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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549





FORM 10-Q







|x | QUARTERLY REPORT PURSUANT TO THE SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934
|- | -----------------------------------------------------------------------------------------------

For the quarterly period ended September 30, 2009

OR



| ̈ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ----------------------------------------------------------------------------------------

Commission file number: 001-31265





Avatech
Solutions, Inc.

(Exact Name of Registrant as Specified in its Charter)







|                                                               |  |                                  
|-------------------------------------------------------------- |  | ---------------------------------
|Delaware                                                       |  | 84-1035353                       
|(State or Other Jurisdiction of Incorporation or Organization) |  | (IRS Employer Identification No.)



|                                                 |  |           
|------------------------------------------------ |  | ----------
|10715 Red Run Blvd., Suite 101, Owings Mills, MD |  | 21117     
|(Address of Principal Executive Offices)         |  | (Zip Code)

(410) 581-8080

(Registrants telephone number, including area code)





Indicate by check
mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file
such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No   ̈

Indicate by check mark whether the registrant has submitted electronically and
posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files).    Yes   ̈     No   ̈ (Not Applicable)

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or
a smaller reporting company. See the definitions of large accelerated filer, accelerated filer, and smaller reporting company in Rule 12b-2 of the Exchange Act. (Check one):



|                        |  |                                                  |  |                           |  |  
|----------------------- |  | ------------------------------------------------ |  | ------------------------- |  | -
|Large accelerated filer |  |  ̈                                                |  | Accelerated filer         |  |  ̈
|                        |  |                                                  | 
|Non-accelerated filer   |  |  ̈  (Do not check if a smaller reporting company) |  | Smaller reporting company |  | x

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

Indicate the number of shares outstanding of each of the issuers classes of common equity, as of the latest practicable date: as of
November 9, 2009, there were 17,11,0638 shares of common stock, par value $.01 per share, outstanding.









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AVATECH SOLUTIONS, INC. AND SUBSIDIARIES

INDEX



|              |  |                                                                                                    |  |     
|------------- |  | -------------------------------------------------------------------------------------------------- |  | ----
|              |  |                                                                                                    |  | Page
|              |  |                                                                                                   
|PART I        |  | FINANCIAL INFORMATION                                                                              |  | 1   
|              |  |                                                                                                   
|ITEM 1.       |  | Financial Statements                                                                               |  |     
|              |  |                                                                                                   
|              |  | Consolidated Balance Sheets  September 30, 2009 (Unaudited) and June 30, 2009                     |  | 1   
|              |  |                                                                                                   
|              |  | Consolidated Statements of Operations  Three months ended September 30, 2009 and 2008
(Unaudited) |  | 3   
|              |  |                                                                                                   
|              |  | Consolidated Statement of Stockholders Equity  Three months ended September 30, 2009 (Unaudited) |  | 4   
|              |  |                                                                                                   
|              |  | Consolidated Statements of Cash Flows  Three months ended September 30, 2009 and 2008
(Unaudited) |  | 5   
|              |  |                                                                                                   
|              |  | Notes to Consolidated Financial Statements (Unaudited)                                             |  | 6   
|              |  |                                                                                                   
|ITEM 2.       |  | Managements Discussion and Analysis of Financial Condition and Results of
Operations              |  | 10  
|              |  |                                                                                                   
|ITEM 4.       |  | Controls and Procedures                                                                            |  | 15  
|              |  |                                                                                                   
|PART II       |  | OTHER INFORMATION                                                                                  |  | 16  
|              |  |                                                                                                   
|ITEM 6.       |  | Exhibits                                                                                           |  | 16  
|              | 
|SIGNATURES    |  | 17                                                                                                
|              | 
|EXHIBIT INDEX |  | 18                                                                                                



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##### Table of Contents

PART I. FINANCIAL INFORMATION

Avatech Solutions, Inc. and Subsidiaries

Consolidated Balance Sheets



|                                                                                                                     |  |                   |            |              |   |           
|-------------------------------------------------------------------------------------------------------------------- |  | ----------------- | ---------- | ------------ | - | ----------
|                                                                                                                     |  | September 30,2009 |            | June 30,2009
|                                                                                                                     |  | (unaudited)       |            |             
|Assets                                                                                                               |  |                   |            |              |   |           
|Current assets:                                                                                                      |  |                   |            |              |   |           
|Cash and cash equivalents                                                                                            |  | $                 | 2,838,000  |              | $ | 2,716,000 
|Accounts receivable, less allowance of $185,000 as of September 30, 2009 and $169,000 as of June 30,
2009            |  |                   | 4,165,000  |              |   | 4,797,000 
|Other receivables                                                                                                    |  |                   | 570,000    |              |   | 480,000   
|Inventory                                                                                                            |  |                   | 45,000     |              |   | 66,000    
|Prepaid expenses and other current assets                                                                            |  |                   | 267,000    |              |   | 323,000   
|Income tax refund receivable                                                                                         |  |                   | 388,000    |              |   | 388,000   
|Deferred incomes taxes, current                                                                                      |  |                   | 65,000     |              |   | 65,000    
|                                                                                                                     |  |                   |            |              |   |           
|Total current assets                                                                                                 |  |                   | 8,338,000  |              |   | 8,835,000 
|                                                                                                                     |  |                  
|Property and equipment:                                                                                              |  |                   |            |              |   |           
|Computer software and equipment                                                                                      |  |                   | 3,615,000  |              |   | 3,611,000 
|Office furniture and equipment                                                                                       |  |                   | 1,206,000  |              |   | 1,193,000 
|Leasehold improvements                                                                                               |  |                   | 197,000    |              |   | 197,000   
|                                                                                                                     |  |                   |            |              |   |           
|                                                                                                                     |  |                   | 5,018,000  |              |   | 5,001,000 
|Less accumulated depreciation and amortization                                                                       |  |                   | 4,308,000  |              |   | 4,205,000 
|                                                                                                                     |  |                   |            |              |   |           
|                                                                                                                     |  |                   | 710,000    |              |   | 796,000   
|                                                                                                                     |  |                  
|Customer list, net of accumulated amortization of $983,000 as of September 30, 2009 and $931,000 as of June 30, 2009 |  |                   | 1,203,000  |              |   | 1,256,000 
|Goodwill                                                                                                             |  |                   | 5,968,000  |              |   | 5,968,000 
|Deferred income taxes, net                                                                                           |  |                   | 246,000    |              |   | 246,000   
|Other assets                                                                                                         |  |                   | 165,000    |              |   | 158,000   
|                                                                                                                     |  |                   |            |              |   |           
|                                                                                                                     |  |                  
|Total assets                                                                                                         |  | $                 | 16,630,000 |              | $ | 17,259,000
|                                                                                                                     |  |                   |            |              |   |           

See accompanying notes.



1



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##### Table of Contents

Avatech Solutions, Inc. and Subsidiaries

Consolidated Balance Sheets (continued)



|                                                                                                                                                                                                                          |  |                   |            |   |              |   |            |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ----------------- | ---------- | - | ------------ | - | ---------- | -
|                                                                                                                                                                                                                          |  | September 30,2009 |            |   | June 30,2009 |  
|                                                                                                                                                                                                                          |  | (unaudited)       |            |   |              |  
|Liabilities and stockholders equity                                                                                                                                                                                      |  |                   |            |   |              |   |            |  
|Current liabilities:                                                                                                                                                                                                      |  |                   |            |   |              |   |            |  
|Accounts payable and accrued expenses                                                                                                                                                                                     |  | $                 | 4,846,000  |   |              | $ | 4,654,000  |  
|Accrued compensation and related benefits                                                                                                                                                                                 |  |                   | 259,000    |   |              |   | 415,000    |  
|Deferred revenue                                                                                                                                                                                                          |  |                   | 1,294,000  |   |              |   | 1,151,000  |  
|Income taxes payable                                                                                                                                                                                                      |  |                   | 104,000    |   |              |   |           |  
|Other current liabilities                                                                                                                                                                                                 |  |                   | 122,000    |   |              |   | 118,000    |  
|                                                                                                                                                                                                                          |  |                   |            |   |              |   |            |  
|Total current liabilities                                                                                                                                                                                                 |  |                   | 6,625,000  |   |              |   | 6,338,000  |  
|                                                                                                                                                                                                                          |  |                  
|Long term liabilities:                                                                                                                                                                                                    |  |                   |            |   |              |   |            |  
|Obligations under capital leases                                                                                                                                                                                          |  |                   | 129,000    |   |              |   | 160,000    |  
|                                                                                                                                                                                                                          |  |                   |            |   |              |   |            |  
|Total liabilities                                                                                                                                                                                                         |  |                   | 6,754,000  |   |              |   | 6,498,000  |  
|                                                                                                                                                                                                                          |  |                  
|Series F Convertible Preferred Stock                                                                                                                                                                                      |  |                   | 907,000    |   |              |   | 1,864,000  |  
|                                                                                                                                                                                                                          |  |                  
|Stockholders equity:                                                                                                                                                                                                     |  |                   |            |   |              |   |            |  
|Convertible Preferred Stock, $0.01 par value; 1,300,537 shares authorized, 1,298,728 shares issued; 1,090,150 shares outstanding
with an aggregate liquidation preference of $1,591,000 at September 30 and June 30, 2009 |  |                   | 11,000     |   |              |   | 11,000     |  
|Common stock, $0.01 par value; 80,000,000 shares authorized; issued and outstanding shares of 17,089,037 at September 30,
2009 and 16,960,853 at June 30, 2009.                                                           |  |                   | 171,000    |   |              |   | 170,000    |  
|Additional paid-in capital                                                                                                                                                                                                |  |                   | 12,534,000 |   |              |   | 12,590,000 |  
|Accumulated deficit                                                                                                                                                                                                       |  |                   | (3,747,000 | ) |              |   | (3,874,000 | )
|                                                                                                                                                                                                                          |  |                   |            |   |              |   |            |  
|Total stockholders equity                                                                                                                                                                                                |  |                   | 8,969,000  |   |              |   | 8,897,000  |  
|                                                                                                                                                                                                                          |  |                   |            |   |              |   |            |  
|                                                                                                                                                                                                                          |  |                  
|Total liabilities and stockholders equity                                                                                                                                                                                |  | $                 | 16,630,000 |   |              | $ | 17,259,000 |  
|                                                                                                                                                                                                                          |  |                   |            |   |              |   |            |  

See accompanying notes.



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Avatech Solutions, Inc. and Subsidiaries

Consolidated Statements of Operations



|                                            |  |                                  |            |   |             |   |            |  
|------------------------------------------- |  | -------------------------------- | ---------- | - | ----------- | - | ---------- | -
|                                            |  | Three Months Ended September 30, |           
|                                            |  | 2009                             |            |   | 2008        |  
|                                            |  | (unaudited)                      |            |   | (unaudited) |  
|                                            |  |                                 
|Revenues:                                   |  |                                  |            |   |             |   |            |  
|Product sales                               |  | $                                | 4,350,000  |   |             | $ | 6,113,000  |  
|Service revenue                             |  |                                  | 2,046,000  |   |             |   | 2,574,000  |  
|Commission revenue                          |  |                                  | 1,378,000  |   |             |   | 2,127,000  |  
|                                            |  |                                  |            |   |             |   |            |  
|                                            |  |                                  | 7,774,000  |   |             |   | 10,814,000 |  
|                                            |  |                                  |            |   |             |   |            |  
|                                            |  |                                 
|Cost of revenue:                            |  |                                  |            |   |             |   |            |  
|Cost of product sales                       |  |                                  | 2,982,000  |   |             |   | 4,069,000  |  
|Cost of service revenue                     |  |                                  | 1,196,000  |   |             |   | 1,954,000  |  
|                                            |  |                                  |            |   |             |   |            |  
|                                            |  |                                  | 4,178,000  |   |             |   | 6,023,000  |  
|                                            |  |                                  |            |   |             |   |            |  
|                                            |  |                                 
|Gross margin                                |  |                                  | 3,596,000  |   |             |   | 4,791,000  |  
|                                            |  |                                  |            |   |             |   |            |  
|                                            |  |                                 
|Other operating expenses:                   |  |                                  |            |   |             |   |            |  
|Selling, general and administrative         |  |                                  | 3,201,000  |   |             |   | 4,409,000  |  
|Depreciation and amortization               |  |                                  | 156,000    |   |             |   | 168,000    |  
|                                            |  |                                  |            |   |             |   |            |  
|                                            |  |                                  | 3,357,000  |   |             |   | 4,577,000  |  
|                                            |  |                                  |            |   |             |   |            |  
|                                            |  |                                 
|Operating income                            |  |                                  | 239,000    |   |             |   | 214,000    |  
|                                            |  |                                 
|Other (expense) income, net                 |  |                                  | (8,000     | ) |             |   | 36,000     |  
|                                            |  |                                  |            |   |             |   |            |  
|                                            |  |                                 
|Income before income taxes                  |  |                                  | 231,000    |   |             |   | 250,000    |  
|Income tax expense                          |  |                                  | 104,000    |   |             |   | 96,000     |  
|                                            |  |                                  |            |   |             |   |            |  
|Net income                                  |  |                                  | 127,000    |   |             |   | 154,000    |  
|Preferred stock dividends                   |  |                                  | (104,000   | ) |             |   | (54,000    | )
|                                            |  |                                  |            |   |             |   |            |  
|Net income available to common stockholders |  | $                                | 23,000     |   |             | $ | 100,000    |  
|                                            |  |                                  |            |   |             |   |            |  
|                                            |  |                                 
|Earnings per common share, basic            |  | $                                | 0.00       |   |             | $ | 0.01       |  
|                                            |  |                                  |            |   |             |   |            |  
|Earnings per common share, diluted          |  | $                                | 0.00       |   |             | $ | 0.01       |  
|                                            |  |                                  |            |   |             |   |            |  
|                                            |  |                                 
|Shares used in computation - basic          |  |                                  | 17,064,551 |   |             |   | 16,656,834 |  
|                                            |  |                                  |            |   |             |   |            |  
|Shares used in computation - diluted        |  |                                  | 17,104,241 |   |             |   | 16,883,805 |  
|                                            |  |                                  |            |   |             |   |            |  

See accompanying notes.



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Avatech Solutions, Inc. and Subsidiaries

Consolidated Statement of Stockholders Equity (Unaudited)



|                                                            |  |                 |  |              |        |                 |            |           |   |                          |  |   |                    |   |  |       |            |   |  |   |           |  
|----------------------------------------------------------- |  | --------------- |  | ------------ | ------ | --------------- | ---------- | --------- | - | ------------------------ |  | - | ------------------ | - |  | ----- | ---------- | - |  | - | --------- | -
|                                                            |  | Preferred Stock |  | Common Stock |        |                 |            |           |   |                          |  |   |                   
|                                                            |  | Number ofShares |  | ParValue     |        | Number ofShares |            | Par Value |   | AdditionalPaid-InCapital |  |   | AccumulatedDeficit |   |  | Total |           
|Balance at July 1, 2009                                     |  | 1,090,150       |  | $            | 11,000 |                 | 16,960,853 |           | $ | 170,000                  |  | $ | 12,590,000         |   |  | $     | (3,874,000 | ) |  | $ | 8,897,000 |  
|                                                            |  |                 |  |              |        |                 |           
|Issuance of common stock as compensation                    |  |                |  |              |       |                 | 88,570     |           |   | 1,000                    |  |   | 42,000             |   |  |       |           |   |  |   | 43,000    |  
|Issuance of common stock under Employee Stock Purchase Plan |  |                |  |              |       |                 | 39,614     |           |   |                         |  |   | 17,000             |   |  |       |           |   |  |   | 17,000    |  
|Vesting of stock options issued to employees                |  |                |  |              |       |                 |           |           |   |                         |  |   | 32,000             |   |  |       |            |   |  |   | 32,000    |  
|Redemption of Preferred Series F shares                     |  |                |  |              |       |                 |           |           |   |                         |  |   | (43,000            | ) |  |       |           |   |  |   | (43,000   | )
|Preferred stock dividends                                   |  |                |  |              |       |                 |           |           |   |                         |  |   | (104,000           | ) |  |       |           |   |  |   | (104,000  | )
|Net income                                                  |  |                |  |              |       |                 |           |           |   |                         |  |   |                   |   |  |       | 127,000    |   |  |   | 127,000   |  
|                                                            |  |                 |  |              |        |                 |            |           |   |                          |  |   |                    |   |  |       |            |   |  |   |           |  
|Balance at September 30, 2009                               |  | 1,090,150       |  | $            | 11,000 |                 | 17,089,037 |           | $ | 171,000                  |  | $ | 12,534,000         |   |  | $     | (3,747,000 | ) |  | $ | 8,969,000 |  
|                                                            |  |                 |  |              |        |                 |            |           |   |                          |  |   |                    |   |  |       |            |   |  |   |           |  

See accompanying notes.



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Avatech Solutions, Inc. and Subsidiaries

Consolidated Statements of Cash Flows



|                                                                                               |  |                                  |            |   |             |   |            |  
|---------------------------------------------------------------------------------------------- |  | -------------------------------- | ---------- | - | ----------- | - | ---------- | -
|                                                                                               |  | Three Months Ended September 30, |           
|                                                                                               |  | 2009                             |            |   | 2008        |  
|                                                                                               |  | (unaudited)                      |            |   | (unaudited) |  
|                                                                                               |  |                                 
|Cash flows from operating activities                                                           |  |                                  |            |   |             |   |            |  
|Net income                                                                                     |  | $                                | 127,000    |   |             | $ | 154,000    |  
|Adjustments to reconcile net income to net cash provided by (used in) operating activities:    |  |                                  |            |   |             |   |            |  
|Provision for bad debts                                                                        |  |                                  | 30,000     |   |             |   | 15,000     |  
|Depreciation and amortization                                                                  |  |                                  | 156,000    |   |             |   | 168,000    |  
|Non-cash stock compensation expense                                                            |  |                                  | 75,000     |   |             |   | 53,000     |  
|Changes in operating assets and liabilities:                                                   |  |                                  |            |   |             |   |            |  
|Accounts and other receivables                                                                 |  |                                  | 512,000    |   |             |   | 1,526,000  |  
|Inventory                                                                                      |  |                                  | 21,000     |   |             |   | (91,000    | )
|Prepaid expenses and other current assets                                                      |  |                                  | 56,000     |   |             |   | 83,000     |  
|Other assets                                                                                   |  |                                  | (7,000     | ) |             |   |           |  
|Accounts payable and accrued expenses                                                          |  |                                  | 192,000    |   |             |   | (1,627,000 | )
|Income taxes payable                                                                           |  |                                  | 104,000    |   |             |   | (650,000   | )
|Accrued compensation and related benefits                                                      |  |                                  | (156,000   | ) |             |   | (345,000   | )
|Deferred revenue                                                                               |  |                                  | 143,000    |   |             |   | 15,000     |  
|Deferred tax asset, net                                                                        |  |                                  |           |   |             |   | 1,000      |  
|Other current liabilities                                                                      |  |                                  | 4,000      |   |             |   | (4,000     | )
|                                                                                               |  |                                  |            |   |             |   |            |  
|Net cash provided by (used in) operating activities                                            |  |                                  | 1,257,000  |   |             |   | (702,000   | )
|                                                                                               |  |                                  |            |   |             |   |            |  
|                                                                                               |  |                                 
|Cash flows from investing activities                                                           |  |                                  |            |   |             |   |            |  
|Purchase of property and equipment                                                             |  |                                  | (17,000    | ) |             |   | (84,000    | )
|                                                                                               |  |                                  |            |   |             |   |            |  
|Net cash used in investing activities                                                          |  |                                  | (17,000    | ) |             |   | (84,000    | )
|                                                                                               |  |                                  |            |   |             |   |            |  
|                                                                                               |  |                                 
|Cash flows from financing activities                                                           |  |                                  |            |   |             |   |            |  
|Principal payments on capital lease obligation                                                 |  |                                  | (31,000    | ) |             |   |           |  
|Proceeds from issuance of common stock to employees and exercise of stock options and warrants |  |                                  | 17,000     |   |             |   | 141,000    |  
|Payment of preferred stock dividends                                                           |  |                                  | (104,000   | ) |             |   | (54,000    | )
|Redemption of Preferred Series F shares                                                        |  |                                  | (1,000,000 | ) |             |   | (500,000   | )
|                                                                                               |  |                                  |            |   |             |   |            |  
|Net cash used in financing activities                                                          |  |                                  | (1,118,000 | ) |             |   | (413,000   | )
|                                                                                               |  |                                  |            |   |             |   |            |  
|                                                                                               |  |                                 
|Net change in cash and cash equivalents                                                        |  |                                  | 122,000    |   |             |   | (1,199,000 | )
|Cash and cash equivalents - beginning of period                                                |  |                                  | 2,716,000  |   |             |   | 5,488,000  |  
|                                                                                               |  |                                  |            |   |             |   |            |  
|Cash and cash equivalents - end of period                                                      |  | $                                | 2,838,000  |   |             | $ | 4,289,000  |  
|                                                                                               |  |                                  |            |   |             |   |            |  



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Avatech Solutions, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Unaudited)

For the three months ended September 30, 2009 and 2008

1. Basis of Presentation

Avatech Solutions, Inc. (the Company) provides design automation and facilities and data management software,
hardware, training, technical support and professional services to corporations, government agencies and educational institutions throughout the United States.

The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (U.S. GAAP) for interim financial information
and in accordance with the instructions to Article 8 of Regulation S-X. Accordingly, certain information and footnote disclosures normally included in annual financial statements prepared in accordance with U.S. GAAP have been condensed or omitted
pursuant to those rules or regulations. The interim financial statements are unaudited, but reflect all adjustments (consisting of normal recurring accruals) which are, in managements opinion, necessary to present a fair statement of results
of the interim periods presented. These financial statements should be read in conjunction with the audited financial statements and the notes thereto in the Companys Annual Report on Form 10-K for the fiscal year ended June 30, 2009.
Operating results for the three months ended September 30, 2009 are not necessarily indicative of results for the full fiscal year or any future interim period.

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany accounts and transactions between the Company and its consolidated affiliated
companies have been eliminated in consolidation.

2. Recent Accounting Pronouncements

Effective September 15, 2009, the Company adopted the requirements of FASB Accounting Standards Codification (ASC) 105
(previously SFAS No. 168, The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles.) ASC 105 is effective for financial statements issued for interim and annual periods ending
after September 15, 2009 and establishes the FASB ASC as the single source of authoritative U.S. GAAP recognized by the FASB to be applied by nongovernmental entities. ASC 105 does not apply to rules and interpretive releases of the Securities
and Exchange Commission (SEC), which are sources of authoritative U.S. GAAP for SEC Registrants. All other non-grandfathered, non-SEC accounting literature not included in the Codification is non-authoritative. The Codification did not
change current U.S. GAAP, and reorganized U.S. GAAP into a topical structure. References to the relevant ASC section and the previously existing U.S. GAAP standard have been provided throughout the document.

In June 2008, the FASB ratified the consensus reached on FASB ASC 815 (previously EITF Issue No. 07-5, Determining Whether an
Instrument or an Embedded Feature is Indexed to an Entitys Own Stock), which provides guidance for determining whether an equity-linked financial instrument (or embedded feature) is indexed to an entitys own stock. ASC 815
applies to any freestanding financial instrument or embedded feature that has all the characteristics of a derivative, previously discussed under paragraphs 6-9 of Statement of Financial Accounting Standards No. 133 Accounting for
Derivative Instruments and Hedging Activities, (SFAS 133) for purposes of determining whether that instrument or embedded feature qualifies for the first part of the scope exception. ASC 815 also applies to any freestanding
financial instrument that is potentially settled in an entitys own stock, regardless of whether the instrument has all the characteristics of a derivative, for purposes of determining whether the instrument is within the scope of guidance
previously discussed in EITF Issue 00-19, Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Companys Own Stock, which provides accounting guidance for instruments that are indexed to,
and potentially settled in, the issuers own stock. The Companys adoption of ASC 815 did not have a material effect on the Companys consolidated financial statements.



6



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##### Table of Contents

Avatech Solutions, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Unaudited)(Continued)

For the three months ended September 30, 2009 and 2008



In May 2009, the FASB issued ASC 855 (previously SFAS No. 165, Subsequent
Events). ASC 855 establishes standards for accounting and disclosure of material events that occur after the balance sheet date and their respective evaluation dates. The Company currently discloses its subsequent events within the
established guidelines of ASC 855 and has performed its evaluation through November 16, 2009.

3. Supplemental Disclosure of Cash Flow
Information

The Company paid interest of approximately $6,000 during the three months ended September 30, 2009 and
paid federal and state income taxes of approximately $26,000 during the three months ended September 30, 2009.

4. Employee Stock
Compensation Plans

The Board of Directors may grant options under the Avatech Solutions, Inc. 2002 Stock Option Plan (the
Plan) to purchase shares of the Companys common stock at an exercise price of not less than the fair market value of the common stock on the date of grant. The Plan provides for the granting of either incentive or non-qualified
stock options to purchase an aggregate of up to 3,100,000 shares of common stock to eligible employees, officers, and directors of the Company. Stock options generally have a maximum term of 10 years. Options generally vest ratably over three or
four years, depending on the specific grant award. There were no stock option awards granted during the three months ended September 30, 2009 or 2008.

Pursuant to its Board compensation plan, for the three months ended September 30, 2009, the Company issued 38,570 shares of fully vested common stock to members of the Board of Directors under the
Companys Restricted Stock Award Plan, with an aggregate market value of $18,000. In addition, the Company issued 50,000 shares of restricted stock to its Chief Executive Officer in accordance with his compensation agreement, with an aggregate
market value of $25,000.

For the three months ended September 30, 2009 and 2008, total stock compensation expense
charged against income for these plans was $49,000 and $53,000, respectively.

A summary of stock option activity during the
three months ended September 30, 2009 and related information is included in the table below:



|                                            |  |           |   |  |                                |      |                         |   |       
|------------------------------------------- |  | --------- | - |  | ------------------------------ | ---- | ----------------------- | - | ------
|                                            |  | Options   |   |  | Weighted-AverageExercise Price |      | AggregateIntrinsicValue
|                                            |  |           |  
|Outstanding at July 1, 2009                 |  | 1,638,173 |   |  | $                              | 1.12 |                         |   |       
|Forfeited                                   |  | (5,441    | ) |  |                                | 0.30 |                         |   |       
|                                            |  |           |   |  |                                |      |                         |   |       
|                                            |  |           |  
|Outstanding at September 30, 2009           |  | 1,632,732 |   |  | $                              | 1.12 |                         | $ | 34,000
|                                            |  |           |   |  |                                |      |                         |   |       
|                                            |  |           |  
|Exercisable at September 30, 2009           |  | 1,282,732 |   |  | $                              | 1.18 |                         | $ | 34,000
|                                            |  |           |   |  |                                |      |                         |   |       
|                                            |  |           |  
|Weighted-average remaining contractual life |  | 6.7 Years |   |  |                                |      |                         |   |       
|                                            |  |           |   |  |                                |      |                         |   |       

All options granted have an exercise price equal to the fair market value of the
Companys common stock on the date of grant. Exercise prices for options outstanding as of September 30, 2009 ranged from $0.17 to $63.33 as follows



|                        |              |                    |           |                                                    |   |                                                                 |  |                    |  |                                                    |  |                                                                 |      |  |          
|----------------------- | ------------ | ------------------ | --------- | -------------------------------------------------- | - | --------------------------------------------------------------- |  | ------------------ |  | -------------------------------------------------- |  | --------------------------------------------------------------- | ---- |  | ---------
|Range of ExercisePrices |              | OptionsOutstanding |           | WeightedAverageExercisePrices ofOptionsOutstanding |   | Weighted AverageRemainingContractual Life of OptionsOutstanding |  | OptionsExercisable |  | WeightedAverageExercisePrices ofOptionsExercisable |  | Weighted AverageRemainingContractual Life of OptionsExercisable
|$                       | 0.167  0.34 |                    | 102,557   |                                                    | $ | 0.29                                                            |  | 4.2 years          |  | 102,557                                            |  | $                                                               | 0.29 |  | 4.2 years
|                        | 0.35  0.75  |                    | 292,200   |                                                    |   | 0.56                                                            |  | 6.4 years          |  | 280,200                                            |  |                                                                 | 0.56 |  | 6.3 years
|                        | 0.76  0.91  |                    | 768,000   |                                                    |   | 0.86                                                            |  | 7.2 years          |  | 468,625                                            |  |                                                                 | 0.86 |  | 6.7 years
|                        | 1.05  63.33 |                    | 469,975   |                                                    |   | 2.09                                                            |  | 6.5 years          |  | 431,350                                            |  |                                                                 | 2.13 |  | 6.4 years
|                        |              |                    |           |                                                    |   |                                                                 |  |                    |  |                                                    |  |                                                                 |      |  |          
|                        |              |                    | 1,632,732 |                                                    |   |                                                                 |  |                    |  | 1,282,732                                          |  |                                                                 |      |  |          
|                        |              |                    |           |                                                    |   |                                                                 |  |                    |  |                                                    |  |                                                                 |      |  |          



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##### Table of Contents

Avatech Solutions, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Unaudited)(Continued)

For the three months ended September 30, 2009 and 2008



Assuming that no additional share-based payments are granted after September 30,
2009, unamortized stock compensation expense of $206,000 will be recognized in the consolidated statement of operations over a weighted average period of 5 years.

5. Borrowings Under Line of Credit

The Company maintains a line of credit
from a bank that provides for up to $5 million of borrowings limited to 80% of the Companys aggregate eligible accounts receivable. The interest rate is the 30-day London Interbank Offered Rate (LIBOR) plus 2.25%, or an interest rate of 2.50%
as of September 30, 2009. The loan expires on December 31, 2010 and is secured by all of the Companys assets, except certain inventories. The Company had no outstanding borrowings from the bank under this credit line at
September 30, 2009 or June 30, 2009.

6. Obligations Under Capital Leases

In October of 2008, the Company acquired new computer equipment for its training facilities and incurred a capital lease obligation of
$358,000 as a result. This capital lease obligation totaled $249,000 as of September 30, 2009.

7. Income Taxes

Income tax expense during the three months ended September 30, 2009 and 2008 includes both federal and state income taxes. The
Companys remaining federal net operating loss carryforwards total $1.1 million and are subject to a $92,000 annual limitation.

8.
Earnings Per Share

Basic earnings per common share is computed by dividing net earnings available to common stockholders
by the weighted-average number of common shares outstanding for the period. Diluted earnings per common share include the potential dilution that would occur from common shares issuable upon the exercise of outstanding stock options and warrants and
the conversion of preferred stock. As of September 30, 2009, 8,070,503 shares of common stock were issuable upon the conversion or exercise of options, warrants and preferred stock. For the three months ended September 30, 2009 and 2008,
there were 8,030,813 and 4,849,870, respectively, shares of common stock equivalents excluded from the computation of diluted earnings per share because their effect would have been antidilutive.

The following summarizes the computations of basic and diluted earnings per common share for the three months ended September 30, 2009
and 2008:



|                                                    |  |                                  |            |   |      |   |            |  
|--------------------------------------------------- |  | -------------------------------- | ---------- | - | ---- | - | ---------- | -
|                                                    |  | Three Months Ended September 30, |           
|                                                    |  | 2009                             |            |   | 2008 |  
|Numerator for basic earnings per share:             |  |                                  |            |   |      |   |            |  
|Net income                                          |  | $                                | 127,000    |   |      | $ | 154,000    |  
|Less: preferred stock dividends                     |  |                                  | (104,000   | ) |      |   | (54,000    | )
|                                                    |  |                                  |            |   |      |   |            |  
|Net income available to common stockholders         |  | $                                | 23,000     |   |      | $ | 100,000    |  
|                                                    |  |                                  |            |   |      |   |            |  
|                                                    |  |                                 
|Denominator:                                        |  |                                  |            |   |      |   |            |  
|Weighted average shares outstanding - basic         |  |                                  | 17,064,551 |   |      |   | 16,656,834 |  
|                                                    |  |                                 
|Effect of outstanding stock options                 |  |                                  | 39,690     |   |      |   | 189,271    |  
|Effect of outstanding stock warrants                |  |                                  |           |   |      |   | 37,700     |  
|                                                    |  |                                  |            |   |      |   |            |  
|                                                    |  |                                 
|Weighted average shares outstanding - fully diluted |  |                                  | 17,104,241 |   |      |   | 16,883,805 |  
|                                                    |  |                                  |            |   |      |   |            |  
|                                                    |  |                                 
|Earnings per common share - basic                   |  | $                                | 0.00       |   |      | $ | 0.01       |  
|                                                    |  |                                  |            |   |      |   |            |  
|Earnings per common share - diluted                 |  | $                                | 0.00       |   |      | $ | 0.01       |  
|                                                    |  |                                  |            |   |      |   |            |  



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##### Table of Contents

Avatech Solutions, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Unaudited)(Continued)

For the three months ended September 30, 2009 and 2008



9. Liquidity and Capital Resources

The Company had a $129,000 long-term capital lease obligation at September 30, 2009 and a working capital surplus of approximately
$1,713,000. The Companys management believes that its near-term needs can be met from its available cash resources and its line of credit.

Pursuant to the agreements executed as part of the June 2006 offering of Series F Convertible Preferred Stock (Series F), the Series F shareholders have the right to request redemptions of up
to $500,000 of the Series F stock each January 1, April 1, July 1 and October 1 and have expressed their intention of requesting the redemptions until their Series F stock has been fully redeemed. On July 1, 2009, the
Company redeemed 500 of the original 4,000 Series F shares for payments to the holders of Series F totaling $500,000 plus accumulated dividends of approximately $12,000. The October 1, 2009 redemption of an additional 500 shares was paid one
day early on September 30, 2009 and totaled $550,000, representing a redemption of totaling $500,000 and $50,000 of accumulated dividends.

The Company expects to fund the two remaining redemptions, each of which will total $500,000 plus accumulated dividends, on January 1, 2010 and April 1, 2010 out of its excess cash balance. Each
$500,000 redemption will result in a decrease of the Series F balance of $454,000 and a reduction of additional paid-in capital of $46,000.



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##### Table of Contents

|ITEM 2. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|------- | -------------------------------------------------------------------------------------

THE FOLLOWING DISCUSSION AND ANALYSIS OF THE FINANCIAL CONDITION AND RESULTS OF OPERATIONS SHOULD BE READ IN CONJUNCTION WITH THE
CONSOLIDATED FINANCIAL STATEMENTS AND THE RELATED NOTES THERETO INCLUDED ELSEWHERE IN THIS REPORT.

This report contains
forward-looking statements within the meaning of The Private Securities Litigation Reform Act of 1995. Readers of this report should be aware of the speculative nature of forward-looking statements. Statements that are not historical in
nature, including those that include the words anticipate, estimate, should, expect, believe, intend, and similar expressions, are based on current expectations, estimates and
projections about, among other things, the industry and the markets in which Avatech Solutions, Inc. (the Company or Avatech) operates, and they are not guarantees of future performance. Whether actual results will conform to
expectations and predictions is subject to known and unknown risks and uncertainties, including risks and uncertainties discussed in this report; general economic, market, or business conditions; changes in interest rates, the cost of funds, and
demand for the Companys products and services; changes in the Companys competitive position or competitive actions by other companies; the Companys ability to manage growth; changes in laws or regulations or policies of federal and
state regulators and agencies; and other circumstances beyond the Companys control. Consequently, all of the forward-looking statements made in this report are qualified by these cautionary statements, and there can be no assurance that the
actual results anticipated will be realized or, if substantially realized, will have the expected consequences on the Companys business or operations. Except as required by applicable laws, the Company does not intend to publish updates or
revisions of any forward-looking statements to reflect new information, future events or otherwise.

Overview

Avatech is a leading provider of design automation and data management solutions for the manufacturing, building design,
engineering, and total infrastructure and facilities management markets. The Company specializes in technical support, training, and consulting aimed at improving design and documentation efficiencies and the seamless integration of workflow
processes. These technology solutions enable its customers to enhance productivity, profitability, and competitive position. Avatech is one of the largest Autodesk software integrators worldwide and a leading provider of engineering document
management solutions.

The Companys business strategy is built on three core principles designed to leverage its
existing strengths with expected market opportunities:



| |  |  | Maintain and profitably grow its strong position in the Autodesk software economy.
| | - |  | ----------------------------------------------------------------------------------



| |  |  | Profitably grow its consulting and services business by leveraging its expertise in design engineering.
| | - |  | -------------------------------------------------------------------------------------------------------



| |  |  | Acquire and integrate diverse, yet complementary, software and services businesses to extend its product offerings to its large customer base and
expand its market potential.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

This strategy was designed to match the Companys product and service
offerings more precisely with the needs of its customers.

Product Sales- Product sales consist primarily of the resale
of packaged design software, including:



| |  |  | Autodesk design automation software for mechanical, architectural and civil engineering sectors and visualization and animation technology;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Autodesk data management software;
| | - |  | ----------------------------------



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##### Table of Contents

| |  |  | Archibus facilities management software for space planning, strategic planning, and lease/property administration
| | - |  | -----------------------------------------------------------------------------------------------------------------

Product sales also include Leica 3D laser scanning equipment for the Architectural, Engineering and Construction sector.

Service Revenue- Avatech provides services in the form of training, consulting services, software development, and technical support
to its customers. Avatech employs a technical staff of approximately 46 personnel associated with these types of services.

Commission Revenue- The Company offers Autodesks subscription programs, which entitle subscribers to receive software upgrades, web support and eLearning lessons directly from Autodesk. Because Avatech does not participate in
the delivery of these subscription products or the web support and eLearning lesson benefits, the Company records the gross profit from the sale of Autodesk software subscriptions as commission revenue. In addition, the Company sells technology
upgrades to existing Autodesk customers through the Autodesk Subscription program where the customers receive the latest releases of Autodesk software, incremental product enhancements, personalized web support direct from Autodesk, and self-paced
training to help extend its customers skills. Based on its analysis of the Autodesk Subscription program, Avatech records the net proceeds that it receives from Autodesk for subscription sales in accordance with the provisions of FASB ASC 605,
(previously EITF 99-19, Reporting Revenue Gross as a Principal versus Net as an Agent) in September 2009.

Avatech also generates commission revenue from the resale of Autodesk software to various customers, a number of which Autodesk considers major accounts. Autodesk designates these customers as major accounts based on specific
criteria, primarily sales volume, and typically gives these customers volume discounts. The Company is responsible for managing and reselling Autodesk products to a number of these major account customers; however, software products are shipped
directly from Autodesk to the customers. Avatech receives commissions upon shipment of the products from Autodesk to the customer based on the product sales price.

Cost of Product Sales-The cost of product sales consists of the cost of purchasing products from software suppliers or hardware manufacturers as well as the associated shipping and handling costs.

Cost of Service Revenue-Cost of service revenue includes the direct costs associated with the implementation of
software and hardware solutions as well as training, support services, and professional services. These costs consist primarily of compensation, travel, and the costs of third-party contractors engaged by the Company. The cost of service revenue
does not include an allocation of overhead costs.

Selling, General and Administrative Expense- Selling, general and
administrative expense consist primarily of compensation and other expenses associated with the Companys sales force, management, finance, human resources, and information systems. Advertising and public relations expenses and expenses for
facilities, such as rent and utilities, are also included in selling, general and administrative expenses.

Depreciation
and Amortization Expense- Depreciation and amortization expenses represent the period costs associated with our investment in property and equipment, consisting principally of computer equipment, software, furniture and fixtures, and leasehold
improvements. The Company computes depreciation and amortization expenses using the straight-line method. The Company leases all of its facilities and depreciates leasehold improvements over the lesser of the lease term or the estimated useful life
of the asset.

Interest Expense- Interest expense consists of interest on capital lease obligations.

Three Months Ended September 30, 2009 Compared to the Three Months Ended September 30, 2008

The following tables set forth a comparison of the Companys results of operations for the three month period ended September 30,
2009 to the three month period ended September 30, 2008. The amounts are derived from selected items reflected in the Companys unaudited Consolidated Statements of Operations included elsewhere in this report. The three month financial
results are not necessarily indicative of future results.



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##### Table of Contents

Revenues



|                   |  |                                  |           |      |   |            |  |       |   
|------------------ |  | -------------------------------- | --------- | ---- | - | ---------- |  | ----- | --
|                   |  | Three Months Ended September 30, |          
|                   |  | 2009                             |           | 2008 |   | %change    | 
|Revenues:          |  |                                  |           |      |   |            |  |       |   
|Product sales      |  | $                                | 4,350,000 |      | $ | 6,113,000  |  | (28.8 | )%
|Service revenue    |  |                                  | 2,046,000 |      |   | 2,574,000  |  | (20.5 | )%
|Commission revenue |  |                                  | 1,378,000 |      |   | 2,127,000  |  | (35.2 | )%
|                   |  |                                  |           |      |   |            |  |       |   
|Total revenues     |  | $                                | 7,774,000 |      | $ | 10,814,000 |  | (28.1 | )%
|                   |  |                                  |           |      |   |            |  |       |   

Revenues. Total revenues for the three months ended September 30, 2009
decreased by $3.0 million or 28.1% when compared to the same period in the prior fiscal year primarily due to the effects of the national recession on the Companys customers.

In an effort to balance its costs against the revenue reductions, the Company implemented reductions in workforce during the third and
fourth quarters of fiscal year 2009, a hiring freeze and a temporary 10% base salary reduction for all employees. Additionally, during the fourth quarter of 2009, the Company implemented new sales initiatives including a sales lead referral
partnership with a leading multinational hardware and software reseller. As a result of the Companys sales and cost containment initiatives, revenues increased approximately 8.0%, while operating expenses decreased 11.9% during the first
quarter of fiscal year 2010 when compared with the fourth quarter of fiscal year 2009.

Product sales decreased $1.8 million
or 28.8% for the three months ended September 30, 2009 as compared to the same period in the prior fiscal year. In addition, the Company also reported lower service and commission revenues when compared to the same period in the prior fiscal
year.

Cost of Revenues and Gross Margin



|                        |  |                                  |           |      |   |           |  |       |   
|----------------------- |  | -------------------------------- | --------- | ---- | - | --------- |  | ----- | --
|                        |  | Three Months Ended September 30, |          
|                        |  | 2009                             |           | 2008 |   | %change   | 
|Cost of revenue:        |  |                                  |           |      |   |           |  |       |   
|Cost of product sales   |  | $                                | 2,982,000 |      | $ | 4,069,000 |  | (26.7 | )%
|Cost of service revenue |  |                                  | 1,196,000 |      |   | 1,954,000 |  | (38.8 | )%
|                        |  |                                  |           |      |   |           |  |       |   
|Total cost of revenue   |  | $                                | 4,178,000 |      | $ | 6,023,000 |  | (30.6 | )%
|                        |  |                                  |           |      |   |           |  |       |   
|                        |  |                                  |          
|Gross margin            |  | $                                | 3,595,000 |      | $ | 4,791,000 |  |       |   
|                        |  |                                  |           |      |   |           |  |       |   

Cost of revenue. The total cost of revenue decreased $1.8 million, or 30.6%,
for the three months ended September 30, 2009 when compared to the same period in the prior fiscal year.

Cost of product
sales decreased 26.7% during the three months ended September 30, 2009 while product sales decreased 28.8% as compared with the same period the prior fiscal year. Product costs decreased at a lower rate than did product revenues due to the
Company earning a lower sales rebate based on targets established by the Companys principal supplier, Autodesk. These sales rebates are applied to the cost of product sales.

Cost of service revenue decreased $758,000, or 38.8%, for the three months ended September 30, 2009 when compared to the same period in
the prior fiscal year, while service revenues decreased $528,000 or 20.5%. Cost of service revenue as a percentage of related revenue decreased to 58.5% during the three months ended September 30, 2009 from 75.9% during the same period in the
prior fiscal year. The lower relative cost of service revenue was due to decreased personnel costs resulting from the previously-mentioned reduction in force and temporary 10% base salary reduction, combined with increased productivity of the
services personnel during the current fiscal quarter.



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##### Table of Contents

Gross margin. The Companys overall gross margin percentage increased to 46.2%
for the three months ended September 30, 2009 compared to 44.3% for the same period in the prior fiscal year due to the decreased cost of service revenue resulting from the Companys cost reduction efforts.

Other Operating Expenses



|                                    |  |                                  |           |      |   |           |  |       |   
|----------------------------------- |  | -------------------------------- | --------- | ---- | - | --------- |  | ----- | --
|                                    |  | Three Months Ended September 30, |          
|                                    |  | 2009                             |           | 2008 |   | %change   | 
|Other operating expenses:           |  |                                  |           |      |   |           |  |       |   
|Selling, general and administrative |  | $                                | 3,201,000 |      | $ | 4,409,000 |  | (27.4 | )%
|Depreciation and amortization       |  |                                  | 156,000   |      |   | 168,000   |  | (7.1  | )%
|                                    |  |                                  |           |      |   |           |  |       |   
|Total other operating expenses      |  | $                                | 3,357,000 |      | $ | 4,577,000 |  | (26.7 | )%
|                                    |  |                                  |           |      |   |           |  |       |   

Selling, General and Administrative Expense. Selling, general and
administrative expenses decreased $1.2 million, or 27.4%, for the three months ended September 30, 2009 when compared to the same period in the prior fiscal year. Selling, general and administrative expense as a percent of total revenues was
41.2% for the three months ended September 30, 2009, up from 40.8% for the same period in the prior fiscal year. The decrease in selling, general and administrative expenses is primarily the result of decreased commissions due to lower sales
and the effects of the reduction in force and temporary 10% base salary reduction.

Depreciation and Amortization.
Depreciation and amortization expenses decreased $12,000, or 7.1%, for the three months ended September 30, 2009 when compared to the same period in the prior fiscal year due primarily to a purchased customer list becoming fully amortized
during the fourth quarter of fiscal year 2009.

Other (Expense) Income, net



|                            |  |                                  |        |   |      |   |         |  |        |   
|--------------------------- |  | -------------------------------- | ------ | - | ---- | - | ------- |  | ------ | --
|                            |  | Three Months Ended September 30, |       
|                            |  | 2009                             |        |   | 2008 |   | %change | 
|Other (expense) income, net |  | $                                | (8,000 | ) |      | $ | 36,000  |  | (122.2 | )%
|                            |  |                                  |        |   |      |   |         |  |        |   

Other (Expense) Income, net. The Company incurred $8,000 in other expense, net
during the three months ended September 30, 2009 compared to $36,000 of other income during the same period in the prior fiscal year. The decrease in other income is due to increased interest expense associated with a new equipment lease,
combined with decreased interest income resulting from lower interest rates available on cash deposits.

Income Tax
Expense



|                   |  |                                  |         |      |   |         |  |     |  
|------------------ |  | -------------------------------- | ------- | ---- | - | ------- |  | --- | -
|                   |  | Three Months Ended September 30, |        
|                   |  | 2009                             |         | 2008 |   | %change | 
|Income tax expense |  | $                                | 104,000 |      | $ | 96,000  |  | 8.3 | %
|                   |  |                                  |         |      |   |         |  |     |  

Income Tax Expense. The Company recorded $104,000 of income tax expense during
the three months ended September 30, 2009, an 8.3% increase when compared to the $96,000 in income tax expense recorded for the same period in the prior fiscal year. The higher effective income tax rate is the result of a higher relative
proportion of non-deductible expenses during the first fiscal quarter of 2010. The Companys remaining federal net operating loss carryforwards total $1.1 million and are subject to a $92,000 annual limitation.



13



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##### Table of Contents

Liquidity and Capital Resources

The Company has financed its operations and met its capital expenditure requirements through its cash balances.

The Company maintains a line of credit from a bank that provides for up to $5 million of borrowings limited to 80% of the Companys
aggregate eligible accounts receivable. The interest rate is the 30-day London Interbank Offered Rate (LIBOR) plus 2.25%, or an interest rate of 2.50% as of September 30, 2009. The loan expires on December 31, 2010 and is secured by all of
the Companys assets, except certain inventories. The Company had no outstanding borrowings from the bank under this credit line at September 30, 2009 or June 30, 2009.

The Companys operating assets and liabilities consist primarily of accounts receivable, inventory and accounts payable. Changes in
these balances are affected principally by the timing of sales and investments in inventory based on expected customer demand. The Company attempts to minimize inventory levels through arrangements with suppliers to ship products with an average
delivery period of two days and centralized inventory management. The Company purchases approximately 97% of its product from one principal supplier that provides it with credit to finance those purchases.

The Companys investing activities consist principally of investments in computer and office equipment. Cash purchases of equipment for
the three months ended September 30, 2009 decreased to $17,000 from $84,000 for the same period in fiscal year 2009.

For
the three months ended September 30, 2009, net cash provided by operating activities was $1,257,000, compared with cash used in operating activities of $702,000 during the same period in fiscal year 2009. The increase in cash from operating
activities was due primarily to increased trade accounts payable during the first quarter of fiscal year 2010 versus decreased trade accounts payable during the first quarter of fiscal year 2009. Trade accounts payable increased in fiscal year 2010
as the Company obtained more favorable payment terms from its primary supplier.

For the three months ended September 30,
2009, the Company used $1,118,000 in financing activities compared with $413,000 for the same period in fiscal year 2009. During the current fiscal quarter, the Company redeemed $1,000,000 of Preferred Series F shares, while in the same quarter of
the prior fiscal year, the Company redeemed only $500,000 of Preferred Series F shares.

Pursuant to the agreements executed
as part of its June 2006 offering of its Series F Convertible Preferred Stock (Series F), the Series F shareholders have the right to request redemptions of up to $500,000 of the Series F stock each January 1, April 1, July 1 and
October 1 and have expressed their intention of requesting the redemptions until their Series F stock has been fully redeemed. On July 1, 2009, the Company redeemed 500 of the original 4,000 Series F shares totaling $500,000, and on
September 30, 2009, the Company redeemed another 500 shares, totaling $500,000, which were scheduled to be redeemed on October 1, 2009. The Company expects to fund the two remaining redemptions, each of which will total $500,000 plus
accumulated dividends, on January 1, 2010 and April 1, 2010 and management expects to fund these redemptions out of its excess cash balance.

The Company had $129,000 in long-term capital lease obligations for a computer lease agreement at September 30, 2009, and had working capital of $1,713,000.

Management believes the Companys near-term needs can be met from its available cash resources and its line of credit.

Because the Company is one of the largest resellers of Autodesk software and because Autodesk has continued to state its intention to
continue to strengthen its relationships with its resellers, the Company expects to continue to be a leading seller of Autodesk software. The Companys Channel Partner Agreement with Autodesk, which designates the Company as an authorized
reseller of Autodesk products, provides performance targets and expires February 1, 2010.



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Operating Leases

The Company leases certain office space and equipment under noncancellable operating lease agreements that expire in various years through
2014 and that, generally, do not contain significant renewal options. Future minimum payments under all noncancellable operating leases with initial terms of one year or more consisted of the following at September 30, 2009:



|                             |  |   |          
|---------------------------- |  | - | ---------
|Quarter ending September 30: |  |   |          
|2010                         |  | $ | 1,276,000
|2011                         |  |   | 1,124,000
|2012                         |  |   | 607,000  
|2013                         |  |   | 468,000  
|2014                         |  |   | 196,000  
|Thereafter                   |  |   | 10,000   
|                             |  |   |          
|                             | 
|Total minimum lease payments |  | $ | 3,681,000
|                             |  |   |          

There was no rent paid to a related party for the three months ended
September 30, 2009 and 2008.

Capital Leases

In October of 2008, the Company acquired new computer equipment for its training facilities and incurred a capital lease obligation of
$358,000 to finance the acquisition. This capital lease obligation totaled $249,000 as of September 30, 2009. Approximately $120,000 represents the short term balance of the lease and is reflected in other current liabilities with the remaining
long term portion ($129,000) shown as Obligations Under Capital Leases in the accompanying balance sheets. Payments are made quarterly through September 2011 and depreciation expense on this equipment was approximately $30,000 as of
September 30, 2009. Future minimum payments consisted of the following at September 30, 2009:



|                                               |  |   |        
|---------------------------------------------- |  | - | -------
|Twelve months ending September 30:             |  |   |        
|2010                                           |  | $ | 137,000
|2011                                           |  |   | 137,000
|                                               |  |   |        
|                                               | 
|Total minimum lease payments                   |  |   | 274,000
|Less:                                          |  |   |        
|Taxes                                          |  |   | 8,000  
|Imputed interest                               |  |   | 17,000 
|                                               |  |   |        
|Present value of future minimum lease payments |  | $ | 249,000
|                                               |  |   |        



|ITEM 4. | CONTROLS AND PROCEDURES
|------- | -----------------------

The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the reports filed under the Securities Exchange Act of 1934 with the Securities and Exchange Commission, such
as this Quarterly Report, is recorded, processed, summarized and reported within the periods specified in those rules and forms, and that such information is accumulated and communicated to management, including the Chief Executive Officer
(CEO) and the Chief Financial Officer (CFO), as appropriate, to allow for timely decisions regarding required disclosure. 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. 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. 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. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in
achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate.

An evaluation of the effectiveness of these disclosure controls as of September 30, 2009 was carried out under the supervision and with
the participation of management, including the CEO and the CFO. Based on that evaluation, management, including the CEO and the CFO, has concluded that the Companys disclosure controls and procedures are, in fact, effective at the reasonable
assurance level.



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During the quarter ended September 30, 2009, there was no change in the Companys
internal control over financial reporting that has materially affected, or is reasonably likely to affect materially, the Companys internal control over financial reporting.

PART II. OTHER INFORMATION



|ITEM 6. | EXHIBITS
|------- | --------

The exhibits
filed or furnished with this report are listed in the Exhibit Index that immediately follows the Signatures to this report, which list is incorporated herein by reference.



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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.



|                        |  |                         |  |                                             
|----------------------- |  | ----------------------- |  | --------------------------------------------
|                        |  | AVATECH SOLUTIONS, INC.
|                        |  |                        
|Date: November 16, 2009 |  | By:                     |  | /S/    GEORGE M.
DAVIS                      
|                        |  |                         |  | George M. Davis                             
|                        |  |                         |  | Chief Executive Officer                     
|                        |  |                        
|Date: November 16, 2009 |  | By:                     |  | /S/    LAWRENCE
RYCHLAK                     
|                        |  |                         |  | Lawrence Rychlak                            
|                        |  |                         |  | President and Chief Financial Officer       
|                        |  |                         |  | (Principal financial and accounting officer)



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EXHIBIT INDEX



|        |  |                                                                         
|------- |  | ------------------------------------------------------------------------
|Exhibit |  | Description                                                             
|        | 
|31.1    |  | Rule 15d-14(a) Certification of Chief Executive Officer (filed herewith)
|        | 
|31.2    |  | Rule 15d-14(a) Certification of Chief Financial Officer (filed herewith)
|        | 
|32.1    |  | Section 1350 Certifications (furnished herewith)                        



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