**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


Washington,
      D.C. 20549




**Form
      10-KSB**




(Mark
      One)




**x
      ANNUAL REPORT UNDER
      SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF**


**1934
      FOR THE FISCAL YEAR ENDED DECEMBER 31, 2006**




**o
      TRANSITION REPORT UNDER
      SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934FOR THE TRANSITION
      PERIOD FROM __________ TO __________**


**COMMISSION** **FILE
      NUMBER ________________________________**




**LATTICE
      CORPORATION**


(Name
      of
      small business issuer in its charter)




DELAWARE
            22-2011859(State
                or other jurisdiction of
            (I.R.S.
                Employerincorporation
                or organization)
            Identification
                No.)





7150
      N. Pennsauken, New Jersey 08109


(Address
      of principal executive offices) (Zip Code)





Issuer's
      telephone Number: (856) 910-1166




Securities
      registered under Section 12(b) of the Exchange Act: None.




Securities
      registered under Section 12(g) of the Exchange Act: Common Stock,


$.01
      par
      value




Check
      whether the issuer is not required to file reports pursuant to Section
      13


or
      15(d)
      of the Exchange Act. o




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




Check
      if
      there is no disclosure of delinquent filers in response to Item 405 of
      Regulation S-B contained in this form, and no disclosure will be contained,
      to
      the best of registrant's knowledge, in definitive proxy or information
      statements incorporated by reference in Part III of this Form 10-KSB or any
      amendment to this Form 10-KSB. o




Indicate
      by check mark whether the registrant is a shell company (as defined in Rule
      12b-2 of the Exchange Act).


Yes
o
      No x




State
      issuer's revenues for its most recent fiscal year. $7,494,888




The
      aggregate market value of the voting and non-voting common equity held by
      non-affiliates, computed by reference to the average bid and asked price of
      such
      common equity as of April 12, 2007 was $9,099,122.86.




As
      of
      April 16, 2007, the issuer had 16,629,848 outstanding shares of Common
      Stock.




**DOCUMENTS
      INCORPORATED BY REFERENCE: NONE**




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











TABLE
      OF
      CONTENTS





PagePART
                IItem
                1.
            Description
                of Business
            1Item
                2.
            Description
                of Property
            7Item
                3.
            Legal
                Proceedings
            8Item
                4.
            Submission
                of Matters to a Vote of Security Holders
            8PART
                IIItem
                5.
            Market
                for Common Equity and Related Stockholder Matters
            8Item
                6.
            Management's
                Discussion and Analysis or Plan of Operation
            10Item
                7.
            Financial
                Statements
            19Item
                8.
            Changes
                In and Disagreements with Accountants on Accountingand
                Financial Disclosure
            19Item
                8A.
            Controls
                and Procedures
            19Item
                8B.
            Other
                Information
            19PART
                IIIItem
                9.
            Directors,
                Executive Officers, Promoters and Control Persons;Compliance
                With Section 16(a) of the Exchange Act
            19Item
                10.
            Executive
                Compensation
            21Item
                11.
            Security
                Ownership of Certain Beneficial Owners and Managementand
                Related Stockholder Matters
            25Item
                12.
            Certain
                Relationship and Related Transactions
            26Item
                13.
            Exhibits
            27Item
                14.
            Principal
                Accountant Fees and Services
            29SIGNATURES
            31









**PART
      I**




**ITEM
      1. DESCRIPTION OF BUSINESS.**




**ORGANIZATIONAL
      HISTORY**




We
      were
      formed under the name Science Dynamics Corporation, incorporated in the State
      of
      Delaware in May 1973 and began operations in July 1977. We have been developing
      and delivering technologically advanced telecommunication solutions for over
      25
      years. We changed our name to Lattice Incorporated in February 2007. Lattice
      incorporated is referred to herein as the "Company," "we," "us," and "our".





On
      February 14, 2005, we acquired approximately 86% of the stock of SMEI on a
      fully-diluted basis, for which we paid $1,655,325 in cash and issued 1,737,861
      shares of common stock.




Pursuant
      to a stock purchase agreement dated September 12, 2006, between us, Ricciardi
      Technologies Inc. (“RTI”) and RTI’s shareholders, we acquired all of the issued
      and outstanding capital stock of RTI for $3,500,000 in cash, issued 5,000,000
      shares of common stock, issued a $500,000 promissory note and 1,000,000 shares
      of series B convertible preferred stock. To secure the indemnification
      obligations of the former RTI stockholders, $350,000 and 583,333 shares of
      common stock was placed in escrow for a period of 18 months, subject to any
      claims that may arise under the agreement during the 18-month warranty survival
      period.




At
      December 31, 2006, we operated the businesses of SMEI and RTI as separate
      businesses. In addition, Lattice Incorporated continues to supply call control
      technology to service providers offering Collect-Only calling to inmates of
      correctional institutions. We have been a primary supplier to a major Local
      Exchange Carrier and, in recent years; have expanded our customer base to
      include the newly emerging unregulated companies offering the same service
      in
      today’s more highly competitive telecom environment. Our Commander product line
      is a versatile and feature rich platform, prepared to handle the increasing
      demand for investigative tools and security.




We
      are in
      the process of integrating our businesses and hope to complete the integration
      during 2007.





**Reverse
      Split**





On
      February 2, 2007, we filed an amended and restated certificate of incorporation
      with the State of Delaware, which, among other things, effected a one-for-ten
      reverse split of our common stock. All share and per share information in this
      report retroactively reflects the reverse split.




Securities
      and Exchange Commission
      Comments




The
        Company has received comments from the Securities and Exchange Commission
        in
        connection with reports it has filed under the Securities Exchange Act of
        1934,
        as amended. The Company is in the process of responding to these comments
        and
        does not anticipate that the comments will have a material impact on the
        financial statements included in this Report.





**Business
      of SMEI**





SMEI
      was
      founded to provide engineering services coupled with advanced technology
      solutions to agencies of the federal government. SMEI has developed advanced
      data management applications, Internet server technology and information systems
      that it markets to both public and private sectors. SMEI’s technology helps its
      customers reduce development time for projects, manage the deployment of
      applications across the Internet to desktops around the world and implement
      military grade security on all systems where the applications are deployed.
      SMEI
      has two divisions, a consulting services division and the Aquifer Software
      division.





***Consulting
      Services Division***





SMEI
      provides the federal government and private industry with engineering services
      coupled with innovative information technology solutions. SMEI seeks to address
      the growing public and private sector demand for integrated, secure, enterprise
      class e-business solutions built on industry standards.





SMEI
      has
      designed, developed and implemented advanced business management applications,
      integration technologies and enterprise geospatial systems. SMEI currently
      supports several operational systems in all of these categories for major
      organizations and defense commands using web-based technologies and the
      consolidation of custom and commercial off-the-shelf software to unite
      dissimilar applications into integrated systems.





***Geospatial
      Information Systems***





SMEI
      specializes in the design and implementation of enterprise geographic
      information systems, enabling the vision of public and private sector clients
      for cross-organization data sharing. By doing this, we can manage the security
      of the GIS data layers so that what a user sees is based on his level of
      security-cross - organizational data sharing. Most GIS systems are not able
      to
      restrict to the granular level that we have designed into GeoReadiness. SMEI
      develops web services applications and secure geospatial solutions. SMEI also
      performs spatial analysis and risk assessment modeling for the military medical
      application. SMEI also developed GIS-R, an Army geospatial information system
      repository to provide a visual method for users to access information from
      a
      comprehensive set of government, commercial, and installation data sources
      in an
      expandable, user-friendly decision support application.




1





Implementation
      planning is critical to the success of enterprise geospatial information system
      initiatives. Cross-organizational data sharing and public visualization of
      corporate information through the Internet requires the understanding of data
      needs across functional areas, as well as the backbone technology to support
      an
      enterprise approach. The SMEI team includes key in-house experts in geospatial
      information system supporting technologies such as ESRI’s ArcSDE, Oracle
      Spatial, UNIX and Windows to ensure a stable architecture and operating
      environment for enterprise applications. As current customers of this service,
      the Naval Information Technology Center receives architectural and database
      support, systems integration analysis, and technical support from
      SMEI.





***Technical
      and Management Consulting Services***





SMEI
      provides network engineering, architectural guidance, database management,
      expert programming and functional area expert analysis to its Department of
      Defense clients.  SMEI provides strategic consulting to support business
      requirements, change management, and financial analysis and
      metrics for several major federal customers.




In
      addition, SMEI provides management, analytical, and technical consulting to
      support legacy application modernization and systems reduction goals under
      several major contracts including the Department of Navy’s Navy Marine Corps
      Intranet (NMCI).





**Aquifer
      Software**





SMEI
      develops and markets the Aquifer Application Services Platform, a proprietary
      software product embedded in the applications developed for its customers.
      Aquifer helps developers build a new class of software called rich Internet
      applications. These applications are secure custom or commercial desktop and
      mobile Windows Forms applications that use the traditional client/server model
      while exploiting Web Services-based communications over the
      Internet.





Aquifer
      is a .NET application platform built on a service-oriented architecture that
      delivers scalable and secure Web applications to Windows desktop and Windows
      CE
      platforms. Aquifer gives SMEI a competitive advantage with its service bids
      by;
      (i) reducing development time and (ii) enabling the management and the
      deployment of applications across the Internet to desktops around the world
      while implementing Department of Defense certified and accredited security
      on
      all deployed systems. Aquifer addresses the needs of development organizations
      to more rapidly develop custom Windows Forms applications and lower the costs
      to
      secure, deploy and maintain them. Aquifer helps organizations solve the
      following problems:





·
            Reduction
                in application development time, cost and
                risk;





·
            Reduction
                of desktop and PDA application deployment time and
                cost;





·
            Increased
                richness of user experience;





·
            Elimination
                of security concerns inherent with Web browser
                vulnerabilities;





·
            Decreased
                server software and hardware costs;
                and





·
            Optimization
                of network resources for best
                performance.





SMEI
      markets Aquifer as both a productivity tool and a secure application platform.
      Whether modernizing legacy applications or building new service-oriented, Web
      based systems, Aquifer is designed to shorten the time it takes to develop
      and
      deliver custom solutions in Microsoft .NET environments. Aquifer provides many
      common service components including:





·
            Data
                Access;





·
            Role-based
                User Profiles;





·
            Flexible
                Security Model including strong
                encryption;





·
            Configuration
                Management;






2





·
            Event
                Management;





·
            Integration
                Gateways; and





·
            Secure
                Client.





In
      its
      current version 5.4, the Aquifer Application Services Platform can support
      between 500 and 1,000 concurrent active desktops against a single server
      processor.





**Sales
      and Marketing**




SMEI
      markets its Aquifer Application Services Platform to mid to large-sized
      commercial accounts, federal government agencies, systems integrators and
      independent software vendors that are building Windows rich Internet
      applications. Aquifer’s products, training and services are focused on the .NET
      Windows Forms application development market where enterprise IT organizations
      and systems integrators are tasked with building and managing applications
      that
      run on the Internet using the .NET Framework.





SMEI
      employs the following marketing programs to sell the Aquifer Application
      Services Platform:





Direct
      Sales to Enterprise IT Organizations and Systems Integrators - A
      direct sales force performs this activity. This segment includes all new
      federal, systems integrator and commercial accounts. SMEI believes that
      reference-ability is a key post-sale objective.





Targeted
      Marketing - With
      the help of extensive lead generation, public relations and targeting marketing
      communication materials, SMEI hopes to establish itself as a leader in the
      rich
      Internet application development and management market with an emphasis on
      security over both wired and wireless communications. The tactics include
      marketing materials directed at DOD agencies, the financial services and health
      care markets and other markets where strong security is a common requirement.
      Print media, direct mail, trade shows/conferences and live Web casts are the
      main components of lead generation for SMEI.





Strategic
      Alliances - SMEI
      plans to continue to form strategic alliances with federal and commercial
      systems integrators and Web services performance management vendors to sell
      SMEI’s products as value-added resellers and to enhance Aquifer’s capabilities
      by integrating with other vendor’s performance monitoring capabilities. SMEI
      believes that engaging marketing an delivery channels that are not currently
      available to the company will broaden market reach, increase delivery bandwidth
      in some instances, and yield a greater return on sales and marketing
      expenditure. Currently, SMEI and AmberPoint co-market products to federal
      governmental agencies. SMEI plans to integrate Aquifer and AmberPoint to help
      developers more easily and accurately monitor the .NET applications they build.
      AmberPoint is a Silicon Valley-based software company that builds and markets
      management solutions for Web services.





**Business
      Development**





We
      believe our future success is dependent on expanding our existing product line
      to encompass a more diverse customer base. Management believes this will enable
      us to reduce our exposure to the risk of declines in telecommunications sales
      while capitalizing on potential gains in our other business sectors. As we
      expand product offerings into other sectors, we plan to move from primarily
      offering products to offering a mix of products and services to generate
      consistent recurring revenue streams. Some of the key areas we intend to focus
      on expanding are:





1.
            OEM
                Licensing - This would include licensing existing technology we have
                developed to other equipment manufacturers either to incorporate
                into
                their existing product offering or for
                resale.





2.
            Voice
                and Data Security Products - Our existing products provide feature
                rich
                call control technology that can be expanded to serve additional
                markets.





The
      first
      step in realizing our business development strategy requires enhancing existing
      products to address the needs of other markets. We continue to supply call
      control technology to service providers offering Collect-Only calling to inmates
      of correctional institutions. We plan to expand on our existing Commander
      product line by licensing it to other vendors and also by modifying the product
      to meet the needs of other markets.





**Our
      Products**




3





We
      currently offer products based on our BubbleLink technology and on SMEI’s
      Aquifer technology. These products are marketed to the government and private
      industries.





***Commander
      Call Control System***





The
      Commander call control system is built on our BubbleLink software architecture.
      This open source platform is a combination of integrated computer telephony
      hardware and software. The Commander call control system is capable of handling
      thousands of call transactions per hour and provides correctional facility
      officials with effective tools to manage and control inmate telephone calls
      using the Commander system software.





The
      Commander I models are designed for the small to midsize municipal and county
      correctional facilities requiring control for up to 40 inmate telephone lines.
      The Commander I base system provides telephone control for 4 lines and can
      be
      expanded in 4 line increments.





Commander
      call control systems are supported by an integrated array of administrative
      and
      investigative programs that provide a management solution suite. All programs
      interact in real-time with Commander calls and databases via an Ethernet Local
      Area Network (LAN) or a Wide Area Network (WAN).




Commander
      provides technologically advanced call control and management tools targeted
      at
      investigation and law enforcement in the inmate telephone control industry.
      Commander includes live monitoring, debit and recording features. The Commander
      system can be structured to use pre-paid debit cards that support specialized
      tariffs and call timing. With pre-paid debit cards, Commander provides complete
      control and security.





The
      existing Commander system is ported to support multiple vendors’ equipment,
      which makes the product more flexible in its operation and also pricing. We
      are
      developing Commander’s investigative software to provide a single repository for
      storing call records, recordings and other documents related to a specific
      case
      or investigation.





***MinuteMan***





The
      MinuteMan product, which is also built on our BubbleLink technology, is a
      complete turnkey system. The MinuteMan is designed for smaller pre-paid card
      vendors that want to break free from the resale only mode of the card business.





***Aquifer***





Aquifer
      is a software architecture that provides users the ability to develop and manage
      applications in a secure distributed computing environment. Aquifer has been
      used in developing several applications within the Department of Defense.
      Aquifer’s security system is certified by the Department of
      Defense.





We
      plan
      to combine Aquifer’s secure development platform with the transaction processing
      capabilities of BubbleLink. We believe the products’ synergies will provide an
      end to end solution for secure communications.





*SensorView*





SensorView,
      which provides clients with the capability to command, control and monitor
      multiple distributed chemical, biological, nuclear, explosive and hazardous
      material sensors.




**Product
      Development**





We
      continue to refine our core BubbleLink software technology. The BubbleLink
      software provides a hosting platform for telephony transactions and processes.
      The BubbleLink technology supports our existing Commander family of inmate
      products and the MinuteMan pre-paid card system. Management believes the
      addition of Aquifer to our product offerings gives us greater flexibility with
      product design and will help keep our business competitive.





**Government
      Contracts**





Virtually
      all of our SMEI’s and RTI’s revenues are dependent upon continued funding of the
      United States government agencies that we serve. The portion of revenues
      contingent on government funding was primarily SMEI’s and RTI’s which
      represented approximately 77% of our total revenues for the twelve months
      ended December 31, 2006 and 71% for the year ended December 31, 2005.
      The full revenue contribution of RTI occurred in the 4 th quarter
      of 2006 since the acquisition closed late in the 3 rd quarter
      (September 19, 2006). Any significant reductions in the funding of United States
      government agencies or in the funding of specific programs served by or targeted
      by our business could materially and adversely affect our operating results.




4




U.S.
      government contracts are subject to termination for convenience by the
      government, as well as termination, reduction or modification in the event
      of
      budgetary constraints or any change in the government’s requirements. In
      addition, U.S. government contracts are conditioned upon the continuing
      availability of congressional appropriations. Congress usually appropriates
      funds on a fiscal year basis even though contract performance may take several
      years. Consequently, at the outset of a major program, the contract is usually
      incrementally funded and additional funds are normally committed to the contract
      by the procuring agency as Congress makes appropriations for future fiscal
      years. Any failure of such agencies to continue to fund such contracts or
      failure by Congress to make sufficient appropriations to the relevant agencies
      could have a material adverse effect on our operating results.





**Sales
      and Marketing**





We
      employ
      a direct sales team to market our products to IT organizations, systems
      integrators and IP carriers. Our direct sales team primarily focuses on
      independent regional carriers. SMEI markets its Aquifer Application Services
      Platform to mid to large-sized commercial accounts, federal government agencies,
      systems integrators and independent software vendors that are building Windows
      rich Internet applications. Aquifer’s products, training and services are
      focused on the .NET Windows Forms application development market where
      enterprise IT organizations and systems integrators are tasked with building
      and
      managing applications that run on the Internet using the .NET
      Framework.





SMEI
      employs the following tactics to sell the Aquifer Application Services
      Platform:





Direct
      Sales to Enterprise IT Organizations and Systems Integrators - A
      direct sales force performs this activity. This segment includes all new
      federal, systems integrator and commercial accounts. SMEI believes that
      reference-ability is a key post-sale objective.





Targeted
      Marketing - With
      the help of extensive lead generation, public relations and targeting marketing
      communication materials, SMEI hopes to establish itself as a leader in the
      rich
      Internet application development and management market with an emphasis on
      security over both wired and wireless communications. The tactics include
      marketing materials directed at DOD agencies, the financial services and health
      care markets and other markets where strong security is a common requirement.
      Print media, direct mail, trade shows/conferences and live Web casts are the
      main components of lead generation for SMEI.





Strategic
      Alliances - SMEI
      plans to continue to form strategic alliances with federal and commercial
      systems integrators and Web services performance management vendors to sell
      SMEI’s products as value-added resellers and to enhance Aquifer’s capabilities
      by integrating with other vendor’s performance monitoring capabilities. SMEI
      believes that engaging marketing an delivery channels that are not currently
      available to the company will broaden market reach, increase delivery bandwidth
      in some instances, and yield a greater return on sales and marketing
      expenditure.





Important
      partnerships SMEI has developed recently include:





·
            Microsoft.
                SMEI is a Microsoft Certified Partner. Recently, Aquifer’s security model
                and its presence on the Navy Marine Corps Intranet (NMCI) network
                have
                attracted interest from Microsoft Federal and from Microsoft Business
                Development in Redmond. SMEI is currently working with Redmond to
                develop
                a NMCI formal Microsoft/SMEI case study describing the benefits of
                .NET
                and Aquifer.




·
            AmberPoint.
                AmberPoint is a Silicon Valley-based software company that builds
                and
                markets management solutions for Web services. SMEI and AmberPoint
                co-market products to federal governmental agencies. SMEI plans to
                integrate Aquifer and AmberPoint to help developers more easily and
                accurately monitor the .NET applications they
                build.





SMEI’s
      goal is to turn every Aquifer customer into a reference account. SMEI believes
      that first hand testimonials describing the productivity gains with Aquifer
      are
      of great value and can significantly enhance sales and marketing
      efforts





Ricciardi
      Technologies, Inc. (“RTI”)




**About
      Ricciardi Technologies Inc.**




5





RTI
      was
      formed in 1992 with the goal of providing a cost-effective method for customers
      in both the private and public sector to meet their growing needs for dependable
      systems and software solutions. RTI provides turn-key solutions, as well as
      on-site consulting and engineering support. RTI has a diverse group of software
      and hardware engineers who practice proven design, development and
      implementation processes and standards. RTI is organized into four distinct
      divisions to better serve our clients’ focus and needs:





·
            RTI’s
                E-Solutions Divisioncombines its experience in mission critical systems,
                distributed systems, web development, and knowledge environments
                to
                provide our customers with cutting-edge IT solutions for distributed
                e-business and web infrastructure.





·
            RTI’s
                Mobile Solutions Division works closely with the other RTI divisions
                to
                provide support in the areas of wireless communication and portable
                device
                data management. MSD solutions deal with real-time data management
                as well
                as mission critical solutions to government/military and commercial
                customers.





·
            RTI’s
                Professional Services Division provides both on-site and off-site
                consulting and engineering support. PSD has formed long-term and
                on-going
                relationships with companies such as Lockheed Martin, Motorola, Logistics
                Management Institute, BAE Systems, and Hughes Network Systems, to
                support
                their continuing engineering and consulting needs.





·
            RTI’s
                Software Systems Division (SSD) provides hard core and/or real-time
                embedded and mission critical solutions to government, military and
                commercial customers.




RTI
      is
      headquartered in Manassas Virginia, with additional on-site personnel at client
      locations in Virginia, Maryland, and California.




**Research
      and Development**





Our
      research efforts are focused on adapting new technologies to current and
      potential products. Efforts in research cover new techniques in software
      development and component technologies. We are continuously redesigning and
      updating our existing products to integrate the latest technologies. As we
      expand our products in existing markets and make initial steps into new markets,
      increases in research expenditures will become necessary.





**Intellectual
      Property**





In
      June
      1998, we were granted a patent (Patent No. 5,768,355) from the U.S. Patent
      and
      Trademark Office on a three-way call detection system.





On
      December 21, 2004 the United States Patent and Trademark Office issued trademark
      serial number 78326540 for the name “Aquifer.” SMEI has not yet received the
      Certificate of Registration.




No
      assurance can be given as to the scope of any patent protection. We believe
      that
      rapid technological developments in the communications and IT industries may
      limit the protection afforded by its patents. Since our patents precisely define
      the parameters of their technology, that information may allow competitors
      to
      modify the technology in order to circumvent the original patent. Accordingly,
      we believes that our success is dependent on its engineering competence,
      service, and the quality and economic value of products.




**Customer
      Support**




**Lattice
      Incorporated**





Our
      technical support staff provides telephone support to customers using a
      computerized call tracking and problem reporting system. We also provide initial
      installation and training services for our products. We have instituted an
      annual maintenance contract which entitles customers to software updates,
      technical support and technical bulletins.





**SMEI**





The
      SMEI
      team includes in-house experts in GIS supporting technologies such as ESRI’s
      ArcSDE, Oracle Spatial, UNIX and Windows to ensure a stable architecture and
      operating environment for enterprise applications. As current customers of
      this
      service, the Naval Information Technology Center (NITC) receives architectural
      and database support, systems integration analysis, and technical support from
      SMEI.




6





**Competition**





There
      are
      six major competitors in the call control platform field. Of these competitors,
      T-Netis and Evercom both provide call control systems as part of a
      telecommunications service offering. In addition, both these companies sell
      directly to the correctional facilities while we only sell to service providers.
      We compete with these companies primarily by offering service providers
      customized call control features not available on any other platform. Our
      technology is primarily deployed in smaller facilities where large competitors
      do not directly compete. This has created a market to sell to smaller regional
      service provides where the competition does not require major capital
      expenditures or large-scale support. The larger facilities which make up the
      majority of the market share are controlled by the major carriers such as
      Verizon or by larger competitors such as Evercom and T-Netix. Although the
      regional carriers only account for a small percentage of the inmate market,
      the
      competitive landscape is more favorable to us. Key equipment providers that
      compete with us in this market are Omni Phone and Radical. Both companies
      manufacture call control systems for this market. Our key competitive advantage
      in this market is the features our technology provides and our 3-way call
      detection. ****





As
      a
      company offering IT services, SMEI’s services market is fragmented and highly
      competitive. SMEI faces competition from companies providing IT outsourcing
      and
      business process outsourcing solutions. SMEI also competes with software vendors
      in the .NET Web Application Services Platform market. Potential competitors
      of
      SMEI’s Aquifer software include:





·
            Kinitos,
                Inc. delivers an enterprise deployment solution that allows IT to
                maintain
                centralized control of existing Windows Forms clients. The Kinitos
                .NET
                platform centralizes control of the monitoring, deployment and updating
                of
                existing Windows Forms client applications throughout the network.
                It
                handles policy based client deployment and rollback, enables real
                time
                monitoring and delivers centralized reporting of client
                applications.





Kinitos
      also has a component that provides client-side “plumbing” for creating Windows
      Forms applications. It handles the communications from client to server,
      provides online/offline services, reliable messaging, logging and dynamic
      updating of client applications.





·
            ObjectWare,
                Inc. markets its IdeaBlades technology as an application development
                platform for the rapid creation of smart client applications. ObjectWare
                leverages Microsoft .NET technology to streamline development, deployment
                and maintenance processes while simplifying the supporting hardware
                and
                software environments.





**Government
      Regulation**





The
      Federal Communications Commission requires that some of our products meet Part
      15 and Part 68 of the Code of Federal Regulations. Part 15 (subpart B) deals
      with the suppression of radio frequency and electro-magnetic radiation to
      specified levels. Part 68 deals with protection of the telephone network. Other
      than Federal Communication Commission requirements, our business is not subject
      to material governmental regulation. Because all of the components used in
      our
      equipment are purchased from other suppliers their components have already
      satisfied FCC requirements. As a result FCC regulation does not impact our
      product.





**EMPLOYEES**





As
      of
      April 17, 2007, we had 59 full time employees and no part time employees. We
      supplement full-time employees with subcontractors and part-time individuals,
      consistent with workload requirements. None of our employees are covered by
      a
      collective bargaining agreement. We consider relations with our employees to
      be
      good.





As
      of
      April 17, 2007, SMEI had 18 full time employees and one part time employee.
      None
      of SMEI’s employees are covered by a collective bargaining agreement. SMEI
      considers relations with its employees to be good.





As
      of
      April 17, 2007, RTI had 31 full time employees. None of RTI’s employees are
      covered by a collective bargaining agreement. RTI considers relations with
      its
      employees to be good.


**ITEM
            2. DESCRIPTION OF PROPERTY.**





We
      lease
      a 3,000 square foot office in an industrial park in Pennsauken, New Jersey.
      This
      space is also used to test our products and for other corporate activities.
      Our
      lease began June 1, 2006 and is for a term of three years at $2,812 per
      month.




SMEI
      leases a facility located at 12100 Sunset Hills Road, Reston, Virginia 20191.
      The facility is comprised of 7,072 square feet of office space. The lease is
      pursuant to a Lease Agreement dated October 1, 2005. The lease commenced October
      1, 2005 and ends September 30, 2007. SMEI currently pays $16,501 per month
      under
      the lease. The lease is for two years with one two-year renewal at the then
      current market rate with current market escalators.




7




RTI
      leases a facility located at 8306 Rugby Road, Manassas VA. The facility is
      comprised of 3,166 square feet of space. The lease expires March 31, 2007 and
      we
      are in the process of renegotiation a new lease . RTI pays rent of $5,500 a
      month for the RTI facility.




**ITEM
      3. LEGAL PROCEEDINGS.**




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




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




On
      December 18, 2006, we held a special meeting of our shareholders to consider
      approval of our restated of incorporation. The
      votes
      were as follows:


For
              
              Against
              
              Abstain12,162,271
              
              190,701
              
              1,170




**PART
      II**




**ITEM
      5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.**




**MARKET
      INFORMATION**





Our
      common stock is currently quoted on the OTC Bulletin Board under the symbol
      “LTTC.” For the periods indicated, the following table sets forth the high and
      low sales prices per share of common stock. These prices represent inter-dealer
      quotations without retail markup, markdown, or commission and may not
      necessarily represent actual transactions. The prices below have been adjusted
      to reflect the one-for-ten reverse split.




Calendar
                  Quarter
            
            High
            
            Low
            
            High
            
            LowFirst
                Quarter
            
            $
            .90
            
            $
            .50
            
            $
            1.60
            
            $
            .50Second
                Quarter
            
            $
            .80
            
            $
            .60
            
            $
            1.50
            
            $
            .80Third
                Quarter
            
            $
            .70
            
            $
            .50
            
            $
            0.70
            
            $
            .50Fourth
                Quarter
            
            $
            .60
            
            $
            .40
            
            $
            .90
            
            $
            .50




The
      market price of our common stock, like that of other technology companies,
      is
      highly volatile and is subject to fluctuations in response to variations in
      operating results, announcements of technological innovations or new products,
      or other events or factors. Our stock price may also be affected by broader
      market trends unrelated to our performance.




**HOLDERS**




As
      of
      April 17, 2007, we had 16,629,848 outstanding shares of common stock held by
      approximately 309 stockholders of record. The transfer agent of our common
      stock
      is Continental Stock Transfer and Trust Company.




**DIVIDENDS**




We
      have
      not declared any dividends to date. We have no present intention of paying
      any
      cash dividends on our common stock in the foreseeable future, as we intend
      to
      use earnings, if any, to generate growth. The payment of dividends, if any,
      in
      the future, rests within the discretion of our Board of Directors and will
      depend, among other things, upon our earnings, capital requirements and our
      financial condition, as well as other relevant factors. There are no
      restrictions in our Certificate of Incorporation or By-laws that restrict us
      from declaring dividends.




8





**Equity
      Compensation Plan Information**





The
      following table sets forth the information indicated with respect to our
      compensation plans under which our common stock is authorized for issuance
      as of
      the year ended December 31, 2006.




**Plan
                category**
            
            **Number
                of securities**
              **to
                be issued upon**
              **exercise
                of**
              **outstanding
                options,**
              **warrants
                and rights**
            
            **Weighted
                average**
              **exercise
                price of**
              **outstanding
                options,**
              **warrants
                and rights**
            
            **Number
                of securities**
              **remaining
                available for future issuance under equity compensation plans (excluding
                securities reflected in column (a)****(a)**
            
            **(b)**
            
            **(c)****Equity
                compensation plans approved by security holders**
            
            
            1,371,000
            
            $
            1.00
            
            
            467,000**Equity
                compensation plans not approved by security
                holders**
            
            
            -0-
            
            
            -0-
            
            
            -0-**Total**
            
            
            1,371,000
            
            $
            1.00
            
            
            467,000




**RECENT
      SALES OF UNREGISTERED SECURITIES**




During
      the fiscal year ended December 31, 2006, we issued the below securities without
      registration under the Securities Act of 1933, as amended (the "Securities
      Act").


On
        July
        21, 2006, we entered into a Forbearance Agreement with Laurus Master Fund,
        Ltd.
        ("Laurus"). Pursuant to the Agreement, Laurus waived certain Events of Default
        under the Secured Term Note dated February 11, 2005 (the "Term Note") and
        the
        related documents executed in connection with the Term Note and forebear
        from
        enforcing its remedies as a result of the occurrence of the events of default.
        We agreed to repay $500,000 and issue 100,000 shares of its common stock
        to
        Laurus upon execution of the Forbearance Agreement, which shares have been
        issued.





On
      September 19, 2006, we entered into a securities purchase agreement (the
“purchase agreement”) with Barron Partners LP (“Barron”) pursuant to which
      Barron purchased, for $4,500,000, (a) a note in the principal amount of
      $4,500,000 (the “Note”), and (b) common stock purchase warrants (“warrants”) to
      purchase up to 12,500,000 shares of the Company’s common stock at $0.50 per
      share and 12,500,000 shares of the Company’s common stock at $1.25 per share.
      Upon the filing of our restated certificate of incorporation on February 2,
      2007, with the State of Delaware, principal and interest due on the Note
      automatically converted into 7,826,087 shares of the our series A preferred
      stock.





Pursuant
      to a Stock purchase agreement (the “RTI Agreement”) dated as of September 12,
      2006, between the Company, RTI and all of stockholders of RTI, we purchased
      all
      of the issued outstanding shares of the Common Stock of RTI. The RTI Agreement
      was executed and the closing was held on September 19, 2006 contemporaneously
      with the Barron private placement. Pursuant to the RTI Agreement, the
      consideration for stock of RTI consisted of (a) $3,500,000, which was paid
      from
      the proceeds of the sale of the Note and warrants to Barron, (b) 5,000,000
      shares of our common stock, (c) a $500,000 promissory note (the “RTI Note”), and
      (b) 1,000,000 shares of the Company’s Series B Convertible Preferred Stock Each
      share of Series B Preferred Stock will automatically convert into common stock
      on September 18, 2007, at the conversion rate of five sixths of a share of
      common stock , subject to adjustment in the event of stock dividends, splits
      and
      other distributions, combinations of shares or reverse splits or other
      recapitalizations.





The
      Company entered into a Omnibus Amendment and Waiver Agreement with Laurus,
      dated
      September 18, 2006 (the “Laurus Agreement”. Pursuant to Laurus Agreement, on
      September 19, 2006, in exchange for the cancellation of the term note in the
      principal amount of $ 2,000,000, the Company (a) paid $500,000 in principal
      amount of the Term Note, (b) issued an amendment and restated note in the
      principal amount of $250,000, and (c) issued a warrant to purchase up to
      1,458,333 shares of common stock (subject to adjustment), upon the cashless
      exercise by the holder thereof for an imputed exercise price of $0.10 per share.





Pursuant
      to a letter agreement between the Company and the Keshet Fund LP and Keshet
      L.P.
      (collectively the “Keshet”), the Company issued 300,000 shares of common stock
      in consideration for the cancellation of all payment obligations arising under
      the convertible notes issued to Keshet by the Company. Additionally, Keshet
      will, at the Company’s expense, terminate all of its agreements with the
      Company, other than in respect of (x) indemnification and expense reimbursement
      provisions of such agreements and such other provisions thereof as expressly
      survive the payment in full of the Obligations and (y) any options and/or
      warrants received by Keshet from the Company.




All
      of
      the above unregistered issuances of securities were made pursuant to the
      exemption from registration requirements provided by Section 4(2) of the
      Securities Act and/or Rule 506 promulgated thereunder. Except as expressly
      set
      forth in this prospectus, the individuals and entities to whom we issued
      securities are unaffiliated with us. For each of the above sales of unregistered
      securities, no advertising or general solicitation was employed in offering
      the
      securities. The offerings and sales were made to a limited number of persons,
      all of whom were accredited investors, business associates of ours or our
      executive officers, and transfer was restricted by us in accordance with the
      requirements of the Securities Act. Each of the above security holders who
      were
      not our executive officers represented that the are accredited and sophisticated
      investors, that they are capable of analyzing the merits and risks of their
      investment, and that they understand the speculative nature of their
      investment.




Between
        April 14, 2006 and May 11, 2006 the Company sold 2,274,951 shares of common
        stock and 1,161,587 warrants to purchase additional shares of common stock
        to
        various accredited investors in a private placement. The Company received
        proceeds of $1,293,906 and exchanged $100,000 of accrued expenses for a total
        of
        $1,393,906. The Company used these proceeds for working capital purposes
        and to
        reduce short term debt.





9




**ITEM
      6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF
      OPERATION.**




**FORWARD-LOOKING
      STATEMENTS**




The
      information in this annual report contains forward-looking statements. All
      statements other than statements of historical fact made in this annual report
      are forward looking. In particular, the statements herein regarding industry
      prospects and future results of operations or financial position are
      forward-looking statements. Forward-looking statements reflect management's
      current expectations and are inherently uncertain. Our actual results may differ
      significantly from management's expectations.




The
      following discussion and analysis should be read in conjunction with the
      consolidated financial statements, included herewith. This discussion should
      not
      be construed to imply that the results discussed herein will necessarily
      continue into the future, or that any conclusion reached herein will necessarily
      be indicative of actual operating results in the future. Such discussion
      represents only the best present assessment of our management.




**GENERAL
      OVERVIEW**




Lattice
      Incorporated (formerly Science Dynamics) was incorporated in the State of
      Delaware in May 1973 and commenced operations in July 1977. We have been
      developing and delivering secure technologically advanced communication
      solutions for over twenty-five years and expanded our product offering to
      include IT solutions with the acquisition of 86% of Systems Management
      Engineering, Inc. ("SMEI") on February 14, 2005 and more recently with the
      acquisition of 100% of the capital stock of Ricciardi Technologies, Inc. (“RTI”)
      on September 19, 2006.




During
      2006 the company has continued to demonstrate improved bottom line performance.
      The positive “Adjusted Operating Income” (Operating income excluding non-cash
      depreciation, amortization and share-based compensation) of $1,326,783 in 2006
      compares to an Adjusted Operating Loss of $837,366 for 2005. The company's
      improved results are a direct reflection of the company's efforts to manage
      our
      costs effectively and continue to build on our existing contracts.




The
      Company's management believes operating income adjusted for non-cash items
      “Adjusted Operating Income”, a non-GAAP financial measure, is an important
      financial metric to monitor operating performance. The Company also believes
      “Adjusted Operating Income” provides meaningful insight to its investors in
      understanding the Company's operating performance.




For
      the
      twelve months ended December 31, 2006 and 2005, the Company's “Adjusted
      Operating Income” reconciles to reported operating income as follows:





For
                  the twelve months ended
                December
                  31,2006
            
            2005Reported
                Operating Income (Loss)
            
            $
            455,886
            
            $
            (1,006,881
            )Add-back:Non-cash
                Depreciation & Amortization expenses
            
            $
            780,285
            
            $
            164,515Share-based
                Compensation
            
            $
            90,612
            
            $
            5,000Adjusted
                Operating Income (Loss)
            
            $
            1,326,783
            
            $
            (837,366
            )






10




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




In
      September 2006, pursuant to a Stock Purchase Agreement, dated as of September
      12, 2006 (the "RTI Agreement"), the Company purchased all of the issued and
      outstanding shares of the common stock of Ricciardi Technologies Inc. ("RTI").
      RTI was founded in 1992 and provides software consulting and development
      services for the command and control of biological sensors and other Department
      of Defense requirements to United States federal governmental agencies either
      directly or though prime contractors of such governmental agencies RTI's
      proprietary products include SensorView, which provides clients with the
      capability to command, control and monitor multiple distributed chemical,
      biological, nuclear, explosive and hazardous material sensors. RTI is
      Headquartered in Manassas, Virginia. The purchase of RTI's common stock was
      completed on September 19, 2006.




Pursuant
      to the RTI Agreement, the consideration for stock of RTI consisted of (a)
      $3,500,000, which was paid from the proceeds of the sale of the Note and
      Warrants to Barron Partners LP (as descussed below) (b) 5,000,000 shares of
      common stock, (c) a $500,000 promissory note (the "RTI Note"), which if not
      paid
      sooner must be paid in full on the earlier of (i) twelve months from the closing
      date of the transaction, which was September 19, 2006 (the "closing
      date")   or (ii) the consummation of a transfer of all or
      substantially all of the assets or equity securities of the Company to a third
      party, and (b) 1,000,000 shares of the Company's Series B Convertible Preferred
      Stock. To secure the indemnification obligations of the former RTI stockholders,
      a portion of the purchase price, consisting of $350,000 and 583,333 shares
      of
      common stock was placed in escrow for a period of 18 months, subject to any
      claims that may arise under the agreement during the 18-month warranty survival
      period.




Each
      share of Series B Preferred Stock will automatically convert into common stock
      on September 18, 2007, at the conversion rate of 8 1/3 shares of commons stock,
      subject to adjustment in the event of stock dividends, splits and other
      distributions, combinations of shares or reverse splits or other
      recapitalizations. The Company may at any time until September 18, 2007, redeem
      the Series B Preferred Stock at a redemption price of $0.50 per
      share.




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




Pursuant
      to the RTI Agreement, the Company is to deliver to the RTI's employees incentive
      stock options to purchase 200,000 shares of common stock at an exercise price
      equal to the greater of: (i) the market price on the closing date and (ii)
      the
      volume-weighted average price per share for the fifteen (15) days prior to
      the
      Closing Date. The grant of the options shall be subject to approval by the
      Company, with approval not to be unreasonably withheld. During the two years
      following the closing, the Company shall grant the RTI employees incentive
      stock
      options to purchase 50,000 shares in each year of the two year period. These
      options shall have an exercise price equal to the greater of: (i) the closing
      market price and (ii) the volume-weighted average price per share for the
      fifteen (15) days prior to the date of each such grant. The options will have
      a
      ten-year term and shall vest equally in each year in first three years and
      such
      vesting shall accelerate if (i) such employee is terminated without cause or
      without good reason or (ii) upon a change of control of the
      Company.




11


Pursuant
      to the RTI Agreement, to secure the Company's payment obligations under the
      RTI
      Note, the Company and each owner of the issued and outstanding shares of RTI's
      capital stock executed a Pledge Agreement. Pursuant to the Pledge Agreement,
      15.24% of the share of RTI's capital stock purchased by the Company is being
      held in escrow until the payment in full by the Company' of the RTI
      Note.




The
      RTI
      transaction was financed through a private placement with Barron Partners LP,
      a
      private investment partnership based in New York. The Company sold Barron a
      convertible subordinated promissory note in the principal amount of $4.5 million
      (the "Note"), a warrant to purchase up to 12.5 million shares of the company's
      common stock at an exercise price of $0.50 per share and a warrant to purchase
      up to 12.5 million shares of the Company's common stock at an exercise price
      of
      $1.25 per share which expire in Sept, 2011. The private placement closed on
      September 19, 2006. As a result of the filing of our amended and restated
      certificate of incorporation with the State of Delaware, on February 2, 2007,
      the principal and interest due on the Barron note automatically converted
      into 7,826,087 shares of series A preferred stock.




Each
      share of Series A Preferred Stock is convertible into 2.5 shares of common
      stock
      subject to adjustment in certain instances, including the issuance by the
      Company of common stock at a price which is less than the conversion price
      applicable to the Series A Preferred Stock (the "Series A Conversion Price"),
      which is initially $.23 per share, subject to adjustment.




The
      Purchase Agreement as well as the certificate of designation for the Series
      A
      Preferred Stock and Warrants provide for an adjustment in the conversion price
      of the note and Series A Preferred Stock and the exercise price of the Warrants
      if the Company's earnings before interest, taxes, depreciation and amortization
      is less than a specified amount per share, on a fully-diluted basis, with a
      maximum reduction of 30% for each year. The target EBITDA per share is $0.19
      for
      2006 and $0.549 for 2007. The amount of reduction per year is the percentage
      shortfall. Thus, a 15% shortfall will result in a 15% reduction in the
      applicable conversion or exercise price then in effect. For purpose of
      determining fully-diluted, all shares of Common Stock issuable upon conversion
      of convertible securities and upon exercise of warrants and options shall be
      deemed to be outstanding, regardless of whether (i) such shares are treated
      as
      outstanding for determining diluted earnings per share under GAAP, (ii) such
      securities are "in the money," or (iii) such shares may be issued as a result
      of
      the 4.9% Limitation. The per share amounts are adjusted in accordance with
      GAAP
      to reflect any stock dividend, split, distribution, reverse split or combination
      of shares or other recapitalization, including the reverse split effected by
      the
      restated certificate of incorporation.




The
      Company entered into a Omnibus Amendment and Waiver Agreement with Laurus Master
      Fund, LTD ("Laurus"), dated September 18, 2006 (the "Laurus Agreement") for
      the
      purpose of amending, restating and waiving certain terms of (i) the Amended
      and
      Restated Secured Convertible Term Note, issued as of February 11, 2005 and
      amended and restated as of July 21, 2006 (as amended and restated, amended,
      modified and supplemented from time to time, the "Term Note") by the Company
      to
      Laurus, (ii) the Securities Purchase Agreement, dated as of February 11, 2005
      (as amended, modified or supplemented from time to time, the "Purchase
      Agreement") by and between the Company and Laurus, (iii) the Common Stock
      Purchase Warrant, issued as of February 11, 2005 by the Company to Laurus (as
      amended and restated, amended, modified and supplemented from time to time,
      the
      "Initial Warrant"), (iv) the Common Stock Purchase Warrant, issued as of
      November 18, 2005 by the Company to Laurus (as amended and restated, amended,
      modified and supplemented from time to time, the "Additional Warrant") and
      (v)
      the Forbearance Agreement, dated as of July 21, 2006 between the Company and
      Laurus (as amended, modified or supplemented from time to time, the "Forbearance
      Agreement"). The Company issued 100,000 common shares and paid $500,000 in
      cash in conjunction with the July 21, 2006 agreement.




Pursuant
      to the Laurus Agreement, on September 19, 2006, Laurus waived each Event of
      Default that may have arisen under Section 4.1 of the Term Note and Section
      3 of
      the Forbearance Agreement solely as a result of the failure by the Company
      to
      make the $32,656 in interest payments due to Laurus on September 1,
      2006.




Pursuant
      to Laurus Agreement, on September 19, 2006, in exchange for the cancellation
      of
      the term note in the principal amount of$2,000,000, the Company (a) paid
      $500,000 in principal amount of the Term Note, (b) issued an amendment and
      restated note in the principal amount of $250,000, and (c) issued a warrant
      to
      purchase up to 1,458,333 shares of common stock (subject to adjustment), upon
      the cashless exercise by the holder thereof for an imputed exercise price of
      $0.10 per share.




Pursuant
      to a letter agreement between the Company and the Keshet Fund LP and Keshet
      L.P.
      (collectively the "Keshet"), the Company agreed to issue 300,000 shares of
      common stock in consideration for the cancellation of all payment obligations
      arising under the convertible notes issued to Keshet by the Company.
      Additionally, the Keshet will, at the Company's expense, terminate all of its
      agreements with the Company, other than in respect of (x) indemnification and
      expense reimbursement provisions of such agreements and such other provisions
      thereof as expressly survive the payment in full of the Obligations and (y)
      any
      options and/or warrants received by Keshet from the Company.




Between
        April 14, 2006 and May 11, 2006 the Company sold 2,274,951 shares of common
        stock and 1,161,587 warrants to purchase additional shares of common stock
        to
        various accredited investors in a private placement. The Company received
        proceeds of $1,293,906 and exchanged $100,000 of accrued expenses for a total
        of
        $1,393,906. The Company used these proceeds for working capital purposes
        and to
        reduce short term debt.




**RESULTS
      OF OPERATIONS - YEAR ENDED DECEMBER 31, 2006 COMPARED TO THE YEAR ENDED** **DECEMBER
      21, 2005**




The
      following tables set forth income and certain expense items as a percentage
      of
      total revenue:




12




For
                  the Years Ending December 31,2006
              
              2005Sales
              
              $
              7,494,888
              
              $
              4,235,269Net
                  Loss
              
              $
              (16,271,618
              )
              $
              (863,103
              )Net
                  Loss Per Share
              
              $
              (1.37
              )
              $
              (.10
              )




OPERATING
                  EXPENSES
              
              PERCENT
                  OF SALES2006
              
              2005
              
              2006
              
              2005Research
                  & Development
              
              
              435,768
              
              
              431,021
              
              
              5.8
              %
              
              10.2
              %Selling,
                  General & Administrative
              
              
              3,248,013
              
              
              2,537,365
              
              
              43.3
              %
              
              59.9
              %Total
                  Operating Costs and Expenses
              
              $
              3,683,781
              
              $
              2,968,386
              
              
              49.1
              %
              
              70.1
              %




Overall
      Sales for the fiscal year ended December 31, 2006 increased to $7,494,888 from
      $4,235,269 compared to the prior year ended December 31, 2005, representing
      an
      increase of $3,259,619, or 76.9%. The sales increase attributable to the RTI
      acquisition from the date acquired September 19, 2006 to December 31, 2006
      was
      $1,683,352 or 39.7%. Excluding RTI sales, sales increased to $5,811,536 or
      37.2%
      compared to 2005. Total Sales included revenues from Technology Products of
      $1,692,052 or 22.6% and Technology Services of $5,802,836 or 77.4%. Technology
      Product revenues increased to $1,692,052 from $1,224,042 or 38.2% mainly
      attributable to an increase in customer shipments. Excluding the increase in
      revenues attributable to the RTI acquisition, revenues from Technology Services
      increased to $4,119,484 from $3,011,227 in 2005 or 36.8%, mainly attributable
      to
      growth in contracts with governmental agencies and the expansion of existing
      contracts.




13


Cost
      of
      Sales for the fiscal year ended December 31, 2006 increased to $3,355,221 from
      $2,273,764 for the prior year ended December 31, 2005. Cost of sales included
      in
      the 2006 period related to the RTI operations from the date of acquisition
      (September 19, 2006) was $789,158. Excluding RTI, baseline cost of sales
      increased to$ 2,566,062 from $2,273,764 or 12.9%. Cost of sales as a percentage
      of revenues was 44.8% for the twelve month’s ended 2006 versus 53.7% in 2005.
      The improvement in the cost of sales percentage of revenue was mainly driven
      by
      an improvement in service margins at SMEI resulting from a higher component
      of
      SMEI’s revenue coming from in-house labor as opposed to lower margin
      subcontractor pass-through revenues and a shift towards higher margin fixed
      price contracts versus time and materials based contracts. Total Gross Margin
      as
      a percentage of revenue improved to 55.2% in 2006 from 46.3% in 2005. Gross
      Margin as a percentage of revenue for the technology products segment increased
      to 67.3% from 64.1% in 2005.




Research
      and Development Expenses increased to $435,768 for the fiscal year ended
      December 31, 2006 from $431,021 in the year ended December 31, 2005,
      representing an increase of $4,747, or 1.1%. Engineering staffing levels are
      comparable to 2005 levels. Management believes that continual enhancements
      of
      the Company's products will be required to enable Lattice to maintain its
      competitive position. Lattice will have to focus its principal future product
      development and resources on developing new, innovative, technical products
      and
      updating existing products.




Selling,
      General and Administrative Expenses ("SG&A") consist primarily of expenses
      for management, finance and administrative personnel, legal, accounting,
      consulting fees, sales commissions, non-cash depreciation and amortization
      expenses, marketing, and facilities costs. For the year ended December 31,
      2006,
      SG&A increased to $3,248,013 from $2,537,365 for the comparable year ended
      December 31, 2005, representing an increase of $710,648 or 28%. Non-cash
      amortization expense for 2006 and 2005 related to intangible assets recognized
      in the purchase accounting of SMEI and RTI amounted to $739,454 and $56,690
      respectively. Also included in 2006 were SG&A expense of $404,266
      attributable to RTI operations from the date of purchase ( September 19, 2006)
      to December 31, 2006. Excluding the non-cash amortization expenses and the
      effects of the RTI acquisition, baseline SG&A expenses decreased from
      $2,480,675 in 2005 to $2,104,293 in 2006 or 15.2% The decrease was primarily
      attributable to cost cutting measures primarily at SMEI undertaken in the latter
      part of 2005 combined with synergy savings in administrative expenses by
      combining SMEI’s operations with that of Lattice’s.




Interest
      Expense consists of interest paid and accrued on; outstanding convertible notes,
      amortization of debt discount, notes payable, interest due on loans from
      stockholders. Interest expense increased to $704,178 for the year ended December
      31, 2006 from $509,007 for the prior year ended December 31, 2005. Included
      in
      interest expense for 2006 was $371,753 related to derivative accounting of
      the
      2006 Barron Convertible Note and the 2005 Laurus Convertible Note. The
      derivative interest expense arises from amortizing to the face or redemption
      value (using the effective interest method) the discounted value of the host
      debt instrument. Included in interest expense for 2005 was $154,702 related
      to
      the derivative accounting for certain convertible notes issued to Laurus Master
      Fund, Ltd. in 2005 and 2001. Excluding the effects of the derivative expense,
      interest costs decreased slightly to $332,425 from 354,305 in 2005. The decrease
      in 2006 was primarily due to lower average borrowings compared to 2005. The
      Laurus convertible debt of $2,000,000 issued in February 2005 was repaid with
      $1,000,000 cash, $750,000 in warrants and a $250,000 Promissory Note in
      conjunction with the September 19, 2006 Barron Financing.




Finance
      Expense for the twelve months ended December 31, 2006 was $2,054,520, compared
      to $26,979 for the twelve months ended December 31, 2005. Finance expense in
      2006 included amortized deferred financing fees incurred with the September
      2006
      Barron financing of $442,477. Also, included in 2006 financing expense were
      the
      values of warrants issued totaling $1,594,184.issued in conjunction with the
      June 2006 Private Placement financing ($720,184) and the Feb 8, 2007
      modification to the Barron financing agreement ($874,000).


The
        Company’s auditors have expressed a going concern opinion in their audit reports
        for 2006 and 2005. Management acknowledges the basis for the going concern
        opinion, given the Company’s historical net losses and working capital deficits.
        However, it should be noted that the Company has made significant improvements
        in its operating performance in 2006. The Company has increased its sales
        by
        approximately 76.9% compared to 2005, through organic growth and acquisitions,
        posted positive operating income of $455,886 versus an operating loss of
        $1,006,881 in 2005 and was able to increase the availability of its revolving
        credit facility financing from $1M to $2M with the refinancing of the PFC
        facility with GBBF. Additionally, upon the effectiveness of its restated
        certificate of incorporation on February 2, 2007, the Company was able to
        convert its $4.5M note with Barron to Series A Preferred Stock. Given these
        events collectively and the anticipation that the positive trends will continue,
        management expects the going concern opinion to be removed from future
        filings.




14


**LIQUIDITY
      AND CAPITAL RESOURCES**




Cash
      and
      cash equivalents increased to $392,275 at December 31, 2006 from $53,997 at
      December 31, 2005. Net cash used for operating activities was $212,135 for
      the
      twelve months ended December 31, 2006 compared to net cash provided by operating
      activities of $165,844 in the corresponding twelve months ended December 31,
      2005. The $212,135 cash used for operating activities consisted of; a net loss
      of $16,271,618 favorably offset by; non-cash expense items totaling $15,154,211,
      finance expense of $2,054,520, minority interest expense of $57,245 and a
      decrease in inventory of $23,150 and an increase in deferred revenue of
      $62,495,offset by; an increase in our accounts receivable of $818,847 a decrease
      in accounts payable and accrued expenses of $405,467, a decrease in customer
      deposits of $135,199 and an increase of $69,472 in other assets.. The increase
      in receivables of $818,847 was mainly due to a higher level sales in the
      4 th quarter
      2006 versus a year ago and to a lesser extent some processing delays in
      collecting government receivables as a result of switching our credit facility
      from PFC to CAPCO in November 2006. The processing delays have been addressed
      and we expect the government collections to return to normal levels.




Net
      cash
      used in investment activities was $3,548,703 for the twelve months ended
      December 31, 2006 compared to $1,662,018 in the corresponding period ended
      December 31, 2005. The investment consisted mainly of the net cash component
      of
      the RTI purchase price combined with direct acquisition costs totaling
      $3,508,866. Purchase of Property, Plant and equipment totaled $39,837. With
      revenues mostly focused on services, there is not a significant requirement
      for
      capital expenditures. The capital requirement is limited to mostly personal
      computers, in-house servers and network infrastructure




Net
      cash
      provided by financing activities was $4,099,116 for the twelve months ended
      December 31, 2006 compared to $1,357,490 in the corresponding twelve months
      ended December 31, 2005. The $4,099,116 consisted of; (i) $4,450,000 of cash
      proceeds from the Barron financing on September 19, 2006, (ii) $1,293,906 net
      proceeds from the private placement in May of 2006 (iii) net borrowings of
      $137,898 on revolving Accounts Receivable credit facilities (iv) proceeds of
      $250,000 from a note with a Director offset by (iv) the repayment of $1,000,000
      on the Laurus convertible note, (v) financing fees paid in connection with
      the
      Barron Financing and revolving credit facility of $553,059, (vi) and repayments
      of $479,629 of officer loans and short term notes .The net proceeds from the
      Barron financing of $4,450,000 was used to pay; (i) $404,851 in transaction
      and
      financing fees, (ii) $541,563 to repay a portion of the Laurus debenture plus
      accrued interest and (iii) $3,500,000 cash to the former owners of Ricciardi
      Technologies', Inc. ("RTI"). The Company retained $3,586 from this
      transaction.




15


Between
      April 14, 2006 and May 11, 2006 the Company sold 2,274,951 shares of common
      stock and 1,161,587 warrants to purchase additional shares of common stock
      to
      various accredited investors in a private placement The Company received
      proceeds of $1,293,906 and exchanged $100,000 of accrued expenses for a
      total of $1,393,906. The Company used these proceeds for working capital
      purposes and to reduce short term debt.




On
      November 10, 2006, the Company secured a Line of Credit facility with Greater
      Bay Business Funding ("GBBF") for $2,000,000. The line is primarily secured
      by
      the Company's accounts receivables. The Advance Rate is 85%. Interest on the
      line will be charged at the rate of prime plus 6%. Upon securing the line with
      GBBF, the Company closed the line of credit and repaid in full the outstanding
      balance with Presidential Financial Group. The outstanding balance with GBBF
      was
      $590,749 as of December 31, 2006.




Liquidity
      is our ability to generate sufficient cash flows from operating activities
      to
      meet our obligations and commitments. In addition, liquidity includes the
      ability to obtain appropriate financing. Currently, our financing requirements
      are primarily driven by working capital requirements and debt repayments. At
      December 31, 2006, we had $392,275 in cash and cash equivalents. Current
      liabilities at December 31, 2006 excluding non-cash derivative liabilities
      of
      $19,873,782 totaled $4,705,211 which compared to current assets of $3,567,395.
      Included in the $4,705,211 is $874,000 of accrued expenses recorded in
      connection with the issuance of February 8, 2007 1.9 million warrants issued
      to
      Barrons for the amendments to the September 19, 2006 security purchase
      agreement. Going forward, management anticipates that its expected cashflows
      from operations and the availability on its Credit Facility together will
      provide the necessary liquidity to support operations and any payments coming
      due in the next twelve months.




The
      Company’s auditors have expressed a going concern
      opinion in their audit reports for 2006 and 2005. Management acknowledges the
      basis for the going concern opinion, given the Company’s historical net losses
      and working capital deficits. However, it should be noted that the Company
      has
      made significant improvements in its operating performance in 2006. The Company
      has increased its sales by approximately 76.9% compared to 2005, through organic
      growth and acquisitions, posted positive operating income of $455,886 versus
      an
      operating loss of $1,006,881 in 2005 and was able to increase the availability
      of its revolving credit facility financing from $1M to $2M with the refinancing
      of the PFC facility with GBBF. Additionally, upon the effectiveness of its
      restated certificate of incorporation on February 2, 2007, the Company was
      able
      to convert its $4.5M note with Barron to Series A Preferred Stock. Given these
      events collectively and the anticipation that the positive trends will continue,
      management expects the going concern opinion to be removed from future
      filings.




**RISKS
      FACTORS**





YOU
      SHOULD READ THE FOLLOWING DISCUSSION AND ANALYSIS TOGETHER WITH OUR CONSOLIDATED
      FINANCIAL STATEMENTS AND RELATED NOTES INCLUDED ELSEWHERE IN THIS ANNUAL REPORT.
      SOME OF THE INFORMATION CONTAINED IN THIS DISCUSSION AND ANALYSIS OR SET FORTH
      ELSEWHERE IN THIS ANNUAL REPORT, INCLUDING INFORMATION WITH RESPECT TO OUR
      PLANS
      AND STRATEGIES FOR OUR BUSINESS, INCLUDES FORWARD-LOOKING STATEMENTS THAT
      INVOLVE RISKS AND UNCERTAINTIES. YOU SHOULD REVIEW THE "RISK FACTORS" SECTION
      OF
      THIS REPORT FOR A DISCUSSION OF IMPORTANT FACTORS THAT COULD CAUSE ACTUAL
      RESULTS TO DIFFER MATERIALLY FROM THE RESULTS DESCRIBED IN OR IMPLIED BY THE
      FORWARD-LOOKING STATEMENTS CONTAINED IN THIS REPORT. IF ANY OF THE FOLLOWING
      RISKS ACTUALLY OCCUR, OUR BUSINESS, FINANCIAL CONDITION AND RESULTS OF
      OPERATIONS COULD SUFFER.





**Because
      we depend on government contracts for most of our revenues, loss of government
      contracts or a reduction in funding of government contracts could adversely
      affect our revenues and cash flows.**





Revenue
      from contracts with agencies of the United State government accounted for
      approximately $5,802,836, or 77 % of sales, for the twelve months ended December
      31, 2006 and approximately $3,000,000, or 71% of our sales for the year ended
      December 31, 2005. Our government contracts are only funded on an annual
      basis, and the government agencies may require rebidding before a contract
      is
      renewed, with no assurance that we will be awarded an extension of the contract.
      Further, agencies of the United States government may cancel these contracts
      at
      any time without penalty or may change their requirements, programs or contract
      budget or decline to exercise options. Any such action by the government
      agencies could result in a decline in sales and cash flows.





**Because
      we sell our products and services in highly competitive markets, we may not
      be
      able to compete effectively.**





Competition
      for our products and services are highly competitive. In offering our services,
      we compete with a number of companies some of which are considerably larger
      than
      we are, including major defense contractors who offer technology services as
      well as other products to government agencies. In addition, there are numerous
      smaller companies that offer both general and specialized services to both
      government agencies and commercial customers. In marketing our technology
      products, we compete with a number of large companies, including defense
      contractors, and smaller companies. In selecting vendors, the government
      agencies consider such factors as whether the product meets the specifications,
      the price at which the product is sold and the perceived ability of the vendor
      to deliver the product in a timely manner. Competitors may use our financial
      condition and history of losses in competing with us.




**We
      depend on a limited number of suppliers for certain parts, the loss of which
      could result in production delays and additional expenses.**





Although
      most of the parts used in our products are available from a number of different
      suppliers on an off-the-shelf basis, certain parts are available from only
      one
      supplier, specifically, certain circuit boards from Natural Micro Systems.
      Although we believe that our technology is adaptable to other suppliers; it
      would require two to four months of development work that could delay other
      engineering initiatives, and as a result the added costs and delays could hurt
      our business.





**If
      our products and services fail to perform or perform improperly, revenues and
      results of operations could be adversely affected and we could be subject to
      legal action to recover losses incurred by our customers.**




16





Products
      as complex as ours may contain undetected errors or “bugs,” which may result in
      product failures or security breaches or otherwise fail to perform in accordance
      with customer expectations. Any failure of our systems could result in a claim
      for substantial damages against us, regardless of our responsibility for the
      failure. Although we maintain general liability insurance, including coverage
      for errors and omissions, we cannot assure you that our existing coverage will
      continue to be available on reasonable terms or will be sufficient to cover
      one
      or more large claims, or that the insurer will not disclaim coverage as to
      any
      future claim. The occurrence of errors could result in loss of data to us or
      our
      customers which could cause a loss of revenue, failure to achieve acceptance,
      diversion of development resources, injury to our reputation, or damages to
      our
      efforts to build brand awareness, any of which could have a material adverse
      affect on our market share, revenues and, in turn, our operating results.





**Changes
      in technology and our ability to enhance our existing products, including
      research and development, will require technical and financial resources, the
      unavailability of which could hinder sales of our products and result in
      decreased revenues.**





The
      markets for our products, especially the telecommunications industry, change
      rapidly because of technological innovation, changes in customer requirements,
      declining prices, and evolving industry standards, among other factors. To
      be
      competitive, we must both develop or have access to the most current technology
      and incorporate this technology in our products in a manner acceptable to our
      customers. Our failure to offer our customers the most current technology could
      affect their willingness to purchase our products, which would, in turn, impair
      our ability to generate revenue.




**If we
      lose our security clearance our business could be adversely
      affected.**





Certain
      of our contracts with government agencies require us to maintain security
      clearances.  Although our subsidiaries have the clearances necessary to
      perform under our current contracts, the federal  government could at
      any time in its discretion remove these security clearance, which could effect
      our ability to get new contracts.





**If
      we make any acquisitions, they may disrupt or have a negative impact on our
      business.**




We
      have
      recently made acquisitions and we may make additional acquisitions in the
      future. If we make acquisitions, we could have difficulty integrating the
      acquired companies’ personnel and operations with our own. In addition, the key
      personnel of the acquired business may not be willing to work for us. We cannot
      predict the affect expansion may have on our core business. Regardless of
      whether we are successful in making an acquisition, the negotiations could
      disrupt our ongoing business, distract our management and employees and increase
      our expenses. In addition to the risks described above, acquisitions are
      accompanied by a number of inherent risks, including, without limitation, the
      following:




·
            the
                difficulty of integrating acquired products, services or
                operations;




·
            the
                potential disruption of the ongoing businesses and distraction of
                our
                management and the management of acquired
                companies;




·
            the
                difficulty of incorporating acquired rights or products into our
                existing
                business;




·
            difficulties
                in disposing of the excess or idle facilities of an acquired company
                or
                business and expenses in maintaining such
                facilities;




·
            difficulties
                in maintaining uniform standards, controls, procedures and
                policies;




·
            the
                potential impairment of relationships with employees and customers
                as a
                result of any integration of new management
                personnel;




·
            the
                potential inability or failure to achieve additional sales and enhance
                our
                customer base through cross-marketing of the products to new and
                existing
                customers;




·
            the
                effect of any government regulations which relate to the business
                acquired;




·
            potential
                unknown liabilities associated with acquired businesses or product
                lines,
                or the need to spend significant amounts to retool, reposition or
                modify
                the marketing and sales of acquired products or the defense of any
                litigation, whether of not successful, resulting from actions of
                the
                acquired company prior to our
                acquisition.






17




Our
      business could be severely impaired if and to the extent that we are unable
      to
      succeed in addressing any of these risks or other problems encountered in
      connection with these acquisitions, many of which cannot be presently
      identified, these risks and problems could disrupt our ongoing business,
      distract our management and employees, increase our expenses and adversely
      affect our results of operations.




**We
      may not be able to enhance our existing products to address of other
      market**




The
      first
      step on realizing our business development strategy requires us to enhance
      current products so they can meet the needs of other markets. If we are unable
      to do this, we may not be able to increase our sales and further develop our
      business.


Our
        independent auditorshave
        expressed doubtabout
        our ability to continue as a going concern. If we do not continue as a going
        concern, investors could lose their entire investment.


In
        their
        report dated March 9, 2007, our independent auditors have expressed doubt
        about
        our ability to continue as a going concern. Our ability to continue as a
        going
        concern is an issue raised as a result of ongoing operating losses and a
        lack of
        financing commitments in place to meet expected cash requirements. If we
        are
        unable to generate a profit and/or obtain necessary funding from outside
        sources, including obtaining additional funding from the sale of our securities,
        increasing sales or obtaining loans and grants from various financial
        institutions where possible we may have to cease or curtail our operations
        and
        investors could lose their entire investment.




**OFF-BALANCE
      SHEET ARRANGEMENTS**




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




**CRITICAL
      ACCOUNTING POLICIES**





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




**Basis
        of Financial Statement Presentation** - The Company’s auditors have
        expressed a going concern opinion in their audit reports for 2006 and 2005.
        Management acknowledges the basis for the going concern opinion, given the
        Company’s historical net losses and working capital deficits. However, it should
        be noted that the Company has made significant improvements in its operating
        performance in 2006. The Company has increased its sales by approximately
        76.9%
        compared to 2005, through organic growth and acquisitions, posted positive
        operating income of $455,886 versus an operating loss of $1,006,881 in 2005
        and
        was able to increase the availability of its revolving credit facility financing
        from $1M to $2M with the refinancing of the PFC facility with GBBF.
        Additionally, upon the effectiveness of its restated certificate of
        incorporation on February 2, 2007, the Company was able to convert its $4.5M
        note with Barron to Series A Preferred Stock. Given these events collectively
        and the anticipation that the positive trends will continue, management expects
        the going concern opinion to be removed from future filings.


**Principles
      of Consolidation** -
      The
      consolidated financial statements included the accounts of the Company and
      all
      of its subsidiaries in which a controlling interest is maintained. All
      significant inter-company accounts and transactions have been eliminated in
      consolidation. For those consolidated subsidiaries where Company ownership
      is
      less than 100%, the outside stockholders' interests are shown as minority
      interests.





**Derivative
      Financial Instruments** The
      Company generally does not use derivative financial instruments to hedge
      exposures to cash-flow or market risks. However, certain other financial
      instruments, such as warrants and embedded conversion features that are indexed
      to the Company’s common stock, are classified as liabilities when either (a) the
      holder possesses rights to net-cash settlement or (b) physical or net-share
      settlement is not within the control of the Company. In such instances, net-cash
      settlement is assumed for financial accounting and reporting, even when the
      terms of the underlying contracts do not provide for net-cash settlement. Such
      financial instruments are initially recorded at fair value and subsequently
      adjusted to fair value at the close of each reporting period.





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





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




18





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




**Depreciation,
      Amortization and Long-Lived Assets**





Long-lived
      assets include:





Property,
      plant and equipment - These assets are recorded at original cost and increased
      by the cost of any significant improvements after purchase. The Company
      depreciates the cost evenly over the assets' estimated useful lives. For tax
      purposes, accelerated depreciation methods are used as allowed by tax
      laws.





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





Identifiable
      intangible assets - These assets are recorded at original cost. Intangible
      assets with finite lives are amortized evenly over their estimated useful lives.
      Intangible assets with indefinite lives are not amortized.





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




**ITEM
      7. FINANCIAL STATEMENTS.**





All
      financial information required by this Item is attached hereto at the end of
      this report beginning on page F-1 and is hereby incorporated by
      reference.





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




None.




**ITEM
      8A. CONTROLS AND PROCEDURES.**




As
      of the
      end of the period covered by this report, we conducted an evaluation, under
      the
      supervision and with the participation of our chief executive officer and chief
      financial officer of our disclosure controls and procedures (as defined in
      Rule
      13a-15(e) and Rule 15d-15(e) of the Exchange Act). Based upon this evaluation,
      our chief executive officer and chief financial officer concluded that our
      disclosure controls and procedures are effective to ensure that information
      required to be disclosed by us in the reports that we file or submit under
      the
      Exchange Act is: (1) accumulated and communicated to our management, including
      our chief executive officer and chief financial officer, as appropriate to allow
      timely decisions regarding required disclosure; and (2) recorded, processed,
      summarized and reported, within the time periods specified in the Commission's
      rules and forms. There was no change to our internal controls or in other
      factors that could affect these controls during our last fiscal quarter that
      has
      materially affected, or is reasonably likely to materially affect, our internal
      control over financial reporting.




**ITEM
      8B. OTHER INFORMATION.**




None.




**PART
      III**




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




**EXECUTIVE
      OFFICERS, DIRECTORS AND KEY EMPLOYEES**




19




The
      following table sets forth the names and ages of the members of our Board of
      Directors and our executive officers and the positions held by each. There
      are
      no family relationships among any of our Directors and Executive
      Officers.





**Name**
            
            **Age**
            
            **Position**Paul
                Burgess
            
            41
            
            President,
                chief executive officer and directorJoe
                Noto
            
            47
            
            Chief
                financial officer and secretaryEric
                D. Zelsdorf
            
            40
            
            Chief
                technology officerMichael
                Ricciardi
            
            47
            
            Chief
                operating officerJeannemarie
                Devolites Davis
            
            50
            
            DirectorRobert
                E. Galbraith
            
            62
            
            DirectorThomas
                F. Gillett
            
            60
            
            DirectorDonald
                Upson
            
            52
            
            Director




**BACKGROUND
      OF EXECUTIVE OFFICERS AND DIRECTORS**




***Paul
      Burgess, President, Chief Executive Officer and
      Director.*** **** From
      March 1, 2003 until February 14, 2005, Mr. Burgess was our Chief Operating
      Officer. As of February 9, 2005, Mr. Burgess was appointed our President and
      Chief Executive Officer. On February 14, 2005, Mr. Burgess was appointed a
      member of our Board of Directors. From January 2000 to December 2002, Mr.
      Burgess was President and Chief Financial Officer of Plan B Communications.
      Prior to Plan B Communications, Mr. Burgess spent three years with MetroNet
      Communications, where he was responsible for the development of MetroNet’s coast
      to coast intra and inter city networks. Mr. Burgess was also influential in
      developing the operations of MetroNet during the company’s early growth stage.
      Prior to joining MetroNet, Mr. Burgess was with ISM, a company subsequently
      acquired by IBM Global Services, where he was responsible for developing and
      deploying the company’s distributed computing strategy.





***Joe
      Noto, Chief Financial Officer and Secretary.*** Mr. Noto joined
      Lattice in March 2005 as Vice President of Finance and served in that position
      until May 2005 when he accepted the position of Chief Financial Officer. Prior
      to joining the Company, from 2002 to 2005, Mr. Noto was VP/Controller heading
      financial operations at Spectrotel Inc. (formerly Plan B Communications), a
      communications service provider. From 2000 to 2002, Mr. Noto was the Finance
      Director at Pivotech Systems, a communications software start-up Company. Mr.
      Noto holds a B.A. degree from Rutgers College and is a Certified Public
      Accountant of New Jersey and is a member of the American Institute of CPA’s and
      the New Jersey Society of CPA’s.




***Eric
      D. Zelsdorf, Chief Technology Officer*** .
      Mr.
      Zelsdorf founded SMEI in 1997 and since then he has been the Chief Technology
      Officer, President and a Director of SMEI. Mr. Zelsdorf has led SMEI since
      its
      inception and currently advises clients as well as industry standards groups
      on
      the implementation of secure Web services and enterprise architecture and
      integration. From 1992 to 1997, Mr. Zelsdorf was Vice President and Chief
      Technology Officer for ECG, Inc.




**Michael
      Ricciardi, Chief Operating Officer.** Mr.
      Ricciardi has been our Chief Operation Officer since September 2006. **** Mr.
      Ricciardi founded RTI and served as its president and chief executive officer
      and led the company’s technical team and operations since its inception in 1992.
      He has spent his career in software development and information management
      in
      the field of distributed and embedded systems. Prior to forming RTI, Mr.
      Ricciardi was the founder and principle in MAR-Computer Systems Designers,
      which
      specialized in system integration services. He also had prior experience with
      United Technologies Defense Systems, Sperry Marine Systems, Loral Advanced
      Projects and CACI Distributing Systems. Ricciardi is a graduate of the S.U.N.Y
      at Buffalo with a double major in applied mathematic and computer science.
      He
      also earned his master’s degree in computer science from the New York Institute
      of Technology.





***Robert
      E. Galbraith, Director.*** Mr.
      Galbraith is currently a consultant to firms seeking innovative technical
      solutions in the security marketplace. Areas in which Mr. Galbraith has
      consulted include: data encryption, internet telephony (VoIP), intelligent
      data
      recording, secure local and wide area network solutions, physical security
      and
      biometric security. Prior to consulting, Mr. Galbraith was President, owner
      and
      technical administrator of Secure Engineering Services, Inc. (“SESI”) from its
      inception in 1979 until the firm was sold in 1996. During this period, SESI
      provided services and equipment to the U.S. Forces and NATO component Forces
      in
      Europe. Clients included the U.S. Army, Navy and Air Force, the SHAPE Technical
      Center, Euro Fighter Program, Sandia Labs, JPL, MITRE and NATO
      programs.





**Jeannemarie
      Devolites Davis, Director.** Ms.
      Davis has been
      a member of our board of directors since January 2007. Ms.
      Davis is
      a
      member of the Virginia State Senate. Ms. Davis served in the Virginia House
      of Delegates for three terms, before being elected to the State Senate. Ms.
      Devolites is also a partner with ICG Government, a technology consulting group.
      Ms. Davis earned a BA in Mathematics from the University of Virginia in 1978.




20





**Thomas
      F. Gillett, Director** .
      Mr.
      Gillett has been a member of our board of directors since January 2007. Mr.
      Gillett has held a number of executive level positions with Qwest
      Communications, including President QCC (Qwest IXC), Senior Vice President
      for
      Corporate Development & Strategy and Vice President Merger Integration. Mr.
      Gillett has also worked at a venture capital firm, Alta Communications and
      held
      a senior position at Cable Television Laboratories. Mr. Gillett holds
      undergraduate and graduate degrees in Management Engineering and Management
      from
      Rensselaer Polytechnic Institute.





**Donald
      Upson, Director.** Mr.
      Upson
      has been a member of our board of directors since January 2007 **.** Mr.
      Upson
      recently retired as the Commonwealth of Virginia’s first Secretary of
      Technology. Mr. Upson has more than two decades of government, corporate, and
      high technology experience. Mr. Upson is a graduate of California State
      University Chico.




**BOARD
      COMPOSITION**




At
      each
      annual meeting of stockholders, all of our directors are elected to serve from
      the time of election and qualification until the next annual meeting of
      stockholders following election. The exact number of directors is to be
      determined from time to time by resolution of the board of directors.




**COMMITTEES**




We
      have
      an audit committee. The members of our audit committee are Donald Upson,
      Jeannemarie Devolites, Thomas F. Gillett and Robert E. Galbraith, all of whom
      are independent. We do not have an audit committee financial expert, as that
      term is defined in Item 401 of Regulation S-B, but expect to designate one
      in
      the near future. We have not yet adopted an audit committee charter but expect
      to do so in the near future.




We
      have a
      compensation committee. The members of the compensation committee are Paul
      Burgess, Jeannemarie Devolites Davis, Robert Galbraith, Thomas Gillett, and
      Donald Upson.




We
      do not
      have a nominating committee because of our limited resources. The full board
      will take part in the consideration of director nominees.




**CODE
      OF ETHICS**




We
      have
      adopted a Code of Ethics and Business Conduct for Officers, Directors and
      Employees that applies to all of our officers, directors and employees. The
      Code
      of Ethics is filed as Exhibit 14.1 to our annual report on Form 10-KSB for
      the
      fiscal year ended December 31, 2003, which was filed with the Securities and
      Exchange Commission on April 9, 2004. Upon request, we will provide to any
      person without charge a copy of our Code of Ethics. Any such request should
      be
      made to Attn: Paul Burgess, Lattice Incorporated, 7150 N. Park Drive, Suite
      500,
      Pennsauken, N.J. 08109. Our telephone number is (856) 910-1166. The Company
      is
      in the process of building a section of its website at www.scidyn.com where
      the
      Code of Ethics will be available to investors.




SECTION
      16(A) BENEFICIAL OWNERSHIP COMPLIANCE




Section
      16(a) of the Securities Exchange Act of 1934 requires our directors and
      executive officers and persons who beneficially own more than ten percent of
      a
      registered class of our equity securities to file with the SEC initial reports
      of ownership and reports of change in ownership of common stock and other of
      our
      equity securities. Officers, directors and greater than ten percent stockholders
      are required by SEC regulations to furnish us with copies of all Section 16(a)
      forms they file. To our knowledge, the following persons have failed to file,
      on
      a timely basis, the identified reports required by Section 16(a) of the Exchange
      Act during the most recent fiscal year ended December 31, 2006: Michael
      Ricciardi has not yet filed a form three; Marie Ricciardi has not yet filed
      a
      form three.




**ITEM
      10. EXECUTIVE COMPENSATION.**




The
      following table sets forth all compensation earned in respect of our Chief
      Executive Officer and those individuals who received compensation in excess
      of
      $100,000 per year, collectively referred to as the named executive officers,
      for
      our last three completed fiscal years.





The
      following information is furnished for the years ended December 31, 2006 and
      2005 for our principal executive officer and the two most highly compensated
      officers other than our principal executive officer who was serving as such
      at
      the en of our last completed fiscal year:




**SUMMARY
      COMPENSATION TABLE**





The
      following information is furnished for the years ended December 31, 2006 and
      2005 for our principal executive officer and the two most highly compensated
      officers other than our principal executive officer who was serving as such
      at
      the end of our last completed fiscal year:




21






Name
                    and Principal Position
                
                Year
                
                Salary
                  $
                
                
                Bonus
                  $
                    (1)
                
                Stock
                    Awards
                  $
                
                Option
                    Awards
                  $
                    (2)
                
                Non-Equity
                    Incentive Plan Compensation
                  $
                
                Nonqualified
                    Deferred Compensation Earnings
                  $
                
                All
                    Other Compensation
                  $
                
                Total
                  $Paul
                    Burgess
                
                
                2006
                
                $
                112,500
                (3)
                
                $
                52,500
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                $
                165,500President,
                    Chief Executive Officer and Director
                
                
                2005
                
                $
                220,833
                
                
                
                
                
                
                
                
                $
                420,000
                
                
                
                
                
                
                
                
                
                
                $
                640,833Joseph
                    Noto
                
                
                2006
                
                $
                150,000
                
                
                $
                30,000
                
                
                —
                
                
                —
                
                
                
                
                
                
                
                
                
                
                $
                180,000Chief
                    Financial Officer
                
                
                2005
                
                $
                120,967
                
                
                
                
                
                
                —
                
                $
                40,000
                
                
                
                
                
                
                
                
                
                
                $
                160,967Mike
                    Ricciardi (4)
                
                
                2006
                
                $
                41,250
                
                
                
                —
                
                
                
                
                $
                75,000
                
                
                
                
                
                
                
                $
                15,000
                (5)
                $
                131,250Chief
                    Operating Officer
                
                
                2005
                
                
                —
                
                
                
                —Eric
                    Zelsdorf
                
                
                2006
                
                $
                160,000
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                $
                160,000Chief
                    Technology Officer
                
                
                2005
                
                $
                146,667
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                $
                146,667






22





(1)
      Represents performance bonus earned in the year when paid.




(2)
      These
      amounts represent the estimated present value of stock options or warrants
      at
      the date of grant, calculated using the Black-Scholes options pricing
      model.





(3)
      Mr.
      Burgess waived $112,500 of his salary in the first half 2006. His annual base
      salary is $225,000 per his employment agreement.




(4)
      Mr.
      Ricciardi’s salary is for part of the year since his hire date was
      September 19, 2006 coinciding with the acquisition of RTI. Additionally
      Mr. Ricciardi received 125,000 options with a strike price of $0.60 per share
      which vest annually over three years from date of hire.




(5)
Included
      in other compensation is
      $15,000 pursuant to a consulting arrangement with Mr. Ricciardi’s spouse. This
      arrangement expired March 30, 2007.




**OUTSTANDING
      EQUITY AWARDS AT FISCAL YEAR END**




The
      following table sets forth with respect to grants of options to purchase
      ourcommon stock to the name executive officers as of December 31,
      2006


Name
              
              Number
                  of Securities Underlying Unexercised Options
                #
                Exercisable
              
              Number
                  of Securities Underlying Unexercised Options
                #
                Unexercisable
              
              Equity
                  Incentive Plan Awards: Number of Securities Underlying Underexercised
                  Unearned Options
                #
              
              Option
                  Exercise Price
                $
              
              Option
                  Expiration Date
              
              Number
                  of Shares or Units of Stock That Have Not Vested
                #
              
              Market
                  Value of Shares or Units of Stock That have not vested
                $
              
              Equity
                  Incentive Plan Awards: Number of Unearned Shares Units or Other
                  Rights
                  That Have Not Vested #
              
              Equity
                  Incentive Plan Awards Market or Payout Value of Unearned Shares
                  Units or
                  Other Rights That have not Vested
                $Joseph
                  Noto
              
              
              66,667
              
              
              133,333
              (1)
              
              —
              
              $
              1.00
              
              
              July
                  2015Paul
                  Burgess
              
              
              200,000
                200,000
                200,000
              
              
              —
                —
                400,000
              (2)
              
              
              
              $
                $
                $
              0.30
                0.50
                1.00
              
              
              May
                  2014
                Oct
                  2014
                Feb
                  2015Michael
                  Ricciardi
              
              
              —
              
              
              125,000
              (3)
              
              
              
              $
              0.60
              
              
              Sept
                  2016




(1)
            66,667
                vests July 2007 and 66,667 vests July 2008(2)
            200,000
                vests Feb’ 2007 and 200,000 vests Feb’
2008





(3)
            41,667
                vests Sept’ 2007, 41,667 vests Sept’ 2008 and 41,667 vests Sept’
                2009




23




COMPENSATION
      OF
      DIRECTORS




Effective
      after December 31, 2006 Directors are compensated $1,000 per in-person
      Director’s meeting. All directors are reimbursed for their reasonable
      out-of-pocket expenses incurred in connection with their duties to
      us. No
      director received any compensation for serving as a member of our board of
      directors.




**EMPLOYMENT
      AGREEMENTS**





On
      February 4, 2005, we entered into an employment agreement with SMEI and Eric
      D.
      Zelsdorf. Under the agreement, Mr. Zelsdorf will be employed as SMEI’s Chief
      Technology Officer until December 31, 2007. For his services, SMEI agreed to
      pay
      Mr. Zelsdorf a base salary of $160,000 per year. Mr. Zelsdorf also may be paid
      an incentive bonus based on a percentage of his base salary. We agreed to grant
      Mr. Zelsdorf stock options upon completion of the acquisition of SMEI in
      accordance with our employee stock option program. The exercise price of the
      stock options are to be set at the stock price at the close of the acquisition
      of SMEI. The agreement will terminate upon the following events and conditions:




(a)
      upon
      expiration of its terms;




(b)
      for
      cause by SMEI immediately upon written notice;




(c)
      For
      cause by Mr. Zelsdorf immediately upon written notice;




(d)
      without cause by either party upon written notice;




or
      (e) in
      the event Mr. Zelsdorf is unable to perform services required under the
      agreement by reason of incapacity or disablement for more than six months.




Cause
      by
      SMEI is defined in the agreement as: a material breach by Mr. Zelsdorf, a felony
      conviction or any willful act or omission of dishonesty which causes harm to
      SMEI. Resignation of Mr. Zelsdorf with cause is defined to include, but not
      limited to: a reduction in position and/or responsibilities, a material change
      in Mr. Zelsdorf’s reporting structure, or relocation beyond 30 miles of SMEI’s
      principal office. If the agreement is terminated by SMEI without cause or if
      Mr.
      Zelsdorf resigns with cause, Mr. Zelsdorf will be entitled to all compensation
      and benefits otherwise remaining unpaid under the remaining term of the
      agreement and all stock options which have been granted under the agreement
      will
      become immediately vested and exercisable. In the event Mr. Zelsdorf is
      terminated for cause or resigns voluntarily, no compensation will be due to
      him
      other than what was earned through the date of termination.




On
      February 14, 2005, upon effectiveness of the acquisition of SMEI, we entered
      into an Executive Employment Agreement Amendment with Paul Burgess. Under the
      Executive Employment Agreement Amendment, Mr. Burgess is employed as our Chief
      Executive Officer for an initial term of three years. Thereafter, the Executive
      Employment Agreement Amendment may be renewed upon the mutual agreement of
      the
      parties. Mr. Burgess will be paid a base salary of $225,000 per year under
      the
      Executive Employment Agreement Amendment. We previously agreed to grant Mr.
      Burgess 200,000 shares of restricted stock. This grant was replaced by the
      grant
      of fully vested options to purchase 200,000 shares of common stock at an
      exercise price of $0.30 per share. We also agreed to grant Mr. Burgess fully
      vested options to purchase an additional 200,000 shares of common stock at
      an
      exercise price of $0.50 per share as a bonus for services rendered during 2004.
      Further, upon the effective date of the Executive Employment Agreement
      Amendment, we agreed to grant Mr. Burgess options to purchase 600,000 shares
      of
      common stock at an exercise price of $1.00 per share, which will vest one-third
      each year over a three-year period beginning February 14, 2005. In addition,
      we
      agreed to pay Mr. Burgess an incentive bonus based on 1% of the revenue of
      the
      most recent 12-month period of any acquisitions closed by us during the term
      of
      the Executive Employment Agreement Amendment. The Executive Employment Agreement
      Amendment may be terminated by Mr. Burgess at his discretion by providing at
      least 30 days prior written notice to us. In the event our business is acquired,
      or we are the non-surviving party in a merger, or we sell all or substantially
      all of our assets, the surviving company is bound to the provisions of the
      Executive Employment Agreement Amendment. In September 2006, Mr. Burgess’
employment agreement was amended to provide that he will receive an incentive
      bonus based on five percent of our before tax net income of the most recent
      twelve month period of any acquisitions closed by us during the term of the
      agreement, so long as such before tax net income also resulted in an increase
      in
      earnings per share. The incentive salary payment shall be made within thirty
      day
      of the close of any such transactions. The amendment also added a provision
      that
      provides that following the termination of the agreement and for one year
      thereafter Mr. Burgess will not engage in the information and communication
      technology business in the United States where we then have officers and/or
      sell
      our products.





On
      March
      7, 2005, we signed a three year employment agreement with Joe Noto to be our
      Vice President of Finance and Administration, at an initial annual base salary
      of $130,000. The term of the agreement is for three years commencing February
      1,
      2005. Thereafter, the agreement may be renewed upon mutual agreement of the
      parties. Mr. Noto is entitled to a cash incentive bonus equal to 20% of base
      salary based on meeting predetermined objectives. As part of the agreement
      he
      will receive medical, vacation and profit sharing benefits consistent with
      our
      current policies. The agreement may be terminated by Mr. Noto upon at least
      30
      days prior written notice to us. The agreement may be terminated by us upon
      five
      days notice to Mr. Noto in the event Mr. Noto: (a) is in material breach of
      the
      agreement; (b) habitually neglects his duties; (c) engages in any dishonest
      conduct, damages the our reputation or standing or is convicted of any criminal
      act or engages in any act of moral turpitude. The agreement provides that in
      the
      event Mr. Noto is promoted to the position of Chief Financial Officer, his
      base
      salary will adjust to not less than $150,000 per year. Effective May 12, 2005,
      Mr. Noto assumed the position as our Chief Financial Officer at an annual base
      salary of $150,000. In September 2006, Mr. Noto’s employment agreement was
      amended to add a provision that provides that following the termination of
      the
      agreement and for one year thereafter Mr. Noto will not engage in the
      information and communication technology business in the United States where
      we
      then have officers and/or sell our products.




24




In
      September 2006, we entered into an employment agreement with Michael Ricciardi,
      pursuant to which he is serving as our Chief Operating Officer. Pursuant to
      his
      employment agreement, Mr. Ricciardi is to receive a base salary of $165,000
      per
      year and an annual bonus of not less than 30% of his then current base salary,
      if established revenue and personal goals are achieved. In addition, the Company
      is to granted an incentive stock option to purchase 125,000 shares of the common
      stock at an exercise price of $.60 per share. The term of the agreement is
      three
      (3) year unless sooner terminated pursuant to its terms. Thereafter, the
      Agreement shall automatically renew from year to year unless terminated as
      provided therein.




During
      the year ended 2006 no directors were paid any
      compensation to serve on our Board.




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




**SECURITY
      OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT**




The
      following table provides information about shares of common stock beneficially
      owned as of April 1, 2007 by:




·
            each
                director;





·
            each
                officer named in the summary compensation
                table;





·
            each
                person owning of record or known by us, based on information provided
                to
                us by the persons named below, to own beneficially at least 5% of
                our
                common stock; and





·
            all
                directors and executive officers as a group.




Name
                of Beneficial Owner (1)
            
            Common
                Stock
              Beneficially
                Owned (2)
            
            Percentage
                of
              Common
                Stock Beneficially Owned (2)Paul
                Burgess (3)
            
            
            800,000
            
            
            4.6
            %Eric
                D. Zelsdorf
            
            
            583,560
            
            
            3.5
            %Robert
                Galbraith (4)
            
            
            124,500
            
            
            *Michael
                Ricciardi (5)
            
            
            3,118,703
            
            
            18.8
            %Marie
                Riccirdi (5)
            
            
            3,118,703
            
            
            18.8
            %Burlington
                Assembly of God (6)
              2035
                Columbus Road
              Burlington,
                New Jersey 08016
            
            
            1,000,000
            
            
            5.9
            %Joe
                Noto (3)
            
            
            66,667
            
            
            *Dragonfly
                Capital Partners, LLC (7)
              420
                Lexington Avenue Suite 2620
              New
                York, New York 10170
            
            
            978,200
            
            
            5.5
            %Jeannemarie
                Devolites Davis
            
            
            -
            
            
            *Thomas
                F. Gillett
            
            
            -
            
            
            *Donald
                Upson
            
            
            -
            
            
            *Alan
                Bashforth (8)
            
            
            1,659,836
            
            
            9.5
            %All
                named executive officers and directors as a group (8
                persons)
            
            
            4,693,430
            
            
            26.8
            %




*  Less
      than
      1%





(1)
            Except
                as otherwise indicated, the address of each beneficial owner is c/o
                Lattice Incorporated , 7150 N. Park Drive, Suite 500, Pennsauken,
                NJ
                08109(2)
            Applicable
                percentage ownership is based on 16,629,848 shares of common stock
                outstanding as of April 1, 2007, together with securities exercisable
                or
                convertible into shares of common stock within 60 days of April 1,
                2006 for each stockholder. Beneficial ownership is determined in
                accordance with the rules of the Securities and Exchange Commission
                and
                generally includes voting or investment power with respect to securities.
                Shares of common stock that are currently exercisable or exercisable
                within 60 days of December 30, 2006 are deemed to be beneficially
                owned by
                the person holding such securities for the purpose of computing the
                percentage of ownership of such person, but are not treated as outstanding
                for the purpose of computing the percentage ownership of any other
                person.






25






(3)
            Represents
                shares issuable upon exercise of
                options.





(4)
            Includes
                5,000 shares owned by Mr. Galbraith’s wife, as to which Mr. Galbraith
                disclaims beneficial interest





(5)
            Mr.
                and Mrs. Ricciardi are husband and wife. The number of shares beneficially
                owned by each of them includes (a) 717,974 shares owned by Michael
                Ricciardi, (b) 1,480,823 shares owned by Marie Ricciardi, and (c)
                919,905
                shares owned by them as custodian for their minor child. Mr. and
                Mrs.
                Ricciardi disclaims beneficial interest in the shares owned by the
                other
                and their minor child.




(6)
            Represents
                666,667 shares of common stock and 333,333 shares of common stock
                issuable
                upon exercise of warrants.(7)
            Warrants issued
              to
              Dragonfly as placement fees for the Barron financing. These warrants
              were
              issued in 2 traunches of 489,100 each with a strike price of $0.50
              and $1.25 per share respectively with a five year
              term.




(8)
            Includes:
                (a) 16,500 shares owned by Mr. Bashforth; (b) 152,000 shares owned
                by
                Innovative Communications Technology, Ltd., which is controlled by
                Mr.
                Bashforth; (c) 436,336 shares owned by Calabash Holdings Ltd., which
                is
                controlled by Mr. Bashforth; and (d) 200,000 shares issuable upon
                exercise
                of options held by Calabash Holdings Ltd exercisable at 0.50 per
                share
                which expire March 31, 2008; and (e) 600,000 warrants exercisable
                at $1.00
                per share which expire 2012 and (f) 170,000 shares and 850,000 warrants
                issued in connection with the private placement of common stock between
                April 14thand May 11, 2006. The warrants are five year warrants and have a
                strike
                price of $1.20 per share.





Barron
      Partners owns notes and warrants which, if fully converted and exercised, would
      result in the ownership of more than 5% of our outstanding common stock.
      However, the note and warrant, by their terms, may not be converted or exercised
      if such conversion or exercise would result in Barron Partners or its affiliates
      owning more than 4.9% of our outstanding common stock. This limitation may
      not
      be waived.




No
      Director, executive officer, affiliate or any owner of record or beneficial
      owner of more than 5% of any class of our voting securities is a party adverse
      to our business or has a material interest adverse to us.




**ITEM
      12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE**




On
      February 4, 2005, we entered into a consulting agreement with SMEI and Herbert
      B. Quinn, Jr., who was a director which is effective as of the date we completed
      the acquisition of SMEI. Under the agreement, Mr. Quinn will perform strategic
      analytical and advisory services as reasonably requested by SMEI’s Chief
      Executive Officer. For his services, SMEI agreed to pay Mr. Quinn $150,000
      per
      year. Mr. Quinn also is eligible to receive options under our stock option
      plan
      or any similar plan that is in effect. The term of the agreement is for one
      year
      and will automatically renew for one additional year unless either party gives
      at least 30 days prior written notice of their intent not to extend the
      agreement. The agreement does not contain any termination
      provisions.





In
      connection with our purchase of all of the issued and outstanding stock of
      RTI:





·
            we
                paid Michael Ricciardi, our chief operating officer, $ 512,064 and
                issued
                to him 717,975 shares of common stock; 162,560 shares of series B
                preferred stock, which shall on September 18, 2007 automatically
                convert
                into approximately 135,466 shares of common stock; and an option
                to
                purchase 125,000 shares of our common stock at a purchase price of
                $0.65
                per share.




·
            we
                paid Marie Ricciardi, Mr. Ricciardi’s spouse, $1,056,135 and issued her we
                issued her 1,480,823 shares of our common stock and 335,281 shares
                of our
                Series B preferred stock, which shall on September 18, 2007 automatically
                convert into approximately 279,400 shares of our common stock.




·
            we
                paid $656,082 to Michele Ricciardi and issued Marie and Michael Richardi
                Custodian for their minor child under the Uniform Gifts to Minors
                Act
                208,280 shares of our Series B preferred stock which shall on September
                18, 2007 automatically convert into approximately 173,566 shares
                of our
                common stock






26




Director
      Independence




Of
      the
      members of the Company’s board of directors, Jeannemarie Devolites Davis, Thomas
      F. Gillett and Donald Upson are considered to be independent under the listing
      standards of the Rules of Nasdaq setforth in the Nasdaq Manual independent
      as that term is set forth in the listing standards of the National Association
      of Securities Dealers.




**ITEM
      13. EXHIBITS.**


ExhibitNumber
              
              Description2.12.2
              
              Stock
                  Purchase Agreement dated December 16, 2004 among Science Dynamics
                  Corporation, Systems Management Engineering, Inc. and the shareholders
                  of
                  Systems Management Engineering, Inc. identified on the signature
                  page
                  thereto (Incorporated by reference to Form 8-K, filed with the
                  Securities
                  and Exchange Commission on December 22, 2004)2.3
              
              Amendment
                  No. 1 to Stock Purchase Agreement dated February 2, 2005 among
                  Science
                  Dynamics Corporation, Systems Management Engineering, Inc. and
                  the
                  shareholders of Systems Management Engineering, Inc. identified
                  on the
                  signature page thereto (Incorporated by reference to Form 8-K,
                  filed with
                  the Securities and Exchange Commission on February 11,
                  2005)2.4
              
              Stock
                  purchase agreement by Ricciardi Technologies, Inc., its Owners,
                  including
                  Michael Ricciardi as the Owner Representative and Science Dynamics
                  Corporation, dated as of September 12,
                  2006.**






27







3.1
            
            Certificate
                of Incorporation (Incorporated by reference to the Company's
                registrationstatement on Form S-18 (File No. 33-20687), effective April 21,
                1981)3.2
            
            Amendment
                to Certificate of Incorporation dated October 31, 1980 (Incorporated
                by
                reference to the Company's registration statement on Form S-18 (File
                No.
                33-20687), effective April 21, 1981)3.3
            
            Amendment
                to Certificate of Incorporation dated November 25, 1980 (Incorporated
                by
                reference to the Company's registration statement on Form S-18 (File
                No.
                33-20687), effective April 21, 1981)3.4
            
            Amendment
                to Certificate of Incorporation dated May 23, 1984 (Incorporated
                by
                reference to the Company's registration statement on Form SB-2 (File
                No.
                333-62226) filed with the Securities and Exchange Commission on June
                4,
                2001)3.5
            
            Amendment
                to Certificate of Incorporation dated July 13, 1987 (Incorporated
                by
                reference to the Company's registration statement on Form SB-2 (File
                No.
                333-62226) filed with the Securities and Exchange Commission on June
                4,
                2001)3.6
            
            Amendment
                to Certificate of Incorporation dated November 8, 1996 (Incorporated
                by
                reference to the Company's registration statement on Form SB-2 (File
                No.
                333-62226) filed with the Securities and Exchange Commission on June
                4,
                2001)3.7
            
            Amendment
                to Certificate of Incorporation dated December 15, 1998 (Incorporated
                by
                reference to the Company's registration statement on Form SB-2 (File
                No.
                333-62226) filed with the Securities and Exchange Commission on June
                4,
                2001)3.8
            
            Amendment
                to Certificate of Incorporation dated December 4, 2002 (Incorporated
                by
                reference to the Company's information statement on Schedule 14C
                filed
                with the Securities and Exchange Commission on November 12,
                2002)3.9
            
            By-laws
                (Incorporated by reference to the Company's registration statement
                on Form
                S-18 (File No. 33-20687), effective April 21, 1981)3.10
            
            Restated
                Certificate of Incorporation (Incorporated by reference to the
                Registration Statement On Form SB-2. file with the Securities and
                Exchange
                Commission on February 12, 2007)4.1
            
            Secured
                Convertible Term Note dated February 11, 2005 issued to Laurus Master
                Fund, Ltd. (Incorporated by reference to Form 8-K filed with the
                Securities and Exchange Commission on February 18,
                2005)4.2
            
            Common
                Stock Purchase Warrant dated February 11, 2005 issued to Laurus Master
                Fund, Ltd. (Incorporated by reference to Form 8-K filed with the
                Securities and Exchange Commission on February 18,
                2005)4.3
            
            Second
                Omnibus Amendment to Convertible Notes and Related Subscription Agreements
                of Science Dynamics Corporation issued to Laurus Master Fund, Ltd.
                (Incorporated by reference to Form 8-K, filed with the Securities
                and
                Exchange Commission on March 2, 2005)4.4
            
            Form
                of warrant issued to Barron Partners LP**4.5
            
            Promissory
                Note issued to Barron Partners LP**4.6
            
            Form
                of warrant issued to Dragonfly Capital Partners LLC**4.7
            
            Secured
                Promissory Note issued to Michael Ricciardi**4.8
            
            Amended
                and Restated Common Stock Purchase Warrant issued to Laurus Master
                Fund
                LTD to Purchase up to 3,000,000 share of Common Stock of Lattice
                Incorporated.**4.9
            
            Amended
                and Restated Common Stock Purchase Warrant issued to Laurus Master
                Fund,
                LTD to Purchase up to 6,000,000 shares of Commmon Stock of Lattice
                Incorporated**4.10
            
            Common
                Stock Purchase Warrant issued to Laurus Master Fund, LTD to Purchase
                14,583,333 Shares Of Common Stock of Lattice
                Incorporated.4.11
            
            Second
                Amended and Restated Secured Term Note from Lattice Incorporated
                to Laurus
                Master Fund, LTD.10.1
            
            Executive
                Employment Agreement Amendment made as of February 14, 2005 by and
                between
                Science Dynamics Corporation and Paul Burgess (Incorporated by reference
                to Form 8-K filed with the Securities and Exchange Commission on
                March 2,
                2005)**10.2
            
            Stock
                Purchase Agreement by Ricciardi Technologies, Inc., its Owners, including
                Michael Ricciardi as Owner Representative and Lattice Incorporated,
                dated
                September 12, 2006.**10.3
            
            Omnibus
                Amendment and Waiver between Lattice Incorporated and Laurus Master
                Fund,
                LTD, dated September 18, 2006.**10.3
            
            Agreement
                dated December 30, 2004 between Science Dynamics Corporation and
                Calabash
                Consultancy, Ltd. (Incorporated by reference to Form 8-K, filed with
                the
                Securities and Exchange Commission on February 25,
                2005)10.4
            
            Employment
                Agreement dated January 1, 2005 between Science Dynamics Corporation,
                Systems Management Engineering, Inc. and Eric D. Zelsdorf (Incorporated
                by
                reference to Form 8-K filed with the Securities and Exchange Commission
                on
                February 25, 2005)10.5
            
            Executive
                Employment of dated March 7, 2005 by and between Science Dynamics
                Corporation and Joe Noto (Incorporated by reference to the 10-KSB
                filed on
                April 17, 2006)






28




10.7
              
              Sub-Sublease
                  Agreement made as of June 22, 2001 by and between Software AG and
                  Systems
                  Management Engineering, Inc. (Incorporated by reference to Form
                  8-K filed
                  with the Securities and Exchange Commission on February 18,
                  2005)10.8
              
              Securities
                  Purchase Agreement dated February 11, 2005 by and between Science
                  Dynamics
                  Corporation and Laurus Master Fund, Ltd. (Incorporated by reference
                  to
                  Form 8-K filed with the Securities and Exchange Commission on February
                  18,
                  2005)10.9
              
              Master
                  Security Agreement dated February 11, 2005 among Science Dynamics
                  Corporation, M3 Acquisition Corp., SciDyn Corp. and Laurus Master
                  Fund,
                  Ltd. (Incorporated by reference to Form 8-K filed with the Securities
                  and
                  Exchange Commission on February 18, 2005)10.10
              
              Stock
                  Pledge Agreement dated February 11, 2005 among Laurus Master Fund,
                  Ltd.,
                  Science Dynamics Corporation, M3 Acquisition Corp. and SciDyn Corp.
                  (Incorporated by reference to Form 8-K filed with the Securities
                  and
                  Exchange Commission on February 18, 2005)10.11
              
              Subsidiary
                  Guaranty dated February 11, 2005 executed by M3 Acquisition Corp.
                  and
                  SciDyn Corp. (Incorporated by reference to Form 8-K filed with
                  the
                  Securities and Exchange Commission on February 18,
                  2005)10.12
              
              Registration
                  Rights Agreement dated February 11, 2005 by and between Science
                  Dynamics
                  Corporation and Laurus Master Fund, Ltd. (Incorporated by reference
                  to
                  Form 8-K filed with the Securities and Exchange Commission on February
                  18,
                  2005)10.13
              
              Microsoft
                  Partner Program Agreement (Incorporated by reference to Form 8-K
                  filed
                  with the Securities and Exchange Commission on February 18,
                  2005)10.14
              
              AmberPoint
                  Software Partnership Agreement (Incorporated by reference to Form
                  8-K
                  filed with the Securities and Exchange Commission on February 18,
                  2005)10.15
              
              Securities
                  Agreement between Science Dynamics Corporation and Barron Partners
                  LP,
                  dated September 15, 2006**10.16
              
              Employment
                  Agreement between Science Dynamics Corporation and Michael
                  Ricciardi**.10.17
              
              Amendment
                  to Employment Agreement - Paul Burges**10.18
              
              Amendment
                  to Employment Agreement - Joseph Noto**10.19
              
              Registration
                  Rights Agreement by and among Science Dynamics Corporation and
                  Barron
                  Partners LLP, dated As of September 19, 2006.**10.20
              
              Amendment
                  to Securities Purchase Agreement and Registration Rights Agreement
                  (Incorporated by Reference to the Registration Statement on Form
                  SB-2
                  filed with the SEC on February 12, 2007).14.1
              
              Code
                  of Ethics (Incorporated by reference to the Company's annual report
                  on
                  Form 10-KSB for the fiscal year ended December 31, 2003, filed
                  with the
                  Securities and Exchange Commission on April 9, 2004)21.1
              
              Subsidiaries
                  of the Company31.1
              
              Certification
                  by Chief Executive Officer, required by Rule 13a-14(a) or Rule
                  15d-14(a)
                  of the Exchange Act31.2
              
              Certification
                  by Chief Financial Officer, required by Rule 13a-14(a) or Rule
                  15d-14(a)
                  of the Exchange Act32.1
              
              Certification
                  by Chief Executive Officer, required by Rule 13a-14(b) or Rule
                  15d-14(b)
                  of the Exchange Act and Section 1350 of Chapter 63 of Title 18
                  of the
                  United States Code32.2
              
              Certification
                  by Chief Financial Officer, required by Rule 13a-14(b) or Rule
                  15d-14(b)
                  of the Exchange Act and Section 1350 of Chapter 63 of Title 18
                  of the
                  United States Code99.1
              
              Pledge
                  and Security Agreement made by and between Science Dynamics Corporation
                  in
                  favor of and being delivered to Michael Ricciardi as Owner Representative,
                  dated September 19, 200699.10
              
              Lockup
                  Agreement from Laurus Master Fund, LTD.**99.11
              
              Irrevocable
                  Proxy**99.2
              
              Escrow
                  Agreement by and between Science Dynamics Corporation, Ricciardi
                  Technologies, Inc. and the individuals listed on Schedule 1 thereto,
                  dated
                  September 19, 2006**99.3
              
              Form
                  of Lock Up Agreement, executed pursuant to the Securities Purchase
                  Agreement between Science Dynamics Corporation and Barron Barron
                  Partners,
                  dated September 15, 2006.







** Incorporated by reference to the 8-K filed by the Company with the SEC on
      September 25, 2006




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




**Audit
      Fees**




The
      aggregate fees billed by our principal accountant for the audit of our annual
      financial statements, review of financial statements included in the quarterly
      reports and other fees that are normally provided by the accountant in
      connection with statutory and regulatory filings or engagements for the fiscal
      years ended December 31, 2006 and 2005 were $101,357 and $93,400 ,
      respectively.




**Tax
      Fees**




The
      aggregate fees billed for professional services rendered by our principal
      accountant for tax compliance, tax advice and tax planning for the fiscal years
      ended December 31, 2006 and 2005 were$2,450 and $1,575, respectively. These
      fees
      related to the preparation of federal income and state franchise tax
      returns.




**All
      Other Fees**




29


There
      were no other fees billed for products or services provided by our principal
      accountant for the fiscal years ended December 31, 2006 and 2005.




**Audit
      Committee Pre-Approval Policies and Procedures**




Until
      February 2007, our Board of Directors acted as our audit committee, and as
      a
      result for the year ended December 31, 2006 consulted with respect to audit
      policy, choice of auditors, and approval of out of the ordinary financial
      transactions.




30


**SIGNATURES**




In
      accordance with Section 13 or 15(d) of the Exchange Act, the registrant caused
      this report to be signed on its behalf by the undersigned, thereunto duly
      authorized.




**LATTICE INCORPORATED**




Date: April 16, 2007
            By:
            /s/ Paul BurgessPaul
              BurgessPresident,
                Chief Executive Officer
              and
                Director


Date: April 16, 2007
              By:
              /s/ Joe NotoJoe
                NotoChief
                  Financial Officer and Principal
                Accounting
                  Officer
 In
        accordance with the Exchange Act, this report has been signed below by the
        following persons on behalf of the registrant and in the capacities and on
        the
        dates indicated.




Signature
            
            Title
            
            Date/s/
              Paul BurgessPaul
                Burgess
            
            President,
                Chief Executive Officer and Director
            
            April
                16, 2007/s/
              Joe NotoJoseph
                Noto
            
            Chief
                Financial Officer and Secretary
            
            April
                16, 2007/s/
                Robert GalbraithRobert
                Galbraith
            
            Director
            
            April
                16, 2007Jeannemarie
                Devolites Davis
            
            Director
            
            April
                ___, 2007/s/
Thomas
              F. GillettThomas
                F. Gillett
            
            Director
            
            April
                16,2007Donald
                Upson
            
            Director
            
            April
                ___, 2007




31




**Lattice
      Incorporated (formerly Science Dynamics Corp)**





Index
      to
      Consolidated Financial Statements





Report
                of Independent Accountants dated March 9, 2007
            F-2Consolidated
                Balance Sheets as of December 31, 2006 and 2005
            F-3Consolidated
                Statements of Operations, two years ended December 31,
                2006
            F-4Consolidated
                Statements of Cash Flows, two years ended December 31,
                2006
            F-5Consolidated
                Statements of Changes in Shareholders' Equity, two years
                endedDecember
                31, 2006
            F-6Notes
                to Consolidated Financial Statements
            F-7
                - F-25








F-1




**Report
      of Independent Registered Public Accounting Firm**







**To
      The Board of Directors and**


**Shareholders
      of Lattice Incorporated (formerly Science Dynamics Corp.)**





We
      have
      audited the accompanying consolidated balance sheets of Lattice Incorporated
      (formerly Science Dynamics Corp.). and its subsidiaries as of December 31,
      2006
      and 2005 and the related consolidated statements of operations, stockholders'
      (deficit), and cash flows for each of the two years then ended. These
      consolidated financial statements are the responsibility of the Company's
      management. Our responsibility is to express an opinion on these consolidated
      financial statements based on our audits.





We
      conducted our audits in accordance with the standards of the Public Company
      Accounting Oversight Board (United States). Those standards require that we
      plan
      and perform the audits to obtain reasonable assurance about whether the
      financial statements are free of material misstatement. The Company is not
      required to have, nor were we engaged to perform, an audit of its internal
      control over financial reporting. Our audit included consideration of internal
      control over financial reporting as a basis for designing audit procedures
      that
      are appropriate in the circumstances, but not for the purpose of expressing
      an
      opinion on the effectiveness of the Company’s internal control over financial
      reporting. Accordingly, we express no such opinion. An audit also includes
      examining, on a test basis, evidence supporting the amounts and disclosures
      in
      the financial statements. An audit also includes assessing  the
      accounting principles used and significant estimates made by management, as
      well
      as evaluating the overall financial statement presentation. We believe that
      our
      audits provide a reasonable basis for our opinion.





In
      our
      opinion, the consolidated financial statements referred to above present fairly,
      in all material respects, the financial position of Lattice Incorporated and
      subsidiaries as of December 31, 2006 and 2005, and the results of their
      operations and their cash flows for the years then ended in conformity with
      accounting principles generally accepted in the United States of America.





The
      accompanying consolidated financial statements have been prepared assuming
      that
      Lattice Incorporated will continue as a going concern. As discussed in Note1
      (b)
      to the financial statements, the Company has generated significant losses and
      requires additional working capital to continue operations. These conditions
      raise substantial doubt about its ability to continue as a going concern.
      Management’s plans in regard to these matters are more fully described in Note
      1(b). The consolidated financial statements do not include any adjustments
      that
      might result from the outcome of this uncertainty.





/s/
      Peter
      C. Cosmas Co. CPA’s





Peter
      C.
      Cosmas Co. CPA’s


370
      Lexington Ave.


New
      York,
      NY 10017


March
      9,
      2007





F-2




**LATTICE
      INCORPORATED (formerly Science Dynamics Corp.) AND SUBSIDIARIES**


**CONSOLIDATED
      BALANCE SHEETS**


DECEMBER
      31,


2006
              
              2005ASSETSCurrent
                  assets:Cash
                  and cash equivalents
              
              $
              392,275
              
              $
              53,997Accounts
                  receivable - trade
              
              
              2,412,164
              
              
              706,255Inventories
              
              
              64,442
              
              
              6,049Other
                  current assets
              
              
              698,514
              
              
              190,581Total
                  current assets
              
              
              3,567,395
              
              
              956,882Property
                  and equipment, net
              
              
              37,187
              
              
              35,279Goodwill
              
              
              2,547,866
              
              
              2,063,833Other
                  Intangibles, net
              
              
              7,344,235
              
              
              1,077,110Other
                  assets
              
              
              122,936
              
              
              19,213-Total
                  assets
              
              $
              13,619,618
              
              $
              4,152,317LIABILITIES
                  AND SHAREHOLDERS' EQUITY (DEFICIT)Current
                  liabilities:Customer
                  deposits
              
              $
              15,000
              
              $
              150,199Customer
                  Prepayments
              
              
              62,495
              
              
              -Accounts
                  payable
              
              
              892,773
              
              
              986,505Accrued
                  expenses
              
              
              1,736,754
              
              
              1,084,555Current
                  maturities notes payable
              
              
              1,998,189
              
              
              2,667,942Derivative
                  Liability
              
              
              19,873,782
              
              
              462,462Total
                  current liabilities
              
              
              24,578,993
              
              
              5,351,663Non-Current
                  Deferred Tax Liabilities
              
              
              406,162
              
              
              -Minority
                  Interest
              
              
              135,561
              
              
              78,316Shareholders'
                  equity - (Deficit)Preferred
                  stock - .01 par value10,000,000
                  shares authorized1,000,000
                  and 0 issued
              
              
              10,000
              
              
              -Common
                  stock - .01 par value,200,000,000
                  shares authorized,16,642,428
                  and 8,967,477 issued16,629,848
                  and 8,954,897 outstandingin
                  2006 and 2005 respectively.
              
              
              166,425
              
              
              89,675Additional
                  paid-in capital
              
              
              25,571,152
              
              
              19,609,720(Deficit)
              
              
              (36,850,842
              )
              
              (20,579,224
              )(11,103,265
              )
              
              (879,829
              )Common
                  stock held in treasury, at cost
              
              
              (397,833
              )
              
              (397,833
              )Total
                  shareholders' equity (Deficit)
              
              
              (11,501,098
              )
              
              (1,277,662
              )Total
                  liabilities and shareholders'Equity
              
              $
              13,619,618
              
              $
              4,152,317




See
      accompanying notes to the consolidated financial statements.





F-3


**LATTICE
      INCORPORATED (formerly Science Dynamics Corp.) AND SUBSIDIARIES**


**CONSOLIDATED
      STATEMENTS OF OPERATIONS**


Year
                  Ended December 31,2006
              
              2005Sales
                  - Technology Products
              
              $
              1,692,052
              
              $
              1,224,042Sales
                  - Technology Services
              
              
              5,802,836
              
              
              3,011,227Total
                  Sales
              
              
              7,494,888
              
              
              4,235,269Cost
                  of Sales - Technology Products
              
              
              554,136
              
              
              439,483Cost
                  of Sales - Technology Services
              
              
              2,801,085
              
              
              1,834,281Total
                  Cost of Sales
              
              
              3,355,221
              
              
              2,273,764Total
                  Gross Profit
              
              
              4,139,667
              
              
              1,961,505Operating
                  costs and expenses:Research
                  and development
              
              
              435,768
              
              
              431,021Selling,
                  general and administrative
              
              
              3,248,013
              
              
              2,537,3653,683,781
              
              
              2,968,386Operating
                  income (Loss) before other income (expenses)
              
              
              455,886
              
              
              (1,006,881
              )Other
                  income (expense):Derivative
                  income (loss)
              
              
              (13,753,295
              )
              
              370,027Extinguishment
                  gain (loss)
              
              
              (158,266
              )Interest
                  Expense
              
              
              (704,178
              )
              
              (509,007
              )Finance
                  Expense
              
              
              (2,054,520
              )
              
              (26,979
              )Total
                  other expenses
              
              
              (16,670,259
              )
              
              (165,959
              )Net
                  (Loss) from operationsBefore
                  State Income tax benefit
              
              
              (16,214,373
              )
              
              (1,172,840
              )Benefit
                  from State Taxes
              
              
              —
              
              
              216,058Loss
                  before minority interest
              
              
              (16,214,373
              )
              
              (956,782
              )Minority
                  Interest
              
              
              (57,245
              )
              
              93,679Net
                  Loss
              
              $
              (16,271,618
              )
              $
              (863,103
              )Basic
                  and diluted earnings per common share=
                From Net Loss
              
              $
              (1.37
              )
              $
              (0.10
              )Weighted
                  average shares outstanding basic and diluted
              
              
              11,888,458
              
              
              8,508,529


See
      accompanying notes to the consolidated financial statements.





F-4


**LATTICE
      INCORPORATED (formerly Science Dynamics Corp.) AND SUBSIDIARIES**


**CONSOLIDATED
      STATEMENTS OF CASH FLOWS**


Year
                  Ended December 31,2006
              
              2005Cash
                  flows from operating activities:Net
                  (loss)
              
              $
              (16,271,618
              )
              $
              (863,103
              )Adjustments
                  to reconcile net (loss) to net cashprovided
                  by (used for) operating activities:Depreciation
              
              
              40,831
              
              
              107,825Amortization
                  Intangible assets
              
              
              739,454
              
              
              56,690Amortization
                  of debt discount
              
              
              371,753
              
              
              154,702Stock
                  based compensation
              
              
              90,612
              
              
              5,000Financing
                  expense
              
              
              2,054,520
              
              
              26,979Derivative
                  (Income) expense
              
              
              13,753,295
              
              
              (370,027
              )Minority
                  interest
              
              
              57,245
              
              
              (93,679
              )Extinguishment
                  Loss
              
              
              158,266
              
              
              -Changes
                  in operating assets and liabilities:(Increase)
                  decrease in:Accounts
                  receivable
              
              
              (818,847
              )
              
              535,754Inventories
              
              
              23,150
              
              
              44,969Other
                  current assets
              
              
              (69,472
              )
              
              (14,809
              )Other
                  assets
              
              
              1,649
              
              
              (64,401
              )Increase
                  (decrease) in:Accounts
                  Payable andaccrued
                  expenses
              
              
              (270,269
              )
              
              489,745Customer
                  Deposits
              
              
              (135,199
              )
              
              150,199Deferred
                  Revenue
              
              
              62,495
              
              
              -Total
                  adjustments
              
              
              16,059,483
              
              
              1,028,947Net
                  cash provided by (used for)operating
                  activities
              
              
              (212,135
              )
              
              165,844Cash
                  flows from investing activities:Acquisitions
              
              
              (3,665,638
              )
              
              (1,655,325
              )Cash
                  acquired in acquisitions
              
              
              156,772
              
              
              5,519Purchase
                  of property and equipment
              
              
              (39,837
              )
              
              (12,212
              )Net
                  cash (used) in investing activities
              
              
              (3,548,703
              )
              
              (1,662,018
              )Cash
                  flows from financing activities:Issuance
                  of common stock
              
              
              1,293,906
              
              
              -Repayment
                  of convertible notes payable (Laurus)
              
              
              (1,000,000
              )
              
              -Financing
                  fees in connection with Barrons financing andRevolving
                  accounts receivable line
              
              
              (553,059
              )
              
              -Loans
                  from Stockholders & Officers
              
              
              250,000
              
              
              188,301Loans
                  paid Stockholders & officers
              
              
              (245,629
              )
              
              (78,912
              )Payment
                  of Bank Notes
              
              
              -
              
              
              (131,250
              )Issuance
                  of Convertible Debt (Barrons)
              
              
              4,450,000
              
              
              1,867,500Short
                  term notes paid
              
              
              (234,000
              )
              
              (66,000
              )Net
                  borrowing (Payment)on Revolving AR credit facility
              
              
              137,898
              
              
              (422,149
              )Net
                  cash (used in) provided by financing activities
              
              
              4,099,116
              
              
              1,357,490Net
                  increase (decrease) incash
                  and cash equivalents
              
              
              338,278
              
              
              (138,684
              )Cash
                  and cash equivalents -beginning
                  of period
              
              
              53,997
              
              
              192,681Cash
                  and cash equivalents -end
                  of period
              
              $
              392,275
              
              $
              53,997Supplemental
                  information:Interest
                  paid
              
              $
              315,470
              
              $
              235,718Taxes
                  paid
              
              $
              -
              
              $
              -


See
      accompanying notes to the consolidated financial statements.





F-5


**LATTICE
      INCORPORATED (formerly Science Dynamics Corp.) AND SUBSIDIARIES**


**CONSOLIDATED
      STATEMENTS OF SHAREHOLDERS' EQUITY**


**FOR
      THE TWO YEARS ENDED DECEMBER 31, 2006**


Preferred
                  Stock
              
              Common
                  Stock
              
              Additional
                Paid-In
              
              
              
              TreasuryShares
              
              Amount
              
              Shares
              
              Amount
              
              Capital
              
              (Deficit)
              
              Shares
              
              Amount
              
              TotalDecember
                  31, 2004
              
              
              
              
              
              
              
              
              5,396,417
              
              
              53,964
              
              
              16,566,639
              
              
              (19,716,121
              )
              
              12,580
              
              
              (397,833
              )
              
              (3,493,351
              )Discount
                  on 2005 Laurus Note
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              16,735
              
              
              
              
              
              
              
              
              
              
              
              16,735Issuance
                  of common stockConvertible
                  debt Conversion
              
              
              
              
              
              
              
              
              1,542,872
              
              
              15,429
              
              
              1,336,158
              
              
              
              
              
              
              
              
              
              
              
              1,351,587Issuance
                  of StockAcquisition
                  of SMEI
              
              
              
              
              
              
              
              
              1,655,325
              
              
              16,553
              
              
              1,340,813
              
              
              
              
              
              
              
              
              
              
              
              1,357,366Issuance
                  of Common toSMEI
                  Employees
              
              
              
              
              
              
              
              
              65,863
              
              
              659
              
              
              67,020
              
              
              
              
              
              
              
              
              
              
              
              67,679Warrants
                  issued
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              10,000
              
              
              
              
              
              
              
              
              
              
              
              10,000Issuance
                  of CommonStock
                  issued for Service
              
              
              
              
              
              
              
              
              307,000
              
              
              3,070
              
              
              272,355
              
              
              
              
              
              
              
              
              
              
              
              275,425Net
                  Loss
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              (863,103
              )
              
              
              
              
              
              
              
              (863,103
              )BalanceDecember
                  31, 2005
              
              
              -
              
              
              -
              
              
              8,967,477
              
              
              89,675
              
              
              19,609,720
              
              
              (20,579,224
              )
              
              12,580
              
              
              (397,833
              )
              
              (1,277,662
              )Issuance
                  of common stockPrivate
                  Placement June 2006
              
              
              
              
              
              
              
              
              2,274,951
              
              
              22,750
              
              
              1,371,156
              
              
              
              
              
              
              
              
              
              
              
              1,393,906Issuance
                  of StockAcquisition
                  of RTI
              
              
              
              
              
              
              
              
              5,000,000
              
              
              50,000
              
              
              3,040,000
              
              
              
              
              
              
              
              
              
              
              
              3,090,000Issuance
                  of Common toKeshet
                  Funds on Extinguishment of debt
              
              
              
              
              
              
              
              
              300,000
              
              
              3,000
              
              
              177,000
              
              
              
              
              
              
              
              
              
              
              
              180,000Laurus
                  AmendmentJuly
                  06
              
              
              
              
              
              
              
              
              100,000
              
              
              1,000
              
              
              57,500
              
              
              
              
              
              
              
              
              
              
              
              58,500Issuance
                  of 1,161,588of
                  warrants in June 2006
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              720,185
              
              
              
              
              
              
              
              
              
              
              
              720,185Preferred
                  “Series B” issued
              
              
              1,000,000
              
              
              10,000
              
              
              
              
              
              
              
              
              504,979
              
              
              
              
              
              
              
              
              
              
              
              514,979Issuance
                  ofCommonShare-based
                  comp.
              
              
              —
              
              
              —
              
              
              
              
              
              
              
              
              90,612
              
              
              
              
              
              
              
              
              
              
              
              90,612Net
                  Loss
              
              
              
              
              
              -
              
              
              
              
              
              
              
              
              
              
              
              (16,271,618
              )
              
              
              
              
              
              
              
              (16,271,618
              )BalanceDecember
                  31, 2006
              
              
              1,000,000
              
              $
              10,000
              
              
              16,642,428
              
              $
              166,425
              
              $
              25,571,152
              
              $
              (36,850,842
              )
              
              12,580
              
              $
              (397,833
              )
              
              ($11,501,098
              )


See
      accompanying notes to the consolidated financial statements.





F-6


**LATTICE
      INCORPORATED (formerly Science Dynamics Corp.) AND SUBSIDIARIES**


**NOTES
      TO CONSOLIDATED FINANCIAL STATEMENTS**





**Note
      1—Organization and Summary of Significant Accounting Policies**





**a)
      Organization**




Lattice
      Incorporated (formerly Science Dynamics Corp.) (the "Company", was incorporated
      in the State of Delaware May 1973 and commenced operations in July 1977. The
      Company began as a provider of specialized solutions to the telecom industry.
      Currently Lattice provides advanced solutions for several vertical markets.
      The
      greatest change in operations is in the shift from being a component
      manufacturer to a solutions provider focused on developing applications through
      software on its core platform technology. To further its strategy of becoming
      a
      solutions provider, the Company acquired a majority interest in "SMEI" in
      February 2005. On September 19, 2006, the Company purchased all of the issued
      and outstanding shares of the common stock of Ricciardi Technologies Inc.
      ("RTI"). RTI was founded in 1992 and provides software consulting and
      development services for the command and control of biological sensors and
      other
      Department of Defense requirements to United States federal governmental
      agencies either directly or though prime contractors of such governmental
      agencies. RTI's proprietary products include SensorView, which provides clients
      with the capability to command, control and monitor multiple distributed
      chemical, biological, nuclear, explosive and hazardous material
      sensors.





**b)
      Basis of Financial Statement Presentation**





The
      Company’s auditors have expressed a going concern opinion in their audit reports
      for 2006 and 2005. Management acknowledges the basis for the going concern
      opinion, given the Company’s historical net losses and working capital deficits.
      However, it should be noted that the Company has made significant improvements
      in its operating performance in 2006. The Company has increased its sales by
      approximately 76.9% compared to 2005, through organic growth and acquisitions,
      posted positive operating income of $455,886 versus an operating loss of
      $1,006,881 in 2005 and was able to increase the availability of its revolving
      credit facility financing from $1M to $2M with the refinancing of the PFC
      facility with GBBF. Additionally, upon the effectiveness of its restated
      certificate of incorporation on February 2, 2007, the Company was able to
      convert its $4.5M note with Barron to Series A Preferred Stock. Given these
      events collectively and the anticipation that the positive trends will continue,
      management expects the going concern opinion to be removed from future
      filings.





The
      accompanying financial statements include the operating results of Systems
      Management Engineering Systems, Inc. (SMEI), a majority owned (86%) subsidiary
      of Lattice from February 14, 2005 (Acquisition Date) to December 31, 2006.
      On
      February 14, 2005 the Company recorded on its Balance Sheet a Minority Interest
      Liability of $171,995 representing the net asset value not acquired by the
      Company. The carrying value of the minority interest of $171,995 has since
      been
      reduced by $3,180 at December 31, 2006 giving effect to SMEI’s cumulative
      operating results.





**c)
      Principles of Consolidation** :





The
      consolidated financial statements included the accounts of the Company and
      all
      of its subsidiaries in which a controlling interest is maintained. All
      significant inter-company accounts and transactions have been eliminated in
      consolidation. For those consolidated subsidiaries where Company ownership
      is
      less than 100%, the outside stockholders' interests are shown as minority
      interests. Investments in affiliates over which the Company has significant
      influence but not a controlling interest are carried on the equity basis.





**d)
      Use of Estimates** :





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




F-7





**e)
      Inventories** :





Inventories
      are stated at the lower of cost or market, with cost determined on a first-in,
      first-out basis.





**f)
      Depreciation, Amortization and Long-Lived Assets**





Long-lived
      assets include:





Property,
      plant and equipment - These assets are recorded at original cost and increased
      by the cost of any significant improvements after purchase. The Company
      depreciates the cost evenly over the assets' estimated useful lives. For tax
      purposes, accelerated depreciation methods are used as allowed by tax
      laws.





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





Identifiable
      intangible assets - These assets are recorded at original cost. Intangible
      assets with finite lives are amortized evenly over their estimated useful lives.
      Intangible assets with indefinite lives are not amortized.





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





**g)
      Cash and Cash Equivalents**





The
      Company considers all highly liquid debt instruments purchased with an original
      maturity of three months or less to be cash equivalents.





**h)
      Income Taxes** :





The
      Company accounts for income taxes in accordance with Statement of Financial
      Accounting Standards (SFAS) No. 109 "Accounting for Income Taxes", (SFAS No.
      109) which establishes financial accounting and reporting standards for the
      effect of income taxes. The objective of accounting for income taxes is to
      recognize the amount of taxes payable or refundable for the current year and
      the
      deferred tax liabilities and assets for the future tax consequence of events
      that have been recognized in the entity’s financial statements. ,





**i)**  **Revenue
      Recognition** :





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





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




F-8





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





**j)
      Fair Value Disclosures:**





Management
      believes that the carrying values of financial instruments, including, cash,
      accounts receivable, accounts payable, and accrued liabilities approximate
      fair
      value as a result of the short-term maturities of these
      instruments.





**k)
      Derivative Financial Instruments**





The
      Company generally does not use derivative financial instruments to hedge
      exposures to cash-flow or market risks. However, certain other financial
      instruments, such as warrants and embedded conversion features that are indexed
      to the Company’s common stock, are classified as liabilities when either (a) the
      holder possesses rights to net-cash settlement or (b) physical or net-share
      settlement is not within the control of the Company. In such instances, net-cash
      settlement is assumed for financial accounting and reporting, even when the
      terms of the underlying contracts do not provide for net-cash settlement. Such
      financial instruments are initially recorded at fair value and subsequently
      adjusted to fair value at the close of each reporting period.





**l
      ) Stock Based Compensation:**





On
      January 1, 2006, we adopted SFAS 123(R), “share-based payments” which
      establishes accounting for equity instruments exchanged for employee services.
      SFAS 123(R) is a revision of SFAS 123 and supersedes APB 25. Under the
      provisions of SFAS 123(R), stock-based compensation Cost is measured at the
      date
      of grant, based on the calculated fair value of the award, and is recognized
      as
      expense over the employee’s service period, which is generally the vesting
      period of the equity grant.




Prior
      to January 1, 2006, we accounted for stock-based compensation to employees
      under the intrinsic value method in accordance with APB 25, as permitted under
      SFAS 123. Under this method, compensation cost was recognized for the difference
      between the quoted market price on the date of grant, less the amount, if any,
      the employee was required to pay for the common stock.




Accordingly,
      we did not recognize compensation cost for our stock option awards or our
      employee stock purchase plan because we issue options at exercise prices equal
      to the market value of our stock on the date of grant and because our employee
      stock purchase plan is non compensatory.





We
      adopted SFAS 123(R) using the modified prospective application method and,
      accordingly, no prior periods have been restated. Under this method,
      compensation cost recognized during the year ended December 31, 2006
      includes: (a) compensation cost for all stock-based awards granted prior
      to, but not yet vested as of January 1, 2006, based on the grant-date fair
      value estimated in accordance with the original provisions of SFAS 123, and
      (b) compensation cost for all stock-based awards granted after
      January 1, 2006, based on the grant-date fair value estimated in accordance
      with SFAS 123(R).





See
      Note
      14 for a description of the company’s share-based compensation plans,
      information related to awards granted under those plans and additional
      information on the company’s adoption of FAS 123R.





The
      following table illustrates the pro forma effect on net income and earnings
      per
      share for the years ended December 31, 2005 if we had recognized
      compensation expense by applying the fair value based method to all awards
      as
      provided for under SFAS 123:




F-9




2005Net
                  Loss As reported
              
              $
              (863,103
              )Deduct
                  compensation expenses (Fair Value Options)
              
              
              (299,124
              )Deduct
                  Compensation expense (Fair Value Warrants)
              
              
              (504,241
              )Pro
                  Forma Net Loss
              
              $
              (1,666,468
              )Basic
                  and Diluted Net Loss per shareAs
                  reported
              
              
              ($0.10
              )Pro
                  Forma Net Loss
              
              
              ($0.20
              )




m)
      Reclassifications





Certain
      amounts in prior years financial statements and related notes have been
      reclassified to conform to the 2006 presentation.




**n)
      New Financial Accounting Standards**





In
      September 2006, the FASB issued SFAS No. 157, Fair Value Measurements
      (“SFAS 157”), which is intended to increase consistency and comparability in
      fair value measurements by defining fair value, establishing a framework for
      measuring fair value and expanding disclosures about fair value measurements.
      SFAS 157 is effective for financial statements issued for fiscal years beginning
      after November 15, 2007, and interim periods within those fiscal years. We
      will adopt SFAS 157 on January 1, 2008, and have not yet determined the
      impact, if any, on our consolidated financial statements.





In
      September 2006, the Securities and Exchange Commission issued Staff
      Accounting Bulletin 108, Considering the Effects of Prior Year Misstatements
      when Quantifying Misstatements in Current Year Financial Statements (“SAB 108”).
      SAB 108 requires that public companies utilize a “dual-approach” to assessing
      the quantitative effects of financial misstatements. This dual approach includes
      both an income statement focused assessment and a balance sheet focused
      assessment. SAB 108 is effective for fiscal years ending after November 15,
      2006. We adopted SAB 108 on December 31, 2006, and there was no impact on
      our consolidated financial statements.





In
      February 2006, the Financial Accounting Standards Board (“FASB”) issued
      Statement of Financial Accounting Standards (“SFAS”) No. 155, Accounting
      for Certain Hybrid Financial Instruments — an amendment of FASB Statements
      No. 133 and No. 140 (“SFAS 155”). SFAS 155 amends SFAS 133, which
      required that a derivative embedded in a host contract that does not meet the
      definition of a derivative be accounted for separately under certain conditions.
      SFAS 155 is effective for all financial instruments acquired or issued (or
      subject to a remeasurement event) following the start of an entity’s first
      fiscal year beginning after September 15, 2006. We adopted SFAS 155 on
      January 1, 2007, The Company does not expect the adoption of SFAS 155 to
      have a material impact on its consolidated results of operations and financial
      condition..





In
      July 2006, the FASB issued FASB Interpretation No. 48, Accounting for
      Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109
      (“FIN 48”). FIN 48 clarifies the accounting for uncertainty in income taxes
      recognized in an entity’s financial statements in accordance with SFAS
      No. 109, Accounting for Income Taxes. It prescribes a recognition threshold
      and measurement attribute for financial statement disclosure of tax positions
      taken or expected to be taken on a tax return. FIN 48 is effective for fiscal
      years beginning after December 15, 2006. We adopted FIN 48 on
      January 1, 2007. We estimate compliance with FIN 48 will not have a
      material impact on our consolidated results of operations or cash
      flows.





**Note
      2—Acquisitions**




F-10





**Acquisition
      “SMEI”**





On
      February 14, 2005, the Company completed the execution of a Stock Purchase
      Agreement (the “Agreement”) with Systems Management Engineering, Inc. ("SMEI")
      and the holders of a majority of its outstanding common stock. Pursuant to
      the
      Agreement, the Company acquired 4,177,500 shares of SMEI common stock which
      represented 86% of the issued and outstanding shares on the acquisition date.
      The acquisition of SMEI extends the Company’s offerings into new markets,
      including the Department of Defense of the United States Government. Based
      upon
      criteria set forth in current accounting standards, the Company has accounted
      for the acquisition as its purchase of SMEI. The results of operations of SMEI
      are included with those of the Company for all periods following the date
      acquired.





In
      connection with the Agreement, the Company issued (i) 1,655,325 shares of the
      Company's common stock to certain owners of SMEI, (ii) 658,627 shares to former
      SMEI employees to replace outstanding compensatory SMEI stock options, and
      (iii)
      $1,655,325 in cash. The common stock issued was valued based upon an average
      closing price for five days preceding and five days following the date that
      the
      Company and SMEI agreed to all significant terms of the Agreement, and such
      terms were publicly disseminated. The total purchase price, that includes direct
      acquisition expenses of $40,000, amounted to $3,120,371 and was allocated as
      follows, based upon the fair values of assets acquired and liabilities
      assumed:





Category
            
            AmountCurrent
                assets
            
            $
            1,197,538Property
                and equipment
            
            
            93,613Intangible
                assets
            
            
            3,197,633Deposits
            
            
            2,000Current
                liabilities
            
            
            (1,104,668
            )Debt
            
            
            (93,750
            )Minority
                interest
            
            
            (171,995
            )$
            3,120,371








Intangible
                assets acquired consisted of the following:
            
            LifeGoodwill
            
            
            —
            
            $
            2,063,833Contractual
                backlog (a)
            
            
            5
            
            
            854,084Customer
                lists
            
            
            5
            
            
            279,716Total
                amount of intangible assetsacquired
                and weighted average life
            
            
            5
            
            $
            3,197,633





**a)** The
      company recorded $226,760 and $56,690 of amortization in 2006 and 2005
      respectively.





The
      Agreement extended a contingent (earn-out) provision to SMEI for reaching
      certain performance goals by December 31, 2005. SMEI did not achieve those
      performance goals by that date. In addition, the Company believes that expansion
      into this business affords it an opportunity to enter new markets and develop
      unique future offerings, thus justifying the amount of goodwill attributed
      to
      the acquisition of SMEI. Due to certain limitations imposed by the Internal
      Revenue Service, the Company does not expect goodwill to result in any
      deductible amounts in the near future.





The
      following unaudited condensed pro forma financial information gives effect
      to
      the Company’s operations as if the SMEI acquisition had occurred on January 1,
      2005. Unaudited pro forma financial information is not necessarily indicative
      of
      the results that the Company would have achieved had the acquisition occurred
      on
      either of those dates.





**Year
                ended December 31:**
            
            **2005**Revenues
            
            $
            4,633,227Net
                income (loss) from continuingoperations
            
            $
            (989,755
            )Basic
                and diluted net income (loss)per
                share from continuingoperations
            
            $
            (0.10
            )







F-11




**Acquisition
      "RTI"**





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





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





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





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





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




Intangible
      assets acquired consisted of the following:




LifeCustomer
                relationships
            
            
            5
            
            $
            3,382,517Know
                how and processes
            
            
            5
            
            
            2,924,790Goodwill
            
            
            —
            
            
            484,033Contractual
                backlog
            
            
            1
            
            
            534,271Employment
                contract
            
            
            1
            
            
            165,000$
            7,490,611






F-12





The
      Company recorded amortization of $512,694 in 2006 related to the intangible
      assets listed above. The Company believes that the expansion into this business
      affords it an opportunity for synergy, thus justifying the amount of goodwill
      attributed to the acquisition of RTI. Due to certain limitations imposed by
      the
      Internal Revenue Service, the Company does not expect goodwill to result in
      any
      deductible amounts in the near future.





The
      following unaudited condensed pro-forma financial information gives effect
      to
      the Company’s operations as if the RTI acquisition had occurred on January 1,
      2006. Unaudited pro forma information is not necessarily indicative of the
      results that the Company would have achieved had the acquisition occurred on
      either of those dates.


**2006**Revenues
              
              $
              9,759,858Net
                  (Loss)
              
              $
              (15,674,107
              )Basic
                  and diluted net (loss) per share
              
              $
              (1.32
              )


**Note
      3-Accounts Receivable**





The
      Company evaluates its accounts receivable on a customer-by-customer basis and
      has determined that no allowance for doubtful accounts is necessary at December
      31, 2006 and 2005.





**Note
      4-Property and Equipment**





A
      summary
      of the major components of property and equipment is as follows:


2006
              
              2005Computers,
                  fixturesAnd
                  equipment
              
              $
              1,633,452
              
              $
              1,590,713Less
                  accumulatedDepreciation
              
              
              (1,596,265
              )
              
              (1,555,434
              )Totals
              
              $
              37,187
              
              $
              35,279





**Note
      5-Goodwill and other intangible assets** :





The
      table
      below presents amortizable intangible assets as of December 31, 2006 and
      December 31, 2005:





2006
            
            Gross
                Carrying Amount
            
            Accumulated
              Amortization
            
            Net
                Carrying AmountAmortizable
                intangible assets:Customer
                relationships
            
            $
            3,382,517
            
            $
            (169,126
            )
            $
            3,213,391Know
                how and processes
            
            
            2,924,790
            
            
            (146,240
            )
            
            2,778,550Customer
                backlog
            
            
            1,388,355
            
            
            (364,288
            )
            
            1,024,067Customer
                lists
            
            
            279,717
            
            
            (69,929
            )
            
            209,788Employment
                contract
            
            
            165,000
            
            
            (46,562
            )
            
            118,438$
            8,140,379
            
            $
            (796,145
            )
            $
            7,344,234








F-13







2005
            
            Gross
                Carrying Amount
            
            Accumulated
              Amortization
            
            Net
                Carrying AmountAmortizable
                intangible assets:Customer
                backlog
            
            $
            854,084
            
            $
            (42,704
            )
            $
            811,380Customer
                lists
            
            
            279,716
            
            
            (13,986
            )
            
            265,730$
            1,133,800
            
            $
            (56,690
            )
            $
            1,077,110




Total
      intangibles amortization expense was $739,454 for the year ended December 31,
      2006 and $56,690 for the year ended December 31, 2005.





Estimated
      annual intangibles amortization expense as of December 31, 2006 is as
      follows:


2007
              
              $
              2,081,7102008
              
              
              1,579,7672009
              
              
              1,579,7672010
              
              
              1,523,0772011
              
              
              579,915Total
              
              $
              7,344,236


Under
      SFAS No. 142, “Goodwill and Other Intangibles”, goodwill and other
      indefinite-lived intangibles must be tested for impairment annually (or in
      interim periods if events indicate possible impairment). The Company tested
      goodwill for impairment as of year-end 2006 and 2005 and no impairment was
      indicated.





**Note
      6-Segment Reporting**





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




F-14




Year
                  Ended
              
              Year
                  EndedDecember
                  31, 2006
              
              December
                  31, 2005RevenueTechnology
                  Services
              
              $
              5,802,836
              (a)
              
              3,011,227
              (a)Technology
                  Products
              
              
              1,692,052
              
              
              1,224,042Total
                  Consolidated Revenue
              
              $
              7,494,888
              (a)
              $
              4,235,269
              (a)Net
                  Income (loss)Technology
                  Services
              
              
              151,052
              (a)
              
              (575,456
              )(a)Technology
                  Products
              
              
              (16,422,670
              )
              
              (287,647
              )Total
                  Consolidated Net (Loss)
              
              $
              (16,271,618
              )(a)
              $
              (863,103
              )(a)AssetsTechnology
                  Services
              
              $
              12,406,195
              (b)
              
              3,896,321
              (b)Technology
                  Products
              
              $
              1,213,422
              
              
              255,996Total
                  Consolidated Assets
              
              $
              13,619,617
              (b)
              $
              4,152,317
              (b)





(a)
      - .
      For the Year ended December 31, 2006, operating results reflect the period
      from
      September 19, 2006, the date of acquisition of RTI, to December 31, 2006. For
      the Year ended December 31, 2005, operating results reflect the period from
      February 14, 2005, the date of the SMEI acquisition, to December 31, 2005





(b)
      - For
      the Year ended December 31, 2006, includes $2,063,833 of Goodwill related to
      the
      SMEI acquisition and $484,033 of Goodwill related to the RTI acquisition. For
      the Year ended December 31, 2005, includes $2,063,833 of Goodwill related to
      the
      SMEI acquisition.





**Note
      7- Income Taxes**





The
      Company accounts for income taxes in accordance with SFAS No. 109 which requires
      that deferred tax assets and liabilities be recognized using enacted tax rates
      for the effect of temporary differences between the financial reporting and
      tax
      bases of recorded assets and liabilities. SFAS No. 109 also requires that
      deferred tax assets be reduced by a valuation allowance if it is more likely
      than not that some portion of or all of the deferred tax asset will not be
      realized.





At
      this
      time, the Company does not believe it can reliably predict profitability for
      the
      long-term. Accordingly, the deferred tax asset applicable to 2006 and 2005
      operations has been reduced in its entirety by the valuation allowance.





As
      a
      result of the operating losses for the years ended December 31, 1990 and
      1992-2006 the Company has available to offset future taxable income with net
      operating losses of approximately $22,824,292 expiring 2010-2026. In addition,
      research credits expiring 2006-2019 are available to offset future taxes.





The
      Company recovered in 2006 and 2005 $0.00 and $216,058 respectively through
      the
      sale of New Jersey State net-operating loss carryovers as permitted by the
      State. This recovery was recognized as a credit from State taxes in the years
      ended December 31, 2005 Statement of Operations.





The
      components of the provision (credit) for income taxes from continuing operations
      is as follows:


2006
              
              2005DeferredFederal
              
              $
              -
              
              $
              -CurrentFederal
              
              
              -
              
              
              -State
              
              
              -
              
              
              -$
              -
              
              $
              -





Our
      reconciliation of income tax benefit computed using the U.S. federal statutory
      income tax rate of 35% to actual income tax benefit is as follows:





F-15




2006
              
              2005Income
                  tax benefit at theU.S.
                  federal statuary tax rate
              
              $
              5,675,031
              
              $
              410,494(Reduction)
                  increase in taxBenefit
                  from:Derivative
                  income(loss)
              
              
              (4,813,653
              )
              
              129,509Extinguishment
                  (loss)
              
              
              (55,393
              )
              
              -Amortization
                  of debt discount
              
              
              (130,114
              )
              
              (54,146
              )Benefit
                  from state taxes
              
              
              -
              
              
              (75,620
              )Actual
                  income tax benefit notProvided
                  due to valuatonAllowance
              
              $
              675,871
              
              $
              410,237





Components
      of the Company's deferred tax assets and liabilities are as follows:


December
                  31,
              
              December
                  31,2006
              
              2005Deferred
                  tax assets:Tax
                  benefits relatedTo
                  net operatingLoss
                  carry forwardsAnd
                  research tax Credits
              
              $
              8,063,954
              
              $
              7,388,083Valuation
                  Allowance forDeferred
                  tax Assets
              
              $
              8,063,954
              
              $
              7,388,083Net
                  deferred tax Assets
              
              $
              -0-
              
              $
              -0-





**Note
      8- Commitments**





The
      Company leases its office, sales and manufacturing facilities under
      non-cancelable operating leases with varying terms. The leases generally provide
      that the Company pay the taxes, maintenance and insurance expenses related
      to
      the leased assets. The Company signed a two year renewable lease on its
      Reston,Va office space located at 12100 Sunset Hills pertaining to its
      subsidiary Systems Management Engineering, Inc. The lease term became effective
      October 1, 2005 and expires September 30, 2007.





The
      Company’s also leases space for its Technology Products business located at 7150
      North Park Drive, Suite 500, Pennsauken, New Jersey. This lease expires on
      May
      31, 2009. The Company is currently renegotiating with the Landlord to renew
      the
      lease.





Future
      minimum lease payments required under operating leases that have initial or
      remaining non-cancelable lease terms in excess of one year, as of December
      31,
      2006 are as follows:


2007
              
              
              148,5092008
              
              
              36,7442009
              
              
              15,3102010
              
              
              -0-Total
                  minimum lease payments
              
              $
              200,563





F-16




**Note
      9-Notes payable**




Notes
      payable consists of the following as of December 31, 2006 and December 31,
      2005:


2006
              
              2005Face
                  value $2,000,000, variable rate (8.0% at December 31, 2005)
                  SecuredConvertible
                  Term Note, due in monthly payments of $60,606 commencing June
                  30,2005
                  (a)
              
              $
              —
              
              $
              1,442,462$400,000,
                  8.0% Secured Convertible Keshet Term Note (b)
              
              
              —
              
              
              400,000Revolving
                  credit facility (c)
              
              
              590,749
              
              
              202,851Notes
                  Payable - Stockholders/Officers (d)
              
              
              893,000
              
              
              388,629Short
                  term notes payable (e)
              
              
              250,000
              
              
              234,000Convertible
                  note (f)
              
              
              264,440
              
              
              —Total
                  notes payable
              
              
              1,998,189
              
              
              2,667,942Less
                  current maturities, associated with notes payable
              
              
              (1,998,189
              )
              
              (2,667,942
              )Long-term
                  debt
              
              $
              —
              
              $
              —




**(a)
      2005 Laurus Agreements:**





On
      February 14, 2005, the Company entered into a Securities Purchase Agreement,
      dated February 11, 2005, with Laurus Master Fund, Ltd. ("Laurus") for the sale
      of a $2,000,000 principal amount Secured Convertible Term Note (the "Note")
      convertible at $1.00 per share and a Common Stock Purchase Warrant to purchase
      600,000 shares of the Company's common stock at $1.10 that expire February
      11,
      2012. The sale of the Note and the Warrant were made pursuant to the exemption
      from registration provided by Section 4(2) of the Securities Act of 1933, as
      amended (the "Securities Act"), and Regulation D under the Securities Act.





The
      Company received net proceeds of $1,867,500 from the sale of the Note and the
      Warrant. The Company may only use such proceeds for (i) general working capital
      purposes, (ii) no less than 80% of the equity interests of Systems Management
      Engineering, Inc. ("SMEI") pursuant to the Stock Purchase Agreement, as amended,
      dated as of December 16, 2004 by and among the Company, SMEI and the
      shareholders of SMEI identified therein, and (iii) the acquisition of 100%
      of
      the remaining equity interests of SMEI pursuant to a transaction in form and
      substance reasonably satisfactory to Laurus.





The
      Note
      bears interest at a rate per annum equal to the prime rate published in The
      Wall
      Street Journal from time to time, plus 3%, but not less than 8%. The interest
      terms include a monthly reset feature that provided for decreases in interest
      rates pro-rata for certain increases in the Company’s common stock above the
      conversion rate; such features would not become effective until the underlying
      common shares are registered. Otherwise, interest was payable monthly in arrears
      commencing March 1, 2005 and on the first business day of each consecutive
      calendar month thereafter until the maturity date, February 11, 2008 (each
      a
      "Repayment Date"). Amortizing payments of the aggregate principal amount
      outstanding under the Note were required to begin on June 1, 2005 and recur
      on
      the first business day of each succeeding month thereafter until the maturity
      date (each an "Amortization Date"). Beginning on the first Amortization Date,
      the Company was required to make monthly payments to Laurus on each Repayment
      Date, each in the amount of $60,606.06, together with any accrued and unpaid
      interest to date on such portion of the principal amount plus any and all other
      amounts which are then owing under the Note, the Purchase Agreement or any
      other
      related agreement but have not been paid (collectively, the "Monthly Amount").





In
      order
      to secure payment of all amounts due under the Note, as well as the Company's
      other obligations to Laurus: (i) the Company granted Laurus a lien on all of
      the
      Company's assets and also on all assets of the Company's subsidiaries; (ii)
      the
      Company pledged all of the capital stock that it owns of each of its
      subsidiaries; and (iii) each of the Company's subsidiaries executed a Subsidiary
      Guaranty of such obligations.




F-17





Pursuant
      to the terms of a registration rights agreement, the Company agreed to include
      the shares of common stock issuable upon conversion of the Note and Warrants
      in
      a registration statement to be filed not later than March 13, 2005 and to use
      its reasonable commercial efforts to cause such registration statement to be
      declared effective no later than May 12, 2005. Failure to file or become
      effective results in liquidating damages penalties of 2% per month of the face
      value of the Note. The Company has been in default on the note by not becoming
      effective on the registration statement by the required date and by not making
      the required monthly principal payments to Laurus since June 1, 2005. On
      November 21, 2005, the Company signed an amendment and waiver with Laurus
      waiving each Event of Default for our failure to pay accrued interest, and
      principal through November 1, 2005 and the failure to timely file a Registration
      Statement with the SEC. As consideration of the waiver, the Company issued
      to
      Laurus a seven year warrant to purchase 300,000 shares of the common stock
      of
      the Company with an exercise price of $0.75 per share. The Company further
      agreed to file a Registration Statement to register the shares of Common Stock
      that may be issued upon exercise of the Additional Warrant within 90 days of
      the
      date of the waiver. The Amendment and Waiver agreement was effective November
      22, 2005 when the Company paid Laurus $32,236.25 of overdue interest under
      the
      secured convertible term note and issued Laurus the Additional Warrant. The
      Company allocated the fair value of the Additional Warrant to deferred finance
      costs ($42,275) and derivative expense ($5,725) on a relative fair value basis.
      The additional deferred finance costs are being amortized through periodic
      charges to interest expense using the effective interest method which commenced
      in the fourth fiscal quarter of 2005.





In
      accordance with EITF 00-19 “Accounting for Derivative Financial Instruments
      Indexed to, and Potentially Settled in, a Company’s Own Stock,” the basis from
      the 2005 Laurus Agreements was allocated to embedded derivative features indexed
      to the Company’s common stock (consisting of the conversion and interest reset
      features) in the amount of $444,920, and the Warrant, in the amount, in the
      amount of $270,000. See Derivative Financial Instruments, below. These discounts
      resulted in an initial carrying value of the Secured Convertible Term Note
      of
      $1,285,080. The debt is being amortized through charges to interest expense
      over
      the debt term using the effective method. Amortization during the year ended
      December 31, 2006 amounted to $107,311.




On
      July
      21, 2006, the Company entered into a Forbearance Agreement with Laurus Master
      Fund, Ltd. (“Laurus”) waiving each Event of Default for the Company’s failure to
      pay accrued interest, and principal through November 1, 2005 and the failure
      to
      timely file a Registration Statement with the SEC. As consideration of the
      waiver, the Company paid $500,000 and issued 100,000 shares of its common stock
      to Laurus. In accordance with EITF 96-19, “Debtor’s Accounting for a
      Modification or Exchange of Debt Instruments” the Company performed an analysis
      to determine if the Forbearance Agreement caused an extinguishment of debt.
      The
      Company recorded a loss on extinguishment of approximately $121,000 related
      to
      this transaction. The Company allocated the fair value of the Common Stock
      to
      deferred finance costs ($52,578) and derivative expense ($5,922) on a relative
      fair value basis. The additional deferred finance costs are being amortized
      through periodic charges to interest expense using the effective interest
      method.




On
      September 18, 2006, the Company entered into an Omnibus Amendment and Waiver
      Agreement with Laurus. Under the terms of the amendment, in exchange for full
      and complete satisfaction of the $2,000,000 note, the Company i) paid Laurus
      $500,000 ii) issued a seven year warrant to purchase up to 1,458,333 shares
      of
      common stock for an exercise price of $.10 per share and iii) entered into
      a
      Term Note for $250,000 with Laurus. The Term Note bears interest at a rate
      per
      annum equal to the prime rate published in The Wall Street Journal from time
      to
      time, plus 3%, but shall not be less than 8%. Interest payments are due monthly,
      in arrears, commencing on August 1, 2006 and ending on the maturity date which
      is September 18, 2007. In the third quarter of 2006, the Company recognized
      a
      loss on extinguishment of approximately $529,000 related to this transaction.





**(b)
      2001 Keshet Financing Agreements**





On
      May
      21, 2001, the Company entered into concurrent financing arrangements, each
      bearing similar terms and conditions, with Keshet Capital for $400,000,. The
      notes bore interest at 8% and were due and payable in May 2003. The notes were
      convertible into the Company’s common stock at 85% of the average trading market
      price over a period of twenty days preceding conversion. In addition, the notes
      were issued with detachable warrants to purchase 290,908 shares of common stock.
      The warrants had terms of five years and fixed strike prices of $1.43.




F-18





In
      accordance with EITF 00-19 “Accounting for Derivative Financial Instruments
      Indexed to, and Potentially Settled in, a Company’s Own Stock,” The debt
      discount was amortized through charges to interest expense over the term using
      the effective method at effective interest rate of 99.07%. The basis from the
      2001 Keshet Agreements was allocated to embedded derivative features indexed
      to
      the Company’s common stock (consisting of the conversion feature) in the amount
      of $253,800, and the Warrant, in the amount, in the amount of $133,818. These
      discounts resulted in an initial carrying value of the Secured Convertible
      Term
      Note of $12,382. The debt discount was amortized through charges to interest
      expense over the term using the effective method at effective interest rate
      of
      99.07%.




Pursuant
      to an agreement dated September 18, 2006 between the Company and Keshet Capital,
      the Company agreed to issue 300,000 shares of common stock in consideration
      for
      cancellation of all payment obligations arising under the convertible notes.
      As
      a result, according to the provisions of FAS 140, “Accounting for Transfers and
      Servicing of Financial Assets and Extinguishments of Liabilities”, the Company
      recognized a gain on extinguishment of approximately $492,000 in the third
      quarter of 2006.




**(c)
      Revolving Line of credit**




On
      November 7, 2005 the Company opened a Line of Credit with Presidential Financial
      Group. The Line of Credit with Presidential is for a period of 12 months and
      is
      a credit facility up to $1,000,000 and is secured by SMEI's accounts
      receivables. The Advance Rate on the Company's government receivables is 85%.
      Interest on the line will be charged at the rate of prime plus 2% on the average
      daily loan balance with a minimum monthly loan balance requirement of $200,000.
      Additionally, a monthly service charge will be charged at a rate of 1.00% of
      the
      average daily loan balance. The total outstanding balance on this facility
      as of
      December 31, 2006 and 2005 was $0 and $202,851 respectively.




On
      November 10, 2006, the Company secured a Line of Credit facility with Greater
      Bay Business Funding ("GBBF") for $2,000,000. The line is primarily secured
      by
      the Company's accounts receivables. The Advance Rate is 85%. Interest on the
      line will be charged at the rate of prime plus 6%. Upon securing the line with
      GBBF, the Company repaid in full and closed out the credit facility with
      Presidential Financial Group. The total outstanding balance on this facility
      as
      of December 31, 2006 was $590,749. Addionally, the Company incurred an up-front
      fee of $20,000 which is being amortized ratably over the twelve month term
      of
      the facility. As of December 31, 2006, 16,667 remains unamortized




**(d)
      Notes Payable Stockholders/officers**




The
      Company has a short-term loan payable with a former officer and stockholder
      of
      the Company amounting to $143,000, this note bears interest of 8% per annum.
      The
      note is an unsecured demand note.




At
      December 31, 2006 the Company has a short term notes payable of $250,000 with
      a
      director of the Company. This note is collateralized by proceeds from the future
      sale of the New Jersey Net Operating Loss in 2006, upon approval from the State
      of NJ. In the event, the Company is not approved for this program; the Company
      will repay this note and accrued interest from operating cash flows. The note
      bears interest at 20% per annum and is payable at maturity date of December
      31,
      2007.




As
      part
      of the RTI acquisition the Company issued a note in the amount of $500,000
      to
      the former Stockholders of RTI as part of the purchase price. The note is
      payable no later than September 17, 2007 and bears an interest rate of 10%
      per
      annum.




**(e)
      Short term notes**




In
      connection with the September 18, 2006 omnibus amendment and waiver agreement
      with Laurus the Company entered into a Term Note for $250,000 with Laurus.
      The
      Term Note bears interest at a rate per annum equal to the prime rate published
      in The Wall Street Journal from time to time, plus 3%, but shall not be less
      than 8%. Interest payments are due monthly, in arrears, commencing on September
      19, 2006 and ending on the maturity date which is September 18,
      2007.




F-19




**(f)
      2006 Barron Securities Agreement**





Convertible
      Promissory Notes





On
      September 19, 2006, the Company entered into a financing arrangement that
      provided for the issuance of $4,500,000, 6.0% Convertible Promissory Notes,
      due
      May 31, 2007, and warrants to purchase 250,000,000 shares of common stock.
      Proceeds, which were net of $454,851 in cash financing costs, amounted to
      $4,045,149. Proceeds from this financing arrangement were allocated to the
      fair
      value of the conversion option and warrants, based upon their fair values,
      because share-settlement of these instruments is not within the Company’s
      control. The following table reflects the components of the initial
      allocation:





Financial
                instrument:Warrant
                derivative
            
            $
            13,895,090Compound
                derivative
            
            
            8,113,451Convertible
                notes payable
            
            
            —Financing
                costs, net of cash costs of$454,851
            
            
            (867,357
            )Day-one
                derivative loss
            
            
            (17,096,035
            )$
            4,045,149





The
      derivative warrants were issued in two traunches, each having terms of five
      years. The traunches have exercise prices of $0.50 and $1.20, respectively.
      The
      Company fair valued the derivative warrants using the Black-Scholes-Merton
      Technique using a volatility factor of 90.76% and a risk free interest rate
      of
      $4.69%. The Company uses the Black-Scholes-Merton valuation technique for
      warrants because this technique embodies all of the assumptions necessary to
      fair value non-complex instruments.





The
      compound derivative comprises certain derivative features embedded in the host
      convertible note payable contract including the conversion feature,
      anti-dilution protections and certain redemption features. These instruments
      were combined into one compound derivative and bifurcated from the host
      instrument at fair value. The Company applied the Monte-Carlo valuation
      technique to fair value this derivative because Monte Carle embodies all
      assumptions (including credit risk, interest rate risk, conversion/redemption
      behaviors) necessary to fair value complex, compound derivative financial
      instruments.





Since
      the
      derivative financial instruments are required to be recorded, both initially
      and
      subsequently at fair values, there were insufficient proceeds to allocate any
      amount to the Convertible Notes Payable and, accordingly, it has no carrying
      value on the inception date. In addition, proceeds were insufficient to record
      the fair values of the derivative financial instruments, resulting in a day-one
      derivative loss of $17,096,035. It should be noted that derivative instruments
      will be adjusted to fair value at each reporting date. Fair values are highly
      influenced by our trading stock price and volatility, changes in our credit
      risk
      and market interest rates.





The
      Company amortizes the discount on the Convertible Notes Payable resulting from
      the initial allocation over the term of the debt instrument using the effective
      method. Amortization expense, including amortization of deferred financing
      costs, arising from this method during the period from inception to December
      31,
      2006 amounted to $953,839, of which, $264,441 represented amortization of debt
      discount.





**Note
      10 - Derivative Financial Instruments**





The
      balance sheet caption derivative liabilities consist of (i) embedded conversion
      features and (ii) the Warrants, issued in connection with the 2005 Laurus
      Financing Arrangement, the 2006 Omnibus Amendment and Waiver Agreement with
      Laurus, and the 2006 Barron Financing Arrangement. These derivative financial
      instruments are indexed to an aggregate of 47,891,751 and 6,307,242 shares
      of
      the Company’s common stock as of December 31, 2006 and 2005, respectively, and
      are carried at fair value. The following tabular presentations set forth
      information about the derivative instruments for the year ended December 31,
      2006 and 2005:




F-20





Derivative
                income (expense)
            
            Year
                ended
              December
                31, 2006
            
            Year
                ended
              December
                31, 2005Conversion
                features
            
            $
            (13,858,526
            )
            $
            264,752Warrant
                derivative
            
            $
            105,231
            
            $
            105,275$
            (13,753,295
            )
            $
            370,027





Liabilities
            
            December
                31, 2006
            
            December
                31, 2005Compound
                derivative
            
            
            ($
                6,756,114
            )
            
            ($
                255,462
            )Warrant
                derivative
            
            
            ($
                13,117,668
            )
            
            ($
                207,000
            )Total
            
            
            ($
                19,873,782
            )
            
            ($
                462,462
            )




Freestanding
      derivative instruments, consisting of warrants and options that arose from
      the
      Laurus and Barron financing are valued using the Black-Scholes-Merton valuation
      methodology because that model embodies all of the relevant assumptions that
      address the features underlying these instruments. Significant assumptions
      used
      in the Black Scholes models included: conversion or strike prices ranging from
      $0.1 - $1.10; volatility factors ranging from 35.50% - 126.43% based upon
      forward terms of instruments; terms-remaining term for all instruments; and
      a
      risk free rate ranging from 4.69% - 5.01%. Fair value for forward-based features
      (principally the interest reset feature) is determined using the income
      approach; generally discounted cash flows.





Embedded
      derivative instruments consist of multiple individual features that were
      embedded in the convertible debt instruments. The Company evaluated all
      significant features of the hybrid instruments and, where required under current
      accounting standards, bifurcated features for separate report classification.
      These features were, as attributable to each convertible note, aggregated into
      one compound derivative financial instrument for financial reporting purposes.
      The compound embedded derivative instruments are valued using the Flexible
      Monte
      Carlo methodology because that model embodies certain relevant assumptions
      (including, but not limited to, interest rate risk, credit risk, and
      Company-controlled redemption privileges) that are necessary to value these
      complex derivatives. Significant assumptions included in the Flexible Monte
      Carlo included: conversion or strike prices ranging from $0.23 - $1.00;
      volatility factors ranging from 40.70% to 127.01% based upon forward terms
      of
      instruments; terms-remaining term for all instruments; equivalent interest
      rate
      risk ranging from 3.10% to 11.59% and equivalent yield rate ranging from 11.57%
      to 13.15%.





Equivalent
      amounts reflect the net results of multiple modeling simulations that the Monte
      Carlo Simulation methodology applies to underlying assumptions.




**Note
      11- Private Placement - Equity Financing**




Between
      April 14, 2006 and May 11, 2006 the Company sold 2,274,951 shares of common
      stock and 1,161,587 warrants to purchase additional shares of common stock
      to
      various accredited investors in a private placement The Company received
      $1,293,906 and exchanged $100,000 of accrued expenses for a total of
      $1,393,906.. Each unit is comprised of 10 shares and 5 warrants to purchase
      one
      shares of common stock with an exercise price of $1.20 per share exercisable
      for
      five years. Each 100 shares of common stock and one common stock purchase
      warrant were sold for a per-unit price of $60.00, or $0.60 per share.




F-21




The
      warrants were valued using Black Scholes at $0.62 per share at the date of
      issuance. The following assumptions were used; Interest of 4.92% and volatility
      156.01% . The underlying stock value at the date of issuance was $0.685 per
      share. The Company recorded a one-time non-cash financing expense of $720,184
      on
      the transaction.




**Note
      12 Common Stock**




February
      2, 2007 the Company affected a one-for-ten reverse stock split restating the
      common shares at December 31, 2006 and 2005 from 166,424,280 and 89,841,500
      ,respectively to 16,642,428 and 8,984,150 respectively. All reference to shares
      have been restated to reflect the reverse.




In
      connection with the purchase of all of the issued and outstanding shares of
      RTI's common stock, the Company issued 1,000,000 shares of its Series "B"
      Convertible Preferred Stock. Each shares of Series "B" Convertible Preferred
      will automatically be converted into the Company's common stock on September
      18,
      2007 at a rate of 8 1/3 shares of common stock subject to adjustment in the
      event of dividends, splits and other distributions, combinations of shares
      or
      reverse splits or other recapitalizations.




The
      Company sold a note in the principal amount of $4,500,000 to Barron Partners
      LP.
      In connection with the sale of the note, Company's board of directors approved,
      subject to stockholder approval, a restated certificate of incorporation which,
      among other provisions, affects a one-for-ten reverse split in the Company's
      common stock, and agreed to submit the restated certificate of incorporation
      to
      the stockholders for their approval.




Upon
      the
      filing of the restated certificate of incorporation with the State of Delaware,
      principal and interest due on the note shall be automatically converted into
      such number of shares of the Company's Series A Preferred Stock as is determined
      by dividing the principal amount of the note by the Conversion Price, which
      initially is $.575. Prior to such filing, the note is convertible at the
      Conversion Price at the option of the holder. The filing was effected February
      2, 2007 which effected a ten to one reverse split of the Company’s Commons
      shares. Concurrently, the convertible note and accrued interest converted to
      Preferred Stock .




Each
      share of Series A Preferred Stock is convertible into 25 shares of common stock
      subject to adjustment in certain instances, including the issuance by the
      Company of common stock at a price which is less than the conversion price
      applicable to the Series A Preferred Stock, which is initially $.023 per share,
      subject to adjustment.





**Note
      13-Related party agreements**




On
      September 19, 2006 in connection with the RTI acquisition the Company signed
      a
      three year employment contract with Michael Ricciardi the former majority
      shareholder of RTI. He is the chief operating officer of the Company. His base
      salary is $165,000 annually, plus bonuses of not less than 30% of his base
      salary if established revenue and personal goals are achieved. , In addition
      he
      will be granted an incentive stock option to purchase 125,000 shares of the
      Company's common stock at a price of $0.60 per share, pursuant to the Employer's
      2002 incentive option plan. The options will have a ten year life and will
      vest
      annually on anniversary dates over a three year period.




Marie
      Ricciardi , spouse of Mike Ricciardi is being compensated $15,000 per quarter
      from October 1, 2006 to March 31, 2007. $15,000 has been recorded as expense
      and
      paid in 2006.




On
      August
      28, 2006 the Company amended Mr. Paul Burgess's 2003 employment contract as
      follows: Mr. Burgess will receive an incentive bonus of 5% of the before tax
      net
      income of the most recent twelve month period of any acquisition closed by
      the
      Company during the term of this contract. On November 3, 2006, the Board of
      Directors approved a bonus in connection with the RTI acquisition and Barron's
      financing of $52,500.The bonus was recorded in general and administrative
      expenses. Mr Burgess is eligible for a bonus of $100,000 upon effective
      registration of SB2 filed February 12, 2007. Mr. Paul Burgess CEO &
President of the Company has waived his right to the base salary of $112,500
      for
      the first half of 2006.




F-22





On
      March
      7, 2005, the Company signed a three year employment contract with Joe Noto
      to be
      its Vice President of Finance and Administration, at an initial annual base
      salary of $130,000, He is also entitled to a cash incentive bonus equal to
      20%
      of Base Salary based on meeting predetermined company objectives. In 2006 Mr.
      Noto was granted a bonus of $30,000. In addition he was granted 2,000,000
      options to purchase the Company’s stock at $1.00 per share. He will also receive
      medical, vacation and profit sharing benefits consistent with the Company's
      current policies. Effective May 12, 2005, Joe Noto assumed the position as
      Chief
      Financial Officer of the Company at an annual base salary of $150,000.





On
      July
      14, 2005, The Company entered into an agreement dated July 1, 2005 terminating
      the Company's consulting agreement with Calabash Consultancy, Ltd ("Calabash").
      Calabash is owned and controlled by Alan C. Bashforth, former Secretary and
      a
      director of the Company. Notwithstanding the termination, the 600,000 seven-year
      warrants with a strike price of $1.00 per share and the 200,000 options with
      a
      strike price of $0.50 granted to Calabash under the consulting agreement will
      remain in effect, subject to the following amendments: (a) the right to exercise
      the Warrants will commence on March 31, 2006; and (b) the right to exercise
      the
      Options will expire March 31, 2008. The Company owed Calabash $125,000 in
      consulting fees under the consulting agreement.. In May 2006 Mr. Bashforth
      exchanged $100,000 of this obligation for 166,667 shares of the company common
      stock and a warrant to purchase 83,333 shares of common stock at $1,20, in
      connection this the May private placement. The balance was paid in cash.




On
      February 4, 2005, the Company entered into an Employment Agreement with SMEI
      and
      Eric D. Zelsdorf. Under the agreement, Mr. Zelsdorf will be employed as SMEI’s
      Chief Technology Officer until December 31, 2007. For his services, SMEI agreed
      to pay Mr. Zelsdorf a base salary of $160,000 per year. Mr. Zelsdorf also may
      be
      paid an incentive bonus based on a percentage of his base salary. Upon
      completion of the Company’s acquisition of SMEI, the Company agreed that it
      would grant Mr. Zelsdorf stock options in accordance with the Company’s employee
      stock  option
      program. The exercise price of the stock options are to be set at the Company’s
      stock price at the close of the acquisition of SMEI by the Company. No options
      were issued in 2005.





**Note
      14-Stock Based Compensation**





**a)**
            **2002
                Employee Stock option plan**





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





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





Under
      the
      modified prospective approach, SFAS 123R applies to new awards and to awards
      that were outstanding on January 1, 2006 that are subsequently modified,
      repurchased or cancelled. Under the modified prospective approach, compensation
      cost recognized for the first quarter of fiscal 2006 includes compensation
      cost
      for all share-based payments granted prior to, but not yet vested on, January
      1,
      2006, based on the grant-date fair value estimated in accordance with the pro
      forma provisions of SFAS 123, and compensation cost for all
      share-based payments granted subsequent to January 1, 2006, based on the
      grant-date fair value estimated in accordance with the provisions of SFAS 123R.
      Prior periods were not restated to reflect the impact of adopting the new
      standard. For the year ended December 31, 2006, the Company implementation
      of
      SFAS 123R




F-23





The
      fair
      value of stock options at date of grant was estimated using the Black-Scholes
      model with the following assumptions: expected volatility ranging from 99%,-156%
      expected term of 10 years, risk-free interest rate ranging from 4.88% to 4.92%,
      and expected dividend yield of 0%. Expected volatility is based on the historical
      volatilities of the Company's common stock. The expected life of employee stock
      options is determined using historical data of employee exercises and represents
      the period of time that stock options are expected to be outstanding.
      The risk free interest rate is based on U.S. Treasury constant maturing for
      the
      expected life of the stock option.


Number
                  of
              
              Number
                  of
              
              Weighted-Options
              
              Options
              
              AverageAvailable
              
              Outstanding
              
              Exercise
                  PriceBalance
                  December 31, 2004
              
              
              1,826,000
              
              
              53,500
              
              $
              1.20Options
                  granted under Plan 2005
              
              
              (1,034,000
              )
              
              1,034,000
              
              $
              1.00Options
                  expired in 2005
              
              
              
              
              
              (41,500
              )
              $
              1.10Balance
                  December 31, 2005
              
              
              792,000
              
              
              1,046,000
              
              $
              1.00Options
                  granted under Plan in 2006
              
              
              (325,000
              )
              
              325,000
              
              $
              0.60Balance
                  December 31, 2006
              
              
              467,000
              
              
              1,371,000
              
              $
              1.00





Options
      issued in December 31, 2006 and 2005 were 325,000 and 992,500 vesting equally
      over a three year period at a price of $0.60 and $1.00 respectively. The
      weighted average contractual life of those options was 8 years.





The
      weighted-average fair value per share of the options granted during 2006 and
      2005 was estimated on the date of grant using the Black-Scholes option pricing
      model, was $.59 and $0.27 respectively. The following assumptions were used
      to
      estimate the fair value of the options at grant date based on the following:


2006
              
              2005Risk-Free
                  interest rate
              
              
              4.92
              %
              
              4.88
              %Expected
                  dividend yield
              
              
              -
              
              
              -Expected
                  stock price volatility
              
              
              156
              %
              
              99
              %Expected
                  option Life
              
              
              10
                  years
              
              
              10
                  years




**b)
      Employee Stock Purchase Plan**





In
      2002
      the Company established an Employee Stock Purchase Plan. The Plan is to provide
      eligible Employees of the Company and its Designated Subsidiaries with an
      opportunity to purchase Common Stock of the Company through accumulated payroll
      deductions and to enhance such Employees' sense of participation in the affairs
      of the Company and its Designated Subsidiaries. It is the intention of the
      Company to have the Plan qualify as an "Employee Stock Purchase Plan" under Section
      423 of the Internal Revenue Code of 1986. The provisions of the Plan,
      accordingly, shall be construed so as to extend and limit participation in
      a
      manner consistent with the requirements of that section of the Code. The maximum
      number of shares of the Company's Common Stock which shall be made available
      for
      sale under the Plan shall be two million (2,000,000) shares. There are no shares
      issued under the plan in 2006 or 2005.




F-24





**c)
      Warrants**





The
      Company issued 28,598,120 and 1,500,00 common stock purchase warrants in 2006
      and 2005 respectively at a prices ranging from $0.10 to $1.25 per share in
      connection with financing activities.





**Note
      15-Major Customers**





With
      the
      RTI acquisition in September 2006 and the SMEI acquisition closed in February
      2005, our primary "end-user" customer is the U.S. Department of Defense (DoD)
      which accounted for approximately 77% and 71% of total sales for 2006 and 2005
      respectively.





**Note
      16-Earnings (Loss) Per Share**





Basic
      earnings per share exclude potential dilution and were computed using the
      weighted average number of common shares outstanding during the period. Diluted
      earnings per share incorporate the potential dilutions from all potentially
      dilutive securities that would have reduced earnings per share. Since the
      potential issuance of additional shares would reduce loss per share they are
      considered anti-dilutive and are excluded from the calculation.





The
      weighted average number of shares used to compute basic loss per share was
      11,888,458 and 8,508,529 in 2006 and 2005 respectively.





**Note
      17-Subsequent events**





Upon
      the
      effectiveness of the restated certificate of incorporation, February 2, 2007
      the
      principal and interest due on the Barrons note automatically converted
      into 7,826,087 shares of series A preferred stock.





On
      February 8, 2007 the company issued a warrant to purchase 1,900,000 shares
      of
      its common stock at an exercise price of $0.50, as consideration for an
      amendment to the September 19, 2006 Securities purchase agreement, which
      extended the filing date of a registration statement from 60 days from September
      19, 2006 to no later than February 12, 2007. It also extended the date to have
      an independent board, and an audit committee comprised of not less than three
      directors, a majority of whom are independent directors, and a compensation
      committee to February 12, 2007.





On
      February 12, 2007 the Company filed an SB-2 to register 5,000,000 shares of
      the
      company’s common stock in connection with the Barrons September 19, 2006
      Securities purchase agreement; 3,000,000 shares of preferred series A and
      2,000,000 are issuable upon the exercise of warrants.





On
      February 2 , 2007 the company changed it name to Lattice
      Incorporated.





F-25