**UNITED
      STATES SECURITIES AND EXCHANGE COMMISSION**


**WASHINGTON,
      D.C. 20549**





**Form
      10-Q**





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


**THE
      SECURITIES EXCHANGE ACT OF 1934**





**For
      the quarterly period ended September 30, 2007**





**OR**





**oTRANSITION
      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 oNo
x





Indicate
      by check mark whether the registrant is a large accelerated filler, an
      accelerated filer or a non-accelerated filer (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 oAccelerated
      Filer oNon-accelerated Filer x





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





As
      of
      November 8, 2007, 21,317,863 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,**
                **2007**
              
              **December
                  31,**
                **2006****(UNAUDITED)****ASSETS**Current
                  assets:Cash
                  and cash equivalents
              
              $
              1,727,830
              
              $
              976,673Accounts
                  receivable, net of allowance for doubtful accounts of $568,500
                  and
                  $702,700 at September 30, 2007 and December 31, 2006, respectively
              
              
              33,556,290
              
              
              16,132,341Other
                  current assets
              
              
              6,513,354
              
              
              5,184,722Total
                  current assets
              
              
              41,797,474
              
              
              22,293,736Property
                  and equipment, net
              
              
              3,013,039
              
              
              3,064,164Capitalized
                  software development costs, net
              
              
              1,070,002
              
              
              914,786Intangible
                  assets, net
              
              
              1,884,006
              
              
              2,301,267Goodwill
              
              
              31,643,865
              
              
              16,936,715Other
                  assets
              
              
              830,097
              
              
              307,660**TOTAL
                  ASSETS**
              
              **$**
              **80,238,483**
              
              **$**
              **45,818,328****LIABILITIES
                  AND SHAREHOLDERS' DEFICIT**Current
                  liabilities:Current
                  portion of notes payable, capital leases and other long-term
                  obligations
              
              $
              17,328,719
              
              $
              8,498,168Accounts
                  payable
              
              
              25,884,002
              
              
              14,190,079Accrued
                  expenses and other
              
              
              6,505,474
              
              
              5,562,154Current
                  portion of deferred revenue
              
              
              3,677,906
              
              
              1,974,090Total
                  current liabilities
              
              
              53,396,101
              
              
              30,224,491Notes
                  payable, capital leases and other long-term obligations, net of
                  current
                  portion
              
              
              8,899,807
              
              
              819,083Deferred
                  revenue, net of current portion
              
              
              83,101
              
              
              161,999**TOTAL
                  LIABILITIES**
              
              
              **62,379,009**
              
              
              **31,205,573**Commitments
                  and contingenciesSeries
                      A convertible redeemable preferred stock, $.001 par value,
                      $31,500,000
                      liquidation preference, 2,500,000 shares authorized, 2,466,971 shares
                      issued and outstanding
              
              
              29,199,075
              
              
              27,235,899Shareholders'
                  deficit:Preferred
                  stock, nonvoting, $.001 par value, 2,500,000 shares authorized,
                  none
                  issued
              
              
              -
              
              
              -Common
                  stock, $.001 par value, 200,000,000 shares authorized, 21,317,863
                  and
                  13,320,576 shares issued and outstanding at September 30, 2007
                  and
                  December 31, 2006, respectively
              
              
              21,318
              
              
              13,321Additional
                  paid-in capital
              
              
              130,941,659
              
              
              122,841,018Accumulated
                  deficit
              
              
              (142,302,578
              )
              
              (135,477,483
              )**TOTAL
                  SHAREHOLDERS' DEFICIT**
              
              
              **(11,339,601**
              **)**
              
              **(12,623,144**
              **)****TOTAL
                  LIABILITIES AND SHAREHOLDERS' DEFICIT**
              
              **$**
              **80,238,483**
              
              **$**
              **45,818,328**
  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,****2007**
                
                **2006**
                
                **2007**
                
                **2006**REVENUES:Products
                
                $
                30,268,775
                
                $
                12,467,109
                
                $
                76,185,704
                
                $
                32,736,536Services
                
                
                6,091,746
                
                
                3,621,033
                
                
                15,956,448
                
                
                9,813,198**TOTAL
                    REVENUE**
                
                
                **36,360,521**
                
                
                **16,088,142**
                
                
                **92,142,152**
                
                
                **42,549,734**Cost
                    of revenue:Products
                
                
                24,444,989
                
                
                10,258,241
                
                
                62,036,304
                
                
                27,082,321Services
                
                
                4,057,196
                
                
                2,537,691
                
                
                10,521,441
                
                
                7,008,058Total
                      cost of revenue
                
                
                28,502,185
                
                
                12,795,932
                
                
                72,557,745
                
                
                34,090,379**GROSS
                    MARGIN**
                
                
                **7,858,336**
                
                
                **3,292,210**
                
                
                **19,584,407**
                
                
                **8,459,355**Selling,
                    general and administrative
                
                
                8,163,102
                
                
                6,881,983
                
                
                22,015,519
                
                
                16,280,815Stock-based
                    compensation expense
                
                
                322,957
                
                
                523,428
                
                
                1,145,951
                
                
                1,358,760Depreciation
                    and amortization
                
                
                283,702
                
                
                339,002
                
                
                888,272
                
                
                607,1228,769,761
                
                
                7,744,413
                
                
                24,049,742
                
                
                18,246,697**OPERATING
                    LOSS FROM CONTINUING OPERATIONS**
                
                
                **(911,425**
                **)**
                
                **(4,452,203**
                **)**
                
                **(4,465,335**
                **)**
                
                **(9,787,342**
                **)**Other
                    income (expense):Interest
                    income
                
                
                11,983
                
                
                33,097
                
                
                23,087
                
                
                33,435Interest
                    expense
                
                
                (806,027
                )
                
                (714,793
                )
                
                (2,262,525
                )
                
                (2,383,466
                )Loss
                    on early extinguishment of debt
                
                
                (135,851
                )
                
                (1,724,432
                )
                
                (135,851
                )
                
                (2,956,606
                )Other
                    (expense) income
                
                
                (12,275
                )
                
                66,629
                
                
                246
                
                
                117,850(942,170
                )
                
                (2,339,499
                )
                
                (2,375,043
                )
                
                (5,188,787
                )**LOSS
                    FROM CONTINUING OPERATIONS**
                
                
                **(1,853,595**
                **)**
                
                **(6,791,702**
                **)**
                
                **(6,840,378**
                **)**
                
                **(14,976,129**
                **)**(LOSS)
                    INCOME FROM DISCONTINUED OPERATIONS, NET OF INCOME TAXES
                
                
                (3,306
                )
                
                (15,669
                )
                
                15,283
                
                
                383,384GAIN
                    ON SALE OF DISCONTINUED OPERATIONS, NET OF INCOME TAXES
                
                
                -
                
                
                15,591,878
                
                
                -
                
                
                15,591,878**(LOSS)
                    INCOME FROM DISCONTINUED OPERATIONS**
                
                
                **(3,306**
                **)**
                
                **15,576,209**
                
                
                **15,283**
                
                
                **15,975,262****NET
                    (LOSS) INCOME**
                
                
                **(1,856,901**
                **)**
                
                **8,784,507**
                
                
                **(6,825,095**
                **)**
                
                **999,133**Accretion
                    of convertible redeemable preferred stock to redemption
                    amount
                
                
                (654,392
                )
                
                (654,392
                )
                
                (1,963,176
                )
                
                (1,963,176
                )**NET
                    (LOSS) INCOME APPLICABLE TO COMMON SHAREHOLDERS**
                
                **$**
                **(2,511,293**
                **)**
                **$**
                **8,130,115**
                
                **$**
                **(8,788,271**
                **)**
                **$**
                **(964,043**
                **)**Weighted
                    average number of common shares outstanding - basic and
                    diluted
                
                
                **16,821,857**
                
                
                **13,662,856**
                
                
                **14,380,724**
                
                
                **13,751,117**Basic
                    and diluted net loss per share applicable to commonshareholders:Loss
                    from continuing operations
                
                $
                (0.15
                )
                $
                (0.54
                )
                $
                (0.61
                )
                $
                (1.23
                )(Loss)
                    income from discontinued operations
                
                
                *
                
                
                1.14
                
                
                *
                
                
                1.16Net
                    loss per share—basic and diluted
                
                $
                (0.15
                )
                $
                0.60
                
                $
                (0.61
                )
                $
                (0.07
                )
  *
                    Amount is less than $0.01 per shareSee
                    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, 2007****(UNAUDITED)**
  **Common
                  stock**
              
              **Additional**
                **paid-in**
              
              **Accumulated****Shares**
              
              **Amount**
              
              **capital**
              
              **deficit**
              
              **Total****Balances
                  at January 1, 2007**
              
              
              **13,320,576**
              
              **$**
              **13,321**
              
              **$**
              **122,841,018**
              
              **$**
              **(135,477,483**
              **)**
              **$**
              **(12,623,144**
              **)**Amortization
                  of stock-based compensation expense
              
              
              **-**
              
              
              **-**
              
              
              1,225,419
              
              
              -
              
              
              1,225,419Accretion
                  of convertible redeemable preferred stock to redemption
                  amount
              
              
              -
              
              
              -
              
              
              (1,963,176
              )
              
              -
              
              
              (1,963,176
              )Return
                  and retirement of common stock previously issued in acquisition
                  of
                  Incentra NW
              
              
              (275,000
              )
              
              (275
              )
              
              (274,725
              )
              
              -
              
              
              (275,000
              )Warrant
                  issued to Laurus related to line of credit (See note 7(A))
              
              
              -
              
              
              -
              
              
              342,756
              
              
              -
              
              
              342,756Proceeds
                  from exercise of employee stock options
              
              
              41,566
              
              
              41
              
              
              13,260
              
              
              -
              
              
              13,301Issuance
                  of common stock for Helio acquisition (See note 4(A))
              
              
              6,000,000
              
              
              6,000
              
              
              4,554,000
              
              
              -
              
              
              4,560,000Issuance
                  of common stock for SSI acquisition (See note 4(B))
              
              
              1,369,863
              
              
              1,370
              
              
              1,020,548
              
              
              -
              
              
              1,021,918Cash-less
                  exercise of warrants
              
              
              860,858
              
              
              861
              
              
              (861
              )
              
              -
              
              
              -Warrant
                  issued in connection with debt financing (See note 7(A))
              
              
              -
              
              
              -
              
              
              2,850,000
              
              
              -
              
              
              2,850,000Warrant
                  issued in connection with Helio acquisition for consulting services
                  (See
                  note 4(A))
              
              
              
              
              
              
              
              
              333,420
              
              
              -
              
              
              333,420Net
                  loss
              
              
              -
              
              
              -
              
              
              -
              
              
              (6,825,095
              )
              
              (6,825,095
              )**Balances
                  at September 30, 2007**
              
              
              **21,317,863**
              
              **$**
              **21,318**
              
              **$**
              **130,941,659**
              
              **$**
              **(142,302,578**
              **)**
              **$**
              **(11,339,601**
              **)**
  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,****2007**
            
            **2006**Cash
                flows from operating activities:Net
                (loss) income
            
            $
            (6,825,095
            )
            $
            999,133Adjustments
                to reconcile net (loss) income to net cash used in continuing operating
                activities:Income
                from discontinued operations, net of income taxes
            
            
            (15,283
            )
            
            (15,975,262
            )Depreciation
            
            
            1,222,944
            
            
            1,113,041Amortization
                of intangible assets and software development costs
            
            
            952,235
            
            
            659,201Stock-based
                compensation expense
            
            
            1,145,951
            
            
            1,358,760Amortization
                of debt issue costs
            
            
            1,121,166
            
            
            1,225,330Non-cash
                loss on early extinguishment of debt
            
            
            135,851
            
            
            1,622,344Bad
                debt expense
            
            
            5,772
            
            
            459,213Changes
                in operating assets and liabilities, net of business
                acquisitions:Accounts
                receivable
            
            
            (5,135,464
            )
            
            (1,652,301
            )Other
                current assets
            
            
            (703,977
            )
            
            (352,451
            )Other
                assets
            
            
            61,494
            
            
            (31,753
            )Accounts
                payable
            
            
            (536,506
            )
            
            (1,587,525
            )Accrued
                liabilities
            
            
            (1,114,015
            )
            
            1,926,677Deferred
                revenue
            
            
            1,817,026
            
            
            860,370Other
                liabilities
            
            
            -
            
            
            (116,809
            )Net
                cash used in continuing operations
            
            
            (7,867,901
            )
            
            (9,492,032
            )Net
                cash provided by discontinued operations
            
            
            3,197
            
            
            826,859Net
                cash used in operating activities
            
            
            (7,864,704
            )
            
            (8,665,173
            )Cash
                flows from investing activities:Purchases
                of property and equipment
            
            
            (1,091,778
            )
            
            (1,659,990
            )Capitalized
                software development costs
            
            
            (602,623
            )
            
            (511,912
            )Cash
                paid in acquisition of Incentra MW
            
            
            -
            
            
            (5,192,858
            )Cash
                paid in acquisition of Tactix
            
            
            -
            
            
            (2,641,104
            )Cash
                paid in acquisition of allianceSoft
            
            
            -
            
            
            (70,949
            )Cash
                paid in acquisition of Helio (see note 4(A))
            
            
            (4,798,913
            )
            
            -Cash
                paid in acquisition of SSI (see note 4(B))
            
            
            (3,784,512
            )
            
            -Other
            
            
            (102,420
            )
            
            42,681Net
                cash used in continuing operations
            
            
            (10,380,246
            )
            
            (10,034,132
            )Net
                cash provided by discontinued operations
            
            
            1,500,000
            
            
            25,823,721Net
                cash (used in) provided by investing activities
            
            
            (8,880,246
            )
            
            15,789,589Cash
                flows from financing activities:Proceeds
                on line of credit, net
            
            
            8,110,185
            
            
            (3,320,746
            )Proceeds (repayments) from
                acquisition term notes
            
            
            12,000,000
            
            
            3,250,000Proceeds
                from convertible notes
            
            
            -
            
            
            2,410,000Repayments
                on lease line of credit
            
            
            -
            
            
            (186,059
            )Proceeds
                from exercise of employee stock options
            
            
            13,301
            
            
            -Payment
                of debt issue costs
            
            
            (685,000
            )
            
            -Payments
                on capital leases, notes payable and other long-term liabilities,
                net
            
            
            (1,942,379
            )
            
            (8,977,698
            )Net
                cash provided by (used in) continuing operations
            
            
            17,496,107
            
            
            (6,824,503
            )Net
                cash used in discontinued operations
            
            
            -
            
            
            -Net
                cash provided by (used in) financing activities
            
            
            17,496,107
            
            
            (6,824,503
            )Net
                increase in cash and cash equivalents from continuing
                operations
            
            
            751,157
            
            
            603,992Net
                decrease in cash and cash equivalents from discontinued
                operations
            
            
            -
            
            
            (304,079
            )Net
                increase in cash and cash equivalents
            
            
            751,157
            
            
            299,913Cash
                and cash equivalents at beginning of period
            
            
            976,673
            
            
            1,108,642Cash
                and cash equivalents at end of period
            
            $
            1,727,830
            
            $
            1,408,555Supplemental
                disclosures of cash flow information:Cash
                paid during the period for interest
            
            $
            1,118,272
            
            $
            1,158,136Supplemental
                disclosures of non-cash investing and financing
                activities:Net
                liabilities assumed in Incentra MW acquisition, excluding cash
            
            
            -
            
            
            958,490Net
                liabilities assumed in Tactix acquisition, excluding cash
            
            
            -
            
            
            1,046,958Net
                assets acquired in allianceSoft acquisition, excluding cash
            
            
            -
            
            
            44,000Net
                assets acquired in Helio acquisition, excluding cash (see note
                4(A))
            
            
            1,357,879
            
            
            -Net
                liabilities assumed in SSI acquisition, excluding cash (see note
                4(B))
            
            
            451,436
            
            
            -Debt
                issued in Helio acquisition (see note 4(A))
            
            
            770,000
            
            
            -Debt
                  issued in SSI acquisition (see note 4(B))
            
            
            250,000
            
            
            -Purchases
                of property and equipment included in accounts payable
            
            
            65,629
            
            
            462,681




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." In 2005, 2006 and 2007 we completed six acquisitions: on February
      18, 2005, we acquired Incentra of CA, Inc., formerly known as STAR Solutions
      of
      Delaware, Inc., a privately-held Delaware corporation ("Incentra of CA ");
      on
      March 30, 2005, we acquired PWI Technologies, Inc. (“Incentra NW”), a
      privately-held Washington corporation; on April 13, 2006, we acquired Network
      System Technologies, Inc., a privately-held Illinois corporation (“Incentra
      MW”); on September 5, 2006, we acquired Tactix, Inc., a privately-held Oregon
      corporation (“Tactix”); 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 six
      acquisitions in our consolidated financial statements since their acquisition
      dates.





On
      July
      31, 2006, we completed the sale of substantially all of the assets of Front
      Porch Digital, Inc. (“Front Porch”). The sale included all of the outstanding
      capital stock of our wholly-owned subsidiary in France, Front Porch Digital
      International, S.A.S. Front Porch provided archive solutions to broadcasters
      and
      media companies. See Note 3 of Notes to Unaudited Condensed Consolidated
      Financial Statements for additional information.





We
      market
      our complete storage solutions to service providers and enterprise clients
      under
      the trade name Incentra Solutions. All of our subsidiaries offer comprehensive
      storage services, including professional services, hardware/software procurement
      and resale, financing solutions, support services (First Call) for third-party
      hardware and software maintenance, managed storage solutions, software and
      remote monitoring and management services. We focus on providing data protection
      solutions and services that ensure that our customers' data is backed-up and
      recoverable and that meet customers’ internal data retention compliance
      policies. Our remote monitoring and management services are delivered from
      our
      Storage Network Operations Center, which monitors and manages a multitude of
      diverse storage infrastructures on a 24x7 basis throughout the United States
      and
      Western Europe. Solutions are sold primarily to enterprise customers in the
      financial services, government, hospitality, retail, security, healthcare and
      manufacturing sectors. Our customers are primarily located in North America
      and
      Western Europe.





We
      deliver these services utilizing 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.





**Basis
      of Presentation**





Our
      consolidated financial statements include our accounts and those of our
      wholly-owned subsidiaries. The operations of Front Porch are presented
      retroactively for 2006 as discontinued operations. All significant intercompany
      items have been eliminated in consolidation. Certain amounts from the prior
      period have been reclassified to conform to the current period presentation.





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 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 accounting principles generally accepted
      in the United States of America 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. The results for the nine-months
      ended September 30, 2007 are not necessarily indicative of the results expected
      for the year ending December 31, 2007. These interim financial statements should
      be read in conjunction with the consolidated financial statements and footnotes
      included in our Annual Report on Form 10-KSB for the year ended December 31,
      2006, as filed with the SEC on April 2, 2007.





5


**INCENTRA
        SOLUTIONS, INC. AND SUBSIDIARIES**
 **NOTES
        TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**
 **(CONT’D)**




**Management’s
      Plans**





We
      are
      subject to various risks and uncertainties frequently encountered by companies
      in rapidly evolving markets 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 and maintain and expand our relationships with
      vendors and distributors of products that we resell. 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 $11.6 million and a shareholders' deficit of $11.3 million
      at
      September 30, 2007. We have funded these deficiencies by utilizing our existing
      lines of credit and long-term borrowings. We anticipate that we will continue
      to
      fund our working capital requirements from existing lines of credit and through
      increasing cash flows from our business operations. However, no assurance can
      be
      given that we will be successful in increasing cash flow from operations.
      Realization of our investment in property and equipment and other long-lived
      assets is dependent upon achieving positive operating cash flows. If we are
      not
      successful in achieving such positive operating cash flows, our long-lived
      assets could be considered impaired, resulting in a significant impairment
      charge to operations.





Our
      2007
      operating plan, and the execution thereof, is focused on increasing revenue,
      controlling costs, and conserving cash. However, there can be no assurance
      that
      we will be able to meet the operational and financial requirements of our
      operating plan. We believe that our cash and cash equivalents, working capital
      and access to current and potential lenders, will provide sufficient capital
      resources to fund our continuing operations.





We
      believe that cash flows from operations and our revolving
      credit line will provide our primary source of operating capital, as
      the businesses acquired since 2005 continue to generate cash. In June 2007,
      we
      received $1.5 million in cash, including $87,000 of interest, from the release
      of a portion of the sale proceeds held in escrow from the sale of Front Porch
      in
      2006. In October 2007, we received the remaining $1.0 million outstanding as
      of
      September 30, 2007. These funds are immediately available for use in our
      operations. In addition, we expect to continue to have sufficient borrowings
      available to us under our revolving line of credit with Laurus.





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





A
      description of our significant accounting policies is included in our 2006
      Annual Report on Form 10-KSB.





**Stock-Based
      Compensation**





We
      account for all share-based payments in accordance with Statement of Financial
      Accounting Standards (SFAS) 123 (revised 2004), *"Share-Based
      Payment"* (SFAS
      123R). Generally, the approach in SFAS 123R is similar to the approach described
      in SFAS 123, *“Accounting
      for Stock-Based Compensation”* (SFAS
      123). However, SFAS 123R requires all share-based payments to employees,
      including grants of employee stock options, to be recognized in the income
      statement based on their fair values at the date of grant. Pro forma disclosure
      is no longer an alternative.





On
      January 1, 2006, we adopted SFAS 123R using the modified prospective method
      as
      permitted under SFAS 123R. Under this transition method, compensation cost
      includes: (a) compensation cost for all share-based payments granted prior
      to
      but not yet vested as of December 31, 2005, based on the grant-date fair value
      estimated in accordance with the provisions of SFAS 123, and (b) compensation
      cost for all share-based payments granted subsequent to December 31, 2005,
      based
      on the grant-date fair value estimated in accordance with the provisions of
      SFAS
      123R. In connection with our adoption of SFAS 123R, we applied the provisions
      of
      Staff Accounting Bulletin No. 107, which was issued by the SEC to provide
      interpretive guidance regarding application of SFAS 123R.





We
      use
      the Black-Scholes option pricing model to calculate the grant date fair value
      of
      an award. The fair value of options granted during the nine-month periods ended
      September 30, 2007 and 2006 were calculated using the following estimated
      weighted average assumptions:


**Nine
                  Months Ended September 30,****2007**
              
              **2006**Stock
                  options granted
              
              
              1,170,700
              
              
              1,527,111Weighted-average
                  exercise price
              
              $
              0.92
              
              $
              1.25Weighted-average
                  grant date fair value
              
              $
              0.74
              
              $
              1.07Assumptions:Expected
                  volatility
              
              
              99
              %
              
              112
              %Expected
                  term (in years)
              
              
              6
                    Years
              
              
              6
                    YearsRisk-free
                  interest rate
              
              
              4.46
              %
              
              4.82
              %Dividend
                  yield
              
              
              -
              
              
              -




6


**INCENTRA
        SOLUTIONS, INC. AND SUBSIDIARIES**
 **NOTES
        TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**
 **(CONT’D)**


All
      of
      our employee options vest over three years, which is considered to be the
      requisite service period. We used the graded vesting attribution method to
      recognize expense for all options granted prior to the adoption of SFAS 123R.
      Upon adoption of SFAS 123R on January 1, 2006, we changed to the straight-line
      attribution method to recognize expense for options granted after December
      31,
      2005. The expense associated with the unvested portion of the grants prior
      to
      the adoption of SFAS 123R will continue to be expensed using the graded vesting
      attribution method.





The
      amount of stock-based compensation recognized during a period is based on the
      value of the portion of the awards that are ultimately expected to vest. SFAS
      123R requires forfeitures to be estimated at the time of grant and revised,
      if
      necessary, in subsequent periods if actual forfeitures differ from those
      estimates. The term "forfeitures" is distinct from "cancellations" or
      "expirations" and represents only the unvested portion of the surrendered
      option.





Based
      on
      an analysis of historical forfeitures, we currently expect that approximately
      85% of our options will actually vest and, therefore, we have applied a
      forfeiture rate of 5.0% per year to all unvested options as of September 30,
      2007. This analysis will be re-evaluated periodically and the forfeiture rate
      will be adjusted as necessary. Ultimately, the actual expense recognized over
      the vesting period will only be for those shares that vest.





Expected
      volatilities are based on the historical volatility of the price of our common
      stock. The expected term of options is derived based on the sum of the vesting
      term plus the original option term, divided by two.




We
      currently have three employee stock option plans - one plan that was originally
      established under Incentra of CO (the ‘Incentra of CO Plan”), a plan that was
      originally established under Front Porch (the “Incentra Option Plan”), and the
      Incentra Solutions, Inc. 2006 Stock Option Plan (the “2006 Plan”), which was
      adopted on May 4, 2006. The plans are collectively referred to as the “Incentra
      Option Plans.” As of the date of the Incentra of CO acquisition, we adopted the
      Incentra Option Plan.


7
 **INCENTRA
          SOLUTIONS, INC. AND SUBSIDIARIES**
 **NOTES
          TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**
 **(CONT’D)**


Presented
      below are (i) summaries of option activity under the Incentra Option Plans
      as of
      September 30, 2007, (ii) changes during the nine months then ended and (iii)
      the
      status of non-vested options:




The
      2006
      Plan and and the Incentra Option Plan:


**Weighted**
              
              **Weighted****Average**
              
              **Average****Number
                  of**
              
              **Exercise**
              
              **Contractual****Options**
              
              **Price**
              
              **Life**Balance
                  at January 1, 2007
              
              
              3,067,907
              
              $
              2.04
              
              
              8.43Granted
              
              
              1,170,700
              
              
              0.92
              
              
              9.67Exercised
              
              
              -
              
              
              -
              
              
              -Forfeited
              
              
              (567,775
              )
              
              1.98
              
              
              8.30Balance
                  at September 30, 2007
              
              
              3,670,832
              
              $
              1.67
              
              
              8.30Vested
                  balance at September 30, 2007
              
              
              1,679,768
              
              $
              2.38
              
              
              7.20
  **Weighted****Average****Grant
                  Date****Fair
                  Value**Non-vested
                  options at January 1, 2007
              
              
              1,804,953
              
              $
              1.54
              
              $
              1.76Granted
              
              
              1,170,700
              
              
              0.92
              
              
              0.74Vested
              
              
              (587,748
              )
              
              1.91
              
              
              1.50Forfeited
              
              
              (396,841
              )
              
              1.53
              
              
              1.26Non-vested
                  options at September 30, 2007
              
              
              1,991,064
              
              $
              1.07
              
              $
              0.87


8


**INCENTRA
        SOLUTIONS, INC. AND SUBSIDIARIES**
 **NOTES
        TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**
 **(CONT’D)**




A
      summary
      of all activity in the Incentra of CO Plan as of September 30, 2007 is as
      follows:


**Weighted**
              
              **Weighted****Average**
              
              **Average****Number
                  of**
              
              **Exercise**
              
              **Contractual****Options**
              
              **Price**
              
              **Life**Balance
                  at January 1, 2007
              
              
              215,893
              
              $
              0.45
              
              
              6.16Granted
              
              
              -
              
              
              -
              
              
              -Exercised
              
              
              (41,566
              )
              
              0.32
              
              
              5.62Forfeited
              
              
              (2,382
              )
              
              2.18
              
              
              6.12Balance
                  at September 30, 2007
              
              
              171,945
              
              $
              0.46
              
              
              5.41Vested
                  balance at September 30, 2007
              
              
              170,707
              
              $
              0.44
              
              
              5.41
  **Weighted****Average****Grant
                  Date****Fair
                  Value**Non-vested
                  options at January 1, 2007
              
              
              3,849
              
              $
              3.24
              
              $
              4.08Granted
              
              
              -
              
              
              -
              
              
              -Vested
              
              
              -
              
              
              -
              
              
              -Forfeited
              
              
              (2,611
              )
              
              3.24
              
              
              4.08Non-vested
                  options at September 30, 2007
              
              
              1,238
              
              $
              3.24
              
              $
              4.08




As
      of
      September 30, 2007, there was $1.6 million of total unrecognized compensation
      expense related to the non-vested, share-based compensation arrangements granted
      under the plans. That cost is expected to be recognized over a weighted-average
      period of two years. The total fair value of options vested during the
      nine-month periods ended September 30, 2007 and 2006 was approximately $885,059
      and $161,000, respectively. The intrinsic value of outstanding options was
      $79,000 at September 30, 2007.




**Recently
      Issued Accounting Pronouncements**





In
      July
      2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation
      No. 48, *Accounting
      for Uncertainty in Income Taxes, an interpretation of FASB Statement 109* ("FIN
      48"). FIN 48 requires that a position taken or expected to be taken in a tax
      return be recognized in the financial statements when it is more likely than
      not
      (i.e. a likelihood of more than fifty percent) that the position would be
      sustained upon examination by tax authorities. A recognized tax position is
      then
      measured at the largest amount of benefit that is greater than fifty percent
      likely of being realized upon ultimate settlement. Upon adoption, the cumulative
      effect of applying the recognition and measurement provisions of FIN 48, if
      any,
      shall be reflected as an adjustment to the opening balance of retained earnings.
      We adopted FIN 48 on January 1, 2007. We did not have any unrecognized tax
      benefits and there was no effect on our financial condition or results of
      operations as a result of implementing FIN 48.




We
      file
      income tax returns in the U.S. federal jurisdiction and various state and
      foreign jurisdictions. We are subject to U.S. federal and state tax examinations
      for 2003 through 2006. We do not believe there will be any material changes
      in
      our unrecognized tax positions over the next 12 months. We recognize interest
      and penalties accrued on any unrecognized tax benefits as a component of income
      tax expense. As of the date of adoption of FIN 48, we did not have any accrued
      interest or penalties associated with any unrecognized tax benefits, nor was
      any
      interest expense recognized during the three or nine months ended September
      30,
      2007.




9


**INCENTRA
        SOLUTIONS, INC. AND SUBSIDIARIES**
 **NOTES
        TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**
 **(CONT’D)**




**3.
      SALE OF FRONT PORCH DIGITAL, INC. AND DISCONTINUED
      OPERATIONS**





On
      July
      31, 2006, we sold substantially all of the assets of our broadcast and media
      operations, Front Porch. The material assets owned and operated by Front Porch,
      all of which were transferred to the buyers in the sale, included, without
      limitation, all of the outstanding capital stock of Front Porch International
      SAS, its wholly-owned French subsidiary, its DIVArchive and Bitscream software
      and all intellectual property rights associated with that software and all
      tangible personal property, contracts and accounts receivable relating to Front
      Porch’s business.





The
      sales
      price was $33 million, of which, $30.5 million was received in cash at the
      closing and $2.5 million was placed in escrow for one year to secure payment
      of
      any indemnification claims against us following the closing. In June 2007,
      $1.5
      million, including $87,000 of interest, was released from escrow. The remaining
      $1.0 million outstanding as of September 30, 2007 was collected during October
      2007.





In
      addition to the $33 million sales price, we may receive up to $5 million
      pursuant to an earn-out provision. Under the terms of the earn-out, we are
      entitled to receive an amount equal to 5% of Front Porch's gross software sales,
      net of customer discounts, for each of the years ending December 31, 2006,
      2007
      and 2008, not to exceed $5 million in the aggregate. We have accrued and
      included in other current assets $178,000 under this earn-out provision at
      September 30, 2007.




The
      operating results from discontinued operations were as follows for the periods
      presented below:





**Three
                Months Ended September 30,**
            
            **Nine
                Months Ended September 30,****2007**
            
            **2006**
            
            **2007**
            
            **2006**Total
                revenues
            
            $
            -
            
            $
            1,008,729
            
            $
            -
            
            $
            9,444,577Cost
                of revenues
            
            
            -
            
            
            457,338
            
            
            -
            
            
            3,357,505Gross
                profit
            
            
            -
            
            
            551,391
            
            
            -
            
            
            6,087,072Operating
                expenses
            
            
            -
            
            
            683,449
            
            
            -
            
            
            5,427,035Operating
                (loss) income
            
            
            -
            
            
            (132,058
            )
            
            -
            
            
            660,037Other
                (expense) income
            
            
            (3,306
            )
            
            116,389
            
            
            15,283
            
            
            52,102(Loss)
                income before income taxes
            
            
            (3,306
            )
            
            (15,669
            )
            
            15,283
            
            
            712,139Income
                tax expense
            
            
            -
            
            
            -
            
            
            -
            
            
            (328,755
            )Net
                (loss) income
            
            $
            (3,306
            )
            $
            (15,669
            )
            $
            15,283
            
            $
            383,384




**4.
      ACQUISITIONS**





**(A)**
            **ACQUISITION
                OF HELIO**





On
      August
      17, 2007 (the "Helio Closing Date"), we acquired all of the outstanding capital
      stock of Helio, a provider of IT and secure data center solutions to mid-tier
      enterprises and Fortune 1000 companies located in San Jose, California pursuant
      to a Stock Purchase Agreement, dated as of August 14, 2007 (the "Helio Stock
      Purchase Agreement").





The
      purchase price for Helio was approximately $11.4 million, which consisted of
      $5.0 million in cash (of
      which
      $750,000 was placed in escrow to secure certain indemnification
      obligations), the
      issuance of 6,000,000 shares of our common stock valued at $4,560,000 (based
      on
      an average of the closing prices of our common stock during the seven-day
      periods before and after the acquisition date) and the issuance of a three-year
      unsecured convertible promissory note in the amount of $770,000 (the "Helio
      Note") to one of the former Helio shareholders. We also paid investment banking
      fees and other fees totaling approximately $732,500. In addition, we issued
      a
      five-year warrant to our investment banking firm to purchase 600,000 shares
      of
      our common stock at a price of $0.80 per share. The warrant was valued at
      $333,420 using the Black-Scholes model. The Helio Stock Purchase Agreement
      contains an earn-out provision pursuant to which some of the former Helio
      shareholders may receive additional unregistered shares of our common stock
      and
      cash based upon Helio achieving certain levels of EBITDA (as defined in the
      Helio Stock Purchase Agreement). The earn-out provisions
      provide that the continuing shareholders can earn up to $15 million (we will
      recover 1,000,000 of the common shares issued at the closing out of any earn-out
      shares earned before any additional shares are granted) in additional
      consideration over the next three years based on the achievement of EBITDA
      greater than a minimum threshold of $2.0 million, $2.5 million and $3.0 million
      for the first, second and third twelve-month periods after closing,
      respectively. The amount is payable dollar for dollar up to a maximum amount
      of
      $5.0 million per year. However, in the event EBITDA does not exceed the
      previously mentioned minimum thresholds in any of the next three years, there
      shall be no earn-out payable for that year. The earn-out is payable 50% in
      cash
      and 50% in stock of our company, the number of common shares to be calculated
      using a price per share of $1.00 in the first year, the greater of $1.00 or
      90%
      of the fair market value of our company’s stock at the beginning of the second
      year for year two, and the greater of $2.00 or 90% of the fair market value
      of
      our company’s stock at the beginning of the third year for year three. There is
      also a “catchup” adjustment mechanism at the end of the three year period if in
      any of the three years the shareholders do not receive an earn-out payment
      as a
      result of not achieving the minimum EBITDA in that year.




10


**INCENTRA
        SOLUTIONS, INC. AND SUBSIDIARIES**
 **NOTES
        TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**
 **(CONT’D)**




The
      Helio
      Note accrues interest at an annual rate of 8%. We are required to make twelve
      equal quarterly payments of principal and interest in the amount of $72,900,
      the
      first payment of which is to be made on November 14, 2007, with the eleven
      remaining payments being due on the fourteenth day of February, May, August
      and
      November during the period beginning on February 14, 2008 and ending 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 .
      The
      Helio Note further provides that all unpaid principal and accrued interest
      shall
      become immediately due and payable upon the occurrence of an event of default
      (as defined in the Helio Note). Such events of default include, among others,
      the occurrence either of the following events: (i) our failure to make payment
      when due, subject to a ten day notice and cure period or (ii) our failure to
      observe, keep or comply with any provision or requirement contained in the
      Helio
      Stock Purchase Agreement. The Helio Note can be prepaid at any time without
      penalty.





Concurrently
      with the consummation of the acquisition, we granted certain registration rights
      to the former Helio shareholders with respect to the shares of our common stock
      issued in the acquisition and the shares issuable under the earn-out provision
      contained in the Helio Stock Purchase Agreement. Pursuant to the registration
      rights agreements, at any time after August 14, 2009, the former shareholders
      have a demand registration right and piggy-back rights to require us to register
      under the Securities Act such shares of our common stock issued in the
      acquisition.





We
      also
      entered into a lock-up agreement with certain former shareholders as of the
      closing date. Under such agreement, the former shareholders agreed not to sell
      or transfer the shares they received pursuant to the Helio Stock Purchase
      Agreement until after August 2009, with certain exceptions, as defined in the
      Helio Stock Purchase Agreement.





The
      following represents the preliminary purchase price allocation at the date
      of
      the Helio acquisition:





Cash
                and cash equivalents
            
            $
            937,272Accounts
                receivable
            
            
            8,422,699Other
                current assets
            
            
            2,151,191Property
                and equipment
            
            
            260,351Other
                assets
            
            
            69,365Goodwill
            
            
            9,101,954Current
                liabilities
            
            
            (9,511,522
            )Other
                liabilities
            
            
            (34,205
            )Purchase
                price
            
            $
            11,397,105





The
      purchase price allocation is not considered final as of the date of this report
      as we, along with our independent valuation advisors, are still reviewing all of
      the underlying assumptions and calculations used in the allocation and
      finalizing any working capital adjustments. However, we believe the final
      purchase price allocation will not be materially different than presented
      herein.





**(B)**
            **ACQUISITION
                OF SSI**





On
      September 5, 2007 (the "SSI Closing Date"), we acquired all of the outstanding
      capital stock of SSI, a provider of IT and secure data center solutions to
      mid-tier enterprises and Fortune 1000 companies located in Metuchen, New Jersey,
      pursuant to a Stock Purchase Agreement, dated as of August 31, 2007 (the "SSI
      Stock Purchase Agreement").





The
      SSI
      stock purchase price was approximately $6.5 million, which consisted of $4.75
      million in cash (of which $475,000 was placed in escrow to secure certain
      indemnification obligations), the issuance of 1,369,863 unregistered shares
      of
      our common stock valued at $1,021,918 (based on an average of the closing prices
      of our common stock during the seven-day periods before and after the
      acquisition date) and an unsecured promissory note in the amount of $250,000
      (the “SSI Note”). We also paid investment banking and other fees totaling
      approximately $483,000.


The
        Purchase Agreement contains an earn-out provision which provides that the
        former
        owner can earn up to $3.0 million in additional consideration based on the
        achievement of EBITDA greater than a minimum threshold of $1.5 million, in
        each
        of the three twelve calendar month periods following the closing date and
        beginning on October 1, 2007. Annual EBITDA must be $2.0 million or greater
        to
        achieve full payout in each measurement period. The amount is payable two
        dollars for each one dollar that EBITDA is in excess of $1.5 million up to
        a
        maximum amount of $1.0 million in earn-out per measurement period. However,
        in
        the event EBITDA does not exceed $1.5 million in any of one of the individual
        measurement periods, there shall be no earn-out payable for that particular
        measurement period. The earn-out is payable 33% in cash and 67% in unregistered
        shares of common stock of our company and shall be paid within ninety days
        after
        the end of the applicable measurement period. The number of shares to be
        issued
        shall be determined by dividing two-thirds of the total measurement period
        earn
        out payment by the per share fair market value of our common stock. The per
        share fair market value of our unregistered common stock shall be the average
        closing price of our common stock, as reported on Bloomberg L.P. on the
        Principal Market, for the five consecutive trading days ending on the last
        day
        of the applicable measurement period.
  If
        EBITDA
        for any of the individual measurement periods is less than $2.0 million and
        the
        aggregate EBITDA for the three measurement periods is greater than $4.5 million,
        we will re-measure the earn-out amount payable based upon the three measurement
        periods’ aggregate EBITDA amount, less $4.5 million, multiplied by two, less the
        actual measurement period earn-out payments already paid, subject to the
        maximum
        payment of $3.0 million. Any earn-out payable upon such re-measurement shall
        be
        payable 33% in cash and 67% in stock of our company. The number of shares
        of our
        common stock to be issued shall be determined by dividing two-thirds of the
        adjusting earn-out payment by the per share fair market value of our common
        stock as determined using the average closing price of our common stock,
        as
        reported on Bloomberg L.P. on the Principal Market, for the five consecutive
        trading days ending on the last day of the third measurement period.
  If
        the
        aggregate EBITDA over the three measurement periods exceeds $6.0 million
        dollars, the former owner shall be entitled to receive a bonus earn-out payment
        equal to fifty percent (50%) of the amount by which aggregate EBITDA over
        the
        three measurement periods exceeds $6.0 million dollars. The bonus earn-out
        payment shall be payable 33% in cash and 67% in shares of common stock of
        our
        company. The number of shares of our common stock to be issued shall be
        determined using the formula described above.




11


**INCENTRA
        SOLUTIONS, INC. AND SUBSIDIARIES**
 **NOTES
        TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**
 **(CONT’D)**




The
      SSI
      Note accrues interest at an annual rate of 5.25%. We are required to make twelve
      equal quarterly payments of principal and interest in the amount of $22,653,
      the
      first payment of which is to be made on December 1, 2007, with the eleven
      remaining payments being due on the first day of March, June, September and
      December during the period beginning on January 1, 2008 and ending on
      September 1, 2010. The SSI Note can  be prepaid at any time without
      penalty.





Concurrently
      with the consummation of the acquisition, we granted certain registration rights
      to the former owner with respect to the shares of our common stock issued in
      the
      acquisition and the shares issuable under the earn-out provision contained
      in
      the SSI Stock Purchase Agreement. Pursuant to the registration rights agreement,
      at any time after August 31, 2009, the former shareholder has a demand
      registration right and piggy-back rights to require us to register under the
      Securities Act such shares of our common stock issued in the
      acquisition.





The
      following represents the preliminary purchase price allocation at the date
      of
      the SSI acquisition:





Cash
                and cash equivalents
            
            $
            1,451,706Accounts
                receivable
            
            
            4,213,004Goodwill
            
            
            5,507,866Current
                liabilities
            
            
            (4,664,440
            )Purchase
                price
            
            $
            6,508,136




The
      purchase price allocation is not considered final as of the date of this report
      as we, along with our independent valuation advisors, are still reviewing all
      of
      the underlying assumptions and calculations used in the allocation. However,
      we
      believe the final purchase price allocation will not be materially different
      than presented herein.





**(C)**
            **PRO
                FORMA RESULTS**





The
      following unaudited pro forma financial information presents our consolidated
      results of operations as if the acquisitions of Helio and SSI had occurred
      as of
      the beginning of each of the periods presented below. The unaudited pro forma
      financial information is not intended to represent or be indicative of the
      consolidated results of operations that would have been reported by us had
      the
      acquisitions been completed as of the beginning of the periods presented, and
      should not be taken as representative of our future consolidated results of
      operations or financial condition.





**Three
                Months Ended September 30,**
            
            **Nine
                Months Ended September 30,****2007**
            
            **2006**
            
            **2007**
            
            **2006**Revenues
            
            $
            56,893,523
            
            $
            42,660,361
            
            $
            169,036,534
            
            $
            140,767,676Loss
                from continuing operations
            
            
            (2,336,623
            )
            
            (4,188,299
            )
            
            (5,822,684
            )
            
            (6,154,487
            )Gain
                (loss) from discontinued operations
            
            
            (3,306
            )
            
            15,576,209
            
            
            15,283
            
            
            15,975,262Net
                (loss) income applicable to common shareholders
            
            
            (2,994,321
            )
            
            8,394,019
            
            
            (7,770,577
            )
            
            2,668,812Net (loss)
                income per share - basic and diluted, pro forma:From
                continuing operations
            
            $
            (0.11
            )
            $
            (0.20
            )
            $
            (0.28
            )
            $
            (0.29
            )From
                discontinued operations
            
            
            *
            
            
            0.74
            
            
            *
            
            
            0.76Total
                net (loss) income per share-basic and diluted, pro forma
            
            $
            (0.11
            )
            $
            0.54
            
            $
            (0.28
            )
            $
            0.46




*
        Amount
        is less then $0.01 per share




12


**INCENTRA
        SOLUTIONS, INC. AND SUBSIDIARIES**
 **NOTES
        TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**
 **(CONT’D)**




**5.
      PROPERTY AND EQUIPMENT**





Property
      and equipment consist of the following:





**September
                30,**
            
            **December
                31,****2007**
            
            **2006**Computer
                equipment
            
            $
            7,005,330
            
            $
            6,492,675Software
            
            
            2,234,294
            
            
            2,078,616Leasehold
                improvements
            
            
            132,262
            
            
            119,540Office
                furniture and equipment
            
            
            229,092
            
            
            185,192Vehicles
            
            
            69,114
            
            
            -9,670,092
            
            
            8,876,023Less
                accumulated depreciation
            
            
            6,657,053
            
            
            5,811,859Total
            
            $
            3,013,039
            
            $
            3,064,164




**6.
      ACCRUED EXPENSES AND OTHER**




Accrued
      expenses and other consists of the following:




**September
                30,**
            
            **December
                31,****2007**
            
            **2006**Wages,
                benefits and payroll taxes
            
            $
            3,212,655
            
            $
            2,753,587Professional
                fees
            
            
            225,355
            
            
            280,492Customer
                deposits
            
            
            314,399
            
            
            364,796Taxes,
                other than income taxes
            
            
            782,701
            
            
            738,210Deferred
                rent
            
            
            150,672
            
            
            143,490Due
                to shareholders of acquired companies
            
            
            648,389
            
            
            233,567Interest
                payable
            
            
            403,758
            
            
            145,564Other
                accrued payables
            
            
            767,545
            
            
            902,448Total
            
            $
            6,505,474
            
            $
            5,562,154





13


**INCENTRA
        SOLUTIONS, INC. AND SUBSIDIARIES**
 **NOTES
        TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**
 **(CONT’D)**




**7.
      NOTES PAYABLE, CAPITAL LEASES AND OTHER LONG-TERM
      OBLIGATIONS**





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





**September
                30,**
            
            **December
                31,****2007**
            
            **2006**Laurus
                revolving line of credit (A)
            
            $
            13,613,180
            
            $
            5,378,114Laurus
                convertible note (A)
            
            
            -
            
            
            1,108,2542007
                term note (A)
            
            
            9,229,167
            
            
            -Incentra
                MW note (B)
            
            
            351,252
            
            
            873,645Convertible
                notes (C)
            
            
            1,350,000
            
            
            1,228,392Helio
                note (D)
            
            
            770,000
            
            
            -SSI
                note (E)
            
            
            250,000
            
            
            -Capital
                leases
            
            
            621,447
            
            
            700,074Other
                obligations
            
            
            43,480
            
            
            28,77226,228,526
            
            
            9,317,251Less
                current portion
            
            
            17,328,719
            
            
            8,498,168Non-current
                portion
            
            $
            8,899,807
            
            $
            819,083




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





On
      February 6, 2006, we entered into a security agreement with 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%. The initial draw under the 2006 Facility
      was
      $5.8 million and was used to repay indebtedness under a prior revolving loan
      facility with Laurus. Included in the loss on early extinguishment of debt
      for
      the nine-month period ended September 30, 2006 was $1.2 million related to
      the
      refinancing of the prior revolving credit facility. In 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 is being amortized to earnings as additional interest
      expense over the term of the debt (through February 2009). As of September
      30,
      2007 and December 31, 2006, outstanding borrowings under the 2006 Facility
      were
      $14.5 million  ($13.6 million net of debt discounts) and $6.3 million ($5.4
      million net of debt discounts), respectively. We had $0.5 million of available
      borrowings under the 2006 Facility as of September 30, 2007.





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
      EITF 95-22, *“Balance
      Sheet Classification of Borrowings Outstanding under Revolving Credit Agreements
      that Include Both a Subjective Acceleration Clause and a Lock-Box
      Arrangement.”*





On
      March
      31, 2006, we consummated a private placement with Laurus pursuant to which
      we
      issued to Laurus a secured term note which was due May 31, 2009 in the principal
      amount of $1,750,000 (the "2006 Term Note") and a secured convertible term
      note
      which was due May 31, 2009 in the principal amount of $1,500,000 (the "2006
      Convertible Note"). The 2006 Term Note was repaid on July 31, 2006. On August
      17, 2007, we entered into a new financing agreement with Calliope Capital
      Corporation, an affiliate of Laurus, in which we issued a $12 million promissory
      note (the “2007 Term Note”). Proceeds from the 2007 Term Note were used to pay
      off the $932,000 balance outstanding on the 2006 Convertible Note as of August
      17, 2007, as well as to fund the acquisitions of Helio and SSI (see note 4(A)
      and 4(B)). The 2007 Term Note bears interest at the prime rate plus 2.0%,
      subject to a floor of 10%, and requires six months of interest only payments
      followed by thirty monthly payments including principal and interest, of
      $285,714 commencing on February 1, 2008 with any remaining unpaid principal
      and
      interest due on July 31, 2010. 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 $.001 per share, maturing July 31, 2027. The warrant was valued at $2,850,000
      using the Black-Scholes model and 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.




14


**INCENTRA
        SOLUTIONS, INC. AND SUBSIDIARIES**
 **NOTES
        TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**
 **(CONT’D)**




In
      connection with our financings with Laurus, we have issued to Laurus, warrants
      to purchase up to 5,783,857 shares of our common stock at prices ranging from
      $.001 to $5.00 per share. The warrants expire between May 1, 2008 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 2006. During
      August 2007, Laurus exercised 860,858 warrants. Using the Black-Scholes model,
      the value of all warrants and the option issued to Laurus approximated $4.9
      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 $3.6 million and $1.1 million at September 30, 2007 and
      December 31, 2006, respectively. Borrowings outstanding at September 30, 2007
      and December 31, 2006 were net of the deferred financing costs associated with
      these borrowings.





Our
      indebtedness to Laurus is collateralized by substantially all of our assets
      and
      is accompanied by substantially similar agreements governing registration
      rights, standard events of default provisions, typical remedies available to
      Laurus in the event of default, restrictions on the payment of dividends and
      other provisions standard in these types of arrangements.





**(B)**
            **Incentra
                MW Note**





The
      Incentra MW Note accrues interest at an annual rate of 0.5%. The Incentra MW
      Note was discounted by $109,300 to reflect a fair value rate of interest of
      8.75%. We are required to make eight equal quarterly payments of principal
      and
      interest in the amount of $190,190, the first payments of which were paid on
      July 15, 2006, September 1, 2006, December 1, 2006, March 1, 2007, June 1,
      2007
      and September 1, 2007 with the two remaining payments being due on the first
      day
      of December 2007 and on March 1, 2008.





**(C)**
            **Convertible
                Notes**





In
      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. Of this amount, $1,060,000 was repaid to the
      twelve accredited investors in September 2006, along with accrued interest
      of
      $34,535 and prepayment penalties amounting to $84,800.





The
      remaining Convertible Notes have a principal amount of $1,350,000, bear interest
      at an annual rate of 12% (subject to certain adjustments) and had initial
      maturity dates in June and July 2007. **** During
      July 2007, the maturity dates were extended to December 31, 2007. All other
      terms of the Convertible Notes remain as previously disclosed. Absent early
      redemption (at our option and without penalty), the Convertible Notes and any
      accrued interest are convertible, at the option of the Purchasers, into fully
      paid and non-assessable shares of our common stock at a fixed conversion price
      of $1.40 per share (as adjusted for stock splits, stock dividends and the like,
      the "Conversion Price"). The Conversion Price exceeded the market price of
      our
      common stock on the date the Convertible Notes were issued. We have the right
      to
      convert all or any portion of the then unpaid and accrued interest on the
      remaining Convertible Notes into shares of our common stock at the
      then-effective conversion price of such Convertible Notes, if the average
      closing price of our common stock on the applicable market for the five
      consecutive trading days immediately preceding the date of conversion is greater
      than or equal to 125% of the conversion price; provided there is an effective
      registration statement covering the resale of the shares issuable upon
      conversion of such Convertible Notes.





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 $1.40 per share (subject to adjustment
      for stock splits, stock dividends and the like) expiring in May and June 2011.
      Based upon the Black-Scholes model, we determined the value of all Warrants
      issued 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 Helio Stock Purchase Agreement discussed in Note 4(A), we issued an
      unsecured convertible promissory note for $770,000 to a selling shareholder
      of
      Helio. The Helio Note bears interest at 8.0% and is payable in twelve equal
      quarterly installments of principal and interest of $79,800 beginning on
      November 14, 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.




15


**INCENTRA
        SOLUTIONS, INC. AND SUBSIDIARIES**
 **NOTES
        TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**
 **(CONT’D)**


**(E)**
            **SSI
                Note**





Pursuant
      to the SSI Stock Purchase Agreement discussed in Note 4(B), we issued an
      unsecured promissory note for $250,000 to the selling shareholder of SSI. The
      SSI Note bears interest at 5.25% and is payable in twelve equal quarterly
      installments of principal and interest of $22,653 beginning on December 1,
      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.





**8.
      SERIES A CONVERTIBLE REDEEMABLE PREFERRED STOCK**





We
      have
      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 26,075 Series A Preferred shares at a purchase price of
      $10.35 per share and 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 based on the initial ratio of two common shares
      for each preferred share, subject to antidilution adjustments. So long as
      at least 500,000 originally issued shares of Series A Preferred shares are
      outstanding, the holders of Series A Preferred shares have the right to appoint
      three directors to our Board of Directors. As a result, our Board of Directors
      has been expanded to seven members to accommodate these three directors. On
      or
      after August 16, 2008, 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 ($31.5
      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 the shares of Series A Preferred shares are convertible. As
      the carrying value of the Series A Preferred shares is less than the redemption
      amount, we are accreting the difference so that the carrying value will equal
      the redemption amount of $31.5 million at the earliest date the holders can
      elect to redeem the Series A Preferred shares. 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).





16




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





**General**





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;
      (8)
      general economic conditions; and (9) our ability to successfully integrate
      acquisitions. 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.





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 the United States,
      Western Europe and Japan. 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.




For
      the
      three and nine month periods ended September 30, 2007, revenues were $36.4
      and
      $92.1 million, increasing by 126% and 117% over the amounts for the respective
      periods of 2006. The significant growth in revenue was a result of the added
      sales of products and services from acquisitions completed in 2006 and 2007
      and
      organic growth from our existing business. On a pro forma basis, assuming that
      the two acquisitions in 2007 occurred as of January 1, 2006, revenue for the
      three and nine month periods ended September 30, 2007 increased by 33% and
      20%,
      respectively. The increase is attributable to organic growth associated with
      higher product and services sales in both the United States and Western Europe
      compared with the prior year. For the three and nine month periods ended
      September 30, 2007, our loss from continuing operations was $1.9 and $6.8
      million, respectively, as compared to a loss from continuing operations for
      the
      prior year periods of $6.8 and $15.0 million, respectively. The reduction in
      net
      loss for both periods was primarily related to the increase in gross margins
      due
      to significant increases in revenue.




17




EBITDA
      is
      defined as earnings before interest, taxes, depreciation and amortization,
      loss
      on early extinguishment of debt and stock based compensation expense . Although
      EBITDA is not a measure of performance or liquidity calculated in accordance
      with generally accepted accounting principles (GAAP), we believe the use of
      the
      non-GAAP financial measure EBITDA 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 EBITDA provides useful information
      to the investor because EBITDA excludes significant non-cash interest and
      amortization charges related to our past financings that, when excluded, we
      believe produces more meaningful operating information. EBITDA also excludes
      depreciation and amortization expenses, which are significant due to six
      acquisitions completed since 2004. However, 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 EBITDA to the most comparable
      GAAP financial measure, net loss before deemed dividends and accretion on
      preferred stock is set forth below.





EBITDA
      Reconciliation


All
      amounts in (000’s)


**Three
                Months Ended September 30,**
            
            **Nine
                Months Ended September 30,****2007**
            
            **2006**
            
            **2007**
            
            **2006**Loss
                from continuing operations beforeaccretion
                on preferred stock
            
            $
            (1,854
            )
            $
            (6,791
            )
            $
            (6,840
            )
            $
            (14,976
            )Depreciation
                and amortization
            
            
            694
            
            
            724
            
            
            2,175
            
            
            1,772Interest
                expense, net (cash portion)
            
            
            499
            
            
            224
            
            
            1,119
            
            
            1,125Interest
                expense (non-cash portion)
            
            
            295
            
            
            457
            
            
            1,121
            
            
            1,225Taxes
            
            
            24
            
            
            -
            
            
            74
            
            
            -Loss
                on early extinguishment of debt
            
            
            136
            
            
            1,724
            
            
            136
            
            
            2,957Non-cash
                stock-based compensation
            
            
            323
            
            
            523
            
            
            1,146
            
            
            1,359Adjusted
                EBITDA
            
            $
            117
            
            $
            (3,139
            )
            $
            (1,069
            )
            $
            (6,538
            )





We
      continue to invest in hardware and the development of our software and in data
      storage and other infrastructure equipment. During the nine months ended
      September 30, 2007, we invested $0.6 million in software development and $1.1
      million in capital expenditures, primarily for 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.





18




**Results
      of Operations—Three Months Ended September 30, 2007 Compared to Three Months
      Ended September 30, 2006**





**Three
                Months Ended September 30,****2007**
            
            **2006**
            
            **Change**Gross
                margin-products
            
            $
            5,824
            
            $
            2,209
            
            $
            3,615Gross
                margin-services
            
            
            2,034
            
            
            1,083
            
            
            951Selling,
                general and administrative
            
            
            (8,163
            )
            
            (6,882
            )
            
            (1,281
            )Stock-based
                compensation
            
            
            (323
            )
            
            (523
            )
            
            200Depreciation
                and amortization
            
            
            (284
            )
            
            (339
            )
            
            55Interest
                expense, net
            
            
            (794
            )
            
            (682
            )
            
            (112
            )Loss
                on early extinguishment of debt
            
            
            (136
            )
            
            (1,724
            )
            
            1,588Other
                (expense) income, net
            
            
            (12
            )
            
            66
            
            
            (78
            )Loss
                from continuing operations
            
            $
            (1,854
            )
            $
            (6,792
            )
            $
            4,938





**Results
      of Operations—Nine Months Ended September 30, 2007 Compared to Nine Months Ended** **September
      30, 2006**





**Nine
                Months Ended September 30,****2007**
            
            **2006**
            
            **Change**Gross
                margin-products
            
            $
            14,150
            
            $
            5,655
            
            $
            8,495Gross
                margin-services
            
            
            5,435
            
            
            2,805
            
            
            2,630Selling,
                general and administrative
            
            
            (22,016
            )
            
            (16,281
            )
            
            (5,735
            )Stock-based
                compensation
            
            
            (1,146
            )
            
            (1,359
            )
            
            213Depreciation
                and amortization
            
            
            (888
            )
            
            (607
            )
            
            (281
            )Interest
                expense, net
            
            
            (2,240
            )
            
            (2,350
            )
            
            110Loss
                on early extinguishment of debt
            
            
            (136
            )
            
            (2,957
            )
            
            2,821Other
                income, net
            
            
            1
            
            
            118
            
            
            (117
            )Loss
                from continuing operations
            
            $
            (6,840
            )
            $
            (14,976
            )
            $
            8,136




***Gross
      Margin—Products***





Gross
      margin arising from the sale of third-party products and maintenance contracts
      for the three months ended September 30, 2007 and 2006 consisted of the
      following (in thousands):





**Three
                Months Ended September 30,****2007**
            
            **2006**
            
            **Increase**Product
                revenue
            
            $
            30,269
            
            $
            12,467
            
            $
            17,802Cost
                of product revenue
            
            
            24,445
            
            
            10,258
            
            
            14,187Gross
                margin
            
            $
            5,824
            
            $
            2,209
            
            $
            3,615Gross
                margin %
            
            
            19.2
            %
            
            17.7
            %
            
            1.5
            %




19




Gross
      margin arising from the sale of third-party products and maintenance contracts
      for the nine months ended September 30, 2007 and 2006 consisted of the following
      (in thousands):


**Nine
                  Months Ended September 30,****2007**
              
              **2006**
              
              **Increase**Product
                  revenue
              
              $
              76,186
              
              $
              32,737
              
              $
              43,449Cost
                  of product revenue
              
              
              62,036
              
              
              27,082
              
              
              34,954Gross
                  margin
              
              $
              14,150
              
              $
              5,655
              
              $
              8,495Gross
                  margin %
              
              
              18.6
              %
              
              17.3
              %
              
              1.3
              %




The
      increase in the components of gross margin from sales of third-party products
      reflects the impact of the April 2006 acquisition of Incentra MW, the September
      2006 acquisition of Tactix, Inc., the August 2007 acquisition of Helio and
      the
      September 2007 acquisition of SSI, as well as organic growth in our domestic
      U.S. and international operations. The organic growth reflects our significant
      investments over the past year in sales and marketing, consisting of increased
      sales personnel, field sales engineering personnel, direct marketing and sales
      management tools.The higher gross margin percentage reflects a higher volume
      of
      revenue from sales of storage equipment and storage related solutions, and
      sales
      of products from a broader mix of manufacturers, some of which provide higher
      gross margins.





***Gross
      Margin—Services***





Gross
      margin arising from sales of services for the three months ended September
      30,
      2007 and 2006 consisted of the following (in thousands):


**Three
                  Months Ended September 30,****2007**
              
              **2006**
              
              **Increase**Services
                  revenue
              
              $
              6,092
              
              $
              3,621
              
              $
              2,471Cost
                  of services revenue
              
              
              4,057
              
              
              2,538
              
              
              1,519Gross
                  margin
              
              $
              2,035
              
              $
              1,083
              
              $
              952Gross
                  margin %
              
              
              33.4
              %
              
              29.9
              %
              
              3.5
              %




Gross
      margin arising from sales of services for the nine months ended September 30,
      2007 and 2006 consisted of the following (in thousands):


**Nine
                  Months Ended September 30,****2007**
              
              **2006**
              
              **Increase**Services
                  revenue
              
              $
              15,956
              
              $
              9,813
              
              $
              6,143Cost
                  of services revenue
              
              
              10,521
              
              
              7,008
              
              
              3,513Gross
                  margin
              
              $
              5,435
              
              $
              2,805
              
              $
              2,630Gross
                  margin %
              
              
              34.1
              %
              
              28.6
              %
              
              5.5
              %
  20




The
      increase in the components of gross margin from sales of services primarily
      reflects the impact of our investment in extending and developing additional
      service offerings to the six businesses we acquired in 2005 through 2007. The
      costs associated with these efforts primarily include additional personnel
      related costs, training and travel. The increase in gross margin percentage
      reflects higher revenue from managed services (which allowed us to recover
      a
      greater portion of the fixed costs associated with delivery of this service)
      and
      professional services (which tend to have higher margins than other service
      offerings).





***Operating
      Expenses***




The
      increase in selling, general and administrative expenses of $1.3 million, or
      19%, for the three months ended September 30, 2007 compared to 2006,
      reflects the acquisitions of Tactix in September 2006, Helio in August 2007
      and
      SSI in September 2007 and the associated increase in personnel-related costs,
      as
      well as our investment in sales and marketing. In addition, we incurred higher
      sales commission expense, which was directly attributable to the increase in
      gross margins from sales of products and services. The increase in selling,
      general and administrative expenses of $5.7 million, or 35%, for the nine months
      ended September 30, 2007 compared to the year earlier period is attributable
      to
      the acquisitions of Tactix in September 2006, Incentra MW in April 2006, Helio
      in August 2007 and SSI in September 2007 and the associated increase in
      personnel-related costs, as well as our investment in sales and marketing.
      At
      September 30, 2007 and 2006, we had 270 and 189 employees, respectively.





Stock-based
      compensation expense decreased by approximately $200,000, or 38%, for the three
      months ended September 30, 2007 compared to 2006. Stock-based
      compensation expense decreased by approximately $213,000, or 16%, for the nine
      months ended September 30, 2007 compared to 2006. Both of these
      decreases were a result of an increase in forfeitures in 2006 versus prior
      years
      resulting in a reduction of expense for grants made prior to 2006.





For
      the
      three months ended September 30, 2007 compared to 2006, depreciation and
      amortization decreased by $55,300, or 16%. For the nine months ended September
      30, 2007 compared to 2006, depreciation and amortization increased by
      $281,000, or 46%. This increase was primarily due to the additional amortization
      of intangible assets associated with the 2006 acquisitions. Amortization expense
      of customer relationships for the nine-month periods ended September 30, 2007
      and 2006 was $417,261 and $545,826 respectively.





***Interest
      Income and Expense***





****** Interest
      income and expense for the three months ended September 30, 2007 and 2006
      consisted of the following (in thousands):


**Three
                  Months Ended September 30,****Increase****2007**
              
              **2006**
              
              **(Decrease)**Cash
              
              $
              511
              
              $
              258
              
              $
              253Non-cash
              
              
              295
              
              
              457
              
              
              (162
              )Total
                  interest expense
              
              
              806
              
              
              715
              
              
              91Less:
                  interest income
              
              
              12
              
              
              33
              
              
              (21
              )$
              794
              
              $
              682
              
              $
              112




For
      the
      three months ended September 30, 2007, cash related interest expense increased
      compared with the year earlier period due to additional borrowings necessary
      to
      fund the acquisitions of Helio and SSI during August 2007 and September 2007,
      respectively. Non-cash related interest expense for the three months ended
      September 30, 2007 decreased compared with the year earlier period due to a
      decrease in the amortization of various loan discounts, as well as the reduction
      in amortization of deferred financing costs.




21





****** Interest
      income and expense for the nine months ended September 30, 2007 and 2006
      consisted of the following (in thousands):


**Nine
                  Months Ended September 30,****Increase****2007**
              
              **2006**
              
              **(Decrease)**Cash
              
              $
              1,142
              
              $
              1,158
              
              $
              (16
              )Non-cash
              
              
              1,121
              
              
              1,225
              
              
              (104
              )Total
                  interest expense
              
              
              2,263
              
              
              2,383
              
              
              (120
              )Less:
                  interest income
              
              
              23
              
              
              33
              
              
              (10
              )$
              2,240
              
              $
              2,350
              
              $
              (110
              )




For
      the
      nine months ended September 30, 2007, cash related interest expense decreased
      compared with the year earlier period due to having higher average borrowings
      outstanding during the nine months ended September 30, 2006. For
      the
      nine months ended September 30, 2007, non-cash related interest expense
      decreased compared to the year earlier as a result of having a decrease in
      the
      amortization of various loan discounts, as well as the reduction in amortization
      of deferred financing costs.





***Loss
      on Early Extinguishment of Debt***





During
      the first quarter of 2006, we incurred a $1.2 million loss from the early
      extinguishment of debt related to the prepayment of various outstanding loans.
      During the three months ended September 30, 2006, we recognized an additional
      $0.8 million in prepayment penalties and a non-cash write off of $0.9 million
      of
      related unamortized debt discount. During the three months ended September
      30,
      2007, we recognized a $0.1 million loss from the early extinguishment of debt
      relating to the refinancing of the 2006 Convertible Note.





***Income
      from Discontinued Operations, Net of Income Taxes***





In
      July
      2006, we sold substantially all of the assets of our Front Porch division.
      Operations of Front Porch prior to the sale have been accounted for as
      discontinued operations. For 2007, income from discontinued operations
      represents revenue associated with the earn-out provision of the sale and
      expenses associated with post-closing settlement of liabilities in excess of
      amounts previously recorded.





**Liquidity
      and Capital Resources**





We
      finance our operations through cash on-hand, borrowings under our
      non-convertible revolving credit facility with Laurus, payment terms provided
      by
      our major suppliers and distributors, and equipment lease financing (see Note
      7
      to Notes to Unaudited Condensed Consolidated Financial Statements for a
      description of our Notes Payable, Capital Leases, and Other Long-Term
      Obligations). During June 2007, the available revolving credit facility was
      increased from $10 million to $15 million. In July 2007, we extended the
      maturity dates of the Convertible Notes to December 2007. In addition, in June
      2007, the company received $1.5 million that was being held in escrow associated
      with the sale of Front Porch, including $87,000 of interest. An additional
      $1.0
      million was in escrow as of September 30, 2007 and released to the Company
      on
      October 4, 2007. At September 30, 2007, we had $1.7 million of cash and cash
      equivalents, $0.5 million of available borrowing capacity under our revolving
      credit facility, and $0.5 million of available equipment financing under a
      committed leaseline facility. In addition, management believes that it has
      the
      ability to increase the size of the existing revolving credit facility as there
      are sufficient accounts receivable to support a higher level of borrowing
      availability. Accounts receivable consisting primarily of trade accounts,
      increased to $33.6 million at September 30, 2007 compared to $16.1 million
      at
      December 31, 2006 as a result of the growth in revenue, primarily attributable
      to the acquisitions of Helio and SSI during the current quarter. However, no
      assurance can be given that we will be successful in increasing the size of
      our
      facility if and when we may need to.




22





During
      the nine months ended September 30, 2007, net cash used in operating activities
      was $7.9 million, reflecting primarily the operating loss before non-cash
      charges of approximately $1.1 million and an increase in receivables of $5.1
      million associated with the growth in revenue.





Net
      cash
      used in investing activities was $8.9 million, for the nine months ended
      September 30, 2007, consisting primarily of cash paid for the acquisitions
      of
      Helio and SSI of $8.6 million, as well as receipts of escrowed funds related
      to
      the Front Porch sale of $1.5 million and purchases of equipment and capitalized
      software development costs of $1.7 million. 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.





As
      part
      of our business strategy, we completed six acquisitions during 2005, 2006 and
      2007. No additional acquistions are pending at the present time. Although we
      completed the sale of Front Porch, which provided a significant amount of cash,
      and we are experiencing success in the deployment of our marketing strategy
      for
      the sale and delivery of our complete IT solutions, continuation of
      this success is contingent upon several factors, including the availability
      of
      cash resources, the prices of our products and services relative to those of
      our
      competitors, the maintenance of satisfactory agreements with our suppliers
      and
      distributors of products that we resell and general economic and business
      conditions, among other factors.





We
      believe cash and cash equivalents, available borrowings under the 2006 Facility
      and cash flow from operations and non-operating sources will provide us with
      sufficient capital resources to fund our operations, debt service requirements,
      and working capital needs for the next 12 months. 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. In the
      event that our operations do not generate sufficient cash flow, or we cannot
      obtain additional funds if and when needed, we may be forced to curtail or
      cease
      our activities, which would likely result in the loss to investors of all or
      a
      substantial portion of their investment.





We
      have a
      working capital deficit of $11.6 million as of September 30, 2007. A significant
      component of the deficit is the $13.6 million balance outstanding on the 2006
      Facility. The 2006 Facility matures February 26, 2009, and is subject to having
      sufficient trade receivable balances to support the associated borrowing base.
      Although this amount is not due in the current time period, EITF 95-22 (as
      described in disclosure 7(A)) states that any outstanding balance on the 2006
      Facility is required to be disclosed as a current liability. In addition,
      working capital includes deferred revenue and expenses associated with the
      up-front billing and collection of First Call maintenance contracts and the
      associated deferral of the cost of maintenance. The net amount of deferred
      revenue and expense is a deferred credit of $1.0 million at September 30, 2007.
      Such amount does not represent a required use of working capital in the current
      period. Working capital adjusted for the items described is approximately $3.0
      million. We believe this adjusted working capital balance is a more
      representative measure of net current assets available to fund
      operations.


With
        the
        company’s increasing rate of organic growth and the addition of the two
        acquisitions that closed in the third quarter of 2007, we expect revenue
        for
        2007 to be between $142 and $152 million, up from our earlier guidance of
        between $110 million and $120 million. As a result, 2007 revenues are expected
        to be approximately 110 percent to 125 percent higher than revenue in 2006.
        The
        company expects to be adjusted EBITDA positive for the fourth quarter of
        2007. However,
        there can be no assurance that we will achieve the projected revenue amount
        or
        that we will generate positive cash flow for the year. Our actual financial
        results may differ materially from our stated plan of operations. Factors
        that
        may cause a change from our plan of operations to vary include, without
        limitation, decisions of our management and board of directors not to pursue
        our
        stated plan of operations based on its reassessment of the plan and general
        economic conditions. Additionally, there can be no assurance that our business
        will generate cash flows at or above current levels. Accordingly, we may
        choose
        to defer capital expenditures and extend vendor payments for additional cash
        flow flexibility.




We
      expect
      capital expenditures to be approximately $2.0 million and capitalized software
      development costs to be approximately $1.0 million during the twelve-month
      period ended December 31, 2007. It is expected that our principal uses of cash
      will be for working capital, to finance capital expenditures and for other
      general corporate purposes, including financing the expansion of our business
      and implementation of our sales and marketing strategy. The amount of spending
      in each respective area is dependent upon the total capital available to us.





**Management’s
      Plans**





We
      are
      subject to various risks and uncertainties frequently encountered by companies
      in rapidly evolving markets 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 and maintain and expand our relationships with
      vendors and distributors of products that we resell. There can be no assurance
      that we will be successful in addressing such risks.




23





Since
      inception, we have incurred substantial operating losses and have a working
      capital deficit of $11.6 million and a shareholders' deficit of $11.3 million
      at
      September 30, 2007. We have funded these deficiencies by utilizing our existing
      lines of credit and long-term borrowings. We anticipate that we will continue
      to
      fund our working capital requirements from existing lines of credit and through
      increasing cash flows from our business operations. However, no assurance can
      be
      given that we will be successful in increasing cash flow from operations.
      Realization of our investment in property and equipment and other long-lived
      assets is dependent upon achieving positive operating cash flows. If we are
      not
      successful in achieving such positive operating cash flows, our long-lived
      assets could be considered impaired, resulting in a significant impairment
      charge to operations.





Our
      2007
      operating plan, and the execution thereof, is focused on increasing revenue,
      controlling costs, and conserving cash. However, there can be no assurance
      that
      we will be able to meet the operational and financial requirements of our
      operating plan. We believe that our cash and cash equivalents, working capital
      and access to current and potential lenders, will provide sufficient capital
      resources to fund our continuing operations.





We
      believe that cash flows from operations and our revolving credit line will
      provide our primary source of operating capital, as the businesses acquired
      since 2005 continue to generate cash. In June 2007, we received $1.5 million
      in
      cash, including $87,000 of interest, from the release of a portion of the sale
      proceeds held in escrow from the sale of Front Porch in 2006. In October 2007,
      we received the remaining $1.0 million outstanding as of September 30, 2007.
      These funds are immediately available for use in our operations. In addition,
      we
      expect to continue to have sufficient borrowings available to us under our
      revolving line of credit with Laurus.





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





Our
      most
      significant off-balance sheet financing arrangements as of September 30, 2007
      were non-cancellable operating lease arrangements primarily for office space,
      which have not changed significantly since December 31, 2006. We do not
      participate in any off-balance sheet arrangements involving unconsolidated
      subsidiaries that provide financing or potentially expose us to unrecorded
      financial obligations.





**Critical
      Accounting Estimates**





We
      prepare our condensed consolidated financial statements in accordance with
      accounting principles generally accepted in the United States (GAAP), which
      requires management to make 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 judgments, please see our Annual Report
      on
      Form 10-KSB for the year ended December 31, 2006. We have not changed these
      policies from those previously disclosed.





24




**ITEM
      2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
      PROCEEDS**





**None**





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





Our
      primary market risk is related to changes in interest rates. Of our total
      outstanding debt of $26.2 million at September 30, 2007, $22.8 million is
      subject to floating interest rates ranging from the prime rate plus 1-2%, with
      floors ranging from 7-10%. The weighted average interest rate on this
      indebtedness was 9.73% at September 30, 2007. An adverse change of 100 basis
      points in this rate would result in additional, annual interest expense of
      $0.2
      million based on the debt subject to floating interest rates outstanding on
      September 30, 2007.




**ITEM
      4. CONTROLS AND PROCEDURES**





**Disclosure
      Controls and Procedures.** Our
      management, with the participation of our chief executive officer, chief
      financial officer and the audit committee of our Board of Directors,, 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 nine-month period ended September 30, 2007 that have materially
      affected, or are reasonably likely to materially affect, our internal control
      over financial reporting.





25




**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
      6. EXHIBITS**





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




26





**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, 2007
            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 and
              accounting
                officer)




27




**EXHIBIT
      INDEX**





31.1
            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.








28