**UNITED
      STATES SECURITIES AND EXCHANGE COMMISSION**


**WASHINGTON,
      D.C. 20549**





**Form
      10-Q**





**x** **QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF**


**THE
      SECURITIES EXCHANGE ACT OF 1934**





**For
      the quarterly period ended September 30, 2008**





**OR**





**o** **TRANSITION REPORT UNDER SECTION 13 OR 15(D) OF THE**


**SECURITIES
      EXCHANGE ACT OF 1934**





**For
      the transition period from _______ to _______.**





**Commission
      File Number 333-16031**





**INCENTRA
      SOLUTIONS, INC.**


(Exact
        name of registrant as specified in its charter)





**Nevada**
            
            **86-0793960****(State or other jurisdiction**
            
            **(I.R.S. Employer****of incorporation or organization)**
            
            **Identification No.)**





**1140 PEARL
      STREET**


**BOULDER,
      COLORADO 80302**





**(Address
      of principal executive offices)**





**(303)
      449-8279**





**(Registrant's
      telephone number)**





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





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





Large
      Accelerated Filer o Accelerated Filer o Non-accelerated Filer o Smaller Reporting Company x





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





As
      of
      November 3, 2008, 22,935,240 shares of the issuer's common stock, $.001 par
      value per share, and 2,466,971 shares of the issuer's Series A preferred stock,
      $.001 par value per share, were outstanding.





**PART
      I. FINANCIAL INFORMATION**





**Item
      1. FINANCIAL STATEMENTS**





**INCENTRA
                  SOLUTIONS, INC. AND SUBSIDIARIES****CONDENSED
                  CONSOLIDATED BALANCE SHEETS**
 
 **September
                  30, 2008**
              
              **December
                  31, 2007****(UNAUDITED)****ASSETS**Current
                  assets:Cash
                  and cash equivalents
              
              $
              943,900
              
              $
              3,274,600Accounts
                  receivable, net of allowance for doubtful accounts of $187,111
                  and
                  $380,913at
                  September 30, 2008 and December 31, 2007, respectively
              
              
              38,630,805
              
              
              37,137,811Deferred
                  costs of services revenue
              
              
              3,717,422
              
              
              2,435,075Other
                  current assets
              
              
              3,142,789
              
              
              2,062,916Total
                  current assets
              
              
              46,434,916
              
              
              44,910,402Property
                  and equipment, net
              
              
              7,044,365
              
              
              7,201,027Capitalized
                  software development costs, net
              
              
              1,259,531
              
              
              1,143,831Intangible
                  assets, net
              
              
              2,457,657
              
              
              2,952,523Goodwill
              
              
              33,210,412
              
              
              30,452,152Deferred
                  costs of services revenue, net of current portion
              
              
              1,560,119
              
              
              752,978Other
                  assets
              
              
              527,625
              
              
              762,732**TOTAL
                  ASSETS**
              
              **$**
              **92,494,625**
              
              **$**
              **88,175,645****LIABILITIES
                  AND SHAREHOLDERS' DEFICIT**Current
                  liabilities:Notes
                  payable and other long-term obligations
              
              $
              19,990,381
              
              $
              16,879,609Capital
                  lease obligations
              
              
              629,339
              
              
              765,625Accounts
                  payable
              
              
              32,848,811
              
              
              28,962,489Accrued
                  expenses and other
              
              
              8,967,086
              
              
              7,865,142Deferred
                  services revenue
              
              
              5,005,731
              
              
              3,886,370Total
                  current liabilities
              
              
              67,441,348
              
              
              58,359,235Notes
                  payable and other long-term obligations, net of current
                  portion
              
              
              7,671,914
              
              
              9,332,412Capital
                  lease obligations, net of current portion
              
              
              3,986,400
              
              
              3,701,252Deferred
                  services revenue, net of current portion
              
              
              1,201,442
              
              
              847,103**TOTAL
                  LIABILITIES**
              
              
              **80,301,104**
              
              
              **72,240,002**Commitments
                  and contingenciesSeries
                  A convertible redeemable preferred stock, $.001 par value, $31,500,000
                  liquidationpreference,
                  2,500,000 shares authorized, 2,466,971 shares issued and
                  outstandingat
                  September 30, 2008 and December 31, 2007, respectively
              
              
              31,392,553
              
              
              29,853,466Shareholders'
                  deficit:Preferred
                  stock, nonvoting, $.001 par value, 2,500,000 shares authorized,
                  none
                  issued
              
              
              -
              
              
              -Common
                  stock, $.001 par value, 200,000,000 shares authorized, 22,108,451
                  and
                  21,317,863shares
                  issued and outstanding at September 30, 2008 and December 31, 2007,
                  respectively
              
              
              22,108
              
              
              21,318Additional
                  paid-in capital
              
              
              130,824,452
              
              
              130,830,866Accumulated
                  deficit
              
              
              (150,045,592
              )
              
              (144,770,007
              )**TOTAL
                  SHAREHOLDERS' DEFICIT**
              
              
              **(19,199,032**
              **)**
              
              **(13,917,823**
              **)****TOTAL
                  LIABILITIES AND SHAREHOLDERS' DEFICIT**
              
              **$**
              **92,494,625**
              
              **$**
              **88,175,645**





See
      accompanying notes to unaudited condensed consolidated financial
      statements.


1


**INCENTRA
                  SOLUTIONS, INC. AND SUBSIDIARIES****CONDENSED
                  CONSOLIDATED STATEMENTS OF OPERATIONS****(UNAUDITED)**
  **Three
                  Months Ended September 30,**
              
              **Nine
                  Months Ended September 30,****2008**
              
              **2007**
              
              **2008**
              
              **2007**REVENUES:Products
              
              $
              47,674,545
              
              $
              30,268,775
              
              $
              140,426,226
              
              $
              76,185,704Services
              
              
              7,438,774
              
              
              6,091,746
              
              
              22,159,048
              
              
              15,956,448**TOTAL
                  REVENUE**
              
              
              **55,113,319**
              
              
              **36,360,521**
              
              
              **162,585,274**
              
              
              **92,142,152**Cost
                  of revenue:Products
              
              
              39,114,393
              
              
              24,444,989
              
              
              115,682,181
              
              
              62,036,304Services
              
              
              5,345,120
              
              
              4,057,196
              
              
              15,892,032
              
              
              10,521,441Total
                  cost of revenue
              
              
              44,459,513
              
              
              28,502,185
              
              
              131,574,213
              
              
              72,557,745**GROSS
                  MARGIN**
              
              
              **10,653,806**
              
              
              **7,858,336**
              
              
              **31,011,061**
              
              
              **19,584,407**Selling,
                  general and administrative expense
              
              
              9,949,963
              
              
              8,314,534
              
              
              29,687,313
              
              
              22,135,841Stock-based
                  compensation expense
              
              
              147,186
              
              
              322,957
              
              
              455,470
              
              
              1,145,951Depreciation
                  and amortization
              
              
              548,913
              
              
              283,702
              
              
              1,611,274
              
              
              888,27210,646,062
              
              
              8,921,193
              
              
              31,754,057
              
              
              24,170,064**INCOME
                  (LOSS) FROM OPERATIONS**
              
              
              **7,744**
              
              
              **(1,062,857**
              **)**
              
              **(742,996**
              **)**
              
              **(4,585,657**
              **)**Interest
                  expense, net
              
              
              (1,570,256
              )
              
              (794,044
              )
              
              (4,532,589
              )
              
              (2,239,438
              )**NET
                  LOSS**
              
              
              **(1,562,512**
              **)**
              
              **(1,856,901**
              **)**
              
              **(5,275,585**
              **)**
              
              **(6,825,095**
              **)**Accretion
                  of convertible redeemable preferred stock to redemption
                  amount
              
              
              (558,850
              )
              
              (654,392
              )
              
              (1,867,634
              )
              
              (1,963,176
              )**NET
                  LOSS APPLICABLE TO COMMON SHAREHOLDERS**
              
              **$**
              **(2,121,362**
              **)**
              **$**
              **(2,511,293**
              **)**
              **$**
              **(7,143,219**
              **)**
              **$**
              **(8,788,271**
              **)**Weighted
                  average number of common shares outstanding - basic and
                  diluted
              
              
              26,395,698
              
              
              16,821,857
              
              
              26,400,904
              
              
              14,380,724Basic
                  and diluted net loss per share applicable to commonshareholders:Net
                  loss per share--basic and diluted
              
              $
              (0.08
              )
              $
              (0.15
              )
              $
              (0.27
              )
              $
              (0.61
              )







See
      accompanying notes to unaudited condensed consolidated financial
      statements.


2





**INCENTRA
                  SOLUTIONS, INC. AND SUBSIDIARIES****CONDENSED
                  CONSOLIDATED STATEMENT OF SHAREHOLDERS' DEFICIT****NINE
                  MONTHS ENDED SEPTEMBER 30, 2008****(UNAUDITED)**
 
 **Common
                  stock**
              
              **Additional
                  paid-in capital**
              
              **Accumulated
                  deficit**
              
              **Total****Shares**
              
              **Amount****Balances
                  at January 1, 2008**
              
              
              **21,317,863**
              
              **$**
              **21,318**
              
              **$**
              **130,830,866**
              
              **$**
              **(144,770,007**
              **)**
              **$**
              **(13,917,823**
              **)**Stock-based
                  compensation expense
              
              
              **-**
              
              
              **-**
              
              
              455,470
              
              
              -
              
              
              455,470Accretion
                  of convertible redeemable preferred stock to redemption
                  amount
              
              
              -
              
              
              -
              
              
              (1,867,634
              )
              
              -
              
              
              (1,867,634
              )Cash-less
                  exercise of warrants
              
              
              790,588
              
              
              790
              
              
              (790
              )
              
              -
              
              
              -Reclassification
                  of redemption value of expired preferred stock warrants
              
              
              -
              
              
              -
              
              
              328,545
              
              
              -
              
              
              328,545Shares
                  issued in October 2008 pursuant to earn-out provision for NST acquisition
                  (Note 10)
              
              
              -
              
              
              -
              
              
              411,328
              
              
              -
              
              
              411,328Shares
                  to be issued pursuant to earn-out provision for SSI acquisition
                  (Note
                  9)
              
              
              -
              
              
              -
              
              
              666,667
              
              
              -
              
              
              666,667Net
                  loss
              
              
              -
              
              
              -
              
              
              -
              
              
              (5,275,585
              )
              
              (5,275,585
              )**Balances
                  at September 30, 2008**
              
              
              **22,108,451**
              
              **$**
              **22,108**
              
              **$**
              **130,824,452**
              
              **$**
              **(150,045,592**
              **)**
              **$**
              **(19,199,032**
              **)**





See
      accompanying notes to unaudited condensed consolidated financial
      statements.


3





**INCENTRA
      SOLUTIONS, INC. AND SUBSIDIARIES**


**CONDENSED
      CONSOLIDATED STATEMENTS OF CASH FLOWS**


**(UNAUDITED)**





**NINE MONTHS ENDED SEPTEMBER 30,****2008**
            
            **2007**Cash
                flows from operating activities:Net
                loss
            
            $
            (5,275,585
            )
            $
            (6,825,095
            )Adjustments
                to reconcile net loss to net cash used in operating
                activities:Depreciation
            
            
            1,760,896
            
            
            1,222,944Amortization
                of intangible assets and software development costs
            
            
            1,297,911
            
            
            952,235Stock-based
                compensation expense
            
            
            455,470
            
            
            1,145,951Amortization
                of debt issue costs
            
            
            1,644,155
            
            
            1,121,166Non-cash
                loss on early extinguishment of debt
            
            
            -
            
            
            135,851Bad
                debt expense
            
            
            136,572
            
            
            5,772Changes
                in operating assets and liabilities:Accounts
                receivable
            
            
            (2,062,864
            )
            
            (5,135,464
            )Other
                current assets
            
            
            (2,483,486
            )
            
            (703,977
            )Other
                assets
            
            
            (725,700
            )
            
            61,494Accounts
                payable
            
            
            3,867,322
            
            
            (536,506
            )Accrued
                expenses and other
            
            
            279,971
            
            
            (1,114,015
            )Deferred
                revenue
            
            
            1,473,700
            
            
            1,817,026Net
                cash provided by (used in) continuing operations
            
            
            368,362
            
            
            (7,852,618
            )Net
                cash provided by (used in) discontinued operations
            
            
            370,008
            
            
            (12,086
            )Net
                cash provided by (used in) operating activities
            
            
            738,370
            
            
            (7,864,704
            )Cash
                flows from investing activities:Purchases
                of property and equipment
            
            
            (1,653,918
            )
            
            (1,091,778
            )Capitalized
                software development costs
            
            
            (719,060
            )
            
            (602,623
            )Earn-out
                payment related to NST acquisition
            
            
            (135,425
            )
            
            -Cash
                paid in acquisition of Helio
            
            
            (34,097
            )
            
            (4,798,913
            )Cash
                paid in acquisition of SSI
            
            
            -
            
            
            (3,784,512
            )Other
            
            
            -
            
            
            (102,420
            )Net
                cash used in continuing operations
            
            
            (2,542,500
            )
            
            (10,380,246
            )Net
                cash provided by discontinued operations
            
            
            -
            
            
            1,500,000Net
                cash used in investing activities
            
            
            (2,542,500
            )
            
            (8,880,246
            )Cash
                flows from financing activities:Proceeds
                on line of credit, net
            
            
            1,849,481
            
            
            8,110,185Proceeds
                from capital leases, notes payable and other long-term
                liabilities
            
            
            711,614
            
            
            12,791,789Payments
                on capital leases, notes payable and other long-term
                liabilities
            
            
            (3,087,665
            )
            
            (2,734,168
            )Proceeds
                from exercise of employee stock options
            
            
            -
            
            
            13,301Payment
                of debt issuance costs
            
            
            -
            
            
            (685,000
            )Net
                cash (used in) provided by continuing operations
            
            
            (526,570
            )
            
            17,496,107Net
                cash provided by discontinued operations
            
            
            -
            
            
            -Net
                cash (used in) provided by financing activities
            
            
            (526,570
            )
            
            17,496,107Net
                decrease in cash and cash equivalents from continuing
                operations
            
            
            (2,700,708
            )
            
            (736,757
            )Net
                increase in cash and cash equivalents from discontinued
                operations
            
            
            370,008
            
            
            1,487,914Net
                (decrease) increase in cash and cash equivalents
            
            
            (2,330,700
            )
            
            751,157Cash
                and cash equivalents at beginning of period
            
            
            3,274,600
            
            
            976,673Cash
                and cash equivalents at end of period
            
            $
            943,900
            
            $
            1,727,830Supplemental
                disclosures of cash flow information:Cash
                paid during the period for interest
            
            $
            2,888,434
            
            $
            1,118,272Supplemental
                disclosures of non-cash investing and financing
                activities:Purchases
                of property and equipment included in accounts payable
            
            $
            272,932
            
            $
            65,629Net
                assets acquired in Helio acquisition, excluding cash
            
            
            -
            
            
            1,357,879Net
                liabilities assumed in SSI acquisition, excluding cash
            
            
            -
            
            
            451,436Debt
                issued in Helio acquisition
            
            
            -
            
            
            770,000Debt
                issued in SSI acquisition
            
            
            -
            
            
            250,000Reclassification
                of redemption value of expired preferred stock warrants
            
            
            328,545
            
            
            -Accrual
                of earn-out provisions for NST, SSI and Helio
                acquisitions
            
            
            2,411,328
            
            
            -





See
      accompanying notes to unaudited condensed consolidated financial
      statements.


4





**INCENTRA
      SOLUTIONS, INC. AND SUBSIDIARIES**


**NOTES
      TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**







**1.**
            **ORGANIZATION**





Incentra
      Solutions, Inc. (which is referred to herein together with its subsidiaries
      as
      "we," "us," or "our") was organized and incorporated in the state of Nevada.
      Our
      common stock trades on the Over-the-Counter Bulletin Board under the trading
      symbol "ICNS." On July 31, 2006, we sold substantially all of the assets of
      our
      broadcast and media operations, Front Porch Digital, Inc. (“Front Porch”). In
      2007 we completed two acquisitions: on August 17, 2007, we acquired Helio
      Solutions, Inc., a privately-held California corporation (“Helio”) and on
      September 5, 2007, we acquired Sales Strategies, Inc. (d/b/a SSI Hubcity),
      a
      privately held New Jersey corporation (“SSI”). We have included the results of
      operations for the two acquisitions in our consolidated financial statements
      from their acquisition dates.





We
      are a
      leading provider of complete Information Technology (“IT”) services and
      solutions to enterprises and managed service providers in North America and
      Europe. Our complete solutions include hardware and software products,
      maintenance contracts, professional services, recurring managed services and
      capital financing solutions. We market our products and services to service
      providers and enterprise clients under the trade name Incentra
      Solutions.





**Basis
      of Presentation**





The
      consolidated financial statements include Incentra Solutions, Inc. and its
      wholly-owned subsidiaries. All significant intercompany accounts and
      transactions have been eliminated in consolidation.





The
      accompanying unaudited condensed consolidated financial statements have been
      prepared by us in accordance with accounting principles generally accepted
      in
      the United States of America (“GAAP”) for interim financial information and
      pursuant to the rules and regulations of the Securities and Exchange Commission
      ("SEC"). Certain information and footnote disclosures normally included in
      financial statements prepared in accordance with GAAP have been condensed or
      omitted pursuant to such regulations. The unaudited condensed consolidated
      financial statements reflect all adjustments and disclosures that are, in the
      opinion of management, necessary for a fair presentation. Except as described
      above, all such adjustments are of a normal recurring nature. Certain prior
      year
      amounts have been reclassified to conform with current year presentations.
      The
      results for the three-month and nine-month periods ended September 30, 2008
      are
      not necessarily indicative of the results expected for the year ending December
      31, 2008. These interim financial statements should be read in conjunction
      with
      the consolidated financial statements and footnotes included in our Annual
      Report on Form 10-K for the year ended December 31, 2007, as filed with the
      SEC
      on March 31, 2008.


5





**Management’s
      Plans**





We
      are
      subject to various risks and uncertainties frequently encountered by companies,
      particularly companies in the rapidly evolving market for technology-based
      products and services. Such risks and uncertainties include, but are not limited
      to, our limited operating history, need for additional capital, a volatile
      business and technological environment, an evolving business model, and the
      management of expected growth. To address these risks, we must, among other
      things, gain access to capital in amounts and on terms acceptable to us,
      maintain and increase our customer base, implement and successfully execute
      our
      business strategy, continue to enhance our technology, provide superior customer
      service, and attract, retain and motivate qualified personnel. There can be
      no
      assurance that we will be successful in addressing such risks.





Since
      inception, we have incurred substantial operating losses and have a working
      capital deficit of $21.0 million and a shareholders' deficit of $19.2 million
      at
      September 30, 2008. We have funded these deficiencies by utilizing our existing
      working capital, lines of credit and long-term borrowings. We anticipate that
      we
      will continue to fund our business from existing lines of credit and from
      increasing cash flows from our business operations. Our revolving credit
      facility matures on February 5, 2009, and is subject to having sufficient trade
      receivable balances to support the associated borrowing base. As of September
      30, 2008, we had $2.5 million of available borrowing capacity under our
      revolving credit facility. We believe we can renew and/or extend our current
      line upon maturity. However, no assurance can be given that we will be
      successful in increasing cash flow from operations or that additional funding
      can be obtained when needed, or that such funding, if available, will be
      obtainable on terms acceptable to us. Realization of our investment in property
      and equipment and other long-lived assets is dependent upon achieving positive
      operating cash flows. If we do not achieve and maintain such positive operating
      cash flows, our long-lived assets could be considered impaired, resulting in
      a
      significant impairment charge to operations.





We
      incurred a net loss of $5.3 million for the nine-month period ended
      September 30, 2008, although the net loss included certain non-cash expenses
      of
      approximately $5.3 million. Our 2008 operating plan, and the execution thereof,
      is focused on increasing revenue, controlling costs, and increasing cash flow.
      However, there can be no assurance that we will be able to meet the operational
      and financial requirements of our operating plan. We believe, assuming the
      renewal or extension of our revolving credit facility, that our cash and
      cash equivalents, working capital and access to current and potential lenders
      will provide sufficient capital resources to fund our operations, debt service
      requirements and working capital needs at least through the next 12
      months.




On
      August
      13, 2008, we agreed with the holders of the Series A Convertible Redeemable
      Preferred stockholders to extend the earliest possible redemption date from
      August 18, 2008 to January 1, 2010. We also agreed to amend the terms of our
      Series A Convertible Redeemable Preferred Stock (“Series A Preferred shares”) to
      provide for the accrual of a dividend equal to 6% per annum of the original
      issue price ($31.2 million in the aggregate) of our Series A stock, accruing
      daily, starting August 19, 2008 through February 18, 2009 and 12% thereafter
      until the redemption date. However, for any preferred shares converted to common
      stock prior to February 19, 2009, dividends accrued through such date are to
      be
      automatically waived by the respective holder upon such conversion. All other
      terms associated with the Series A Preferred shares remain unchanged.





**2.**
            **SUMMARY
                OF SIGNIFICANT ACCOUNTING
                POLICIES**





A
      description of our significant accounting policies is included in our 2007
      Annual Report on Form 10-K.




Per
      Share Data




Basic
      loss per share is calculated using the net loss allocable to common shareholders
      divided by the weighted average common shares outstanding during the period.
      Due
      to our net losses for the periods presented, shares from the assumed conversion
      of outstanding warrants, options, convertible preferred stock and convertible
      debt have been omitted from the computations of diluted loss per share because
      the effect would be antidilutive. However, in accordance with SFAS 128
*Earnings Per Share*, we do consider warrants exercisable at $0.01 to be
      outstanding for determining common stock equivalents used to calculate basic
      earnings per share.





**Stock-Based
      Compensation**





We
      use
      the Black-Scholes option pricing model to calculate the grant date fair value
      of
      each award. The fair value of options granted during the nine-month periods
      ended September 30, 2008 and 2007 were calculated using the following estimated
      weighted average assumptions:


6





**Nine Months Ended September 30,****2008**
            
            **2007**Stock
                options granted
            
            
            961,500
            
            
            1,170,700Weighted-average
                exercise price
            
            $
            0.83
            
            $
            0.92Weighted-average
                grant date fair value
            
            $
            0.64
            
            $
            0.74Assumptions:Expected
                volatility
            
            
            94
            %
            
            99
            %Expected
                term (in years)
            
            
            6
                Years
            
            
            6
                YearsRisk-free
                interest rate
            
            
            2.87
            %
            
            4.46
            %Dividend
                yield
            
            
            -
            
            
            -





Presented
      below is a summary of stock option activity for the nine months ended September
      30, 2008:





**Weighted**
            
            **Weighted****Average**
            
            **Average****Number of**
            
            **Exercise**
            
            **Contractual****Options**
            
            **Price**
            
            **Life**Balance
                at January 1, 2008
            
            
            3,948,174
            
            $
            1.59
            
            
            8.00Granted
            
            
            961,500
            
            
            0.83
            
            
            10.00Exercised
            
            
            -
            
            
            -
            
            
            -Forfeited
            
            
            296,178
            
            
            1.07
            
            
            8.43Balance
                at September 30, 2008
            
            
            4,613,496
            
            $
            1.46
            
            
            7.65Vested
                balance at September 30, 2008
            
            
            2,491,105
            
            $
            1.91
            
            
            6.60




As
      of
      September 30, 2008, there was $1.1 million of total unrecognized compensation
      expense related to the unvested, share-based compensation arrangements granted
      under the plans. That cost is expected to be recognized over a weighted-average
      period of 2.05 years. The intrinsic value of outstanding options was not
      material at September 30, 2008.





**Recently
      Issued Accounting Pronouncements**





In
      December 2007, the Financial Accounting Standards Board (“FASB”) issued
      Statement of Financial Accounting Standards (“SFAS”) No. 141 (Revised
      2007), *Business Combinations* (“SFAS
      141R”). SFAS 141R continues to require the purchase method of accounting to be
      applied to all business combinations, but it significantly changes the
      accounting for certain aspects of business combinations. Under SFAS 141R, an
      acquiring entity will be required to recognize all the assets acquired and
      liabilities assumed in a transaction at the acquisition-date fair value with
      limited exceptions. SFAS 141R will change the accounting treatment for certain
      specific acquisition related items including: (1) expensing acquisition
      related costs as incurred; (2) valuing non-controlling interests at fair
      value at the acquisition date; and (3) expensing restructuring costs
      associated with an acquired business. SFAS 141R also includes a substantial
      number of new disclosure requirements. SFAS 141R is to be applied prospectively
      to business combinations for which the acquisition date is on or after
      January 1, 2009. We expect SFAS 141R will have an impact on our accounting
      for future business combinations once adopted but the effect is dependent upon
      the acquisitions that are made in the future.





In
      December 2007, the FASB issued SFAS No. 160, *Noncontrolling Interests in Consolidated Financial Statements* (“SFAS
      160”). SFAS 160 establishes new accounting and reporting standards for the
      noncontrolling interest in a subsidiary and for the deconsolidation of a
      subsidiary. It clarifies that a noncontrolling interest in a subsidiary
      (minority interest) is an ownership interest in the consolidated entity that
      should be reported as equity in the consolidated financial statements and
      separate from the parent company’s equity. Among other requirements, this
      statement requires consolidated net income to be reported at amounts that
      include the amounts attributable to both the parent and the noncontrolling
      interest. It also requires disclosure, on the face of the consolidated statement
      of operations, of the amounts of consolidated net income attributable to the
      parent and to the noncontrolling interest. This statement will be effective
      for
      us as of January 1, 2009. We currently do not have any minority interest,
      as all of our subsidiaries are wholly-owned. We do not expect the adoption
      of
      this statement to have a material impact on our consolidated financial
      statements.


7





In
      February 2007, the FASB issued SFAS No. 159, *The
      Fair Value Option for Financial Assets and Financial
      Liabilities* (“SFAS
      159”). SFAS 159 allows entities to voluntarily choose to measure certain
      financial assets and liabilities at fair value (“fair value option”). The fair
      value option may be elected on an instrument-by-instrument basis and is
      irrevocable, unless a new election date occurs. If the fair value option is
      elected for an instrument, SFAS 159 specifies that any unrealized gains and
      losses for that instrument must be reported in earnings at each subsequent
      reporting date. SFAS 159 was effective for us on January 1, 2008. We did
      not apply the fair value option to any of our outstanding instruments and,
      therefore, SFAS 159 did not have an impact on our consolidated financial
      statements.





In
      September 2006, the FASB issued SFAS No. 157, *Fair
      Value Measurements* (“SFAS
      157”), which defines fair value, establishes a framework for measuring fair
      value in accordance with generally accepted accounting principles, and expands
      disclosures about fair value measurements. SFAS 157 was effective for us on
      January 1, 2008 for all financial assets and liabilities. For all
      nonfinancial assets and liabilities, SFAS 157 is effective for us on
      January 1, 2009. As it relates to our financial assets and liabilities, the
      adoption of SFAS 157 did not have a material impact on our consolidated
      financial statements. We are still in the process of evaluating the impact
      that
      SFAS 157 will have on our nonfinancial assets and liabilities.





**3.
      PROPERTY AND EQUIPMENT**





Property
      and equipment consist of the following:





**September
                  30,**
              
              **December
                  31,****2008**
              
              **2007**Computer
                  equipment
              
              $
              6,579,639
              
              $
              5,469,465Building
                  held under capital lease
              
              
              3,489,773
              
              
              3,489,773Equipment
                  held under capital lease
              
              
              1,136,635
              
              
              2,573,516Software
              
              
              2,399,283
              
              
              2,195,460Leasehold
                  improvements
              
              
              803,435
              
              
              147,576Office
                  furniture and equipment
              
              
              128,703
              
              
              230,084Vehicles
              
              
              69,114
              
              
              69,11414,606,582
              
              
              14,174,988Less
                  accumulated depreciation
              
              
              7,562,217
              
              
              6,973,961Total
              
              $
              7,044,365
              
              $
              7,201,027




**4.
      ACCRUED EXPENSES AND OTHER**




Accrued
      expenses and other consists of the following:




**September
                  30,**
              
              **December
                  31,****2008**
              
              **2007**Wages,
                  benefits and payroll taxes
              
              $
              4,606,925
              
              $
              4,393,219Accrual
                  of earn-out provisions of acquired subsidiaries
              
              
              1,333,333
              
              
              -Taxes,
                  other than income taxes
              
              
              1,209,309
              
              
              1,434,077Deferred
                  rent
              
              
              271,677
              
              
              219,657Interest
                  payable
              
              
              248,084
              
              
              374,380Due
                  to shareholders of acquired companies
              
              
              203,304
              
              
              302,584Professional
                  fees
              
              
              125,216
              
              
              163,564Other
                  accrued payables
              
              
              969,238
              
              
              977,661Total
              
              $
              8,967,086
              
              $
              7,865,142


8





**5.
      NOTES PAYABLE AND OTHER LONG-TERM OBLIGATIONS**





The
      following is a summary of our long-term debt:




**September 30,**
            
            **December 31,****2008**
            
            **2007**Laurus
                revolving line of credit (A)
            
            $
            17,162,690
            
            $
            14,639,7002007
                term note (A)
            
            
            9,125,692
            
            
            9,466,667NST
                note (B)
            
            
            -
            
            
            175,926Convertible
                notes (C)
            
            
            -
            
            
            850,000Helio
                note (D)
            
            
            533,008
            
            
            712,500SSI
                note (E)
            
            
            170,974
            
            
            230,628Other
                obligations
            
            
            669,931
            
            
            136,60027,662,295
            
            
            26,212,021Less
                current portion
            
            
            19,990,381
            
            
            16,879,609Non-current
                portion
            
            $
            7,671,914
            
            $
            9,332,412




**(A)  Laurus
      Convertible Note, Line of Credit and 2007 Term Note**





On
      February 6, 2006, we entered into a security agreement with Laurus Master Fund,
      Ltd (“Laurus”) pursuant to which Laurus agreed to provide us with a
      non-convertible revolving credit facility of up to $10 million (the "2006
      Facility"). The term of the 2006 Facility is three years and borrowings under
      the 2006 Facility accrue interest on the unpaid principal and interest at a
      rate
      per annum equal to the prime rate plus 1%, subject to a floor of 7%. During
      June
      2007, the available revolving credit line on the 2006 Facility was increased
      from $10 million to $15 million. In consideration for the increase, we issued
      Laurus a common stock purchase warrant to purchase 360,000 shares of our common
      stock at an exercise price of $0.01 per share. The warrant was valued at
      $343,000 using the Black-Scholes model and the discount is being amortized
      to
      earnings as additional interest expense over the term of the debt (through
      February 2009). On December 28, 2007, the available revolving credit line
      on the 2006 Facility was increased from $15 million to $20 million. In
      consideration for the increase, we issued Laurus a common stock purchase warrant
      to purchase 350,000 shares of our common stock at an exercise price of $0.01
      per
      share and the interest rate was changed to a fixed rate of 10%. The warrant
      was
      valued at $329,000 using the Black-Scholes model and the discount is being
      amortized to earnings as additional interest expense over the term of the debt
      (through February 2009). Pursuant to a Registration Rights Agreement dated
      as of
      December 28, 2007, between us and Laurus, we were obligated to file a
      registration statement to register the resale of the shares of our common stock
      underlying the warrant and use our best efforts to have the registration
      statement declared effective not later than June 25, 2008. The registration
      statement was filed with the SEC and was declared effective on June 9, 2008.
      At
      September 30, 2008, outstanding borrowings under the 2006 Facility were $17.5
      million ($17.2 million net of debt discounts). We had $2.5 million of
      available borrowings under the 2006 Facility at September 30, 2008.





The
      2006 Facility requires a lockbox arrangement whereby all receipts are swept
      daily to reduce borrowings outstanding under the 2006 Facility. This
      arrangement, combined with a Subjective Acceleration Clause (“SAC”) in the 2006
      Facility, cause the 2006 Facility to be classified as a current liability,
      per
      guidance in Emerging Issues Task Force (“EITF”) Issue No. 95-22, *“Balance
      Sheet Classification of Borrowings Outstanding under Revolving Credit Agreements
      that Include Both a Subjective Acceleration Clause and a Lock-Box Arrangement”
(“EITF 95-22”).*





On
      August
      17, 2007, we entered into a financing agreement with Calliope Capital
      Corporation, an affiliate of Laurus, under which we issued a $12.0 million
      promissory note (the “2007 Term Note”). Proceeds from the 2007 Term Note were
      used to fund the acquisitions of Helio and SSI. The 2007 Term Note bears
      interest at the prime rate plus 2.0%, subject to a floor of 10% (10% at
      September 30, 2008), and initially required four months of interest only
      payments followed by twenty-six monthly principal payments of $285,714
      commencing on February 1, 2008, with any remaining unpaid principal and interest
      due on July 31, 2010. On December 28, 2007, we entered into a letter agreement
      that amended the terms of the 2007 Term Note to defer certain monthly principal
      payments of $285,714. Originally scheduled to begin February 1, 2008, these
      monthly payments began June 1, 2008, thereby deferring $1.1 million from 2008
      until the maturity date of July 31, 2010. At September 30, 2008, $3.4 million
      was due within one year on the 2007 Term Note. In connection with the 2007
      Term
      Note, we issued to Laurus, a warrant to purchase 3,750,000 shares of our common
      stock at a price of $0.01 per share, expiring July 31, 2027. The warrant was
      valued at $2,850,000 using the Black-Scholes model and the discount is being
      amortized to earnings as additional interest expense over the term of the debt.
      We also paid $415,000 in loan fees on the 2007 Term Note. These fees are also
      being amortized over the term of the note.


9





In
      connection with our financings with Laurus, we have issued to Laurus, warrants
      to purchase up to 6,133,857 shares of our common stock at prices ranging from
      $.001 to $5.00 per share. The warrants expire between May 13, 2011 and July
      31,
      2027. In addition, an option to purchase 1,071,478 shares of our common stock
      at
      $.001 per share was issued to Laurus in connection with the 2006 Facility.
      The
      option expires in February 2026. During August 2007, Laurus
      exercised 860,858 options to purchase common stock. During May 2008, Laurus
      exercised a warrant to purchase 790,558 shares of common stock. Using the
      Black-Scholes model, the value of all warrants and the option issued to Laurus
      approximated $5.2 million, which is being amortized to earnings as additional
      interest expense over the term of the related indebtedness. The unamortized
      balance of these deferred costs was $2.1 million and $3.6 million at September
      30, 2008 and December 31, 2007, respectively. Borrowings outstanding at
      September 30, 2008 and December 31, 2007 are reported net of the deferred
      financing costs associated with these borrowings.





**(B) NST
      Notes**




The
      Network Systems Technology, Inc. note (“NST Note”) accrued interest at an annual
      rate of 0.5% and was discounted by $109,300 to reflect a fair value rate of
      interest of 8.75%. The note required eight equal quarterly payments of principal
      and interest in the amount of $190,190. At September 30, 2008, the note has
      been
      repaid in full.




**(C) Convertible
      Notes**





During
      May and June 2006, we entered into a Note Purchase Agreement (the "Purchase
      Agreement") with twelve accredited individual investors and three institutional
      investors (collectively, the "Purchasers"), pursuant to which we issued and
      sold
      unsecured convertible term notes (the "Convertible Notes") in the aggregate
      principal amount of $2,410,000. At September 30, 2008, the Convertible Notes
      have been repaid in full.





In connection with the issuance of the Convertible Notes, we
      also issued to the Purchasers, warrants (the "Warrants") to purchase an
      aggregate of 570,688 shares of our common stock, at an exercise price of $1.40
      per share (subject to adjustment for stock splits, stock dividends and the
      like)
      expiring during May and June 2011. Using the Black-Scholes model, we determined
      the value of the Warrants to be $651,474, which has been fully amortized to
      interest expense through the initial maturity date (June 2007).





**(D) 
      Helio Note**





Pursuant
      to the acquisition of Helio during August 2007, we issued an unsecured
      convertible promissory note for $770,000 (the “Helio Note”) to a selling
      shareholder of Helio. The Helio Note bears interest at 8.0% per annum and is
      payable in twelve equal quarterly installments of principal and interest of
      $72,900, beginning in November 2007, and maturing on August 14, 2010. The Helio
      Note allows the shareholder to convert, at any time, the remaining principal
      balance into shares of our common stock at a price of $1.00 per share (which
      exceeded the market price of our common stock on the date the note was issued).
      The Helio Note provides that all unpaid principal and accrued interest shall,
      at
      the option of the holder and without notice, become immediately due and payable
      upon the occurrence of an event of default (as defined in the Helio Note).
      Any
      outstanding balance on the Helio Note can be prepaid, without penalty, at any
      time. At September 30, 2008, the Helio Note had an outstanding balance of $0.5
      million, of which $0.3 million is due within one year.





**(E) 
      SSI Note**





Pursuant
      to the acquisition of SSI in September 2007, we issued an unsecured promissory
      note for $250,000 (the “SSI Note”) to the selling shareholder of SSI. The SSI
      Note bears interest at 5.25% per annum and is payable in twelve equal quarterly
      installments of principal and interest of $22,653, beginning in December 2007,
      and maturing on September 1, 2010. The SSI Note provides that all unpaid
      principal and accrued interest shall, at the option of the holder and without
      notice, become immediately due and payable upon the occurrence of an event
      of
      default (as defined in the SSI Note). Any outstanding balance on the SSI
      Note can be prepaid, without penalty, at any time. At September 30, 2008, the
      SSI Note had an outstanding balance of $0.2 million, of which $0.1 million
      is
      due within one year.





**6.
      CAPITAL LEASE OBLIGATIONS**





With
      our
      acquisition of Helio during August 2007, we assumed a liability for Helio’s
      office facilities in Santa Clara, California. The building was recorded under
      a
      capitalized lease arrangement with a remaining liability of $3.7 million
      outstanding as of the Helio acquisition date. The lease obligation is payable
      in
      monthly installments at an implicit interest rate of 13% and expires during
      December 2017. The total lease liability outstanding at September 30, 2008
      was
      $3.7 million, of which $0.1 million is due within one year.


10





During
      December 2007, we entered into an agreement to lease various pieces of equipment
      from an outside-party. The lease requires 20 monthly payments of principal
      and
      interest of $38,282, beginning in December 2007, with the final payment due
      in
      June 2009. The total lease liability outstanding at September 30, 2008 was
      $0.4
      million, all of which is due within one year. During
      September 2008, we entered into an agreement to lease additional equipment.
      The
      lease requires 20 monthly payments of principal and interest of $20,410,
      beginning in September 2008, with the final payment due in April 2010. The
      total
      lease liability outstanding at September 30, 2008 was $0.4 million, of which,
      $0.1 million is due within one year.




During
      November 2003, we entered into a capital lease line of credit agreement (the
      "Lease Line") for $1.5 million with a third-party lender. Subsequent to that
      date, we entered into four amendments to the Lease Line which enabled us to
      draw
      an additional $2.0 million in total on the line for purchases
      through December 31, 2007. The amendments also grant to us a call option to
      purchase the equipment from the lessor. The terms of the Lease Line (as amended)
      are for lease terms of 12-15 months with interest rates of 15%. The total lease
      liability outstanding at September 30, 2008 was $0.1 million, of which all
      is
      due within one year.





**7.
      SERIES A CONVERTIBLE REDEEMABLE PREFERRED STOCK AND COMMON
      STOCK**





In
      connection with the acquisition of Incentra CO on August 18, 2004, we designated
      2.5 million authorized shares of preferred stock as Series A Preferred shares
      and issued 2,466,971 of such shares. Warrants are outstanding for the purchase
      of 6,954 Series A Preferred shares at a purchase price of $6.02 per
      share.





The
      Series A Preferred shares are convertible at any time upon written notice to
      us
      into shares of common stock on an approximately three-for-one basis. So long
      as
      at least 500,000 originally issued shares of Series A Preferred are outstanding,
      the holders of Series A Preferred shares have the right to appoint three
      directors to our Board of Directors. On August 13, 2008, the holders and the
      Company agreed to extend the Series A Preferred shares optional redemption
      date
      from August 18, 2008 to January 1, 2010. On or after that date, the holders
      of
      at least 80% of the Series A Preferred shares may elect to have us redeem the
      Series A Preferred shares for a price equal to the greater of (i) the original
      issue price of $12.60 per share ($31.2 million in the aggregate) plus accrued
      dividends, to the extent dividends are declared by us, or (ii) the fair market
      value of the number of shares of common stock into which such shares of Series
      A
      Preferred are convertible. In conjunction with the amendment, a dividend will
      now accrue at a rate of 6% through February 18, 2009 and 12% thereafter through
      the optional redemption date. However, for any Series A Preferred stock
      converted to common stock prior to February 19, 2009, dividends accrued through
      such date are to be automatically waived by the respective holder upon such
      conversion. All other terms associated with the Series A Preferred shares remain
      unchanged. Other material terms of the Series A Preferred shares include a
      preference upon liquidation or dissolution of our company, weighted-average
      anti-dilution protection and pre-emptive rights with respect to subsequent
      issuances of securities by us (subject to certain exceptions).





We
      have
      not paid cash dividends on any class of common equity since formation, and
      we do
      not anticipate paying any dividends on our outstanding common stock in the
      foreseeable future. Our agreements with Laurus prohibit the declaration or
      payment of dividends on our common stock unless we obtain their written consent.
      Furthermore, the terms of our Series A Preferred stock provide that, so long
      as
      at least 250,000 shares of our originally issued shares of Series A Preferred
      stock are outstanding, we cannot declare or pay any dividend without having
      obtained the affirmative vote or consent of at least 80% of the voting power
      of
      our shares of Series A Preferred stock.


11





**8.
      EQUITY COMPENSATION PLANS**





During
      the first quarter of 2008, we adopted two new equity compensation plans, the
      2008 Equity Incentive Plan and the 2008 Employee Stock Purchase Plan. Each
      of
      these plans is described below.





**The
      2008 Equity Incentive Plan**





The
      2008
      Equity Incentive Plan (the “2008 Plan”) provides for the granting of options and
      restricted stock to key employees and officers of our Company. A total of
      4,000,000 shares of our Company’s common stock or their equivalents may be
      issued pursuant to the 2008 Plan. As of September 30, 2008, 636,000 options
      and 213,000 shares of restricted stock have been granted under the 2008
      Plan.





The
      exercise price for options granted under the 2008 Plan is the quoted market
      price on the date of the grant. Options have a term of 10 years and vest in
      three equal annual installments on the first, second and third anniversary
      dates
      of the grant.




Restricted
      stock granted under the 2008 Plan is earned based on the achievement of certain
      performance objectives, a services growth rate and a cash flow measure. The
      cash
      flow measure is based on earnings before interest, taxes, depreciation and
      amortization and stock compensation (“Operating Profit”). A range has been
      established for the target services growth rate such that there is the potential
      to earn between 0% and 150% of the target award. If this performance element is
      achieved at any level above 0%, then the cash flow measure is evaluated as
      follows:





1.
            The
                2008 Operating Profit target, as approved by the Board of Directors,
                is
                the level at which 100% of the respective restricted stock grants
                will be
                earned;2.
            Upon
                reaching 72% of the 2008 Operating Profit target, 25% of the respective
                restricted stock granted will be earned; and,3.
            At
                Operating Profit levels between 72% and 100% of the target, the respective
                stock granted will be earned on a prorated basis range
                between 25% and 100% of targeted
                levels.




The
      combination of the two percentages will determine the ultimate amount of the
      restricted stock awarded.





All
      shares earned vest annually over two years starting on the first day of the
      year
      that follows the performance period. No expense is recorded for shares issued
      with a performance condition unless the achievement of the performance condition
      is probable. As of September 30, 2008, the minimum target had not yet been
      reached. No expense has been recorded for these performance based shares through
      September 30, 2008.





**The
      2008 Employee Stock Purchase Plan**





The
      2008
      Employee Stock Purchase Plan (“ESPP”) provides eligible employees (as defined in
      the ESPP) the opportunity to purchase stock of our Company through payroll
      deductions. Eligible employees may elect to have between 1% and 20% of
      compensation withheld each pay period for the purchase of our Company’s common
      stock. Under the ESPP, shares are purchased at the quoted market price at the
      close of trading on the last business day of each offering period. An offering
      period consists of each bi-weekly payroll period. Members of the Board of
      Directors may elect to withhold up to the full amount of cash compensation
      earned for services as a Director. A total of 1,000,000 shares of our Company’s
      common stock are available for purchase under the ESPP. As of September 30,
      2008, the offering periods under the ESPP had not commenced.


**9.
        EARN-OUT PROVISIONS OF ACQUIRED SUBSIDIARIES AND RELATED
        COMMITMENTS**
 
 In
        connection with our acquisition of Helio in August 2008, we entered into
        a stock
        purchase agreement (the “Helio Stock Purchase Agreement”) that contains an
        earn-out provision pursuant to which certain of the former Helio shareholders
        may receive additional unregistered shares of our common stock as well as
        cash
        based upon Helio achieving certain levels of EBITDA (as defined in the Helio
        Stock Purchase Agreement). The earn-out is payable 50% in cash and 50% in
        stock
        of our Company. The earn-out provisions provide that the former Helio
        shareholders can earn up to $15 million in additional consideration over
        the
        next three years based on the achievement of certain EBITDA levels, as discussed
        in more detail in Note 3(A) of our consolidated financial statements included
        in
        our Annual Report on Form 10-K for the year ended December 31, 2007. The
        first
        measurement period ended on August 31, 2008 and any resulting earn-out is
        payable within ninety days after the measurement period. Although the amount
        earned for year one has not yet been finalized, we believe that the minimum
        level of $2,000,000 has been achieved for the measurement period ended August
        31, 2008 and that as of September 30, 2008, the outcome pertaining to this
        minimum amount was determinable beyond a reasonable doubt. As a result, pursuant
        to SFAS 141, *Business
        Combinations* ,
        the
        Company has recorded an increase to goodwill and an accrued liability of
        $1,000,000 as of September 30, 2008. The $1,000,000 earned in common stock
        will
        be recaptured from the common stock issued at the date of acquisition. Any
        additional amounts determined to be owed pursuant to the first earn-out period
        are expected to be recorded during the 4 th quarter
        of 2008 .
 
 In
        connection with our acquisition of SSI in September 2008, we entered into
        a
        stock purchase agreement (the “SSI Stock Purchase Agreement”) that contains an
        earn-out provision which provides that the former owner of SSI may receive
        additional unregistered shares of our common stock as well as cash based
        upon
        SSI achieving certain levels of EBITDA (as defined in the SSI Stock Purchase
        Agreement). The earn-out is payable 33% in cash and 67% in unregistered shares
        of common stock of our Company. The earn-out provisions provide that the
        former
        owner of SSI can earn up to $3.0 million in additional consideration over
        the
        next three years based on the achievement of certain EBITDA levels, as discussed
        in more detail in Note 3(B) of our consolidated financial statements included
        in
        our Annual Report on Form 10-K for the year ended December 31, 2007. The
        first
        measurement period ended on September 30, 2008 and any resulting earn-out
        is
        payable within ninety days after the measurement period. In addition, the
        Company must provide the former owner of SSI with its calculation of EBITDA
        for
        each measurement period within forty-five days after the end of the applicable
        measurement period. The former owner has thirty days from receipt of the
        EBITDA
        calculation to dispute the calculation. The Company has determined that the
        maximum amount of earn-out for year one (which totals $1,000,000) was achieved
        for the measurement period ended as of September 30, 2008 and we believe
        that as
        of September 30, 2008, the outcome pertaining to this amount was determinable
        beyond a reasonable doubt. As a result, pursuant to SFAS 141, the Company
        has
        recorded an increase to goodwill of $1,000,000, an accrued liability of $333,333
        and common stock of $667,666 (1,058,202 common shares) as of September 30,
        2008.
  **10.
        SUBSEQUENT EVENTS**





In
      connection with our acquisition of NST in April 2006, we entered into a stock
      purchase agreement containing an earn-out provision pursuant to which a former
      NST shareholder would receive additional unregistered shares of our common
      stock
      based upon certain levels of EBITDA achieved by NST from the acquisition
      date through March 31, 2008. On October 29, 2008, we issued 826,789 shares
      of
      our common stock to the former NST shareholder in accordance with the earn-out
      provision. See additional disclosure of the acquisition of NST set forth in
      our
      Annual Report on Form 10-K for the fiscal year ended December 31,
      2007.


12





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





**Special
      Note Regarding Forward-Looking Statements**





When
      used
      in this discussion, the word "believes," "anticipates," "expects" and similar
      expressions are intended to identify forward-looking statements. Such statements
      are subject to certain risks and uncertainties that could cause actual results
      to differ materially from those projected.





Our
      business and results of operations are affected by a wide variety of factors
      that could materially and adversely affect us and our operating results,
      including, but not limited to: (1) the availability of additional funds to
      enable us to successfully pursue our business plan; (2) the uncertainties
      related to the effectiveness of our technologies and the development of our
      products and services; (3) our ability to maintain, attract and integrate
      management personnel; (4) our ability to complete the development and continued
      enhancement of our products in a timely manner; (5) our ability to effectively
      market and sell our products and services to current and new customers; (6)
      our
      ability to negotiate and maintain suitable strategic partnerships, vendor
      relationships and corporate relationships; (7) the intensity of competition;
      and
      (8) general economic conditions. As a result of these and other factors, we
      may
      experience material fluctuations in future operating results on a quarterly
      or
      annual basis, which could materially and adversely affect our business,
      financial condition, operating results and stock price.





Any
      forward-looking statements herein speak only as of the date hereof. We undertake
      no obligation to publicly release the results of any revisions to these
      forward-looking statements that may be made to reflect events or circumstances
      after the date hereof or to reflect the occurrence of unanticipated
      events.





**General**





We
      supply
      a broad range of IT products and services to enterprises and service providers.
      We market our products and services to service providers and enterprise clients
      under the trade name Incentra Solutions. We deliver complete IT solutions and
      comprehensive storage services, including remote monitoring/management services,
      maintenance support services (First Call) for third-party hardware and software
      maintenance, professional services, third-party hardware/software procurement
      and resale and financing solutions. We provide data protection solutions and
      services that ensure that our customers' data is backed-up and recoverable
      and
      meets internal data retention compliance policies. Our remote monitoring and
      management services are delivered from our Storage Network Operations Center
      ("NOC") in Broomfield, Colorado, which monitors and manages a wide spectrum
      of
      diverse storage infrastructures on a 24x7 basis throughout North America and
      Europe. We deliver these services worldwide using our proprietary GridWorks
      Operations Support System, which enables automated remote monitoring and
      management of complete storage infrastructures and back-up applications. We
      provide outsourcing solutions for customer data protection needs under long-term
      contracts. Customers pay on a monthly basis for storage services based on the
      number of assets managed and/or the volume of storage assets utilized. We
      believe customers benefit from improved operating effectiveness with reduced
      operating costs and reductions in capital expenditures.





We
      continue to invest in hardware, data storage, the development of software and
      other infrastructure equipment. During the nine-month period ended September
      30,
      2008, we invested $0.7 million in software development and $1.3 million in
      data
      storage infrastructure. During the nine-month period ended September 30, 2007,
      we invested $0.6 million in software development and $1.1 million in data
      storage infrastructure.





We
      continue to expand our product and service offerings in an effort to position
      our company as a provider of a wide range of services and products and to
      further solidify our leading market position. We also continue to increase
      the
      number of products we have available for resale to our customers, both directly
      and through existing channel partners. We introduced the sales of managed
      services along with our sales of storage products and professional services
      directly to enterprise customers. We also believe we can increase our sales
      of
      managed services by introducing these services to the customers of our acquired
      businesses. We believe our professional services business will be enhanced
      as we
      leverage our engineering resources across our entire customer base.





**Interim
      Financial Results**




Presented
      below are schedules showing condensed statement of operations categories and
      analyses of changes in those condensed categories. These schedules are derived
      from the unaudited condensed consolidated statements of operations and are
      prepared solely to facilitate the discussion of results of operations that
      follows. All dollar amounts are in thousands.


13





***Results
      of Operations***





**Three-Month
      Period Ended September 30, 2008 Compared to the Three-Month Period Ended
      September 30, 2007 and the Nine-Month Period Ended September 30, 2008 Compared
      to the Nine-Month Period Ended September 30, 2007**





**Three Months Ended September 30,**
            
            **Nine Months Ended September 30,****(in thousands)****2008**
            
            **2007**
            
            **2008**
            
            **2007**Product
                sales
            
            $
            47,675
            
            $
            30,269
            
            $
            140,426
            
            $
            76,186Service
                sales
            
            
            7,439
            
            
            6,092
            
            
            22,159
            
            
            15,956Gross
                margin-products
            
            $
            8,560
            
            $
            5,823
            
            $
            24,744
            
            $
            14,149Gross
                margin-services
            
            
            2,094
            
            
            2,035
            
            
            6,267
            
            
            5,435Product
                gross profit as a percentage of product sales
            
            
            18.0
            %
            
            19.2
            %
            
            17.6
            %
            
            18.6
            %Service
                gross profit as a percentage of service sales
            
            
            28.1
            %
            
            33.4
            %
            
            28.3
            %
            
            34.1
            %





**Revenue.** For the
      three-month period ended September 30, 2008, total revenue from operations
      increased 51.6% to $55.1 million from the comparable prior-year period. Revenue
      from the sale of products increased 57.5% to $47.7 million and revenue from
      the
      delivery of services increased 22.1% to $7.4 million. For the nine-month period
      ended September 30, 2008, total revenue from operations increased 76.5% to
      $162.6 million from the comparable prior-year period. Revenue from the sale
      of
      products increased 84.3% to $140.4 million and revenue from the delivery of
      services increased 38.9% to $22.2 million. The significant growth in product
      and
      service revenue was a result of the added sales from the acquisitions of Helio
      in August 2007 and SSI in September 2007, as well as organic growth in services
      revenue.





**Gross
      Margin.** For the
      three-month period ended September 30, 2008, total gross margin from operations
      increased 35.6% to $10.7 million from the comparable prior-year period. Product
      gross margin increased 47.0% to $8.6 million and service gross margin increased
      2.9% to $2.1 million. For the nine-month period ended September 30, 2008, total
      gross margin from operations increased 58.3% to $31.0 million from the
      comparable prior-year period. Product gross margin increased 74.9% to $24.7
      million and service gross margin increased 15.3% to $6.3 million. Gross margin,
      as a percentage of revenue declined for the three-month period ended September
      30, 2008 to 19.3% from 21.6%, in the comparable prior-year period. This change
      was primarily due to a higher mix of product versus service revenue primarily
      due to the acquisitions in the third quarter of 2007. For the nine-month periods
      ended September 30, 2008 and 2007, gross margins, as a percentage of revenue
      were 19.1% and 21.3%, respectively. Product gross margin, as a percentage of
      revenue, for the three-month periods ended September 30, 2008 and 2007 were
      18.0% and 19.2%, respectively. This decrease is primarily a result of higher
      volumes of lower margin products in 2008 as a result of the acquisitions in
      2007. Product gross margin, as a percentage of revenue, was 17.6% and 18.6%
      for
      the nine-month periods ended September 30, 2008 and 2007, respectively. Service
      gross margin, as a percentage of revenue for the three-month periods ended
      September 30, 2008 and 2007 were 28.1% and 33.4%, respectively, and 28.3% and
      34.1% for the nine-month periods ended September 30, 2008 and 2007,
      respectively. The year-over-year decline in the services gross margin percentage
      is reflective of a higher volume of First Call support contracts, which carry
      a
      lower margin than other managed services, and an increase in the volume of
      outside contractors used to deliver professional services engagements.





**Selling,
      General and Administrative Expenses** .
      Significant components of selling, general and administrative expenses
      ("SG&A") include salaries and related benefits for employees, general office
      expenses, professional fees, travel-related costs and facilities costs. For
      the
      three-month period ended September 30, 2008, total SG&A expenses increased
      20% to $10.0 million from the comparable prior-year period. For the nine-month
      period ended September 30, 2008, SG&A expenses increased 34% to $29.7
      million from the comparable prior-year period. These increases are a direct
      result of larger commission costs associated with the higher margins earned
      in
      2008 and increased personnel costs associated with the acquisitions completed
      in
      the third quarter of 2007. SG&A costs, as a percentage of total revenues,
      have decreased from 23% to 18% between the three-month period ended September
      30, 2008 and the comparable prior year period and from 24% to 18% between the
      nine-month period ended September 30, 2008 and the comparable prior year period.
      The continuing decline in SG&A expenses as a percentage of revenue reflects
      the impact of acquired entities and associated economies of scale as well as
      having higher revenue production from existing operations without significantly
      increasing personnel-related expenditures. In addition, we continue to monitor
      and reduce overhead costs by improving operating efficiencies.


14





**Stock-based
      Compensation Expense.** For the
      three-month period ended September 30, 2008, stock-based compensation expense
      decreased 54% to $0.1 million from the comparable prior-year period. For the
      nine-month period ended September 30, 2008, stock-based compensation expense
      decreased 60% to $0.5 million from the comparable prior-year period. These
      decreases were primarily a result of having fully expensed option grants issued
      prior to September 30, 2005 and lower fair values attributed to recent option
      grants.





**Depreciation
      and Amortization.** Amortization expense consists of amortization of acquired customer
      relationships, capitalized software development costs and other intangible
      assets. Depreciation expense consists of depreciation of furniture, equipment,
      software and leasehold improvements. Depreciation and amortization expense
      was
      approximately $1.1 million and $1.0 million for the three-month periods ended
      September 30, 2008 and 2007, respectively, of which, $0.6 million and $0.7
      million, respectively, was included in cost of revenue. Depreciation and
      amortization expense was approximately $3.1 million and $2.2 million for the
      nine-month periods ended September 30, 2008 and 2007, respectively, of which,
      $1.5 million and $1.3 million, respectively, was included in cost of
      revenue.





**Income
      (Loss) from Operations.** For the
      three-month period ended September 30, 2008 we had $8,000 of income from
      operations, as compared to a $1.1 million loss from operations for the
      comparable prior year period. For the nine-month periods ended September 30,
      2008 and 2007, our loss from operations decreased 84% to $0.7 million. The
      decrease in the loss from operations from the three-month and nine-month periods
      ended September 30, 2008 to the comparable prior year periods, was due to an
      increase in gross margin attributable to the acquisitions of Helio and SSI,
      as
      well as organic growth in services revenue and the continuing decline in
      SG&A expenses as a percentage of revenue.





**Interest
      Expense.** Interest
      expense consisted of cash interest owed on various debt instruments, including
      our revolving credit facility, notes payable and capital leases, as well as,
      non-cash interest expense related to amortization of debt discounts and deferred
      financing charges. For the three-month periods ended September 30, 2008 and
      2007, interest expense was $1.6 million and $0.8 million, respectively. Interest
      expense incurred during the three-month periods ended September 30, 2008 and
      2007 included cash interest payments of $1.1 million and $0.5 million,
      respectively, and non-cash interest amortization totaling $0.5 million and
      $0.3
      million, respectively. For the nine-month periods ended September 30, 2008
      and
      2007, interest expense was $4.5 million and $2.2 million, respectively. Interest
      expense incurred during the nine-month periods ended September 30, 2008 and
      2007
      included cash interest payments of $2.9 million and $1.1 million, respectively,
      and non-cash interest amortization totaling $1.6 million and $1.1 million,
      respectively. The increases in interest expense for the three-month and
      nine-month periods ended September 30, 2008 from the comparable prior year
      periods, were due primarily to the additional debt incurred related to our
      acquisitions of Helio and SSI, as well as having higher outstanding balances
      on
      our revolving credit facility supporting the growth in our
      business.





**Net
      Loss Applicable to Common Shareholders.** During
      the three-month periods ended September 30, 2008 and 2007, we incurred net
      losses applicable to common shareholders of $2.1 million and $2.5 million,
      respectively. During the nine-month periods ended September 30, 2008 and 2007,
      we incurred net losses applicable to common shareholders of $7.1 million and
      $8.8 million, respectively.





**Liquidity
      and Capital Resources**





Operating
      profit or loss is defined as earnings before interest, taxes, depreciation
      and
      amortization and stock compensation. Although operating profit and loss is
      not a
      measure of performance or liquidity calculated in accordance with accounting
      principles generally accepted in the United States (GAAP), we believe the use
      of
      the non-GAAP financial measure operating profit and loss enhances an overall
      understanding of our past financial performance and is a widely used measure
      of
      operating performance in practice. In addition, we believe the use of operating
      profit and loss provides useful information to the investor because the measure
      excludes significant non-cash interest and amortization charges related to
      our
      past financings that, when excluded, we believe produces more meaningful
      operating information. Operating profit and loss also excludes depreciation
      and
      amortization expenses, which are significant due to six acquisitions completed
      since 2004. Investors should not consider this measure in isolation or as a
      substitute for net income, operating income, cash flows from operating
      activities or any other measure for determining our operating performance or
      liquidity that are calculated in accordance with GAAP, and this measure may
      not
      necessarily be comparable to similarly titled measures employed by other
      companies. A reconciliation of operating profit and loss to the most comparable
      GAAP financial measure, net loss before deemed dividends and accretion on
      preferred stock, is set forth below:


15





**For the Three Months Ended**
              **September 30,**
            
            **For the Nine Months Ended**
              **September 30,****(in thousands)****2008**
            
            **2007**
            
            **2008**
            
            **2007**Net
                loss before accretion of preferred stock
            
            $
            (1,563
            )
            $
            (1,857
            )
            $
            (5,276
            )
            $
            (6,825
            )Depreciation
                and amortization
            
            
            1,069
            
            
            694
            
            
            3,059
            
            
            2,175Interest
                expense, net (cash portion)
            
            
            1,050
            
            
            499
            
            
            2,889
            
            
            1,119Interest
                expense (non-cash portion)
            
            
            520
            
            
            295
            
            
            1,644
            
            
            1,121Non-cash
                stock-based compensation
            
            
            147
            
            
            323
            
            
            456
            
            
            1,146Other
            
            
            (23
            )
            
            160
            
            
            169
            
            
            210Operating
                profit (loss)
            
            $
            1,200
            
            $
            114
            
            $
            2,941
            
            $
            (1,054
            )





For
      the
      nine-month period ended September 30, 2008, net cash used in investing
      activities was $2.5 million consisting primarily of purchases of equipment
      and
      capitalized software development costs. For the nine-month period ended
      September 30, 2007, net cash used in investing activities of $8.9 million
      consisted primarily of cash paid for the acquisitions of Helio and SSI, as
      well
      as receipts of escrowed funds totaling $1.5 million related to discontinued
      operations. The net cash used in operating and investing activities was provided
      by cash on-hand and borrowings under the revolving credit facility and the
      2007
      Term Note.





We
      finance our operations through cash on-hand, borrowings under our
      non-convertible revolving credit facility with Laurus Master Fund, Ltd.
      (“Laurus”), payment terms provided by our major suppliers and distributors, and
      equipment lease financing (see Note 5 to Notes to Unaudited Condensed
      Consolidated Financial Statements for a description of our Notes Payable and
      Other Long-Term Obligations). We have a working capital deficit of $21.0 million
      at September 30, 2008. A significant component of the deficit is the $17.2
      million balance net of discount, outstanding on the 2006 Facility. The 2006
      Facility matures on February 5, 2009, and is subject to having sufficient trade
      receivable balances to support the associated borrowing base. As of September
      30, 2008, we had $2.5 million of available borrowing capacity under our
      revolving credit facility. We believe we can renew and/or extend our current
      line upon maturity, however, there can be no assurances that we will be able
      to
      obtain additional funding when needed, or that such funding, if available,
      will
      be obtainable on terms acceptable to us.





On
      August
      13, 2008, we agreed with the holders of the Series A Convertible Redeemable
      Preferred stockholders to extend the earliest possible redemption date from
      August 18, 2008 to January 1, 2010. We also agreed to amend the terms of our
      Series A Convertible Redeemable Stock (“Series A Preferred shares”) to provide
      for the accrual of a dividend equal to 6% per annum of the original issue price
      ($31.2 million in the aggregate) of our Series A stock, accruing daily, starting
      August 19, 2008 through February 18, 2009 and 12% thereafter until the
      redemption date. However, for any preferred shares converted to common stock
      prior to February 19, 2009, dividends accrued through such date are to be
      automatically waived by the respective holder upon such conversion. All other
      terms associated with the Series A Preferred shares remain unchanged.





We
      believe assuming the renewal or extension of our revolving credit facility,
      that
      our cash and cash equivalents, working capital and access to current and
      potential lenders will provide sufficient capital resources to fund our
      operations, debt service requirements and working capital needs at least through
      the next twelve months.




**Off-Balance
      Sheet Financing and Other Matters**





Our
      most
      significant off-balance sheet financing arrangements as of September 30, 2008
      were non-cancellable operating lease arrangements primarily for office space,
      which have not changed significantly since December 31, 2007. We do not
      participate in any off-balance sheet arrangements involving unconsolidated
      subsidiaries that provide financing or potentially expose us to unrecorded
      financial obligations.


16





**Critical
      Accounting Estimates**





We
      prepare our consolidated financial statements in accordance with accounting
      principles generally accepted in the United States (GAAP), which requires
      management to make certain estimates and assumptions that affect reported
      amounts and related disclosures. Management identifies critical accounting
      estimates as:





·
            Those
                that require the use of assumptions about matters that are inherently
                and
                highly uncertain at the time the estimates are made;
                and





·
            Those
                for which changes in the estimate or assumptions, or the use of different
                estimates and assumptions, could have a material impact on our
                consolidated results of operations or financial
                condition.





Management
      has discussed the development, selection and disclosure of our critical
      accounting estimates with the Audit Committee of our Board of Directors. For
      a
      description of our critical accounting estimates that require us to make the
      most difficult, subjective or complex judgements, please see our Annual Report
      on Form 10-K for the year ended December 31, 2007. We have not changed these
      policies from those previously disclosed.


17





**ITEM
      3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
      RISK**





There
      have been no significant changes from the disclosure set forth in our Annual
      Report on Form 10-K for the fiscal year ended December 31, 2007.




**ITEM
      4. CONTROLS AND PROCEDURES**





**Disclosure
      Controls and Procedures.** Our
      management, with the participation of our chief executive officer and chief
      financial officer, has evaluated the effectiveness of our disclosure controls
      and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under
      the Securities Exchange Act of 1934, as amended (the "Exchange Act")) as of
      the
      end of the period covered by this report. Based on such evaluation, our chief
      executive officer and chief financial officer have concluded that, as of the
      end
      of such period, our disclosure controls and procedures are effective in
      recording, processing, summarizing and reporting, on a timely basis, information
      required to be disclosed by us in the reports that it files or submits under
      the
      Exchange Act.





**Internal
      Control Over Financial Reporting.** There
      have not been any changes in our internal control over financial reporting
      (as
      such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act)
      during the fiscal quarter ended September 30, 2008 that have materially
      affected, or are reasonably likely to materially affect, our internal control
      over financial reporting.


18





**PART
      II. OTHER INFORMATION**




**ITEM
      1. LEGAL PROCEEDINGS**





We
      are
      involved in various claims and legal actions arising in the ordinary course
      of
      business. In the opinion of management, the ultimate disposition of these
      matters will not have a material adverse impact either individually or in the
      aggregate on our consolidated results of operations, financial position or
      cash
      flows. Accordingly, no provision has been made for any estimated losses with
      regard to such matters.




**ITEM
      1A. RISK FACTORS**





In
      addition to the disclosure in Item 1A-Risk Factors in our Annual Report on
      Form
      10-K for the year ended December 31, 2007, you should carefully consider the
      risk factors set below:





**Failure
      to extend, renew or replace our 2006 Facility could adversely affect our results
      of operations.** The
      2006
      Facility matures on February 26, 2009. The recent uncertainty in the credit
      markets may make it difficult for us to renew the 2006 Facility on favorable
      terms, or at all, and we may be forced to obtain a new credit facility, which
      may prove difficult due to credit market conditions. Presently, it is our
      primary source of working capital. Should we be unable to extend, renew or
      replace the 2006 Facility with a facility having similar terms, our ability
      to
      conduct business would be impaired due to less availability of working capital.
      The 2006 Facility is subject to having sufficient trade receivable balances
      to
      support the associated borrowing base. As of September 30, 2008, we had $2.5
      million of available borrowing capacity under our revolving credit facility.
      We
      believe we can renew and/or extend our current line upon maturity, however,
      there can be no assurances that we will be able to obtain additional funding
      when needed, or that such funding, if available, will be obtainable on terms
      acceptable to us.





**Redemption
      obligations under our Series A Preferred Stock may have a material adverse
      impact on our business.** The
      Series A preferred shareholders have a right of redemption that matures on
      January 1, 2010. From that date forward, the shareholders have the right but
      not
      the obligation to demand redemption at a price equal to the greater of (i)
      $12.60 (subject to certain adjustments) per each share of Series A preferred
      stock (currently $31.2 million in the aggregate) plus an amount equal to all
      accumulated but unpaid dividends on each such share of Series A preferred stock
      or (ii) the fair market value of the common stock in to which the shares of
      Series A preferred stock is then convertible. We do not presently have
      sufficient cash to meet a redemption demand and our 2009 business plan does
      not
      provide for sufficient cash flow to meet a redemption demand, should one occur.
      The Series A preferred shareholders are not required to take any action and
      any
      request for redemption must be approved by 80% of the Series A preferred
      shareholders. However, if such a demand were to be made, an event of default
      may
      be deemed to have occurred under our debt agreements with Laurus due to a
      subjective acceleration clause. Laurus would have the right to demand repayment
      of all outstanding obligations due to Laurus and these obligations are senior
      to
      the rights of these Series A preferred shareholders.




**The
      termination or reduction in vendor incentive programs could reduce our
      profitability.** Several
      of our key vendors regularly provide us with economic incentives tied to demand
      generation initiatives and for achieving various sales performance targets
      on
      their products. The vendors have the right to terminate or modify these programs
      at any time. To the extent that we do not qualify for vendor incentives, or
      they
      are cut back, our profitability may be affected.




**A
      reduction in information technology (IT) spending by our customers due to lack
      of available credit could adversely affect our results of operations.** In
      response to credit risks in the subprime mortgage marketplace, lenders recently
      have generally made credit less available, and more expensive, for corporate
      borrowers, including our customers. A reduction in the availability or an
      increase in the price of borrowed funds could adversely affect our customers’
decisions or timing to purchase our products and services, which could adversely
      affect our sales, cash flows and results of operations. ****


19





**ITEM
      5. OTHER INFORMATION**





None.




**ITEM
      6. EXHIBITS**





The
      exhibits required by this item are listed on the Exhibit Index attached
      hereto.


20





**SIGNATURES**




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





Dated:
                November 14, 2008
            INCENTRA
                SOLUTIONS, INC.By:
            /s/
                Thomas P. Sweeney IIIThomas
                P. Sweeney IIIChief
                Executive Officer(principal
                executive officer)By:
            /s/
                Anthony DiPaoloAnthony
                DiPaoloChief
                Financial Officer(principal
                financial andaccounting
                officer)


21





**EXHIBIT
      INDEX**





Exhibit
                No.
            Description31.1
            Certification
                of Chief Executive Officer pursuant to 18 U.S.C. 1350, as adopted
                pursuant
                to Section 302 of the Sarbanes-Oxley Act of 2002.31.2
            Certification
                of Chief Financial Officer pursuant to 18 U.S.C. 1350, as adopted
                pursuant
                to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
            Certification
                of Chief Executive Officer pursuant to 18 U.S.C. 1350, as adopted
                pursuant
                to Section 906 of the Sarbanes-Oxley Act of 2002.32.2
            Certification
                of Chief Financial Officer pursuant to 18 U.S.C. 1350, as adopted
                pursuant
                to Section 906 of the Sarbanes-Oxley Act of
                2002.


22