficiency and its ability to
      pay
      its outstanding debt raise substantial doubt about its ability to continue
      as a
      going concern. Management's plans in regard to these matters are also described
      in Note 2. The consolidated financial statements do not include any adjustments
      that might result from the outcome of these uncertainties.






/s/
      Friedman LLP





East
      Hanover, New Jersey


March
      29,
      2007, except for note 25 as to which the date is September 5, 2007





97


**CONVERSION
        SERVICES INTERNATIONAL, INC.**
 **AND
        SUBSIDIARIES**
 **CONSOLIDATED
        BALANCE SHEETS**
 **DECEMBER
        31,**
  **2006**
              
              **2005**ASSETSCURRENT
                  ASSETSCash
              
              $
              668,006
              
              $
              176,073Accounts
                  receivable, net of allowance for doubtful accounts of $279,422
                  and
                  $489,070 as of December 31, 2006 and 2005,
                  respectively
              
              
              3,912,000
              
              
              3,194,375Accounts
                  receivable from related parties, net of allowance for doubtful
                  accounts of
                  $8,972 and zero as of December 31, 2006 and 2005, respectively;
                  (Note
                  24)
              
              
              330,006
              
              
              569,908Prepaid
                  expenses
              
              
              132,087
              
              
              142,432TOTAL
                  CURRENT ASSETS
              
              
              5,042,099
              
              
              4,082,788PROPERTY
                  AND EQUIPMENT, at cost, net
              
              
              265,084
              
              
              417,469OTHER
                  ASSETSGoodwill
              
              
              6,826,705
              
              
              7,239,566Intangible
                  assets, net of accumulated amortization of $1,265,958 and $740,350
                  as of
                  December 31, 2006 and 2005, respectively; (Note 7)
              
              
              1,266,856
              
              
              1,862,964Deferred
                  financing costs, net of accumulated amortization of $52,609 and
                  $467,604
                  as of December 31, 2006 and 2005, respectively; (Note
                  8)
              
              
              57,391
              
              
              425,705Discount
                  on debt issued, net of accumulated amortization of $1,793,921 and
                  $678,917
                  as of December 31, 2006 and 2005, respectively; (Note
                  9)
              
              
              786,079
              
              
              4,177,428Equity
                  investments
              
              
              176,152
              
              
              149,117Other
                  assets
              
              
              110,445
              
              
              123,4329,223,628
              
              
              13,978,212Total
                  Assets
              
              $
              14,530,811
              
              $
              18,478,469LIABILITIES
                  AND STOCKHOLDERS' EQUITY (DEFICIT)CURRENT
                  LIABILITIESLine
                  of credit; (Note 10)
              
              $
              5,795,552
              
              $
              4,713,312Current
                  portion of long-term debt
              
              
              578,685
              
              
              495,122Accounts
                  payable and accrued expenses
              
              
              1,957,501
              
              
              2,519,446Short
                  term notes payable; (Note 11)
              
              
              2,745,000
              
              
              1,063,990Deferred
                  revenue
              
              
              74,450
              
              
              41,121Related
                  party note payable; (Note 24)
              
              
              110,831
              
              
              -Financial
                  instruments; (Note 12)
              
              
              52,228
              
              
              2,837,657TOTAL
                  CURRENT LIABILITIES
              
              
              11,314,247
              
              
              11,670,648LONG-TERM
                  DEBT, net of current portion
              
              
              1,769,154
              
              
              3,042,914RELATED
                  PARTY NOTE PAYABLE; (Note 24)
              
              
              -
              
              
              1,772,368DEFERRED
                  TAXES
              
              
              363,400
              
              
              363,400Total
                  Liabilities
              
              
              13,446,801
              
              
              16,849,330SERIES
                  A CONVERTIBLE PREFERRED STOCK, $0.001 par value, $100.00 stated
                  value,
                  20,000,000 shares authorized; 19,000 and zero shares issued and
                  outstanding at December 31, 2006 and 2005, respectively; (Note
                  16)
              
              
              348,333
              
              
              -SERIES
                  B CONVERTIBLE PREFERRED STOCK, $0.001 par value, $100.00 stated
                  value,
                  20,000,000 shares authorized; 20,000 and zero shares issued and
                  outstanding at December 31, 2006 and 2005, respectively; (Note
                  16)
              
              
              1,248,806
              
              
              -COMMITMENTS
                  AND CONTINGENCIES
              
              
              -
              
              
              -STOCKHOLDERS'
                  EQUITY (DEFICIT)Common
                  stock, $0.001 par value, 100,000,000 shares
                  authorized;57,625,535
                  and 54,093,916 issued and outstanding at December 31, 2006 and
                  2005,
                  respectively
              
              
              57,625
              
              
              54,094Additional
                  paid in capital
              
              
              50,829,255
              
              
              42,264,407Treasury
                  stock, at cost, 1,145,382 and zero shares in treasury as of December
                  31,
                  2006 and 2005, respectively; (Note 17)
              
              
              (423,869
              )
              
              -Accumulated
                  deficit
              
              
              (50,976,140
              )
              
              (40,689,362
              )Total
                  Stockholders' Equity (Deficit)
              
              
              (513,129
              )
              
              1,629,139Total
                  Liabilities and Stockholders' Equity (Deficit)
              
              $
              14,530,811
              
              $
              18,478,469




See
      Notes
      to Consolidated Financial Statements




98




**CONVERSION
      SERVICES INTERNATIONAL, INC.**


**AND
      SUBSIDIARIES**


**CONSOLIDATED
      STATEMENTS OF OPERATIONS**


**FOR
      THE YEARS ENDED DECEMBER 31,**


2006
            
            2005
            
            2004REVENUE:Services
            
            $
            23,157,727
            
            $
            23,392,464
            
            $
            19,755,370Related
                party services
            
            
            2,478,342
            
            
            3,731,198
            
            
            3,837,065Other
            
            
            37,988
            
            
            506,247
            
            
            300,67125,674,057
            
            
            27,629,909
            
            
            23,893,106COST
                OF REVENUE:Services
                (inclusive of stock based compensation of $0.4 million, zero and
                $1.4
                million for the years ended December 31, 2006, 2005 and 2004,
                respectively.)
            
            
            17,623,747
            
            
            17,316,494
            
            
            15,367,477Related
                party services
            
            
            2,307,187
            
            
            3,215,909
            
            
            3,345,318Other
            
            
            
            
            
            -
            
            
            134,18219,930,934
            
            
            20,532,403
            
            
            18,846,977GROSS
                PROFIT
            
            
            5,743,123
            
            
            7,097,506
            
            
            5,046,129OPERATING
                EXPENSESSelling
                and marketing (inclusive of stock based compensation of $1.0 million,
                zero
                and zero for the years ended December 31, 2006, 2005 and 2004,
                respectively.)
            
            
            5,072,532
            
            
            4,521,054
            
            
            3,210,790General
                and administrative (inclusive of stock based compensation of $0.6
                million,
                $0.5 million and $0.1 million for the years ended December 31, 2006,
                2005
                and 2004, respectively.
            
            
            5,451,324
            
            
            6,418,245
            
            
            6,086,017Goodwill
                & intangibles impairment
            
            
            349,000
            
            
            1,321,543
            
            
            12,247,234Depreciation
                and amortization
            
            
            802,386
            
            
            911,772
            
            
            468,23511,675,242
            
            
            13,172,614
            
            
            22,012,276LOSS
                FROM OPERATIONS
            
            
            (5,932,119
            )
            
            (6,075,108
            )
            
            (16,966,147
            )OTHER
                INCOME (EXPENSE)Equity
                in earnings from investments
            
            
            27,035
            
            
            4,657
            
            
            5,684Gain
                (loss) on financial instruments
            
            
            (351,132
            )
            
            7,796,569
            
            
            (551,241
            )Loss
                on early extinguishment of debt
            
            
            (2,311,479
            )
            
            (1,607,763
            )
            
            -Other
                income
            
            
            -
            
            
            -
            
            
            7,300Interest
                income
            
            
            -
            
            
            69,166
            
            
            22,355Interest
                expense
            
            
            (3,094,083
            )
            
            (4,201,823
            )
            
            (5,024,449
            )(5,729,659
            )
            
            2,060,806
            
            
            (5,540,351
            )LOSS
                BEFORE INCOME TAXES
            
            
            (11,661,778
            )
            
            (4,014,302
            )
            
            (22,506,498
            )INCOME
                TAXES
            
            
            -
            
            
            -
            
            
            190,800LOSS
                FROM CONTINUING OPERATIONS
            
            
            (11,661,778
            )
            
            (4,014,302
            )
            
            (22,697,298
            )DISCONTINUED
                OPERATIONS:Gain
                on disposal of discontinued operations
            
            
            2,050,000
            
            
            49,148
            
            
            -Loss
                from discontinued operations
            
            
            -
            
            
            (1,153,119
            )
            
            (12,650,908
            )2,050,000
            
            
            (1,103,971
            )
            
            (12,650,908
            )NET
                LOSS
            
            
            (9,611,778
            )
            
            (5,118,273
            )
            
            (35,348,206
            )Accretion
                of issuance costs associated with convertible preferred
                stock
            
            
            (429,747
            )
            
            -
            
            
            -Dividends
                on convertible preferred stock
            
            
            (162,603
            )
            
            -
            
            
            -NET
                LOSS ATTRIBUTABLE TO COMMON STOCKHOLDERS
            
            $
            (10,204,128
            )
            $
            (5,118,273
            )
            $
            (35,348,206
            )Basic
                loss per common share from continuing operations
            
            $
            (0.23
            )
            $
            (0.08
            )
            $
            (0.49
            )Basic
                income (loss) per common share from discontinued
                operations
            
            $
            0.04
            
            $
            (0.02
            )
            $
            (0.27
            )Basic
                loss per common share
            
            $
            (0.19
            )
            $
            (0.10
            )
            $
            (0.76
            )Basic
                loss per common share attributable to common stockholders
            
            $
            (0.20
            )
            $
            (0.10
            )
            $
            (0.76
            )Diluted
                loss per common share from continuing operations
            
            $
            (0.23
            )
            $
            (0.08
            )
            $
            (0.49
            )Diluted
                income (loss) per common share from discontinued
                operations
            
            $
            0.04
            
            $
            (0.02
            )
            $
            (0.27
            )Diluted
                loss per common share
            
            $
            (0.19
            )
            $
            (0.10
            )
            $
            (0.76
            )Diluted
                loss per common share attributable to common stockholders
            
            $
            (0.20
            )
            $
            (0.10
            )
            $
            (0.76
            )Weighted
                average common shares used to compute income (loss) per common
                share:Basic
            
            
            51,792,504
            
            
            52,919,340
            
            
            46,548,065Diluted
            
            
            51,792,504
            
            
            52,919,340
            
            
            46,548,065




See
      Notes
      to Consolidated Financial Statements




99




**CONVERSION
      SERVICES INTERNATIONAL, INC.**


**AND
      SUBSIDIARIES**


**CONSOLIDATED
      STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)**


Accumulated
            
            Accumulated
                TotalAdditional
            
            Retained
            
            Other
            
            Stockholders'Common
            
            Capital
            
            Treasury
            
            Paid-in
            
            Earnings
            
            Comprehensive
            
            Equity
            
            ComprehensiveShares
            
            Stock
            
            Stock
            
            Capital
            
            (Deficit)
            
            Income
            
            (Deficit)
            
            LossBalance,
                December 31, 2003
            
            
            66,667
            
            $
            67
            
            
            
            
            $
            1,447,183
            
            $
            (228,106
            )
            $
            -
            
            $
            1,219,144Net
                loss
            
            
            -
            
            
            -
            
            
            
            
            
            -
            
            
            (35,348,206
            )
            
            
            
            
            (35,348,206
            )
            
            (35,348,206
            )Foreign
                currency translation
            
            
            -
            
            
            -
            
            
            
            
            
            -
            
            
            -
            
            
            5,298
            
            
            5,298
            
            
            5,298Effect
                of Conversion Services International recapitalization
            
            
            (66,667
            )
            
            (67
            )
            
            
            
            
            67
            
            
            -
            
            
            -
            
            
            -Relative
                fair value of warrants issued
            
            
            -
            
            
            -
            
            
            
            
            
            500,000
            
            
            -
            
            
            -
            
            
            500,000Issuance
                of Common Stock in connection with the reverse merger into LCS
                Golf.
            
            
            39,533,333
            
            
            39,533
            
            
            
            
            
            (39,533
            )
            
            -
            
            
            -
            
            
            -Issuance
                of Common Stock in connection with the acquisition of DeLeeuw Associates,
                Inc.
            
            
            5,333,333
            
            
            5,333
            
            
            
            
            
            15,834,667
            
            
            -
            
            
            -
            
            
            15,840,000Issuance
                of Common Stock in connection with the conversion of debt into Company
                stock.
            
            
            1,269,841
            
            
            1,270
            
            
            
            
            
            1,998,730
            
            
            -
            
            
            -
            
            
            2,000,000Issuance
                of Common Stock in connection with the acquisition of Evoke Software
                Corporation.
            
            
            5,097,537
            
            
            5,098
            
            
            
            
            
            12,379,000
            
            
            -
            
            
            -
            
            
            12,384,098Issuance
                of Common Stock in connection with a stock purchase
                agreement.
            
            
            238,095
            
            
            238
            
            
            
            
            
            499,762
            
            
            -
            
            
            -
            
            
            500,000Compensation
                expense for stock and stock option grants
            
            
            -
            
            
            -
            
            
            
            
            
            1,479,902
            
            
            -
            
            
            -
            
            
            1,479,902Discount
                on debt issued
            
            
            -
            
            
            -
            
            
            
            
            
            1,500,000
            
            
            -
            
            
            -
            
            
            1,500,000Unsecured
                convertible line of credit beneficial conversion feature
            
            
            -
            
            
            -
            
            
            
            
            
            1,214,286
            
            
            -
            
            
            -
            
            
            1,214,286Total
                comprehensive loss
            
            
            -
            
            
            -
            
            
            
            
            
            -
            
            
            -
            
            
            -
            
            
            -
            
            
            (35,342,908
            )Balance,
                December 31, 2004
            
            
            51,472,139
            
            
            51,472
            
            
            -
            
            
            36,814,064
            
            
            (35,576,312
            )
            
            5,298
            
            
            1,294,522Net
                loss
            
            
            -
            
            
            -
            
            
            
            
            
            -
            
            
            (5,118,273
            )
            
            -
            
            
            (5,118,273
            )
            
            (5,118,273
            )Foreign
                currency translation
            
            
            -
            
            
            -
            
            
            
            
            
            -
            
            
            -
            
            
            (75
            )
            
            (75
            )
            
            (75
            )Sale
                of Evoke Software Corp.
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            5,223
            
            
            (5,223
            )Issuance
                of Common Stock in connection with a stock purchase
                agreement.
            
            
            595,238
            
            
            595
            
            
            
            
            
            1,249,405
            
            
            -
            
            
            -
            
            
            1,250,000Issuance
                of Common Stock in connection with a conversion of debt to
                equity.
            
            
            476,190
            
            
            476
            
            
            
            
            
            999,524
            
            
            -
            
            
            -
            
            
            1,000,000Issuance
                of Common Stock in connection with a legal settlement.
            
            
            21,368
            
            
            21
            
            
            
            
            
            80,107
            
            
            -
            
            
            -
            
            
            80,128Issuance
                of Common Stock in connection with the Evoke Software Corp.
                acquisition.
            
            
            286,204
            
            
            287
            
            
            
            
            
            429,019
            
            
            -
            
            
            -
            
            
            429,306Issuance
                of Common Stock in connection with the acquisition of McKnight
                Associates
            
            
            909,091
            
            
            909
            
            
            
            
            
            1,771,818
            
            
            -
            
            
            -
            
            
            1,772,727Issuance
                of Common Stock in connection with a stock option
                exercise.
            
            
            333,334
            
            
            334
            
            
            
            
            
            776,333
            
            
            -
            
            
            -
            
            
            776,667Issuance
                of fractional shares resulting from the 1:15 reverse stock
                split.
            
            
            352
            
            
            -
            
            
            
            
            
            -
            
            
            -
            
            
            -
            
            
            -Compensation
                expense for stock and stock option grants.
            
            
            -
            
            
            -
            
            
            
            
            
            33,026
            
            
            -
            
            
            -
            
            
            33,026Relative
                fair value of warrants issued.
            
            
            -
            
            
            -
            
            
            
            
            
            111,111
            
            
            -
            
            
            -
            
            
            111,111Total
                comprehensive loss
            
            
            -
            
            
            -
            
            
            
            
            
            -
            
            
            -
            
            
            -
            
            
            -
            
            
            (5,118,348
            )Balance,
                December 31, 2005
            
            
            54,093,916
            
            
            54,094
            
            
            -
            
            
            42,264,407
            
            
            (40,689,362
            )
            
            -
            
            
            1,629,139Net
                loss
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            (9,611,778
            )
            
            
            
            
            (9,611,778
            )
            
            (9,611,778
            )Dividends
                payable on preferred stock
            
            
            
            
            
            
            
            
            
            
            
            (162,603
            )
            
            
            
            
            
            
            
            (162,603
            )Shares
                issued due to exercise of stock options
            
            
            1,620,100
            
            
            1,620
            
            
            
            
            
            33,043
            
            
            
            
            
            
            
            
            34,663Treasury
                shares acquired
            
            
            (4,145,382
            )
            
            
            
            
            (1,848,869
            )
            
            
            
            
            
            
            
            
            
            
            (1,848,869
            )Compensation
                expense for stock and stock option grants.
            
            
            
            
            
            
            
            
            
            
            
            2,022,223
            
            
            
            
            
            
            
            
            2,022,223Relative
                fair value of warrants issued
            
            
            
            
            
            
            
            
            
            
            
            2,500,121
            
            
            
            
            
            
            
            
            2,500,121Convertible
                preferred stock beneficial conversion feature
            
            
            
            
            
            
            
            
            
            
            
            1,012,190
            
            
            
            
            
            
            
            
            1,012,190Issuance
                of stock options in conjunction with debt restructure
            
            
            
            
            
            
            
            
            
            
            
            1,694,000
            
            
            
            
            
            
            
            
            1,694,000Laurus
                warrant liability reclassified to equity
            
            
            
            
            
            
            
            
            
            
            
            703,567
            
            
            
            
            
            
            
            
            703,567Dividends
                on series A preferred stock paid in shares
            
            
            79,166
            
            
            79
            
            
            
            
            
            39,504
            
            
            
            
            
            
            
            
            39,583Shares
                issued due to conversion of debt to equity
            
            
            1,832,353
            
            
            1,832
            
            
            
            
            
            1,152,550
            
            
            
            
            
            
            
            
            1,154,382Issuance
                of Common Stock in connection with a stock purchase
                agreement
            
            
            3,000,000
            
            
            
            
            
            1,425,000
            
            
            -
            
            
            (675,000
            )
            
            
            
            
            750,000Accretion
                of issuance costs associated with convertible preferred
                stock
            
            
            
            
            
            
            
            
            
            
            
            (429,747
            )
            
            
            
            
            
            
            
            (429,747
            )Total
                comprehensive loss
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            
            (9,611,778
            )Balance,
                December 31, 2006
            
            
            56,480,153
            
            $
            57,625
            
            $
            (423,869
            )
            $
            50,829,255
            
            $
            (50,976,140
            )
            $
            -
            
            $
            (513,129
            )




See
      Notes
      to Consolidated Financial Statements.




100


**CONVERSION
      SERVICES INTERNATIONAL, INC.**


**AND
      SUBSIDIARIES**


**CONSOLIDATED
      STATEMENTS OF CASH FLOWS**


**FOR
      THE YEARS ENDED DECEMBER 31,**


2006
            
            2005
            
            2004CASH
                FLOWS FROM OPERATING ACTIVITIES:Net
                loss
            
            $
            (9,611,778
            )
            $
            (5,118,273
            )
            $
            (35,348,206
            )Net
                income (loss) from discontinued operations
            
            
            2,050,000
            
            
            (1,103,971
            )
            
            (12,650,908
            )**Net
                loss from continuing operations**
            
            $
            (11,661,778
            )
            $
            (4,014,302
            )
            $
            (22,697,298
            )Adjustments
                to reconcile net loss from continuing operations to net cash used
                in
                operating activities:Depreciation
                of property and equipment and amortization of leasehold
                improvements
            
            
            152,386
            
            
            137,798
            
            
            132,890Amortizaton
                of intangible assets
            
            
            576,108
            
            
            433,137
            
            
            217,503Amortization
                of debt discounts
            
            
            1,307,022
            
            
            2,873,617
            
            
            941,212Amortization
                of relative fair value of warrants issued
            
            
            710,072
            
            
            110,105
            
            
            60,652Amortization
                of deferred financing costs
            
            
            73,894
            
            
            340,837
            
            
            134,402Excess
                of derivative value over notional amount of debt
            
            
            -
            
            
            449,275
            
            
            2,305,360Beneficial
                conversion feature associated with convertible debt
                instruments
            
            
            -
            
            
            -
            
            
            1,214,286Deferred
                taxes
            
            
            -
            
            
            -
            
            
            190,800Goodwill
                impairment
            
            
            349,000
            
            
            1,321,543
            
            
            12,247,235Stock
                and stock option based compensation
            
            
            2,022,223
            
            
            542,460
            
            
            1,479,902(Gain)
                loss on change in fair value of financial instruments
            
            
            351,132
            
            
            (7,796,569
            )
            
            551,240Loss
                on early extinguishment of debt
            
            
            2,311,479
            
            
            1,607,763
            
            
            -Increase
                (decrease) in allowance for doubtful accounts
            
            
            (200,675
            )
            
            92,862
            
            
            91,823Write-off
                deferred loan costs
            
            
            -
            
            
            -
            
            
            45,213Loss
                on disposal of equipment
            
            
            -
            
            
            -
            
            
            88,191Income
                from equity investments
            
            
            (27,035
            )
            
            (4,657
            )
            
            (5,684
            )Changes
                in operating assets and liabilities:(Increase)
                decrease in accounts receivable
            
            
            (507,978
            )
            
            1,042,245
            
            
            (1,040,154
            )(Increase)
                decrease in accounts receivable from related parties
            
            
            230,930
            
            
            211,192
            
            
            (388,100
            )(Increase)
                decrease in prepaid expenses
            
            
            10,344
            
            
            69,419
            
            
            (95,574
            )Decrease
                in goodwill
            
            
            83,861
            
            
            -
            
            
            -(Increase)
                decrease in other assets
            
            
            12,987
            
            
            (108,375
            )
            
            14,721Increase
                (decrease) in accounts payable and accrued expenses
            
            
            (595,445
            )
            
            (550,502
            )
            
            1,639,815Increase
                (decrease) in deferred revenue
            
            
            33,329
            
            
            (75,546
            )
            
            116,667**Net
                cash used in operating activities of continuing
                operations**
            
            
            (4,768,144
            )
            
            (3,317,698
            )
            
            (2,754,898
            )Net
                cash used in operating activities of discontinued
                operations
            
            
            -
            
            
            (302,260
            )
            
            (1,692,381
            )**Net
                cash used in operating activities**
            
            
            (4,768,144
            )
            
            (3,619,958
            )
            
            (4,447,279
            )CASH
                FLOWS FROM INVESTING ACTIVITIES:Acquisition
                of property and equipment
            
            
            -
            
            
            (31,498
            )
            
            (143,582
            )Investment
                in DeLeeuw Associates, net of cash acquired
            
            
            -
            
            
            -
            
            
            (2,010,266
            )Investment
                in McKnight Associates, Inc., net of cash acquired
            
            
            -
            
            
            (946,412
            )
            
            -Investment
                in Integrated Strategies, Inc., net of cash acquired
            
            
            -
            
            
            (2,175,820
            )
            
            -Equity
                investment in Leading Edge Communications Corp.
            
            
            -
            
            
            -
            
            
            (83,000
            )**Net
                cash used in investing activities of continuing
                operations**
            
            
            -
            
            
            (3,153,730
            )
            
            (2,236,848
            )Investment
                in Evoke Software Corp., net of cash acquired
            
            
            -
            
            
            -
            
            
            334,073Net
                cash used in investing activities of discontinued
                operations
            
            
            -
            
            
            -
            
            
            (4,251
            )Net
                proceeds from the sale of discontinued operations
            
            
            2,050,000
            
            
            644,958
            
            
            -**Net
                cash provided by (used in) investing activities**
            
            
            2,050,000
            
            
            (2,508,772
            )
            
            (1,907,026
            )CASH
                FLOWS FROM FINANCING ACTIVITIES:Net
                advances under line of credit
            
            
            791,156
            
            
            1,838,307
            
            
            1,950,704Proceeds
                from issuance of short-term note payable
            
            
            500,000
            
            
            1,000,000
            
            
            1,000,000Proceeds
                from issuance of long-term note payable
            
            
            381,256
            
            
            -
            
            
            4,730,623Proceeds
                from issuance of long-term note payable to
                stockholders
            
            
            -
            
            
            1,767,914
            
            
            511,604Increase
                in deferred financing costs
            
            
            (110,000
            )
            
            -
            
            
            (893,309
            )Principal
                payments on long-term debt
            
            
            (487,110
            )
            
            (4,348,695
            )
            
            (665,085
            )Principal
                payments on short-term notes
            
            
            -
            
            
            (76,054
            )
            
            -Proceeds
                from sale of Company common stock and exercise of stock
                options
            
            
            34,663
            
            
            1,255,000
            
            
            500,000Acquisition
                of treasury stock
            
            
            (1,848,869
            )
            
            -
            
            
            -Reissuance
                of treasury stock
            
            
            750,000
            
            
            -
            
            
            -Proceeds
                from sale of Series A Convertible Preferred Stock
            
            
            1,900,000
            
            
            -
            
            
            -Proceeds
                from sale of Series B Convertible Preferred Stock
            
            
            2,000,000
            
            
            -
            
            
            -Principal
                payments on capital lease obligations
            
            
            (104,340
            )
            
            (117,778
            )
            
            (85,595
            )Principal
                payments on related party notes
            
            
            (596,679
            )
            
            (381,561
            )
            
            -Restricted
                cash
            
            
            -
            
            
            4,334,375
            
            
            (83,375
            )**Net
                cash provided by financing activities**
            
            
            3,210,077
            
            
            5,271,508
            
            
            6,965,567Effect
                of exchange rate changes on cash and cash equivalents
            
            
            -
            
            
            5,149
            
            
            5,298NET
                INCREASE (DECREASE) IN CASH
            
            
            491,933
            
            
            (852,073
            )
            
            616,560CASH,
                beginning of period
            
            
            176,073
            
            
            1,028,146
            
            
            411,586CASH,
                end of period
            
            $
            668,006
            
            $
            176,073
            
            $
            1,028,146




See
      Notes
      to Consolidated Financial Statements




101




**CONVERSION
      SERVICES INTERNATIONAL, INC.**


**AND
      SUBSIDIARIES**


**CONSOLIDATED
      STATEMENTS OF CASH FLOWS**


**FOR
      THE YEARS ENDED DECEMBER 31,**


2006
            
            2005
            
            2004SUPPLEMENTAL
                DISCLOSURE OF CASH FLOW INFORMATION:Cash
                paid for interest
            
            $
            866,189
            
            $
            558,419
            
            $
            276,680Cash
                paid for income taxes
            
            
            -
            
            
            -
            
            
            -Series
                A convertible preferred stock dividend satisfied by issuing Company
                common
                stock
            
            
            39,583
            
            
            -
            
            
            -Related
                party note payable repayment through issuance of Company common
                stock
            
            
            1,154,382
            
            
            -
            
            
            -SUPPLEMENTAL
                DISCLOSURE OF NON-CASH ACTIVITIES:The
                Company did not enter into any capital lease arrangements during
                the year
                ended December 31, 2006. During the years ended December 31, 2005
                and
                2004, the Company entered into various capital lease arrangements
                for
                computer and trade show equipment in the approximate amount of $55,782
                and
                $249,241, respectively.On
                March 4, 2004, the Company acquired DeLeeuw Associates, Inc. The
                components and allocations of the purchase price were based on the
                fair
                value of assets and liabilities acquired as of the acquisition date.
                The
                following assets and liabilities were obtained as a result of the
                acquisition.Accounts
                receivable
            
            $
            -
            
            $
            -
            
            $
            975,000Approved
                vendor status
            
            
            -
            
            
            -
            
            
            539,000Tradename
            
            
            -
            
            
            -
            
            
            722,000Goodwill
            
            
            -
            
            
            -
            
            
            15,844,000Investment
                in limited liability company
            
            
            -
            
            
            -
            
            
            56,000Current
                liabilities
            
            
            -
            
            
            -
            
            
            (286,000
            )On
                June 28, 2004, the Company acquired substantially all of the assets
                and
                liabilities of Evoke Software Corporation. The components and allocations
                of the purchase price were based on the fair value of assets and
                liabilities acquired as of the acquisition date. The following assets
                and
                liabilities were obtained as a result of the acquisition.Cash
            
            $
            -
            
            $
            -
            
            $
            497,000Accounts
                receivable
            
            
            -
            
            
            -
            
            
            580,000Customer
                contracts (six year life)
            
            
            -
            
            
            -
            
            
            1,962,000Tradename
                (indefinite life)
            
            
            -
            
            
            -
            
            
            651,000Computer
                software (three year life)
            
            
            -
            
            
            -
            
            
            1,381,000Goodwill
            
            
            -
            
            
            -
            
            
            10,269,000Prepaid
                expenses
            
            
            -
            
            
            -
            
            
            78,000Other
                assets
            
            
            -
            
            
            -
            
            
            11,000Furniture
                and equipment
            
            
            -
            
            
            -
            
            
            184,000Deferred
                revenue
            
            
            -
            
            
            -
            
            
            (1,254,000
            )Deferred
                compensation
            
            
            -
            
            
            -
            
            
            (443,000
            )Other
                liabilities
            
            
            -
            
            
            -
            
            
            (1,302,000
            )Minority
                interest
            
            
            -
            
            
            -
            
            
            (199,000
            )On
                July 18, 2005, the Company sold certain assets and liabilities of
                Evoke to
                Similarity Systems. The following assets and liabilities of Evoke
                were
                sold to Similarity Systems.Cash
            
            $
            -
            
            $
            8,000
            
            $
            -Accounts
                receivable, net
            
            
            -
            
            
            692,000
            
            
            -Prepaid
                expenses
            
            
            -
            
            
            100,000
            
            
            -Property
                and equipment, net
            
            
            -
            
            
            77,000
            
            
            -Other
                assets
            
            
            -
            
            
            5,000
            
            
            -Deferred
                revenue
            
            
            -
            
            
            (1,649,995
            )
            
            -Accrued
                expenses
            
            
            -
            
            
            (163,000
            )
            
            -On
                July 22, 2005, the Company acquired all of the outstanding shares
                of
                McKnight Associates, Inc. The components and allocations of the purchase
                price were based on the fair value of the assets and liabilities
                acquired
                as of the acquisition date. The following assets and liabilities
                were
                obtained as a result of the acquisition.Cash
            
            $
            -
            
            $
            116,000
            
            $
            -Accounts
                receivable
            
            
            -
            
            
            298,000
            
            
            -Customer
                relationships (2.5 year life)
            
            
            -
            
            
            685,000
            
            
            -Order
                backlog (5 month life)
            
            
            -
            
            
            50,000
            
            
            -Proprietary
                presentation format (3 year life)
            
            
            -
            
            
            173,000
            
            
            -Goodwill
            
            
            -
            
            
            1,865,000
            
            
            -Accounts
                payable and accrued expenses
            
            
            -
            
            
            (105,000
            )
            
            -Deferred
                tax liability
            
            
            -
            
            
            (363,000
            )
            
            -On
                July 29, 2005, the Company acquired all of the outstanding shares
                of
                Integrated Strategies, Inc. The components and allocations of the
                purchase
                price were based on the fair value of the assets and liabilities
                acquired
                as of the acquisition date. The following assets and liabilities
                were
                obtained as a result of the acquisition.Cash
            
            $
            -
            
            $
            119,000
            
            $
            -Accounts
                receivable
            
            
            -
            
            
            661,000
            
            
            -Prepaid
                expenses
            
            
            -
            
            
            2,000
            
            
            -Fixed
                assets
            
            
            -
            
            
            2,000
            
            
            -Other
                assets
            
            
            -
            
            
            13,000
            
            
            -Goodwill
            
            
            -
            
            
            1,800,000
            
            
            -Accounts
                payable and accrued expenses
            
            
            -
            
            
            (173,000
            )
            
            -Notes
                payable
            
            
            -
            
            
            (241,000
            )
            
            -




See
      Notes
      to Consolidated Financial Statements




102





**CONVERSION
      SERVICES INTERNATIONAL, INC.**


**AND
      SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**




**Note
      1 - Accounting Policies**




***Organization
      and Business***




Conversion
      Services International, Inc. (“CSI”) was incorporated in the State of Delaware
      and has been conducting business since 1990. CSI and its wholly owned
      subsidiaries (together the “Company”) are principally engaged in the information
      technology services industry in the following areas: strategic consulting,
      business intelligence, data warehousing and data management, on credit, to
      its
      customers principally located in the northeastern United States.




·
            On
                November 1, 2002, the Company acquired the operations of Scosys,
                Inc.
                (“Scosys”). Scosys is engaged in the information technology services
                industry.·
            On
                January 30, 2004, the Company became a public company through its
                merger
                with a wholly owned subsidiary of LCS Group, Inc. Although LCS Group,
                Inc.
                (now known as Conversion Services International, Inc.) was the legal
                survivor in the merger and remains the Registrant with the Securities
                and
                Exchange Commission, the merger was accounted for as a reverse
                acquisition, whereby the Company was considered the accounting “acquirer”
                of LCS Group, Inc. for financial reporting purposes, as the Company’s
                stockholders controlled approximately 76% of the post transaction
                combined
                company. Among other matters, reverse merger accounting requires
                LCS
                Group, Inc. to present in all financial statements and other public
                filings, prior historical and other information of the Company, and
                a
                retroactive restatement of the Company’s historical stockholders’ equity.
                The retroactive restatement took place subsequent to the merger on
                January
                30, 2004.





·
            On
                March 4, 2004, the Company acquired DeLeeuw Associates, Inc. and
                merged
                the company into DeLeeuw Associates, LLC (“DeLeeuw”), a subsidiary of CSI.
                On October 1, 2006, the corporate structure was changed and this
                subsidiary became DeLeeuw Associates, Inc. DeLeeuw is a management
                consulting firm specializing in integration, reengineering and project
                management.·
            On
                May 1, 2004, the Company acquired a 49% interest in Leading Edge
                Communications Corporation (“LEC”), a provider of enterprise software and
                services solutions for technology infrastructure management.





·
            On
                June 28, 2004, the Company acquired substantially all the assets
                of Evoke
                Software Corporation and the stock of Evoke’s foreign subsidiaries
                (“Evoke”), a provider of data discovery, profiling and quality management
                software. On July 18, 2005, the Company sold certain assets and
                liabilities of Evoke to Similarity Systems. See Note 5 of the Notes
                to the
                Consolidated Financial Statements for further
                discussion.·
            On
                July 22, 2005, the Company acquired McKnight Associates, Inc. and
                merged
                the company into McKnight Associates, Inc. (“McKnight”), a subsidiary of
                CSI. McKnight is a management consulting firm specializing in data
                warehousing projects for a variety of clients worldwide. As of December
                31, 2006, McKnight was merged with and into CSI Sub Corp. (DE).





·
            On
                July 29, 2005, the Company acquired Integrated Strategies, Inc. and
                merged
                the company into Integrated Strategies, Inc. (“ISI”), a subsidiary of CSI.
                ISI is a management consulting firm specializing in integration and
                project management. As of December 31, 2006, ISI was merged with
                and into
                DeLeeuw Associates, Inc.·
            Doorways,
                Inc. is a wholly owned subsidiary of the Company that is currently
                dormant. Doorways was dissolved on December 26,
                2006.





·
            LEC
                Corporation of NJ is a wholly owned subsidiary of the Company that
                incurs
                an insignificant amount of payroll expense and has no other operations.
                As
                of December 31, 2006, this corporation was merged with and into CSI
                Sub
                Corp. (DE).·
            CSI
                Sub Corp. (DE) is a wholly owned subsidiary of the Company and is
                the
                primary operating entity for the
                Company.




103




***Principles
      of Consolidation***





The
      accompanying consolidated financial statements include the accounts of the
      Company and its subsidiaries. All intercompany transactions and balances have
      been eliminated in the consolidation. Investments in business entities in which
      the Company does not have control, but has the ability to exercise significant
      influence (generally 20-50% ownership), are accounted for by the equity method.
      The results of Evoke Software Corporation (formerly known as Evoke Asset
      Purchase Corp. and now known as CSI Sub Corp. II (DE)) have been included in
      these consolidated financial statements as a component of discontinued
      operations. Substantially all assets of Evoke were sold to Similarity Systems
      in
      July 2005. See Note 5 of the Notes to the Consolidated Financial Statements
      for
      further discussion.





***Revenue
      recognition***





Revenue
      from consulting and professional services is recognized at the time the services
      are performed on a project by project basis. For projects charged on a time
      and
      materials basis, revenue is recognized based on the number of hours worked
      by
      consultants at an agreed-upon rate per hour. For large services projects where
      costs to complete the contract could reasonably be estimated, the Company
      undertakes projects on a fixed-fee basis and recognizes revenues on the
      percentage of completion method of accounting based on the evaluation of actual
      costs incurred to date compared to total estimated costs. Revenues recognized
      in
      excess of billings are recorded as costs in excess of billings. Billings in
      excess of revenues recognized are recorded as deferred revenues until revenue
      recognition criteria are met. Reimbursements, including those relating to travel
      and other out-of-pocket expenses, are included in revenues, and an equivalent
      amount of reimbursable expenses are included in cost of services and are
      immaterial.





***Business
      Combinations***





Business
      combinations are accounted for in accordance with SFAS No. 141,
“ *Business
      Combinations* ”
      (“SFAS 141”), which requires the purchase method of accounting for business
      combinations be followed and in accordance with EITF No. 99-12 “ *Determination
      of the Measurement Date for the Market Price of Acquirer Securities Issued
      in a
      Purchase Business Combination”* (“EITF
      99-12”) *.* In
      accordance with SFAS 141, the Company determines the recognition of
      intangible assets based on the following criteria: (i) the intangible asset
      arises from contractual or other rights; or (ii) the intangible is
      separable or divisible from the acquired entity and capable of being sold,
      transferred, licensed, returned or exchanged. In accordance with SFAS 141,
      the Company allocates the purchase price of its business combinations to the
      tangible assets, liabilities and intangible assets acquired based on their
      estimated fair values. The excess purchase price over those fair values is
      recorded as goodwill. Additionally, in accordance with EITF 99-12, the Company
      values an acquisition based upon the market price of its common stock for a
      reasonable period before and after the date the terms of the acquisition are
      agreed to and announced.





***Accounts
      receivable***





The
      Company carries its accounts receivable at cost less an allowance for doubtful
      accounts. On a periodic basis, the Company evaluates its accounts receivable
      and
      adjusts the allowance for doubtful accounts, when deemed necessary, based upon
      its history of past write-offs and collections, contractual terms and current
      credit conditions. During 2006, 2005 and 2004, $147,272, $56,123 and $114,785
      of
      uncollectible accounts receivable were written off against the allowance for
      doubtful accounts, respectively.





***Property
      and equipment***





Property
      and equipment are stated at cost and includes equipment held under capital
      lease
      arrangements. Depreciation is computed principally by an accelerated method
      and
      is based on the estimated useful lives of the various assets ranging from three
      to seven years. Leasehold improvements are amortized over the shorter of the
      asset life or the remaining lease term on a straight-line basis. When assets
      are
      sold or retired, the cost and accumulated depreciation are removed from the
      accounts and any gain or loss is included in operations.




104





Expenditures
      for maintenance and repairs have been charged to operations. Major renewals
      and
      betterments have been capitalized.





***Goodwill
      and intangible assets***





Goodwill
      and intangible assets are accounted for in accordance with
      SFAS No. 142 “ *Goodwill
      and Other Intangible Assets* ”
      (“SFAS 142”). Under SFAS 142, goodwill and indefinite lived intangible
      assets are not amortized but instead are reviewed annually for impairment,
      or
      more frequently if impairment indicators arise. Separable intangible assets
      that
      are not deemed to have an indefinite life will continue to be amortized over
      their estimated useful lives. The Company tests for impairment whenever events
      or changes in circumstances indicate that the carrying amount of goodwill or
      other intangible assets may not be recoverable, or at least annually at December
      31 of each year. These tests are performed at the reporting unit level using
      a
      two-step, fair-value based approach. The first step compares the fair value
      of
      the reporting unit with its carrying amount, including goodwill. If the fair
      value of the reporting unit is less than its carrying amount, a second step
      is
      performed to measure the amount of impairment loss. The second step allocates
      the fair value of the reporting unit to the Company’s tangible and intangible
      assets and liabilities. This derives an implied fair value for the reporting
      unit’s goodwill. If the carrying amount of the reporting unit’s goodwill exceeds
      the implied fair value of that goodwill, an impairment loss is recognized equal
      to that excess. In the event that the Company determines that the value of
      goodwill or other intangible assets have become impaired, the Company will
      incur
      a charge for the amount of the impairment during the fiscal quarter in which
      the
      determination is made.





Goodwill
      represents the amounts paid in connection with the acquisitions of Scosys,
      DeLeeuw, ISI and McKnight. Additionally, as part of the Scosys, DeLeeuw and
      McKnight acquisitions, the Company acquired identifiable intangible assets.
      As
      of December 31, 2006, the Company performed its annual impairment review and
      determined as a result of an unfavorable change with respect to the economics
      of
      the ISI business, a $329,000 impairment charge was required. Additionally,
      the
      Company determined that, due to a change in the Company’s marketing and
      positioning of the Scosys business, the $20,000 intangible for the rights to
      use
      the Scosys name has been impaired and recorded a charge as of that date. As
      of
      December 31, 2005, the Company performed its annual impairment review and
      determined that goodwill related to both the ISI and McKnight acquisitions
      was
      impaired at that date and, accordingly, recorded impairment charges of
      approximately $836,000 and $485,000, respectively. The Company performed its
      annual impairment review as of December 31, 2004 and determined that goodwill
      and certain intangible assets were impaired at that date and, accordingly,
      recorded an impairment charge of approximately $12,247,000 primarily relating
      to
      goodwill associated with the DeLeeuw acquisition.





Acquired
      contracts are amortized over a period that approximates the estimated life
      of
      the contracts, based upon the estimated annual cash flows obtained from those
      contracts, generally five years. The approved vendor status intangible asset
      is
      being amortized over an estimated life of forty months. The proprietary
      presentation format intangible asset is being amortized over an estimated life
      of three years. The customer relationship intangible asset is being amortized
      over an estimated life of thirty months. The order backlog intangible asset
      was
      being amortized over an estimated life of five months.





***Deferred
      financing costs***





The
      Company capitalizes costs associated with the issuance of debt instruments.
      These costs are amortized on a straight-line basis over the term of the related
      debt instruments, which currently range from one to three years.





***Discount
      on debt***





The
      Company has allocated the proceeds received from conventionally convertible
      debt
      instruments between the underlying debt instrument and the freestanding
      warrants, and had recorded the conversion feature as a discount on the debt
      in
      accordance with Emerging Issues Task Force No. 00-27 "Application of Issue
      No.
      98-5 to Certain Convertible Instruments".  The Company is amortizing the
      discount on the debt using the effective interest rate method over the life
      of
      the debt instruments.






105





***Stock
      compensation***





SFAS
      No. 123 (Revised 2004) (“SFAS No. 123R”), “ *Share-Based
      Payment* ,”
issued
      in December 2004, is a revision of FASB Statement 123, “ *Accounting
      for Stock-Based Compensation* ”
and
      supersedes APB Opinion No. 25, “ *Accounting
      for Stock Issued to Employees* ,”
and
      its related implementation guidance. The Statement focuses primarily on
      accounting for transactions in which an entity obtains employee services in
      share-based payment transactions. SFAS No. 123R requires a public entity to
      measure the cost of employee services received in exchange for an award of
      equity instruments based on the grant-date fair value of the award (with limited
      exceptions). That cost will be recognized over the period during which an
      employee is required to provide service in exchange for the award. On
      March 29, 2005, the SEC issued Staff Accounting Bulletin No. 107 (“SAB
      No. 107”), which provides the Staff’s views regarding interactions between
      SFAS No. 123R and certain SEC rules and regulations and provides
      interpretations of the valuation of share-based payments for public companies.





SFAS
      No. 123(R) permits public companies to adopt its requirements using one of
      two methods:




(1)
      A
“modified prospective” method in which compensation cost is recognized beginning
      with the effective date (a) based on the requirements of SFAS
      No. 123(R) for all share-based payments granted after the effective date
      and (b) based on the requirements of SFAS No. 123 for all awards
      granted to employees prior to the effective date of SFAS No. 123(R) that
      remain unvested on the effective date.




(2)
      A
“modified retrospective” method which includes the requirements of the modified
      prospective method described above, but also permits entities to restate based
      on the amounts previously recognized under SFAS No. 123 for purposes of pro
      forma disclosures either (a) all prior periods presented or (b) prior
      interim periods of the year of adoption.




The
      Company is required to adopt this standard effective with the beginning of
      the
      first annual reporting period that begins after December 15, 2005, therefore,
      we
      have adopted the standard in the first quarter of fiscal 2006 using the modified
      prospective method. We previously accounted for share-based payments to
      employees using the intrinsic value method prescribed in APB Opinion 25 and,
      as
      such, generally recognized no compensation cost for employee stock options.
      SFAS
      No. 123(R) also requires the benefits of tax deductions in excess of
      recognized compensation cost to be reported as a financing cash flow, rather
      than as an operating cash flow as required under current literature. This
      requirement will reduce net operating cash flows and increase net financing
      cash
      flows in future periods.





The
      Company follows EITF No. 96-18, “ *Accounting
      for Equity Instruments That Are Issued to Other Than Employees for Acquiring,
      or
      in Conjunction with Selling, Goods or Services* ”
(“EITF
      96-18”) in accounting for stock options issued to non-employees. Under EITF
      96-18, the equity instruments should be measured at the fair value of the equity
      instrument issued. During the fiscal years ended December 31, 2004 and 2005,
      the
      Company granted approximately 43,000 and 48,000 stock options, respectively,
      to
      non-employee recipients. In compliance with EITF 96-18, the fair value of these
      options was determined using the Black-Scholes option pricing model. The Company
      is recognizing the fair value of these options as expense over the three year
      vesting period of the options.




106


The
        per
        share weighted average fair value of stock options granted during 2004 was
        $2.40
        per share on the date of grant using the Black-Scholes option-pricing model
        with
        the following weighted average assumptions:
  Expected
                  dividend yield
              
              
              0.0
              %Risk-free
                  interest rate
              
              
              2.50
              %Expected
                  volatility
              
              
              148.0
              %Expected
                  option life (years)
              
              
              3.0





The
      per
      share weighted average fair value of stock options granted during 2005 was
      $0.71
      per share on the date of grant using the Black-Scholes option-pricing model
      with
      the following weighted average assumptions:


Expected
                  dividend yield
              
              
              0.0
              %Risk-free
                  interest rate
              
              
              4.34
              %Expected
                  volatility
              
              
              186.6
              %Expected
                  option life (years)
              
              
              3.0


The
      per
      share weighted average fair value of stock options granted during 2006 was
      $0.34
      per share on the date of grant using the Black-Scholes option-pricing model
      with
      the following weighted average assumptions:


Expected
                  dividend yield
              
              
              0.0
              %Risk-free
                  interest rate
              
              
              4.97
              %Expected
                  volatility
              
              
              177.5
              %Expected
                  option life (years)
              
              
              3.0


The
      Black-Scholes option pricing model used in this valuation was developed for
      use
      in estimating the fair value of traded options, which have no vesting
      restrictions and are fully transferable. Option valuation models require the
      input of highly subjective assumptions. The Company’s stock-based compensation
      has characteristics significantly different from those of traded options, and
      changes in the assumptions used can materially affect the fair value
      estimate.





***Concentrations
      of credit risk***





Financial
      instruments which potentially subject the Company to concentrations of credit
      risk are cash and accounts receivable arising from its normal business
      activities. The Company routinely assesses the financial strength of its
      customers, based upon factors surrounding their credit risk, establishes an
      allowance for doubtful accounts, and as a consequence believes that its accounts
      receivable credit risk exposure beyond such allowances is limited. At December
      31, 2006, Sapphire Technologies accounted for approximately 28.2% of the
      Company’s accounts receivable balance.





The
      Company maintains its cash with a high credit quality financial institution.
      Each account is secured by the Federal Deposit Insurance Corporation up to
      $100,000.





***Advertising***





The
      Company expenses advertising costs as incurred. Advertising costs amounted
      to
      approximately $134,000, $380,000 and $152,000 for the years ended December
      31,
      2006, 2005 and 2004, respectively.





***Income
      taxes***





The
      Company accounts for income taxes, in accordance with SFAS No. 109, “Accounting
      for Income Taxes” (“SFAS 109”) and related interpretations, under an asset and
      liability approach that requires the recognition of deferred tax assets and
      liabilities for the expected future tax consequences of events that have been
      recognized in the Company’s financial statements or tax returns. In estimating
      future tax consequences, the Company generally considers all expected future
      events other than enactments of changes in the tax laws or rates.





The
      Company records a valuation allowance to reduce the deferred tax assets to
      the
      amount that is more likely than not to be realized. The Company’s current
      valuation allowance primarily relates to benefits from the Company’s
      NOL’s.




107




***Derivatives***





The
      Company accounts for derivatives in accordance with SFAS No. 133,
“ *Accounting
      for Derivative Instruments and Hedging Activities* ”
      (“SFAS 133”) and related interpretations. SFAS 133, as amended,
      requires companies to recognize all derivative instruments as either assets
      or
      liabilities in the balance sheet at fair value. The accounting for changes
      in
      the fair value of a derivative instrument depends on: (i) whether the
      derivative has been designated and qualifies as part of a hedging relationship,
      and (ii) the type of hedging relationship. For those derivative instruments
      that are designated and qualify as hedging instruments, a company must designate
      the hedging instrument based upon the exposure being hedged as either a fair
      value hedge, cash flow hedge or hedge of a net investment in a foreign
      operation. At December 31, 2006, the Company had not entered into any
      transactions which were considered hedges under SFAS 133.




***Financial
      Instruments***





The
      carrying value of the Company’s financial instruments, including cash and cash
      equivalents, accounts receivable, note receivable, accounts payable and accrued
      liabilities approximate fair value because of the short maturities of those
      instruments. Based on borrowing rates currently available to the Company for
      loans with similar terms, the carrying value of convertible notes and notes
      payable also approximate fair value.





We
      review
      the terms of convertible debt and equity instruments we issued to determine
      whether there are embedded derivative instruments, including the embedded
      conversion option, that are required to be bifurcated and accounted for
      separately as a derivative financial instrument. Generally, where the ability
      to
      physical or net-share settle the conversion option is deemed to be not within
      the control of the company, the embedded conversion option is required to be
      bifurcated and accounted for as a derivative financial instrument
      liability.





In
      connection with the sale of convertible debt and equity instruments, we may
      also
      issue freestanding options or warrants. Additionally, we may issue options
      or
      warrants to non-employees in connection with consulting or other services they
      provide. Although the terms of the options and warrants may not provide for
      net-cash settlement, in certain circumstances, physical or net-share settlement
      is deemed to not be within the control of the company and, accordingly, we
      are
      required to account for these freestanding options and warrants as derivative
      financial instrument liabilities, rather than as equity.





Derivative
      financial instruments are initially measured at their fair value. For derivative
      financial instruments that are accounted for as liabilities, the derivative
      instrument is initially recorded at its fair value and is then re-valued at
      each
      reporting date, with changes in the fair value reported as charges or credits
      to
      income. For option-based derivative financial instruments, we use the
      Black-Scholes option pricing model to value the derivative
      instruments.





In
      circumstances where the embedded conversion option in a convertible instrument
      is required to be bifurcated and there are also other embedded derivative
      instruments in the convertible instrument that are required to be bifurcated,
      the bifurcated derivative instruments are accounted for as a single, compound
      derivative instrument.





If
      freestanding options or warrants were issued and will be accounted for as
      derivative instrument liabilities (rather than as equity), the proceeds are
      first allocated to the fair value of those instruments. When the embedded
      derivative instrument is to be bifurcated and accounted for as a liability,
      the
      remaining proceeds received are then allocated to the fair value of the
      bifurcated derivative instrument. The remaining proceeds, if any, are then
      allocated to the convertible instrument itself, usually resulting in that
      instrument being recorded at a discount from its face amount. In circumstances
      where a freestanding derivative instrument is to be accounted for as an equity
      instrument, the proceeds are allocated between the convertible instrument and
      the derivative equity instrument, based on their relative fair
      values.





The
      discount from the face value of the convertible debt instrument resulting from
      the allocation of part of the proceeds to embedded derivative instruments and/or
      freestanding options or warrants is amortized over the life of the instrument
      through periodic charges to income, using the effective interest method.




108





The
      classification of derivative instruments, including whether such instruments
      should be recorded as liabilities or as equity, is re-assessed at the end of
      each reporting period. Derivative instrument liabilities are classified in
      the
      balance sheet as current or non-current based on whether or not net-cash
      settlement of the derivative instrument is expected within 12 months of the
      balance sheet date.





***Equity
      investments***





Prior
      to
      the Company’s acquisition of DeLeeuw in 2004, DeLeeuw had acquired a
      non-controlling interest in DeLeeuw International (a company formed under the
      laws of Turkey). The Company accounts for its share of the income (losses)
      of
      this investment under the equity method.





The
      Company acquired 49% of all issued and outstanding shares of common stock of
      LEC
      as of May 1, 2004. The acquisition was completed through a Stock Purchase
      Agreement between the Company and the sole stockholder of LEC. In connection
      with the acquisition, the Company (i) repaid a bank loan on behalf of the seller
      in the amount of $35,000; (ii) repaid an LEC bank loan in the amount of $38,000;
      and (iii) satisfied an LEC obligation for $10,000 of prior compensation to
      an
      employee. The Company accounts for its share of the income (losses) of this
      investment under the equity method.





***Foreign
      Currency Translation***





Local
      currencies are the functional currencies for Evoke’s foreign subsidiaries.
      Assets and liabilities are translated using the exchange rates in effect at
      the
      balance sheet date. Income and expenses are translated at the average exchange
      rates during the period. Translation gains and losses not reflected in earnings
      are reported as a component of stockholders’ equity. Foreign currency
      translation gains (losses) are included as a component of the gain (loss) from
      discontinued operations.





***Comprehensive
      Income***





Accumulated
      other comprehensive income is comprised of foreign currency translation gains
      and losses which have been excluded from net income. The Company has reported
      the components of comprehensive income on the consolidated statements of
      stockholders’ equity.





***Reclassification***





Certain
      amounts in prior periods have been reclassified to conform to the 2006 financial
      statement presentation.





***Use
      of estimates***





The
      preparation of financial statements in conformity with generally accepted
      accounting principles requires management to make estimates and assumptions
      that
      affect the reported amounts of assets and liabilities and disclosures of
      contingent assets and liabilities ****** at
      the
      date of the financial statements and the reported amounts of revenues and
      expenses during the reporting period. Actual results could differ from those
      estimates.





**Note
      2: Going concern**





The
      Company has relied upon cash from its financing activities to fund its ongoing
      operations as it has not been able to generate sufficient cash from its
      operating activities in the past, and there is no assurance that it will be
      able
      to do so in the future. The Company has incurred net losses and negative cash
      flows from operating activities for the years ended December 31, 2006, 2005
      and
      2004, and had an accumulated deficit of ($51.0 million) at December 31, 2006.
      Due to this history of losses and operating cash consumption, we cannot predict
      how long we will continue to incur further losses or whether we will become
      profitable again, or if the Company’s business will improve. These factors raise
      substantial doubt as to our ability to continue as a going concern.




109





As
      of
      December 31, 2006, the Company had a cash balance of approximately $0.7 million
      and a working capital deficiency of ($6.3 million).





The
      Company has experienced continued losses that exceeded expectations from 2004
      through 2006. To that extent, the Company has continued to experience negative
      cash flow which has perpetuated the Company’s liquidity issues. To address the
      liquidity issue, the Company entered into various debt instruments between
      August 2004 and December 2006 and, as of December 31, 2006 had approximately
      $11.2 million of debt outstanding in addition to an aggregate of $3.9 million
      of
      Series A and Series B Convertible Preferred Stock which was issued in 2006.
      Additionally, the Company raised $0.75 million through the sale of common stock
      in the Company during 2006.





As
      of
      December 31, 2006, the Company’s debt level required interest and dividends of
      approximately $104,000 per month. Approximately, $4.9 million of debt
      instruments mature on or before December 31, 2007. Additionally, the Company’s
      line of credit expires on December 31, 2007 and $1.5 million of short term
      notes
      are currently being extended on a month-to-month basis.





In
      order
      to fund these maturities, the Company obtained $4.25 million in new financing
      in
      March 2007 and repaid both the Laurus overadvance and the Laurus term note,
      in
      full, through a combination of a $3.1 million cash payment and $0.5 million
      in a
      warrant to purchase common stock. Additionally, a $0.6 million cash payment
      was
      paid to Sands. A final cash payment of $0.4 million and additional common stock
      and warrants is to be made in the fourth calendar quarter of 2007 to satisfy
      this obligation in full.





The
      $4.25
      million of new financing was in the form of a promissory note bearing a 10%
      annual interest rate and a maturity date of August 31, 2007, which will
      automatically convert to common stock at such time as the Company has authorized
      shares sufficient to complete the transaction. This is expected to occur in
      April 2007. As a result, the Company expects to incur approximately $60,000
      of
      interest under this note prior to conversion to equity. Subsequent to this
      instrument being converted to equity, the Company’s monthly debt service
      obligation is expected to decline to approximately $68,000 per month, of which
      $23,000 will continue to be paid in Company common stock and the remaining
      $45,000 will require monthly interest payments.





The
      Company needs additional capital in order to survive. Additional capital will
      be
      needed to fund current working capital requirements, ongoing debt service and
      to
      repay the obligations that are maturing over the upcoming 12 month period.
      Our
      primary sources of liquidity are cash flows from operations, borrowings under
      our revolving credit facility, and various short and long term financings. . We
      plan
      to continue to strive to increase revenues and to continue to execute on our
      expense reduction program which began in 2006 in order to reduce, or eliminate,
      the operating losses. Additionally, we will continue to seek equity financing
      in
      order to enable us to continue to meet our financial obligations until we
      achieve profitability. There can be no assurance that any such funding will
      be
      available to us on favorable terms, or at all. Certain short term note holders
      have agreed to extend their maturity dates of the Notes on a month-to-month
      basis until the Company raises sufficient funds to pay the Notes in full.
      Amounts outstanding under the Notes at December 31, 2006 were $1.5 million.
      Failure to obtain sufficient equity financing would have substantial negative
      ramifications to the Company.




**Note
      3:**  **Recently
      Issued Accounting Pronouncements**





In
      February 2006, the FASB issued SFAS 155 - “Accounting for Certain Hybrid
      Financial Instruments—an amendment of FASB Statements No. 133 and 140.” 
This Statement amends FASB Statements No. 133, Accounting for Derivative
      Instruments and Hedging Activities, and No. 140, Accounting for Transfers and
      Servicing of Financial Assets and Extinguishments of Liabilities. This Statement
      resolves issues addressed in Statement 133 Implementation Issue No. D1,
“Application of Statement 133 to Beneficial Interests in Securitized Financial
      Assets.”  This Statement:




110





a.
            Permits
                fair value remeasurement for any hybrid financial instrument that
                contains
                an embedded derivative that otherwise would require
                bifurcation





b.
            Clarifies
                which interest-only strips and principal-only strips are not subject
                to
                the requirements of Statement 133





c.
            Establishes
                a requirement to evaluate interests in securitized financial assets
                to
                identify interests that are freestanding derivatives or that are
                hybrid
                financial instruments that contain an embedded derivative requiring
                bifurcation





d.
            Clarifies
                that concentrations of credit risk in the form of subordination are
                not
                embedded derivatives





e.
            Amends
                Statement 140 to eliminate the prohibition on a qualifying special-purpose
                entity from holding a derivative financial instrument that pertains
                to a
                beneficial interest other than another derivative financial
                instrument.





This
      Statement is effective for all financial instruments acquired or issued after
      the beginning of our first fiscal year that begins after September 15,
      2006.  The fair value election provided for in paragraph 4(c) of this
      Statement may also be applied upon adoption of this Statement for hybrid
      financial instruments that had been bifurcated under paragraph 12 of Statement
      133 prior to the adoption of this Statement. Earlier adoption is permitted
      as of
      the beginning of our fiscal year, provided we have not yet issued financial
      statements, including financial statements for any interim period, for that
      fiscal year. Provisions of this Statement may be applied to instruments that
      we
      hold at the date of adoption on an instrument-by-instrument basis.  The
      Company is currently reviewing the effects of adoption of this statement but
      it
      is not expected to have a material impact on our consolidated financial
      statements.





In
      July
      2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainties in
      Income Taxes” (FIN 48). The Company is currently evaluating the impact that the
      new standard is expected to have upon its implementation in the first quarter
      of
      2007 but it is not expected to have a material impact on our consolidated
      financial statements.





In
      August
      2006, the FASB Emerging Issues Task Force Issued EITF 06-6, “Debtor’s Accounting
      for a Modification (or Exchange) of Convertible Debt Instruments”. EITF 06-6
      addresses the issue of how a modification of a debt instrument (or an exchange
      of debt instruments) that affects the terms of an embedded conversion option
      should be considered in the issuer’s analysis of whether debt extinguishment
      accounting should be applied. The Company does not expect this pronouncement
      to
      have a material impact on our consolidated financial statements.





In
      September 2006, the FASB issued FAS 157, “Fair Value Measurements,” which
      defines fair value, establishes a framework for measuring fair value and expands
      disclosures about fair value measurements. FAS 157 does not require any new
      fair
      value measurements. The Company is required to adopt this statement effective
      the first quarter of 2008, and is currently evaluating the impact the new
      standard will have on the Company.





In
      September 2006, the Securities and Exchange Commission issued Staff Accounting
      Bulletin (“SAB”) 108, “Quantifying Financial Statement Misstatements.” In SAB
      108, the Securities and Exchange Commission’s staff establishes an approach that
      requires quantification of financial statement errors based on the effects
      of
      the error on each of the company’s financial statements and the related
      financial statement disclosures. SAB 108 will be effective for the Company
      as of
      December 31, 2006; however it is not expected to have a material affect on
      the
      Company’s consolidated financial statements.





**Note
      4 - Mergers and acquisitions**





On
      July
      22, 2005, the Company entered into (and simultaneously consummated) a merger
      agreement with McKnight. In consideration of this merger agreement, the Company
      paid the following consideration: $500,000 in cash, the commitment to pay an
      additional $250,000, in cash, by June 2006 (the Company paid Mr. McKnight
      $125,000 in March 2006 and the balance in June 2006), the issuance of 909,091
      shares of the Company common stock, plus the assumption of substantially all
      of
      the liabilities of McKnight.




111





On
      July
      29, 2005 the Company, entered into (and simultaneously consummated) an agreement
      and plan of merger (the "Agreement") among ISI Merger Corp., a Delaware
      corporation and wholly owned subsidiary of the Company ("Merger Sub"),
      Integrated Strategies, Inc., a Delaware corporation ("ISI"), ISI Consulting,
      LLC, a Delaware limited liability company ("LLC"), and Adam and Larry Hock,
      individual majority stockholders and members of ISI and LLC, respectively (the
      "Majority Stockholders"). Pursuant to the Agreement, ISI and LLC merged with
      and
      into Merger Sub and the Company and Merger Sub paid the following consideration:
      $2,050,000 in cash (reduced by certain amounts), the issuance by Merger Sub
      of a
      promissory note in the amount of $580,000 (which was later reduced), the
      issuance by the Company of a subordinated promissory note in the amount of
      $165,000, and the assumption of substantially all the liabilities of ISI and
      LLC. The Agreement also provides for the commitment, subject to certain revenue
      and profit thresholds (as described in the Agreement), to pay additional cash
      and issue shares of the Company common stock. On August 1, 2005, Merger Sub
      changed its name to Integrated Strategies, Inc.





The
      pro
      forma consolidated statements of operations for the years ended December 31,
      2005 and 2004, respectively, set forth below gives effect to the acquisitions
      of
      McKnight and ISI as if they occurred on January 1, 2004.


Year
                  ended
              
              Year
                  endedDecember
                  31, 2005
              
              December
                  31, 2004Revenues
              
              $
              32,440,262
              
              $
              32,083,229Net
                  Income (Loss)
              
              $
              (4,115,076
              )
              $
              (22,449,341
              )Net
                  Income (Loss) per share
              
              $
              (0.08
              )
              $
              (0.48
              )





**Note
      5 - Discontinued Operations**





In
      July
      2005, the Board of Directors approved, and the Company completed, the sale
      of
      substantially all of the assets of Evoke Software Corporation and received
      aggregate consideration of $645,000 cash, the assumption by Similarity Systems
      and Similarity Vector Technologies, Ltd. of certain liabilities, 821,053 shares
      which are issuable by Similarity subject to the Company’s satisfactory
      completion of certain post-closing obligations, and an earnout in an amount
      equal to 13% of certain Similarity revenues. The maximum earnout consideration
      to which the Company is entitled under this agreement is $1,400,000 and would
      be
      received over a three year period. CSI changed the name of its “Evoke Software
      Corporation” subsidiary to “CSI Sub Corp II (DE)” in August 2005.





The
      821,053 shares and the earnout noted above as consideration to be received
      by
      the Company are both contingent upon certain post-closing events. However,
      as a
      result of Informatica Corporation’s acquisition of Similarity Systems in
      February 2006, the Company received $2,050,000 as a final payment on all future
      consideration related to our agreement with Similarity.




112
  **Note
              6 - Property and equipment**
  Property
              and equipment consisted of the
              following:


December
                  31,
              
              December
                  31,2006
              
              2005Computer
                  equipment
              
              $
              998,339
              
              $
              998,339Furniture
                  and fixtures
              
              
              161,543
              
              
              161,543Leasehold
                  improvements
              
              
              92,459
              
              
              92,4591,252,341
              
              
              1,252,341Accumulated
                  depreciation
              
              
              (987,257
              )
              
              (834,872
              )$
              265,084
              
              $
              417,469




Depreciation
      and amortization expense related to property and equipment totaled $0.2 million,
      $0.1 million and $0.1 million for 2006, 2005 and 2004 respectively.





**Note
      7 - Intangible assets**




Intangibles
        acquired have been assigned as follows:


December
                  31,
              
              December
                  31,
              
              Amortization2006
              
              2005
              
              periodCustomer
                  contracts
              
              $
              414,000
              
              $
              414,000
              
              
              5
                  yearsApproved
                  vendor status
              
              
              538,814
              
              
              538,814
              
              
              40
                  monthsCustomer
                  relationships
              
              
              685,000
              
              
              685,000
              
              
              2.5
                  yearsTradename
              
              
              722,000
              
              
              722,000
              
              
              IndefiniteProprietary
                  presentation format
              
              
              173,000
              
              
              173,000
              
              
              3
                  yearsOrder
                  backlog
              
              
              -
              
              
              50,500
              
              
              5
                  monthsProprietary
                  rights and rights to the name of Scosys, Inc.
              
              
              -
              
              
              20,000
              
              
              Indefinite2,532,814
              
              
              2,603,314Accumulated
                  amortization
              
              
              (1,265,958
              )
              
              (740,350
              )$
              1,266,856
              
              $
              1,862,964




The
      estimated amortization expense for the next five years related to other
      finite-lived intangible assets is estimated to be as follows:


Amortization
                  ofIntangible
                  assets2007
              
              
              488,3842008
              
              
              56,4722009
              
              
              -Thereafter
              
              
              -$
              544,856




**Note
      8 - Deferred financing costs**





The
      Company has incurred and capitalized financing costs in connection with
      financing transactions consummated between 2004 and 2006. These costs were
      deferred and are being amortized over the life of the related financing
      agreement. The following illustrates the components of the deferred financing
      costs:


December
                    31, 2006
                
                December
                    31, 2005Laurus
                    Master Fund
                
                $
                110,000
                
                $
                766,270Sands
                    Brothers
                
                
                -
                
                
                127,039$
                110,000
                
                $
                893,309Accumulated
                    amortization
                
                
                (52,609
                )
                
                (467,604
                )$
                57,391
                
                $
                425,705


113




**Note
      9 - Discount on debt**





The
      Company has recorded the discounts on its debt instruments due to both warrant
      issuances and embedded derivatives contained in convertible notes as deferred
      charges. These deferred charges are being amortized to interest expense over
      the
      life of the related debt instruments, which currently range from one to five
      years. The following illustrates the components of the discount on debt and
      their applicable amortization period:


December
                  31, 2006
              
              December
                  31, 2005
              
              Amortization
                  periodLaurus
                  Master Fund
              
              $
              -
              
              $
              2,276,345
              
              
              36
                  monthsSands
                  Brothers
              
              
              1,080,000
              
              
              1,080,000
              
              
              12-15
                  monthsTaurus
                  Advisory Group
              
              
              1,500,000
              
              
              1,500,000
              
              
              5
                  years2,580,000
              
              
              4,856,345Accumulated
                  amortization
              
              
              (1,793,921
              )
              
              (678,917
              )$
              786,079
              
              $
              4,177,428





**Note
      10 - Line of credit**





In
      August
      2004, we replaced our $3.0 million line of credit with North Fork Bank with
      a
      revolving line of credit with Laurus Master Fund, Ltd. (“Laurus”), whereby we
      had access to borrow up to $6.0 million based upon eligible accounts receivable.
      This revolving line provided for advances at an advance rate of 90% against
      eligible accounts receivable, with an annual interest rate of prime rate (as
      reported in the Wall Street Journal) plus 1%, and matured in three years. We
      had
      no obligation to meet financial covenants. This line of credit is secured by
      substantially all the corporate assets. Laurus had the option to convert amounts
      outstanding into our common stock at a fixed conversion price of $2.10 per
      share.





Additionally,
      in exchange for a $5.0 million secured convertible term note bearing interest
      at
      prime rate (as reported in the Wall Street Journal) plus 1%, Laurus had
      established a $5.0 million account to be used only for acquisition targets
      identified by us that were approved by Laurus in Laurus’ sole discretion. We had
      no obligation to meet financial covenants under this note. This note was
      convertible into our common stock at a fixed conversion price of $2.10 per
      share. This note was to mature in three years. We issued Laurus a common stock
      purchase warrant that provided Laurus with the right to purchase 800,000 shares
      of our common stock. The exercise price for the first 400,000 shares acquired
      under the warrant is $4.35 per share, the exercise price for the next 200,000
      shares acquired under the warrant is $4.65 per share, and the exercise price
      for
      the final 200,000 shares acquired under the warrant is $5.25 per share. The
      common stock purchase warrant expires on August 15, 2011. We paid $0.75 million
      in brokerage and transaction closing related costs. These costs were deducted
      from the $5.0 million restricted cash balance being provided to us by Laurus.





In
      May
      2005, Laurus elected to convert $1.0 million of debt underlying the minimum
      borrowing note into the Company’s common stock. As a result of this conversion,
      the Company obtained $1.0 million of additional borrowing capacity under its
      revolving line of credit and in return, issued 476,191 shares of Company
      common stock to Laurus.




114





In
      July
      2005, the Company entered into amendments of the notes dated August 16, 2004
      between the Company and Laurus. Pursuant to the amendment, the Company released
      $4,327,295 (the “Funds”) to Laurus, which was being held in the Restricted
      Account (which was available to the Company for acquisitions) and issued an
      amended and restated convertible note in the principal amount of $749,000.
      In
      satisfaction of the balance of the accrued interest and any liquidated damages
      to which it was entitled pursuant the Registration Rights Agreement entered
      into
      in August 2004, the Company issued an option to purchase 333,334 shares of
      the
      Company’s common stock at a purchase price of $0.015 per share. Laurus fully
      exercised this option to purchase Company stock on August 1, 2005. Laurus also
      agreed to extend the required filing date and effective date of the Registration
      Statement. For accounting purposes, the Company recorded this transaction as
      an
      early extinguishment of debt and recognized the remaining discount on debt
      and
      liability as a component of other income (expense).





The
      Company also amended its line of credit notes to increase the amount of
      borrowing available to the Company to $6.5 million, based upon eligible accounts
      receivable. Additionally, the Company and Laurus entered into an Overadvance
      Letter Agreement, pursuant to which Laurus made a loan to the Company in excess
      of the amount available using the Company accounts receivable as collateral
      in
      the principal amount of $2.7 million. The Company utilized the $2.7 million
      which was advanced to it by Laurus to acquire McKnight and ISI. Except as noted
      above, all terms of the August 2004 agreements continued to remain in
      effect.





On
      November 30, 2005, the Company (i) amended the convertible term note in the
      principal amount of $749,000 by reducing the conversion rate of the note from
      $2.10 to $1.00, (ii) amended the line of credit notes by increasing the
      principal amount available, based upon eligible accounts receivable, from $6.5
      million to $7.5 million and reducing the conversion rate from $2.10 to between
      $0.65 and $1.00.





On
      February 1, 2006, the Company restructured its financing with Laurus again
      by
      entering into financing agreements with Laurus, pursuant to which it, among
      other things, (a) issued a secured non-convertible term note in the principal
      amount of $1.0 million to Laurus (the “Term Note”), (b) issued a secured
      non-convertible revolving note in the principal amount of $10.0 million to
      Laurus (the “Revolving Note”, collectively with the Term Note, the “Notes”), and
      (c) issued an option to purchase up to 3,080,000 shares of the Company's common
      stock to Laurus (the “Option”) at an exercise price of $.001 per share. The
      proceeds from the issuance of the Notes were used to refinance the Company’s
      outstanding obligations under the existing facility with Laurus (originally
      entered into in August 2004 and subsequently amended in July 2005) at a 5%
      premium. The Notes bear an annual interest rate of prime (as reported in the
      Wall Street Journal, which was 7.25% as of January 31, 2006) plus 1.0%, with
      a
      floor of 5.0%. Payments of principal and interest will be made in equal monthly
      amounts until maturity of both notes on December 31, 2007




In
      connection with the Notes, the Company and Laurus entered into an Overadvance
      Letter Agreement, pursuant to which Laurus exercised its discretion granted
      to
      it pursuant to the Security Agreement entered into in August 2004 to make a
      loan
      to the Company in excess of the “Formula Amount” (as defined therein). The
      Company also entered into a Stock Pledge Agreement and Security Agreement
      securing its obligations to Laurus, both prior to and including the Notes,
      as
      well as a Registration Rights Agreement pursuant to which the Company agreed
      to
      file a registration statement to register the shares of the Company’s common
      stock underlying the Option, as well as the shares of the Company’s common stock
      and the shares of the Company’s common stock underlying the warrants held by
      Laurus, within 90 days. As of the date of this filing, Laurus owns approximately
      2,389,525 shares of the Company’s common stock, options to purchase up to
      1,500,000 shares of the Company's common stock at an exercise price of $.001
      per
      share, a warrant to purchase 1,785,714 shares of the Company’s common stock at
      an exercise price of $0.01 per share, and warrants to purchase 400,000 shares
      of
      the Company’s common stock at $4.35 per share, 200,000 shares of the Company’s
      common stock at $4.65 per share and 200,000 shares of the Company’s common stock
      at $5.25 per share.





The
      note
      and related agreements contain several events of default which
      include:


·
              failure
                  to pay interest, principal payments or other fees when
                  due;


115




·
            failure
                to pay taxes when due unless such taxes are being contested in good
                faith;





·
            breach
                by us of any material covenant or term or condition of the notes
                or any
                agreements made in connection therewith;·
            default
                on any indebtedness to which we or our subsidiaries are a
                party;





·
            breach
                by us of any material representation or warranty made in the notes
                or in
                any agreements made in connection therewith;·
            attachment
                is made or levy upon collateral securing the Laurus debt which is
                valued
                at more than $150,000 and is not timely
                mitigated.





·
            any
                lien created under the notes and agreements is not valid and perfected
                having a first priority interest;·
            assignment
                for the benefit of our creditors, or a receiver or trustee is appointed
                for us;





·
            bankruptcy
                or insolvency proceeding instituted by or against us and not dismissed
                within 30 days;·
            the
                inability to pay debts as they become due or cease business
                operations;





·
            sale,
                assignment, transfer or conveyance of any assets except as
                permitted;·
            a
                person or group becomes beneficial owner of 35% on fully diluted
                basis of
                the outstanding voting equity interest or the present directors cease
                to
                be the majority on the Board of
                Directors;





·
            indictment
                or threatened criminal indictment, or commencement of threatened
                commencement of any criminal or civil proceeding against the Company
                or
                any executive officer; and·
            common
                stock suspension for five consecutive days or five days during any
                10
                consecutive days from a principal market, provided that we are unable
                to
                cure such suspension within 30 days or list our common stock on another
                principal market within 60 days.




If
      we
      default on the notes and the holder demands all payments due and payable, the
      cash required to pay such amounts would most likely come out of working capital,
      which may not be sufficient to repay the amounts due. The default payment shall
      be 115% of the outstanding principal amount of the note plus accrued but unpaid
      interest, all other fees then remaining unpaid, and all other amounts payable
      thereunder. In addition, since we rely on our working capital for our day to
      day
      operations, such a default on the note could materially adversely affect our
      business, operating results or financial condition to such extent that we are
      forced to restructure, file for bankruptcy, sell assets or cease operations.
      Further, our obligations under the notes are secured by substantially all of
      our
      assets. Failure to fulfill our obligations under the notes and related
      agreements could lead to loss of these assets, which would be detrimental to
      our
      operations.





As
      of
      December 31, 2006, approximately $5.8 million was outstanding under the
      revolving line of credit and Overadvance Letter Agreement. The interest rate
      on
      the revolving line and the overadvance letter was 9.25% as of December 31,
      2006.





**Note
      11 - Short Term Notes Payable**





In
      September 2004, the Company issued to Sands Brothers Venture Capital LLC, Sands
      Brothers Venture Capital III LLC and Sands Brothers Venture Capital IV LLC
      (collectively, “Sands”) three subordinated secured convertible promissory notes
      equaling $1.0 million (the “Notes”), each with an annual interest rate of 8%
      expiring September 22, 2005. The Notes were secured by substantially all
      corporate assets, but subordinate to Laurus. The Notes were convertible into
      shares of the Company’s common stock at the election of Sands at any time
      following the consummation of a convertible debt or equity financing with gross
      proceeds of $5 million or greater (a “Qualified Financing”). The Company also
      issued Sands three common stock purchase warrants (the “Warrants”) providing
      Sands with the right to purchase 400,000 shares of the Company’s common stock.
      The exercise price of the shares of the Company’s common stock issuable upon
      exercise of the Warrants was equal to $2.10 per share. The latest that the
      Warrants may expire is September 8, 2008.




116





On
      September 22, 2005, upon maturity of the September 2004 notes, the Company
      issued to Sands three new subordinated secured convertible promissory notes
      equaling $1.080 million, each with an annual interest rate of 12% expiring
      on
      January 1, 2007. The Company also issued Sands three common stock purchase
      warrants (the “Warrants”) providing Sands with the right to purchase 400,000
      shares of the Company’s common stock. The exercise price of the shares of the
      Company’s common stock issuable upon exercise of the Warrants shall be equal to
      a price per share of common stock equal to $2.10 per share. The latest that
      the
      Warrants may expire is December 15, 2009.




The
      Sands
      notes contain the following default provisions:




·
            failure
                to pay interest, principal payments or other fees when
                due;·
            default
                in the payment when due of any obligation in excess of
                $100,000;





·
            default
                of covenant in notes remains uncured for 30 days;·
            breach
                by us of any material representation or warranty made in the notes
                or in
                any agreements made in connection
                therewith;





·
            the
                notes and agreements are no longer a binding obligation of the Company
                or
                any lien created under the notes and agreements is not valid and
                perfected;·
            judgments
                against the Company in excess of $100,000 are not vacated, satisfied
                or
                discharged within 30 days;





·
            violation
                of any law or regulation for more than 30 days after written notice
                and
                has a material adverse effect on the Company; and·
            suspension
                of Company operations and such suspension would reasonably be expected
                to
                have a material adverse effect on the
                Company.




In
      an
      event of default under the Sands notes, Sands may declare all obligations
      immediately due and payable and will have the right to take possession of the
      Collateral. Further, if an event of default
      occurs and is continuing beyond any applicable grace period, the unpaid balance
      of principal and interest from the date of default shall begin and continue
      to
      accrue until the payment in full of all unpaid principal and accrued interest
      hereunder at a default rate equal to 13%.





In
      July
      2005, the Company obtained two $250,000 short term loans from certain investors
      represented by Taurus. Both notes bear interest at 8% per annum. The first
      note
      is dated July 6, 2005 and initially matured on September 5, 2005. The second
      note is dated July 22, 2005 and originally matured on September 22, 2005. These
      short term note holders have agreed to extend their maturity date on a
      month-to-month basis until the Company raises sufficient funds to repay the
      notes.




In
      July
      2005, in conjunction with the acquisition of ISI, the Company issued a short
      term note in the principal amount of $165,000 payable to Adam Hock and Larry
      Hock, the former principle stockholders of ISI. This note bears interest at
      5%
      per annum and matured on October 28, 2006. Due to a dispute between the Company
      and the noteholders, as of December 31, 2006, this note has not been
      repaid.





In
      December 2005, the Company obtained a $1,000,000 short term loan from certain
      investors represented by Taurus. This note bears interest at 8% per annum.
      The
      note is dated December 19, 2005 and initially matured on January 31, 2006.
      These
      short term note holders have agreed to extend their maturity date on a
      month-to-month basis until the Company raises sufficient funds to repay the
      notes.  In conjunction with this note, these investors received a warrant
      to purchase 277,777 shares of our common stock with an exercise price of $0.675
      per share in December 2005, a warrant to purchase 277,777 shares of our common
      stock with an exercise price of $0.75 per share in February 2006 and a
      warrant to purchase 554,000 shares of our common stock with an exercise price
      of
      $1.30 per share in March 2006. These warrants expire in December
      2008, January 2009 and February 2009, respectively. ****





Using
      the
      Black-Scholes option pricing model, the Company calculated the relative fair
      value of the warrant to purchase 277,777 shares of Company common stock to
      be
      $111,111. This relative fair value was amortized to interest expense during
      2006. The assumptions used in the relative fair value calculation were as
      follows: Company stock price on December 19, 2005 of $0.54 per share; exercise
      price of the warrants of $0.675 per share; three year term; volatility of
      162.52%; annual rate of dividends of 0%; and a risk free interest rate of 4.5%.




117





**Note
      12 - Financial Instruments**




Laurus




The
      Notes
      are hybrid instruments which contain both freestanding derivative financial
      instruments and more than one embedded derivative feature which would
      individually warrant separate accounting as a derivative instrument under SFAS
      No. 133. The freestanding derivative financial instruments include the warrant,
      which was valued individually, and totaled $2,394,000 at the date of inception.
      The various embedded derivative features have been bundled together as a single,
      compound embedded derivative instrument that has been bifurcated from the debt
      host contract, referred to as the “Compound Embedded Derivative Liability”. The
      single compound embedded derivative features include the conversion feature
      within the notes, the conversion reset feature, the early redemption option
      and
      the interest rate adjustments. The value of the single compound embedded
      derivative liability was bifurcated from the debt host contract and recorded
      as
      a derivative liability, which resulted in a reduction of the initial carrying
      amount (as unamortized discount) of the notes. The unamortized discount is
      amortized to interest expense using the effective interest method over the
      life
      of the notes, or 36 months.





The
      Company previously restated the consolidated financial statements as of December
      31, 2004 to reclassify the Laurus warrants from additional paid in capital
      to
      liabilities and interest expense effective September 2004 to reflect that the
      registration rights agreement into which the Company entered in connection
      with
      its issuance of the warrants required the Company to pay liquidated damages,
      which in some cases could exceed a reasonable discount for delivering
      unregistered shares and thus would require the warrants to be classified as
      a
      liability until the earlier of the date the warrants are exercised or expire.
      In
      accordance with EITF 00-19, *“Accounting
      for Derivative Financial Instruments Indexed To, and Potentially Settled In,
      a
      Company’s Own Stock”,* the
      Company had allocated a portion of the offering proceeds to the warrants based
      on their fair value. EITF 00-19 also required that the Company revalue the
      warrants as a derivative instrument periodically to compute the value in
      connection with changes in the underlying stock price and other assumptions,
      with the change in value recorded as other expense or other income.





In
      conjunction with the Laurus credit facility, Laurus was paid a fee of $749,000,
      in August 2004, and received a seven-year warrant to purchase up to 800,000
      shares of the Company’s common stock at prices ranging from $4.35 to $5.25 per
      share. The warrant, which is exercisable immediately, was valued at $2,394,000
      using a Black-Scholes option pricing model. The value of the warrant and the
      fees paid to Laurus were recorded as a discount to the note and were being
      amortized over the term of the loan using the effective interest
      method.





The
      Company has previously restated the December 31, 2005 consolidated financial
      statements and, as part of this restatement, the July 2005 amendment to the
      note
      was accounted for as an extinguishment of debt in accordance with EITF 96-19 *“Debtor’s
      Accounting for a Modification or Exchange of Debt Instruments.”* Accordingly, the unamortized discounts, of the warrants and the compound
      embedded derivatives, aggregating $4,954,482 and the fair value of the 333,333
      options to purchase Company common stock issued in connection with the
      amendment, amounting to approximately $772,000, were included in the Company’s
      determination of the debt extinguishment recorded in the third quarter of fiscal
      year 2005. The $244,000 aggregate gain from these transactions accounted for
      as
      an early extinguishment of debt included in other income (expense) for the
      year
      ended December 31, 2005.




The
      Laurus agreements were amended again in November 2005 and this amendment was
      treated as an early extinguishment of debt by the Company. The unamortized
      discounts aggregating $3,291,000 and the fair value of the warrant and embedded
      derivative liability amounting to $1,439,000 were included in the Company’s
      determination of the debt extinguishment recorded in the fourth quarter of
      fiscal 2005. The aggregate loss of $1,852,000 from these transactions were
      accounted for as an extinguishment of debt is included in other expenses for
      the
      year ended December 31, 2005.




118





The
      Laurus agreements were amended again in February 2006 and this amendment was
      treated as an early extinguishment of debt by the Company. The unamortized
      discounts aggregating $2,084,000 and the fair value of the warrant and embedded
      derivative liability amounting to $2,433,000 were included in the Company’s
      determination of the debt extinguishment recorded in the first quarter of fiscal
      2006. The aggregate gain of $349,000 from these transactions was accounted
      for
      as an extinguishment of debt and is included in other expenses for the year
      ended December 31, 2006.





The
      Company determined the fair value of the warrants as of the following issuance
      dates:





As
      of
      December 31, 2004, the Company used the Black-Scholes option-pricing model
      with
      the following assumptions: an expected life of 6.62 years; an underlying stock
      price of $3.67 per share; no dividends; a risk free rate of 3.94% and volatility
      of 150.0%. The resulting aggregate allocated value of the warrants as of
      December 31, 2004 equaled $2,781,000. The change in fair value of the warrants
      resulted in an amount of $387,000 and included as part of financial instruments
      for the year ended December 31, 2004.





For
      the
      year ended December 31, 2005, the Company performed the Black-Scholes
      calculation to revalue the warrants as of that date. In using this model, the
      Company used an expected life of 5.62 years; an underlying stock price of $0.53
      per share; no dividends; a risk free rate of 4.36% and volatility of 150.0%.
      The
      resulting aggregate allocated value of the warrants as of December 31, 2005
      was
      approximately $349,000. The change in fair value of the warrants was
      approximately ($2,432,000) for the year ended December 31, 2005.





The
      Company performed the Black-Scholes calculation as of February 1, 2006 to
      revalue the warrants just prior to the debt amendment which has been accounted
      for as an early extinguishment of debt. In using this model, the Company used
      an
      expected life of 5.54 years; an underlying stock price of $0.70 per share;
      no
      dividends; a risk free rate of 4.51%; and a volatility of 150.0%. The resulting
      aggregate allocated value of the warrants as of February 1, 2006 equaled
      $468,496. Since all convertible features included in the previous Laurus
      transactions were removed during the February 1, 2006 amendment, subsequent
      to
      the amendment, the warrants no longer met the requirements for accounting
      treatment under EITF 00-19, *“Accounting
      for Derivative Financial Instruments Indexed To, and Potentially Settled In,
      a
      Company’s Own Stock”.* As
      a
      result, the Company reclassified the fair value of the warrants, $703,567,
      from
      the financial instrument liability account to additional paid in
      capital.





Using
      a
      probability-weighted discounted cash flow model, the fair value of the Compound
      Embedded Derivative Liability was computed at $4,519,000 and $1,267,500 at
      December 31, 2004 and December 31, 2005, respectively. Due to the early
      extinguishment of the debt in February 2006, there was no accounting derivative
      accounting required subsequent to that date. The model replicated the economics
      of the notes and applied different events based on various conditions likely
      to
      occur over the life of the note. Multiple scenarios were used in the model
      and
      the underlying assumptions below were applied. The value of this single,
      compound embedded derivative instrument was bifurcated from the debt host
      contract and recorded as a derivative liability which resulted in a reduction
      of
      the initial carrying amount (as unamortized discount) to the notional amounts
      of
      the convertible notes.





Sands




The
      Notes
      are hybrid instruments which contain both freestanding derivative financial
      instruments and more than one embedded derivative feature which would
      individually warrant separate accounting as a derivative instrument under SFAS
      No. 133. The freestanding derivative financial instruments include the warrant,
      which was valued individually, and totaled $1,563,000 at the date of inception.
      The various embedded derivative features have been bundled together as a single,
      compound embedded derivative instrument that has been bifurcated from the debt
      host contract, referred to as the “Compound Embedded Derivative Liability”. The
      single compound embedded derivative features include the conversion feature
      within the notes, the conversion reset feature, the early redemption option,
      and
      the interest rate adjustments. The value of the single compound embedded
      derivative liability was bifurcated from the debt host contract and recorded
      as
      a derivative liability, which resulted in a reduction of the initial carrying
      amount (as unamortized discount) of the notes. The unamortized discount is
      amortized to interest expense using the effective interest method over the
      life
      of the notes, or 12 months.




119





The
      Company previously restated the consolidated financial statements as of December
      31, 2004 to reclassify the Sands warrants from additional paid in capital to
      liabilities and interest expense effective September 2004 to reflect the
      registration rights agreement into which the Company entered in connection
      with
      its issuance of the warrants. This registration rights agreement requires the
      Company to pay liquidated damages, which in some cases could exceed a reasonable
      discount for delivering unregistered shares and thus would require the warrants
      to be classified as a liability until the earlier of the date the warrants
      are
      exercised or expire. In accordance with EITF 00-19, *“Accounting
      for Derivative Financial Instruments Indexed To, and Potentially Settled In,
      a
      Company’s Own Stock”* the
      Company revalued the warrants as a derivative instrument periodically to compute
      the value in connection with changes in the underlying stock price and other
      assumptions, with the change in value recorded as other expense or other
      income.





In
      conjunction with the Sands transaction, in September 2004, Sands received a
      three-year warrant to purchase up to 400,000 shares of the Company’s common
      stock at $2.10 per share. The warrant, which is exercisable immediately, was
      valued at $1,742,000 using a Black-Scholes option pricing model. The value
      of
      the warrant was recorded as a discount to the note and was amortized over the
      one year term of the loan using the effective interest method.





The
      Company determined the fair value of the warrants as of the following issuance
      dates:





As
      of
      December 31, 2004, the Company used the Black-Scholes option-pricing model
      with
      the following assumptions: expected life of 3.00 years; an underlying stock
      price of $3.67 per share; no dividends; a risk free rate of 3.25% and volatility
      of 150.0%. The resulting aggregate allocated value of the warrants as of
      December 31, 2004 equaled $1,788,000. The change in fair value of the warrants
      was $46,000 and was included as a component of financial instruments for the
      year ended December 31, 2004.





For
      the
      year ended December 31, 2005, the Company performed the Black-Scholes
      calculation to revalue the September 2004 warrants as of that date. In using
      this model, the Company used an expected life of 2.69 years; an underlying
      stock
      price of $0.53 per share; no dividends; a risk free rate of 4.37% and volatility
      of 150.0%. The resulting aggregate allocated value of the warrants as of
      December 31, 2005 equaled $142,000. The change in fair value of the warrants
      resulted in a decrease of the liability of ($1,646,000) and is included as
      a
      component of financial instruments for the year ended December 31, 2005.




For
      the
      year ended December 31, 2005, the Company performed the Black-Scholes
      calculation to revalue the September 2005 warrants as of that date.  In
      using this model, the Company used an expected life of 3.00 years; an underlying
      stock price of $0.53 per share, no dividends; a risk free rate of 4.37% and
      a
      volatility of 150.0%.  The resulting aggregate allocated value of warrants
      as of December 31, 2005 equaled $190,000.




For
      the
      year ended December 31, 2006, the Company performed the Black-Scholes
      calculation to revalue the warrants issued in September 2004 as of that date.
      In
      using this model, the Company used an expected life of 1.69 years; an underlying
      stock price of $0.34 per share; no dividends; a risk free rate of 4.82% and
      volatility of 97.0%. The resulting aggregate allocated value of the warrants
      as
      of December 31, 2006 equaled $19,000. The change in fair value of the warrants
      resulted in a decrease of the liability of ($122,000) and is included as a
      component of financial instruments for the year ended December 31, 2006.





Additionally,
      for the year ended December 31, 2006, the Company performed the Black-Scholes
      calculation to revalue the warrants issued in September 2005 as of that date.
      In
      using this model, the Company used an expected life of 2.49 years; an underlying
      stock price of $0.34 per share; no dividends; a risk free rate of 4.72% and
      volatility of 100.0%. The resulting aggregate allocated value of the warrants
      as
      of December 31, 2006 equaled $33,000. The change in fair value of the warrants
      resulted in a decrease of the liability of ($158,000) and is included as a
      component of financial instruments for the year ended December 31,
      2006.





Upon
      the
      earlier of the warrant exercise or the expiration date, the warrant liability
      will be reclassified into stockholders’ equity. Until that time, the warrant
      liability will be recorded at fair value based on the methodology described
      above. Changes in the fair value during each period will be recorded as other
      income or other expense. Liquidated damages under the registration rights
      agreement will be expensed as incurred and will be included in operating
      expenses.




120





Using
      a
      probability-weighted discounted cash flow model, the fair value of the Compound
      Embedded Derivative Liability was computed at $1,428,000 at December 31, 2004.
      The note matured on September 22, 2005 and a new note was executed with Sands.
      Using the probability-weighted discounted cash flow model, the fair value of
      the
      Compound Embedded Derivative Liability was computed at $889,000 and $0 at
      December 31, 2005 and 2006, respectively. The model replicated the economics
      of
      the notes and applied different events based on various conditions likely to
      occur over the life of the note. Multiple scenarios were used in the model
      and
      the underlying assumptions below were applied. The value of this single,
      compound embedded derivative instrument was bifurcated from the debt host
      contract and recorded as a derivative liability which resulted in a reduction
      of
      the initial carrying amount (as unamortized discount) to the notional amounts
      of
      the Convertible Notes.




Probability-Weighted
      Expected Cash Flow Methodology




Liability
                  as of December 31,2006
              
              2005
              
              2004Assumption:Risk-free
                  interest rate
              
              
              4.72
              %
              
              4.41
              %
              
              3.25
              %Prime
                  rate - increasing .25% each quarter
              
              
              8.25
              %
              
              7.25
              %
              
              5.25
              %Registration
                  default - increasing 1% monthly up to 5%
              
              
              0
              %
              
              0
              %
              
              0
              %Default
                  status - increasing .25% monthly
              
              
              5
              %
              
              5
              %
              
              5
              %Alternative
                  financing available - increasing 5% monthly up to 25%
              
              
              0
              %
              
              0
              %
              
              0
              %Trading
                  volume, gross 22 day volume
              
              
              309,104
              
              
              541,800
              
              
              363,610Monthly
                  increase
              
              
              
              
              
              1
              %
              
              2
              %Annual
                  growth rate of stock price
              
              
              31.715
              %
              
              31.485
              %
              
              31.725
              %Future
                  projected volatility
              
              
              150
              %
              
              150
              %
              
              150
              %Reset
                  provisions occurring
              
              
              50
              %
              
              50
              %
              
              40
              %Weighted
                  average conversion reset price
              
              
              -
              
              
              1.098
              
              
              1.52





121




**Note
        13 - Long Term Debt**





Long-term
                debt consisted of the following:December
                31,
            
            December
                31,2006
            
            2005Secured
                convertible term note with a maturity date of August 16, 2007 unless
                converted into common stock at the note holder's option. The initial
                conversion price is $2.10 per share, however, was reduced to $1.00
                per
                share on November 30, 2005. Interest accrues at a rate of prime plus
                one
                percent. As of December 31, 2005, the interest rate on this note
                was
                8.25%. See note 10 - Line of credit for further description of this
                transaction.
            
            $
            -
            
            $
            651,305Secured
                non-convertible term note with a maturity date of December 31, 2007.
                Interest accrues at a rate of prime plus one percent. As of December
                31,
                2006, the interest rate on this note was 9.25%. See note 10 - Line
                of
                credit for further description of this transaction.
            
            
            545,454
            
            
            -Convertible
                line of credit note with a maturity date of June 6, 2009 unless converted
                into common stock at the Company or the note holder’s option. Interest
                accrues at 7% per annum. The original conversion price to shares
                of common
                stock is equal to 75% of the average trading price for the prior
                ten
                trading days. In September 2004, the price was reset to $1.58 per
                share. A
                warrant to purchase 277,778 shares of Company common stock was also
                issued. The exercise price of the warrant is $2.10 per share and
                the
                warrant expires on June 6, 2009. An allocation of the relative fair
                value
                of the warrant and the debt instrument was performed. The relative
                fair
                value of the warrant was determined to be $500,000 and is being amortized
                to interest expense over the life of the note. A discount on debt
                issued
                of $1,500,000 was recorded in September 2004 based on the reset conversion
                terms.
            
            
            2,000,000
            
            
            2,000,000Senior
                subordinated secured convertible promissory note with a maturity
                date of
                January 1, 2007 unless converted into common stock at the note holder's
                option. Interest accrues at 12% per annum. A warrant to purchase
                400,000
                shares of Company common stock was also issued. The exercise price
                of the
                warrant is $2.10 per share and the warrant expires on December 15,
                2009.
            
            
            -
            
            
            1,080,000Notes
                payable under capital lease obligations payable to various finance
                companies for equipment at varying rates of interest, ranging from
                18% to
                33% as of December 31, 2005, and have maturity dates through 2008.
            
            
            44,051
            
            
            148,3932,589,505
            
            
            3,879,698Relative
                fair values, at issuance, ascribed to warrants associated with the
                above
                debt agreements. This amount is being accreted to the debt instrument
                over
                the term of the related debt agreements, which range from three to
                five
                years.
            
            
            (241,666
            )
            
            (341,662
            )Subtotal
            
            
            2,347,839
            
            
            3,538,036Less:
                Current portion of long-term debt, including obligations under capital
                leases of $33,231 and current portion of long term debt of $545,454
                as of
                December 31, 2006 and current portion of capital leases of $104,342
                and
                current portion of long term debt of $390,780 as of December 31,
                2005.
            
            
            (578,685
            )
            
            (495,122
            )$
            1,769,154
            
            $
            3,042,914Future
                annual payments of long-term debt is as follows:Years
                Ending2006
            
            $
            -
            
            $
            495,1222007
            
            
            578,685
            
            
            1,373,7562008
            
            
            10,820
            
            
            10,8202009
            
            
            2,000,000
            
            
            2,000,000$
            2,589,505
            
            $
            3,879,698


Obligations
      under Capital Leases





The
      Company has entered into various capital leases that are collateralized by
      computer equipment and a trade show booth with an original cost of approximately
      $100,000.




122





The
      following schedule lists future minimum lease payments under the capital leases
      with their present value as of December 31, 2006:


December
                  31, 2006
              
              December
                  31, 20052006
              
              $
              
              
              $
              122,1252007
              
              
              37,451
              
              
              37,4512008
              
              
              11,523
              
              
              11,52348,974
              
              
              171,099Less:
                  Amount representing interest
              
              
              (4,923
              )
              
              (22,706
              )$
              44,051
              
              $
              148,393




During
      2006, 2005 and 2004, the Company recorded depreciation expense related to
      equipment under capital leases of approximately $0, $0.1 million and $0.1
      million, respectively.





In
      June
      2004, the Company issued a five-year $2.0 million unsecured convertible line
      of
      credit note. The note accrues at an annual interest rate of 7%, and the
      conversion price of the shares of common stock issuable under the note is equal
      to $1.58 per share. In addition, such investor received a warrant to purchase
      277,778 shares of our common stock at an exercise price of $1.58 per share.
      This
      warrant expires in June 2009. This note also contains beneficial conversion
      features, and as a result, we recorded a beneficial conversion charge of $1.5
      million which is being amortized into income over the life of the debt
      instrument. Additionally, using the Black-Scholes option pricing model, we
      determined the fair value of the warrant to be $0.5 million. The Company valued
      the warrant in accordance with EITF 00-27 using the Black-Scholes option pricing
      model and the following assumptions: contractual term of five years, an average
      risk free interest rate of 1.33%, a dividend yield of 0%, and volatility of
      138.62%. The relative fair value attributed to the warrant issued is amortized
      over the note’s maturity period (60 months) as interest expense.





**Note
      14 - Income Taxes**





The
      Company provides for federal and state income taxes in accordance with current
      rates applied to accounting income before taxes. The provision for income taxes
      is as follows:


Years
                  ended December 31,2006
              
              2005Current
                  - Federal
              
              $
              -
              
              $
              -Current
                  - State
              
              
              -
              
              
              -Deferred
                  - Federal
              
              
              -
              
              
              -Deferred
                  - State
              
              
              -
              
              
              -$
              -
              
              $
              -




The
      Company’s provision for income taxes is based on estimated effective annual
      income tax rates. The provision may differ from income taxes currently payable
      because certain items of income and expense are recognized in different periods
      for financial statement purposes than for tax return purposes.





The
      Company has $25.8 million of net operating loss carry-forwards for both federal
      and state purposes expiring between 2023 and 2026.




123




December
                  31,2006
              
              2005Net
                  operating losses
              
              $
              10,321,000
              
              $
              8,661,000Accounts
                  receivable
              
              
              82,000
              
              
              195,000Property
                  and equipment
              
              
              38,000
              
              
              (1,000
              )Accounts
                  payable and accrued expenses
              
              
              15,000
              
              
              (3,000
              )Debt
              
              
              (56,000
              )
              
              (26,000
              )Goodwill
              
              
              199,000
              
              
              268,000Intangible
                  assets
              
              
              (392,000
              )
              
              (592,000
              )Stock
                  based compensation
              
              
              1,821,000
              
              
              604,00012,028,000
              
              
              9,106,000Valuation
                  allowance
              
              
              (12,391,400
              )
              
              (9,469,400
              )$
              (363,400
              )
              $
              (363,400
              )


The
      Company evaluates the amount of deferred tax assets that are recorded against
      expected taxable income over its forecasting cycle which is currently two years.
      As a result of this evaluation, the Company has recorded a valuation allowance
      of $12,391,400 and $9,469,400 for the years ended December 31, 2006 and 2005,
      respectively, representing a current year change in the valuation allowance
      of
      ($2,922,000). This allowance was recorded because, based on the weight of
      available evidence, it is more likely than not that some, or all, of the
      deferred tax asset may not be realized.





Income
      taxes computed at the federal statutory rate differ from the amounts provided
      as
      follows:


For
                  the year ended
                December
                  31,2006
              
              2005Provision
                  for Federal taxes at statutory rate (34%)
              
              
              (34.0
              %)
              
              (34.0
              %)State
                  taxes, net of Federal benefit
              
              
              (4.6
              %)
              
              (4.0
              %)Permanent
                  difference due to non-deductible items
              
              
              1.6
              %
              
              11.1
              %Incentive
                stock option compensation
              
              
              4.9
              %
              
              -
              %Goodwill
                impairment
              
              
              1.2
              %
              
              -
              %Valuation
                  allowance applied against income tax benefit
              
              
              30.9
              %
              
              26.9
              %Income
                  tax provision
              
              
              0.0
              %
              
              0.0
              %




**Note
      15 - Common Stock**




On
      November 8, 2004, we entered into a Stock Purchase Agreement (the “Agreement”)
      with a private investor, CMKX-treme, Inc.  Pursuant to the Agreement,
      CMKX-treme, Inc. agreed to purchase 833,333 shares of common stock for a
      purchase price of $1.75 million.  Under the terms of the Agreement,
      CMKX-treme, Inc. initially purchased 238,095 shares of common stock for $0.5
      million, and it was required to purchase the remaining 595,238 shares of Common
      Stock for $1.25 million by December 31, 2004. As of March 17, 2005, CMKX-treme,
      Inc. remitted final payment for the remaining 595,238 shares.




On
      December 29, 2006, the Company entered into a Stock Purchase Agreement with
      certain investors, pursuant to which the Company issued 3,000,000 shares of
      the
      Company's common stock, $0.001 par value, and the Company received proceeds
      of
      $750,000. Pursuant to the Stock Purchase Agreement, the Investors were also
      granted a warrant to purchase 1,500,000 shares of the Company's common stock,
      exercisable at a price of $0.30 per share (subject to adjustment). The warrant
      is exercisable for a period of five years.




**Note
      16 - Preferred Stocks**





In
      February 2006, we entered into a Securities Purchase Agreement with investors
      represented by Taurus, pursuant to which we issued 19,000 shares of our
      newly created Series A Convertible Preferred Stock, $.001 par value (the “Series
      A Preferred”). Each share of Series A Preferred has a stated value of $100.00.
      We received proceeds of $1,900,000. The Series A Preferred has a cumulative
      annual dividend equal to five percent (5%), which is payable semi-annually 
in cash or common stock, at our election, and is convertible into shares of
      the
      Company’s common stock at any time at a price equal to $0.50 per share (subject
      to adjustment). In addition, the Series A Preferred has no voting rights, but
      has liquidation preferences and certain other privileges. All shares of Series
      A
      Preferred not previously converted shall be redeemed by the Company, in cash
      or
      common stock, at the election of the Taurus investors, on February 1, 2011.
      Pursuant to the Securities Purchase Agreement, the Taurus investors were also
      granted a warrant to purchase 1,900,000 shares of our common stock exercisable
      at a price of $0.60 per share (subject to adjustment), exercisable for a period
      of five years.




124





Using
      the
      Black-Scholes option pricing model, the Company calculated the relative fair
      value of the warrant to purchase 1,900,000 shares of Company common stock to
      be
      approximately $1,128,000. This relative fair value has been recorded as a
      reduction of the $1,900,000 mezzanine equity balance for the preferred stock
      and
      an addition to additional paid-in capital. The assumptions used in the relative
      fair value calculation are as follows: Company stock price on February 2, 2006
      of $1.49 per share; exercise price of the warrants of $0.60 per share; five
      year
      term; volatility of 187.13%; annual rate of dividends of 0%; and a risk free
      interest rate of 4.82%. Additionally, the Company calculated a beneficial
      conversion feature charge related to the conversion price for the preferred
      stock to common stock of approximately $772,000.





In
      August
      2006, we entered into a Stock Purchase Agreement with an investor represented
      by
      Taurus, pursuant to which we issued 20,000 shares of our newly created
      Series B Convertible Preferred Stock, $.001 par value (the “Series B
      Preferred”). Each share of Series B Preferred has a stated value of $100.00. We
      received proceeds of $2,000,000. The Series B Preferred has a cumulative annual
      dividend equal to the Prime Rate plus one percent (1%), which is payable
      monthly in cash or common stock, at our election, and is convertible into
      shares of our common stock at any time at a price equal to the lower of (1)
      $0.85 or (2) the average daily volume weighted market price for the five
      consecutive trading days immediately prior to the date for which such price
      is
      determined, with a minimum price of $0.50. In addition, the Series B Preferred
      has no voting rights, but has liquidation preferences and certain other
      privileges. Pursuant to the Stock Purchase Agreement, warrants to purchase
      1,276,471 shares of our common stock were issued, exercisable
      at a price of $0.94 per share (subject to adjustment), and exercisable for
      a
      period of five years.





Using
      the
      Black-Scholes option pricing model, the Company calculated the relative fair
      value of the warrants to purchase 1,276,471 shares of Company common stock
      to be
      approximately $593,000. This relative fair value has been recorded as a
      reduction of the $2,000,000 mezzanine equity balance for the preferred stock
      and
      an addition to additional paid-in capital. The assumptions used in the relative
      fair value calculation are as follows: Company stock price on August 11, 2006
      of
      $0.70 per share; exercise price of the warrants of $0.94 per share; five year
      term; volatility of 175.44%; annual rate of dividends of 0%; and a risk free
      interest rate of 4.97%. Additionally, the Company calculated a beneficial
      conversion feature charge related to the conversion price for the preferred
      stock to common stock of approximately $240,000.





**Note
      17 - Treasury Stock**





In
      February 2006, the Company repurchased 3,892,355 shares of its common stock
      from
      the Company’s largest non-affiliated stockholder, WHRT I Corp. for
      $1,848,868.80, and such shares were placed back into the Company’s treasury. An
      additional 253,027 shares of our common stock relating to the escrowed shares
      were also placed back into treasury. The Company utilized the proceeds from
      its
      issuance of its Series A Convertible Preferred Stock in order to finance this
      common stock repurchase.





In
      December 2006, the Company sold 3,000,000 shares of its common stock to an
      investor for $750,000. Treasury shares were re-issued during this transaction
      and a charge to retained earnings was recorded for the difference between the
      $0.475 per share acquisition cost and the $0.25 per share price at which the
      shares were re-issued.





**Note
      18 - Common Stock Warrants**





On
      June
      7, 2004, the Company granted a warrant to purchase 277,778 shares of the
      Company’s common stock to the Taurus Advisory Group LLC in connection with the
      issuance of an unsecured convertible line of credit note at an exercise price
      of
      $1.575 per share and an expiration date of June 7, 2009. See Note 13 for further
      discussion regarding this transaction.




125





On
      August
      16, 2004, the Company granted a warrant to purchase an aggregate of 800,000
      shares of the Company’s common stock to Laurus Master Fund, Ltd. in connection
      with a secured convertible term note, a secured revolving note, and a secured
      convertible minimum borrowing note. The first 400,000 shares acquired under
      the
      warrant have an exercise price of $4.35 per share, the next 200,000 shares
      acquired have an exercise price of $4.65 per share, and the final 200,000 shares
      have an exercise price of $5.25 per share. The expiration date of the warrant
      is
      August 15, 2011. See Note 10 for further discussion of this
      transaction.





On
      September 22, 2004, the Company granted a warrant to purchase an aggregate
      of
      400,000 shares of the Company’s common stock to three affiliates of Sands
      Brothers Venture Capital. Sands Brothers Venture Capital III LLC received a
      warrant to purchase 340,000 shares of Company common stock, Sands Brothers
      Venture Capital LLC received a warrant to purchase 20,000 shares of Company
      common stock, and Sands Brothers Venture Capital IV LLC received a warrant
      to
      purchase 40,000 shares of Company common stock. Each warrant provides for an
      exercise price equal to $2.10 per share. The warrants expire on September 7,
      2008. See Note 11 for further discussion of this transaction.





On
      September 22, 2005, the Company granted a warrant to purchase an aggregate
      of
      400,000 shares of the Company’s common stock to three affiliates of Sands
      Brothers Venture Capital. Sands Brothers Venture Capital III LLC received a
      warrant to purchase 340,000 shares of Company common stock, Sands Brothers
      Venture Capital LLC received a warrant to purchase 20,000 shares of Company
      common stock, and Sands Brothers Venture Capital IV LLC received a warrant
      to
      purchase 40,000 shares of Company common stock. Each warrant provides for an
      exercise price equal to $2.10 per share. The warrants expire on December 15,
      2009. See Note 11 for further discussion of the transaction.





On
      December 19, 2005, the Company granted a warrant to purchase an aggregate of
      277,777 shares of the Company’s common stock to Taurus Advisory Group, LLC. The
      warrant has an exercise price of $0.675 per share. The warrant expires December
      18, 2008. See Note 11 for further discussion of this transaction. Additionally,
      on February 1, 2006, the Company granted a warrant to purchase an aggregate
      of
      277,777 shares of the Company’s common stock to Taurus Advisory Group, LLC in
      consideration for granting the Company an extension on the maturity of the
      note.
      The warrant has an exercise price of $0.75 per share and expires on January
      31,
      2009. On March 1, 2006, the Company granted a warrant to purchase an aggregate
      of 554,000 shares of the Company’s common stock to Taurus Advisory Group, LLC in
      consideration for granting the Company a further extension of the maturity
      date
      of the note. The warrant has an exercise price of $1.30 per share and expires
      on
      February 28, 2009.





On
      February 2, 2006, the Company granted a warrant to purchase an aggregate of
      1,900,000 shares of the Company’s common stock to Taurus Advisory Group, LLC in
      connection with the sale of 19,000 shares of the Company’s Series A preferred
      stock. The warrant has an exercise price of $0.60 per share and expires on
      January 30, 2011. See Note 16 for further discussion of this
      transaction.





In
      August
      2006, in connection with the sale of Series B preferred stock, warrants to
      purchase 1,276,471 shares of our common stock were issued exercisable
      at a price of $0.94 per share (subject to adjustment), and expiring on August
      10, 2011. See Note 16 for further discussion of this transaction.





In
      December 2006, the Company issued a warrant to purchase 1,500,000 shares of
      the
      Company’s common stock to TAG Virgin Islands, Inc. investors. The warrant is
      exercisable at a price of $0.30 per share and expires on December 28, 2011.
      See
      Note 15 for further discussion of this transaction.




**Note
      19 - Stock Based Compensation**





The
      2003
      Incentive Plan (“2003 Plan”) authorizes the issuance of up to 10,000,000 shares
      of common stock for issuance upon exercise of options. It also authorizes the
      issuance of stock appreciation rights. The options granted may be a combination
      of both incentive and nonstatutory options, generally vest over a three year
      period from the date of grant, and expire ten years from the date of grant.




126





To
      the
      extent that CSI derives a tax benefit from options exercised by employees,
      such
      benefit will be credited to additional paid-in capital when realized on the
      Company’s income tax return. There were no tax benefits realized by the Company
      during 2005 or 2004.





The
      following summarizes the stock option transactions under the 2003 Plan during
      2006:


Shares
                
                Weighted
                    average exercise priceOptions
                    outstanding at December 31, 2005
                
                
                4,883,114
                
                $
                1.43Options
                    granted
                
                
                4,570,000
                
                
                0.38Options
                    exercised
                
                
                (40,100
                )
                
                1.23Options
                    canceled
                
                
                (2,576,899
                )
                
                1.21Options
                    outstanding at December 31, 2006
                
                
                6,836,115
                
                $
                1.21


The
      following table summarizes information concerning outstanding and exercisable
      Company common stock options at December 31, 2006:


Range
                  of exercise prices
              
              Options
                  outstanding
              
              Weighted
                  average exercise price
              
              Weighted
                  average remaining contractual life
              
              Options
                  exercisable
              
              Weighted
                  average exercise price$0.250
              
              
              2,630,000
              
              $
              0.250
              
              
              9.8
              
              
              50,000
              
              $
              0.250$0.30-0.70
              
              
              1,455,000
              
              
              0.490
              
              
              9.6
              
              
              1,001,666
              
              
              0.450$0.825-0.830
              
              
              1,738,785
              
              
              0.830
              
              
              8.1
              
              
              812,097
              
              
              0.830$2.475-3.45
              
              
              1,012,330
              
              
              2.720
              
              
              7.3
              
              
              741,529
              
              
              2.7006,836,115
              
              
              
              
              
              
              
              
              2,605,292





On
      October 18, 2004, options to purchase 593,399 shares of our common stock were
      granted to several employees below fair market value at an exercise price of
      $0.825 per share, when the fair market value on date of grant was $3.15. These
      options are non-qualified stock options, were immediately vested, and expire
      ten
      years from the date of grant. As a result of this issuance of stock options
      at a
      price below fair market value on the date of grant, the Company recorded a
      stock-based compensation charge of approximately $1,380,000 during 2004.





**Note
      20 - Loss Per Share**




Basic
      loss per share is computed on the basis of the weighted average number of common
      shares outstanding. Diluted loss per share is computed on the basis of the
      weighted average number of common shares outstanding plus the effect of
      outstanding stock options using the “treasury stock” method.




127




Basic
      and
      diluted loss per share were determined as follows:


For
                  the years ended December 31,2006
              
              2005
              
              2004Loss
                  from continuing operations (A)
              
              $
              (11,661,778
              )
              $
              (4,014,302
              )
              $
              (22,697,298
              )Income
                  (loss) from discontinued operations (B)
              
              $
              2,050,000
              
              $
              (1,103,971
              )
              $
              (12,650,908
              )Net
                  loss (C)
              
              $
              (9,611,778
              )
              $
              (5,118,273
              )
              $
              (35,348,206
              )Net
                  loss attributable to common stockholders
              
              $
              (10,204,128
              )
              $
              (5,118,273
              )
              $
              (35,348,206
              )Weighted
                  average common shares used to compute income (loss) per common
                  share(D)
              
              
              51,792,504
              
              
              52,919,340
              
              
              46,548,065Common
                  stock and common stock equivalents (E)
              
              
              51,792,504
              
              
              52,919,340
              
              
              46,548,065Basic
                  income (loss) per common share:From
                  continuing operations (A/D)
              
              $
              (0.23
              )
              $
              (0.08
              )
              $
              (0.49
              )From
                  discontinued operations (B/D)
              
              $
              0.04
              
              $
              (0.02
              )
              $
              (0.27
              )Net
                  loss per common share (C/D)
              
              $
              (0.19
              )
              $
              (0.10
              )
              $
              (0.76
              )Net
                  loss attributable to common stockholders
              
              $
              (0.20
              )
              $
              (0.10
              )
              $
              (0.76
              )Diluted
                  income (loss) per common share:From
                  continuing operations (A/E)
              
              $
              (0.23
              )
              $
              (0.08
              )
              $
              (0.49
              )From
                  discontinued operations (B/E)
              
              $
              0.04
              
              $
              (0.02
              )
              $
              (0.27
              )Net
                  loss per common share (C/E)
              
              $
              (0.19
              )
              $
              (0.10
              )
              $
              (0.76
              )Net
                  loss attributable to common stockholders
              
              $
              (0.20
              )
              $
              (0.10
              )
              $
              (0.76
              )




For
      the
      years ended December 31, 2006, 2005, and 2004, 6,836,115 shares, 4,883,114
      shares, and 2,751,063 shares, respectively, attributable to outstanding stock
      options were excluded from the calculation of diluted loss per share because
      the
      effect was antidilutive. Additionally, the effect of 1,477,778 warrants which
      were issued during 2004, 677,777 warrants which were issued during 2005, and
      5,508,248 warrants which were issued in 2006 were excluded from the calculation
      of diluted loss per share for the years ended December 31, 2006, 2005 and 2004,
      as appropriate, because the effect was antidilutive. Also excluded from the
      calculation of loss per share because their effect was antidilutive were
      1,269,841 shares of common stock underlying the $2,000,000 convertible line
      of
      credit note to Taurus, 591,429 shares of common stock underlying the convertible
      promissory note to Sands, 7,800,000 shares underlying the Series A and Series
      B
      convertible preferred stock, and 1,500,000 options outstanding to
      Laurus.




**Note
      21 - Major Customers**





During
      2006, the Company had sales to three major customers, Sapphire Technologies
      (17.6%) Comsys (9.7%), and LEC, a related party (9.7%), which totaled
      approximately $9,470,000. Amounts due from these customers included in accounts
      receivable were approximately $1,764,000 at December 31, 2006. Sapphire
      Technologies, Comsys, and LEC accounted for approximately 28.2%, 4.2%, and
      7.5%
      of the Company’s accounts receivable balance, respectively.





During
      2005, the Company had sales to two major customers, LEC, a related party (13.4%)
      and Bank of America (27.2%), which totaled approximately $11,232,000. Amounts
      due from these customers included in accounts receivable were approximately
      $885,000 at December 31, 2005. As of December 31, 2005, LEC and Bank of America
      accounted for approximately 14.0% and 7.7% of the Company’s accounts receivable
      balance, respectively.





128





During
      2004, the Company had sales to two major customers, LEC, a related party (16.1%)
      and Bank of America (16.7%), which totaled approximately $7,828,000. Amounts
      due
      from these customers included in accounts receivable were approximately
      $1,292,000 at December 31, 2004. As of December 31, 2004, LEC and Bank of
      America accounted for approximately 19.3% and 10.4% of the Company’s accounts
      receivable balance, respectively.





**Note
      22 - Employee Benefit Plan**





The
      Company has a defined contribution profit sharing plan under Section 401(k)
      of
      the Internal Revenue Code that covers substantially all employees. Eligible
      employees may contribute on a tax deferred basis a percentage of compensation
      up
      to the maximum allowable amount. Although the plan does not require a matching
      contribution by the Company, the Company may make a contribution. The Company’s
      contributions to the plan for the years ended December 31, 2006, 2005 and 2004
      were approximately $97,000, $81,000 and $44,000, respectively.





**Note
      23 - Commitments and Contingencies**





***Legal
      Proceedings***





On
      August
      1, 2005, Sridhar Bhupatiraju and Scosys, Inc. commenced legal action against
      the
      Company in the Superior Court of New Jersey. The complaint alleges, among other
      things, the Company’s failure to make certain payments pursuant to an asset
      purchase agreement with Scosys, Inc. and the Company’s failure to make certain
      payments to Sridhar Bhupatiraju in accordance with his employment agreement
      with
      the Company. The plaintiffs are seeking unspecified compensatory damages,
      punitive damages, fees and other costs. On September 30, 2005, the Company
      filed
      its answer to complaint and third-party complaint against Scorpio Systems,
      alleging that Mr. Bhupatiraju embarked on a scheme to circumvent his contractual
      obligations under the asset purchase agreement, his non-compete agreement with
      the Company, and in violation of his duties of loyalty and fidelity to his
      employer (the Company) via Scorpio Systems, among other things Notwithstanding
      Mr. Bhupatiraju’s contractual obligations, the Company alleges that he sold the
      assets of Scosys while at the same time operating and/or owning a competing
      business, Scorpio Systems .
      The
      case was dismissed with prejudice in favor of CSI on December 4, 2006, and
      the
      Company is presently considering whether to continue its
      countersuit.





In
      July
      2005, in conjunction with the acquisition of ISI, the Company issued a
      subordinated promissory note in the principal amount of $165,000 payable to
      Adam
      Hock and Larry Hock (the “Hocks”), the former principal stockholders of ISI.
      This note, along with $35,000 cash, was to be held in escrow for 15 months.
      This
      note matured on October 28, 2006. Pursuant to the indemnification provisions
      of
      the merger agreement among the Company and the Hocks, the $200,000 was to be
      held in escrow to cover any liabilities by any failure of any representation
      or
      warranty of ISI or the Hocks to be true and correct at or before the closing,
      and any act, omission or conduct of ISI and the Hocks prior to the closing,
      whether asserted or claimed prior to, or at or after, the closing. After the
      note matured, the Hocks requested the entire $200,000 from the Company, while
      the Company, after offsetting certain undisclosed liabilities, responded that
      the entire amount owed is significantly less. The Hocks then filed a lawsuit
      in
      the State of Florida on December 22, 2006 for recovery of the entire $200,000.
      On March 1, 2007, a circuit court in Hillsborough County, Florida denied the
      Company’s motion to dismiss the lawsuit for lack of jurisdiction without
      explanation to its ruling. The Company is appealing this decision. Management
      believes the suit against the Company to be without merit and intends to
      vigorously defend the Company against this action and is presently considering
      a
      countersuit.





On
      March
      21, 2007, we filed a lawsuit in the Superior Court of New Jersey against our
      former employees, Timothy Furey and Craig Cordasco.  We are alleging that
      Messrs. Furey and Cordasco misappropriated confidential information, broke
      their
      outstanding contractual obligations to us, unfairly competed, and tortuously
      interfered with economic gain.  We are seeking injunctive relief and
      monetary damages.





***Employment
      Agreements*** ****





Scott
      Newman, our President and Chief Executive Officer, agreed to a five-year
      employment agreement dated as of March 26, 2004. The agreement provides for
      an
      annual salary to Mr. Newman of $500,000 and an annual bonus to be awarded by
      the
      Compensation Committee. The agreement also provides for health, life and
      disability insurance, as well as a monthly car allowance. In the event that
      Mr.
      Newman’s employment is terminated other than with good cause, he will receive a
      lump sum payment of 2.99 times his base salary.




129





Glenn
      Peipert, Executive Vice President and Chief Operating Officer, agreed to a
      five-year employment agreement dated as of March 26, 2004. The agreement
      provides for an annual salary to Mr. Peipert of $375,000 and an annual bonus
      to
      be awarded by the Compensation Committee. The agreement also provides for
      health, life and disability insurance, as well as a monthly car allowance.
      In
      the event that Mr. Peipert’s employment is terminated other than with good
      cause, he will receive a lump sum payment of 2.99 times his base
      salary.





Robert
      C.
      DeLeeuw, Senior Vice President and President of our wholly owned subsidiary,
      DeLeeuw Associates, LLC, agreed to a three-year employment agreement dated
      as of
      February 27, 2004. The agreement provides for an annual salary to Mr. DeLeeuw
      of
      $350,000 and an annual bonus to be awarded by the Compensation Committee. The
      agreement also provides for health, life and disability insurance. In the event
      that Mr. DeLeeuw’s employment is terminated other than with good cause, he will
      receive a lump sum payment of the longer of (1) one year's base salary or (2)
      the period from the date of termination through the expiration date. Mr.
      DeLeeuw’s contract was terminated as of December 31, 2006.





William
      McKnight, Senior Vice President - Data Warehousing, agreed to a three-year
      employment agreement dated as of July 22, 2005. The agreement provides for
      an
      annual salary to Mr. McKnight of $250,000 and an annual bonus to be awarded
      by
      the Compensation Committee. The agreement also provides for health, life and
      disability insurance. In the event that Mr. McKnight’s employment is terminated
      other than with good cause, he will receive a lump sum payment of the longer
      of
      (1) one year's base salary or (2) the period from the date of termination
      through the expiration date.





*Lease
      Commitments*





The
      Company's corporate headquarters are located at 100 Eagle Rock Avenue, East
      Hanover, New Jersey 07936, where it operates under an amended lease agreement
      expiring December 31, 2010.  Our monthly rent with respect to our East
      Hanover, New Jersey facility is $26,290. In addition to minimum rentals,
      the Company is liable for its proportionate share of real estate taxes and
      operating expenses, as defined.  DeLeeuw Associates, LLC has an office at
      Suite 1460, Charlotte Plaza, 201 South College Street, Charlotte, North Carolina
      28244.  DeLeeuw leases this space which had an original expiration date of
      December 31, 2005, but has been extended until December 31, 2010.  Our
      monthly rent with respect to our Charlotte, North Carolina facility is
      $2,382.





The
      Company also leases office space at 11 Penn Plaza, New York, NY 10001. The
      monthly lease payment is approximately $5,000 per month. The current lease
      expiration date is March 31, 2006, however, this has been extended until March
      31, 2007. The monthly lease payment during the lease extension period is
      approximately $4,300 per month. The Company has provided notification to the
      landlord that this lease will not be extended subsequent to its March 31, 2007
      expiration.




Rent
      expense, including automobile rentals, totaled approximately $489,000, $461,000
      and $420,000 in 2006, 2005 and 2004, respectively.





The
      Company is committed under several operating leases for automobiles that expire
      during 2007.




130





Future
      minimum lease payments due under all operating lease agreements as of December
      31, 2006 are as follows:




Years
                  Ending December 31
              
              Office
              
              Automobiles
              
              Total2007
              
              $
              330,026
              
              $
              17,161
              
              $
              347,1872008
              
              
              247,384
              
              
              -
              
              
              247,3842009
              
              
              248,621
              
              
              -
              
              
              248,6212010
              
              
              230,741
              
              
              -
              
              
              230,7412011
              
              
              -
              
              
              -
              
              
              -Thereafter
              
              
              -
              
              
              -
              
              
              -$
              1,056,772
              
              $
              17,161
              
              $
              1,073,933





**Note
      24 - Related Party Transactions**





In
      November 2003, the Company executed an Independent Contractor Agreement with
      LEC, whereby the Company agreed to be a subcontractor for LEC, and to provide
      consultants as required to LEC. In return for these services, the Company
      receives a fee from LEC based on the hourly rates established for consultants
      subcontracted to LEC. In May 2004, the Company acquired 49% of all issued and
      outstanding shares of common stock of LEC. For the years ended December 31,
      2006, 2005 and 2004, the Company invoiced LEC $2,478,342, $3,731,198 and
      $3,837,065, respectively, for the services of consultants subcontracted to
      LEC
      by the Company. As of December 31, 2006, 2005 and 2004, the Company had accounts
      receivable due from LEC of approximately $330,000, $570,000 and $781,000,
      respectively. There are no known collection problems with respect to LEC. The
      majority of their billing is derived from Fortune 1000 clients. The collection
      process is slow as these clients require separate approval on their own internal
      systems, which extends the payment cycle.





On
      November 8, 2004, Mr. Peipert entered into a stock purchase agreement with
      a
      private investor, CMKX-treme, Inc.  Pursuant to the agreement, CMKX-treme,
      Inc. agreed to purchase 377,778 shares of common stock for a purchase price
      of
      $500,000.  As of June 9, 2005, CMKX-treme, Inc. remitted final payment for
      the shares.





On
      November 10, 2004, the Company and Dr. Michael Mitchell, the former President,
      Chief Executive Officer and sole director of LCS, executed a one-year consulting
      agreement whereby Dr. Mitchell would perform certain consulting services on
      behalf of the Company. Dr. Mitchell was to receive an aggregate amount of
      $250,000 as compensation for services provided to the Company. During 2004
      and
      2005, an aggregate amount of $225,000 was paid to Dr. Mitchell for services
      provided under this consulting agreement.





As
      of
      December 31, 2006, 2005, and 2004, Mr. Newman’s outstanding loan balance to the
      Company was $0, $900,000, and $200,000, respectively, and Mr. Peipert’s
      outstanding loan balance to the Company was $111,000, $900,000, and $125,000,
      respectively. The unsecured loans by Mr. Newman and Mr. Peipert each accrue
      interest at a simple rate of 8% per annum, and each has a term expiring on
      April
      30, 2007.





**Note
      25 - Quarterly Information (unaudited)**





The
      following tables contain selected quarterly financial data for the fiscal years
      2006 and 2005. Our Evoke Software Corporation subsidiary (“Evoke”) was sold in
      July 2005 and, subsequent to that date, we accounted for Evoke as a discontinued
      operation. As a result, the operating results of this business have been
      segregated from continuing operations in our financial statements and in these
      tables.





For
                the three months ended:March
                31,
            
            June
                30,
            
            September
                30,
            
            December
                31,2006
            
            2006
            
            2006
            
            2006Revenue
            
            $
            6,839,882
            
            $
            6,635,443
            
            $
            6,067,143
            
            $
            6,131,589Gross
                profit
            
            
            1,443,928
            
            
            1,596,269
            
            
            1,146,863
            
            
            1,556,063Loss
                from operations
            
            
            (1,437,073
            )
            
            (1,205,023
            )
            
            (2,020,690
            )
            
            (1,269,333
            )Loss
                from continuing operations
            
            
            (6,876,198
            )
            
            (1,403,592
            )
            
            (1,902,487
            )
            
            (1,479,501
            )Income
                from discontinued operations
            
            
            2,050,000
            
            
            -
            
            
            -
            
            
            -Net
                loss
            
            
            (4,826,198
            )
            
            (1,403,592
            )
            
            (1,902,487
            )
            
            (1,479,501
            )Net
                loss attributable to common stockholders
            
            $
            (4,905,364
            )
            $
            (1,522,342
            )
            $
            (2,079,502
            )
            $
            (1,696,920
            )Basic
                loss per common share from continuing operations
            
            $
            (0.13
            )
            $
            (0.03
            )
            $
            (0.04
            )
            $
            (0.03
            )Basic
                income per common share from discontinued operations
            
            $
            0.04
            
            $
            -
            
            $
            -
            
            $
            -Basic
                loss per common share
            
            $
            (0.09
            )
            $
            (0.03
            )
            $
            (0.04
            )
            $
            (0.03
            )Basic
                loss per common share attributable to common stockholders
            
            $
            (0.09
            )
            $
            (0.03
            )
            $
            (0.04
            )
            $
            (0.04
            )Diluted
                loss per common share from continuing operations
            
            $
            (0.13
            )
            $
            (0.03
            )
            $
            (0.04
            )
            $
            (0.03
            )Diluted
                income per common share from discontinued operations
            
            $
            0.04
            
            $
            -
            
            $
            -
            
            $
            -Diluted
                loss per common share
            
            $
            (0.09
            )
            $
            (0.03
            )
            $
            (0.04
            )
            $
            (0.03
            )Diluted
                loss per common share attributable to common stockholders
            
            $
            (0.09
            )
            $
            (0.03
            )
            $
            (0.04
            )
            $
            (0.04
            )Weighted
                average common shares used to compute income (loss) per common
                share:Basic
            
            
            51,658,897
            
            
            49,988,634
            
            
            51,921,996
            
            
            53,577,979Diluted
            
            
            51,658,897
            
            
            49,988,634
            
            
            51,921,996
            
            
            53,577,979For
                the three months ended:March
                31,
            
            
            June
                30,
            
            
            September
                30,
            
            
            December
                31,2005
            
            
            2005
            
            
            2005
            
            
            2005Revenue
            
            $
            6,245,115
            
            $
            6,583,837
            
            $
            7,700,423
            
            $
            7,100,534Gross
                profit
            
            
            1,704,660
            
            
            1,817,271
            
            
            1,915,649
            
            
            1,659,926Loss
                from operations
            
            
            (1,254,117
            )
            
            (989,691
            )
            
            (1,607,056
            )
            
            (2,224,244
            )Income
                (loss) from continuing operations
            
            
            (2,256,782
            )
            
            2,352,587
            
            
            (5,085,874
            )
            
            975,767Income
                (loss) from discontinued operations
            
            
            (583,296
            )
            
            (365,491
            )
            
            (146,727
            )
            
            (8,457
            )Net
                income (loss)
            
            
            (2,840,078
            )
            
            1,987,096
            
            
            (5,232,601
            )
            
            967,310Net
                income (loss) attributable to common stockholders
            
            $
            (2,840,078
            )
            $
            1,987,096
            
            $
            (5,232,601
            )
            
            967,310Basic
                income (loss) per common share from continuing operations
            
            $
            (0.05
            )
            $
            0.05
            
            $
            (0.10
            )
            $
            0.02Basic
                income (loss) per common share from discontinued
                operations
            
            $
            (0.01
            )
            $
            (0.01
            )
            $
            -
            
            $
            -Basic
                income (loss) per common share
            
            $
            (0.06
            )
            $
            0.04
            
            $
            (0.10
            )
            $
            0.02Basic
                income (loss) per common share attributable to common
                stockholders
            
            $
            (0.06
            )
            $
            0.04
            
            $
            (0.10
            )
            $
            0.02Diluted
                income (loss) per common share from continuing operations
            
            $
            (0.05
            )
            $
            0.05
            
            $
            (0.10
            )
            $
            0.02Diluted
                income (loss) per common share from discontinued
                operations
            
            $
            (0.01
            )
            $
            (0.01
            )
            $
            -
            
            $
            -Diluted
                income (loss) per common share
            
            $
            (0.06
            )
            $
            0.04
            
            $
            (0.10
            )
            $
            0.02Diluted
                income (loss) per common share attributable to common
                stockholders
            
            $
            (0.06
            )
            $
            0.04
            
            $
            (0.10
            )
            $
            0.02Weighted
                average common shares used to compute income (loss) per common
                share:Basic
            
            
            51,531,664
            
            
            52,344,049
            
            
            53,676,751
            
            
            54,093,866Diluted
            
            
            51,531,664
            
            
            52,344,049
            
            
            53,676,751
            
            
            54,093,866





Information
      previously reported on Form 10Q has been modified in this disclosure due to
      a
      reclassification of accretion of issuance costs associated with convertible
      preferred stock from interest expense to a component of the net loss
      attributable to common stockholders as follows:




For
                  the three months ended:March
                  31, 2006
              
              June
                  30, 2006
              
              September
                  30, 2006As
                  reported
              
              Restated
              
              As
                  reported
              
              Restated
              
              As
                  reported
              
              RestatedInterest
                  expense
              
              $
              978,381
              
              $
              915,048
              
              $
              1,019,498
              
              $
              924,498
              
              $
              729,624
              
              $
              605,249Income
                  (loss) from continuing operations
              
              
              (6,939,531
              )
              
              (6,876,198
              )
              
              (1,498,592
              )
              
              (1,403,592
              )
              
              (2,026,862
              )
              
              (1,902,487
              )Net
                  income (loss)
              
              
              (4,889,531
              )
              
              (4,826,198
              )
              
              (1,498,592
              )
              
              (1,403,592
              )
              
              (2,026,862
              )
              
              (1,902,487
              )Accretion
                  of issuance costs associated with convertible preferred
                  stock
              
              
              -
              
              
              63,333
              
              
              -
              
              
              95,000
              
              
              -
              
              
              124,375Net
                  income (loss) attributable to common stockholders
              
              $
              (4,905,364
              )
              $
              (4,905,364
              )
              $
              (1,522,342
              )
              $
              (1,522,342
              )
              $
              (2,079,502
              )
              $
              (2,079,502
              )





**Note
      26 - Subsequent Events**




On
      September 22, 2005, upon maturity of the September 2004 notes, the Company
      issued Amended and Restated Senior Subordinated Convertible Promissory Notes
      to
      Sands Brothers Venture Capital LLC, to Sands Brothers Venture Capital III LLC,
      and to Sands Brothers Venture Capital IV LLC (the "Notes") equaling $1.080
      million in the aggregate, each with an annual interest rate of 12% expiring
      on
      January 1, 2007. Sands Brothers Venture Capital LLC, Sands Brothers Venture
      Capital III LLC and Sands Brothers Venture Capital IV LLC, in exchange for
      an
      extension fee of $15,000, agreed to extend the Maturity Date to February 1,
      2007
      and then, upon maturity and in exchange for a $150,000 payment to be applied
      against the principal balance outstanding on the Notes, agreed to extend the
      maturity date to March 1, 2007. All other terms of the Notes remain in full
      force and effect. On March 1, 2007, the Company, and each of Sands Brothers
      Venture Capital LLC, Sands Brothers Venture Capital III LLC and Sands Brothers
      Venture Capital IV LLC (collectively, the "Funds"), have agreed that the Company
      will pay the Funds $900,000 cash during 2007, as well as issue shares of Common
      Stock and warrants to purchase Common Stock as final payment to satisfy the
      Sands Notes in full. The Company made its first two cash payments totaling
      $500,000 on March 7, 2007.




131




On
      February 1, 2007, the Company issued a 10% Unsecured Promissory Note (the
“Note”) to an investor represented by TAG Virgin Islands, Inc., for $705,883.
      The Note matured on March 1, 2007. This Note was retired and included as part
      of
      the March 1, 2007, 10% Note in the principal amount of $4,000,000.




On
      March
      1, 2007, the Company issued a 10% Convertible Unsecured Note (the "Note") to
      certain investors represented by TAG Virgin Islands, Inc. (the "Investor")
      for
      $4,000,000. The Note will automatically convert into 13,333,333 shares of the
      Company's common stock upon the effectiveness of the Information Statement
      on
      Schedule 14C, filed preliminarily by the Company with the Securities and
      Exchange Commission on March 8, 2007 (the "Information Statement"). The Investor
      was also granted a warrant (the "Warrant") to purchase 13,333,333 shares of
      the
      Common Stock, exercisable at a price of $0.33 per share (subject to adjustment).
      The Warrant is exercisable for a period of five years. Pursuant to a
      Registration Rights Agreement, the Company agreed to file a registration
      statement covering the shares of Common Stock underlying the Note and the
      Warrant. Such registration rights are more fully set forth in the Registration
      Rights Agreement. . The
      note
      was subsequently amended in March 2007 to $4.25 million and the number of shares
      of common stock that the note will convert into was increased to 14,166,667
      shares of our common stock. Additionally, the warrant was also amended to
      entitled the investor to purchase 14,166,667 shares of our common stock,
      exercisable at a price of $0.33 per share (subject to adjustment). The warrant
      is exercisable for a period of five years.




The
      Information Statement relates to a stockholder action which has been approved
      by
      written consent of stockholders of the Company who hold approximately 56% (in
      excess of a majority) of the voting power of the Common Stock. Such stockholder
      action has approved: (i) a Certificate of Amendment to the Certificate of
      Incorporation of the Company (the "Certificate of Amendment") pursuant to which
      the authorized Common Stock of the Company under the Certificate of
      Incorporation, as amended, will be increased from 100,000,000 shares up to
      200,000,000 shares of such Common Stock, to be effective as of the filing of
      the
      Certificate of Amendment with the Delaware Secretary of State, and (ii)
      as
      required by the rules of the American Stock Exchange, the issuance of the Note
      that, upon exercise and conversion thereof, would result in the issuance in
      an
      aggregate amount greater than 20% of our outstanding shares of Common Stock.
      In
      accordance with Rule 14c-2 under the Securities Exchange Act of 1934, as
      amended, the stockholder action is expected to become effective twenty (20)
      calendar days following the mailing of the Information Statement, or as soon
      thereafter as is reasonably practicable.




Pursuant
      to the Overadvance Side Letter (the "Letter") dated as of February 1, 2006
      among
      the Company, its subsidiaries and Laurus. The Company was to pay Laurus
      approximately $258,424 per month, starting February 1, 2007, until the aggregate
      principal amount of $3,101,084 is paid in full (the Company made the first
      two
      payments in February 2007). The Company and Laurus have agreed that the Company
      will pay to Laurus $2,084,237 and issue a warrant to purchase 1,785,714 shares
      of Common Stock at an exercise price of $0.01 as final payment to satisfy the
      Letter in full. This agreement is reflected in the Omnibus Amendment and Waiver
      No. 2 among the Company, CSI Sub Corp. (DE), DeLeeuw Associates, Inc. and
      Laurus, as well as an Amended and Restated Registration Rights Agreement.
      Additionally, the Company, CSI Sub Corp. (DE), DeLeeuw Associates, Inc. and
      Laurus entered into that certain Assumption, Adoption and Consent Agreement,
      detailing an agreement among the parties related to the Company's corporate
      consolidation. Finally, on March 7, 2007, the Company satisfied the outstanding
      amount on that certain Secured Non-Convertible Term Note, issued to Laurus
      on
      February 1, 2006, with a cash payment to Laurus of $409,722.




On
      January 29, 2007, the Company announced that it received notice from the Staff
      of the American Stock Exchange indicating that the Company no longer complies
      with the Exchange's continued listing standards due to the Company's inability
      to maintain compliance with certain AMEX continued listing requirements, as
      set
      forth in Sections 1003(a)(i), 1003(a)(ii) and 1003(a)(iv) of the AMEX Company
      Guide and its plan of compliance submitted in July 2006, and that its securities
      are subject to be delisted from the Exchange. The Company received notice on
      June 29, 2006, from the Staff indicating that the Company was below certain
      of
      the Exchange's continued listing standards. The Company was afforded the
      opportunity to submit a plan of compliance to the Exchange; and on July 31,
      2006, the Company presented its plan to the Exchange. On September 26, 2006,
      the
      Exchange notified the Company that it accepted the Company's plan of compliance
      and granted the Company an extension until December 28, 2007, to regain
      compliance with the continued listing standards.




132




The
      Company has filed an appeal of this determination and has a hearing before
      a
      committee of AMEX planned for April 2007. Once filed, the appeal automatically
      stays the delisting of the Company's common stock pending a hearing date and
      the
      Exchange's decision. The time and place of such a hearing will be determined
      by
      the Exchange. There can be no assurance that the Company's request for continued
      listing will be granted. If the committee does not grant the relief sought
      by
      the Company, its securities will be delisted from the Exchange and may continue
      to be quoted on the OTC Bulletin Board.




133




**SIGNATURES**





Pursuant
      to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
      1934, the Registrant has duly caused this report to be signed on its behalf
      by
      the undersigned thereunto duly authorized.





Dated:
      September
      5, 2007


/s/
              Scott
              NewmanScott
              NewmanPresident, Chief Executive Officer and
              Chairman




Pursuant
      to the requirements of the Securities Exchange Act of 1934, this report has
      been
      signed below by the following persons on behalf of the Registrant and in the
      capacities and on the dates indicated.




Signature
            
            Title
            
            Date/s/
                Scott Newman 

                Scott
                Newman
            
            President,
                Chief Executive Officer and Chairman
            
            September
                5, 2007/s/
                William Hendry
              
              William
                Hendry
            
            Vice
                President, Chief Financial Officer and Treasurer
            
            September
                  5, 2007/s/
                Glenn Peipert
              
              Glenn
                Peipert
            
            Executive
                Vice President, Chief Operating Officer and Director
            
            September
                  5, 2007/s/
                Lawrence K. Reisman
              
              Lawrence
                K. Reisman
            
            Director
            
            September
                  5, 2007/s/
                Thomas Pear
              
              Thomas
                Pear
            
            Director
            
            September
                  5, 2007/s/
                Frederick Lester
              
              Frederick
                Lester
            
            Director
            
            September
                  5, 2007




134