t63430_10q.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended June 30, 2008

( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES ACT OF 1934

For the transition period from _____________ to _____________

Commission file number 000-23740

INNOTRAC CORPORATION

(Exact name of registrant as specified in its charter)

Georgia	58-1592285
(State or other jurisdiction of	(I.R.S. Employer
incorporation or organization)	Identification Number)


6655 Sugarloaf Parkway Duluth, Georgia	30097
(Address of principal executive offices)	(Zip Code)

Registrant's telephone number, including area code: (678) 584-4000

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

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

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

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

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.

	Outstanding at August 8, 2008

Common Stock $.10 par value per share	12,319,803 Shares

INNOTRAC CORPORATION

INDEX

			Page

Part I. Financial Information

	Item 1.	Financial Statements:	2

		Condensed Balance Sheets at June 30, 2008 (Unaudited) and December 31, 2007	3

		Condensed Statements of Operations for the Three Months Ended June 30, 2008 and 2007 (Unaudited)	4

		Condensed Statements of Operations for the Six Months Ended June 30, 2008 and 2007 (Unaudited)	5

		Condensed Statements of Cash Flows for the Three Months Ended March 31, 2008 and 2007 (Unaudited)	6

		Notes to Condensed Financial Statements (Unaudited)	7

	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	15

	Item 3.	Quantitative and Qualitative Disclosures About Market Risk	25

	Item 4.	Controls and Procedures	25

Part II. Other Information

	Item 4.	Submission of Matters to a Vote of Security Holders	26

	Item 6.	Exhibits	26

Signatures			27

Part I – Financial Information

Item 1 – Financial Statements

The following condensed financial statements of Innotrac Corporation, a Georgia corporation (“Innotrac” or the “Company”), have been prepared in accordance with the instructions to Form 10-Q and, therefore, omit or condense certain footnotes and other information normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America. In the opinion of management, all adjustments are of a normal and recurring nature, except those specified as otherwise, and includes those necessary for a fair presentation of the financial information for the interim periods reported. Results of operations for the six months ended June 30, 2008 are not necessarily indicative of the results for the entire year ending December 31, 2008. These financial statements should be read in conjunction with the statements and notes thereto included in the Company’s 2007 Annual Report on Form 10-K, which is available on our website at www.innotrac.com.

INNOTRAC CORPORATION

CONDENSED BALANCE SHEETS

(in thousands, except share data)


ASSETS	June 30, 2008			December 31, 2007
	(unaudited)

Current assets:
Cash and cash equivalents	$	343		$	1,079
Accounts receivable (net of allowance for doubtful accounts of $235 at
June 30, 2008 and $288 at December 31, 2007)		21,342			28,090
Inventories, net		822			599
Prepaid expenses and other		1,594			1,100
Total current assets		24,101			30,868

Property and equipment:
Rental equipment		240			286
Computer software and equipment		41,619			40,479
Furniture, fixtures and leasehold improvements		8,088			7,815
		49,947			48,580
Less accumulated depreciation and amortization		(32,902	)		(30,878	)
		17,045			17,702

Goodwill		25,169			25,169
Other assets, net		1,105			1,192

Total assets	$	67,420		$	74,931


LIABILITIES AND SHAREHOLDERS’ EQUITY



Current liabilities:
Accounts payable	$	6,294		$	14,050
Line of credit		5,220			6,168
Term Loan		5,000			5,000
Accrued expenses and other		5,000			5,708
Total current liabilities		21,514			30,926

Noncurrent liabilities:
Other noncurrent liabilities		954			993
Total noncurrent liabilities		954			993

Commitments and contingencies (see Note 5)

Shareholders’ equity:
Preferred stock: 10,000,000 shares authorized, $0.10 par value,
no shares issued or outstanding		-			-
Common stock: 50,000,000 shares authorized, $0.10 par value,
12,585,759 issued and 12,319,803 shares outstanding		1,259			1,259
Additional paid-in capital		66,334			66,251
Accumulated deficit		(22,641	)		(24,498	)
Total shareholders’ equity		44,952			43,012

Total liabilities and shareholders’ equity	$	67,420		$	74,931

See notes to condensed financial statements.

Financial Statements-Continued

INNOTRAC CORPORATION

CONDENSED STATEMENTS OF OPERATIONS

For the Three Months Ended June 30, 2008 and 2007

(in thousands, except per share amounts)

	Three Months Ended June 30,
	2008		2007
	(unaudited)		(unaudited)

Service revenues	$	23,418	$	22,533
Freight revenues		6,109		5,521
Total revenues		29,527		28,054


Cost of service revenues		10,559		10,325
Freight expense		6,016		5,468
Selling, general and administrative expenses		10,583		10,737
Depreciation and amortization		1,021		1,317
Total operating expenses		28,179		27,847
Operating income		1,348		207

Other expense:
Interest expense		353		162
Total other expense		353		162
Income before income taxes		995		45
Income taxes		-		-

Net income	$	995	$	45


Income per share:

Basic	$	0.08	$	0.00

Diluted	$	0.08	$	0.00


Weighted average shares outstanding:

Basic		12.320		12,282

Diluted		12,418		12,283

See notes to condensed financial statements.

Financial Statements-Continued

INNOTRAC CORPORATION

CONDENSED STATEMENTS OF OPERATIONS

For the Six Months Ended June 30, 2008 and 2007

(in thousands, except per share amounts)

	Six Months Ended June 30,
	2008		2007
	(unaudited)		(unaudited)

Service revenues	$	48,888	$	44,649
Freight revenues		13,351		11,180
Total revenues		62,239		55,829


Cost of service revenues		22,657		20,716
Freight expense		13,265		11,030
Selling, general and administrative expenses		21,662		21,901
Depreciation and amortization		2,072		2,602
Total operating expenses		59,656		56,249
Operating income (loss)		2,583		(420	)

Other expense:
Interest expense		726		329
Total other expense		726		329
Income (loss) before income taxes		1,857		(749	)
Income taxes		-		-

Net income (loss)	$	1,857	$	(749	)


Income (loss) per share:

Basic	$	0.15	$	(0.06	)

Diluted	$	0.15	$	(0.06	)


Weighted average shares outstanding:

Basic		12,320		12,281

Diluted		12,403		12,281

See notes to condensed financial statements.

Financial Statements-Continued

INNOTRAC CORPORATION

CONDENSED STATEMENTS OF CASH FLOWS

For the Six Months Ended June 30, 2008 and 2007

(in thousands)

	Six Months Ended June 30,
	2008			2007
	(unaudited)			(unaudited)
Cash flows from operating activities:
Net income (loss)	$	1,857		$	(749	)
Adjustments to reconcile net income (loss) to net cash provided by
operating activities:
Depreciation and amortization		2,072			2,602
Provision for bad debts		(50	)		(21	)
Stock compensation expense-stock options………		46			51
Stock compensation expense-restricted stock……		37			-
Stock issued to settle employee stock bonus		-			111
Changes in operating assets and liabilities:
Decrease in accounts receivable, gross		6,798			2,896
(Increase) decrease in inventory		(223	)		645
Increase in prepaid expenses and other		(407	)		(329	)
Decrease in accounts payable		(7,756	)		(1,422	)
Decrease in accrued expenses and other		(750	)		(1,124	)
Net cash provided by operating activities		1,624			2,660

Cash flows from investing activity:
Capital expenditures		(1,412	)		(2,737	)
Installment payment on previous acquisition of business		-			(800	)
Net cash used in investing activities		(1,412	)		(3,537	)


Cash flows from financing activities:
Net (repayments) borrowings under line of credit		(948	)		418
Loan commitment fees		-			(10	)
Net cash (used in) provided by financing activities		(948	)		408

Net decrease in cash and cash equivalents		(736	)		(469	)
Cash and cash equivalents, beginning of period		1,079			1,014
Cash and cash equivalents, end of period	$	343		$	545

Supplemental cash flow disclosures:

Cash paid for interest	$	381		$	351

See notes to condensed financial statements.

INNOTRAC CORPORATION

NOTES TO CONDENSED FINANCIAL STATEMENTS

June 30, 2008 and 2007

(Unaudited)

1. SIGNIFICANT ACCOUNTING POLICIES

The accounting policies followed for quarterly financial reporting are the same as those disclosed in the Notes to Financial Statements included in the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission for the year ended December 31, 2007. Certain of the Company’s more significant accounting policies are as follows:

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

Goodwill and Other Acquired Intangibles. Goodwill represents the cost of an acquired enterprise in excess of the fair market value of the net tangible and identifiable intangible assets acquired. The Company tests goodwill annually for impairment as of January 1 or sooner if circumstances indicate.

Impairment of Long-Lived Assets. The Company reviews long-lived assets and certain intangible assets for impairment when events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Impairment would be measured based on a projected cash flow model. If the projected undiscounted cash flows for the asset are not in excess of the carrying value of the related asset, the impairment would be determined based upon the excess of the carrying value of the asset over the projected discounted cash flows for the asset.

Revenue Recognition. Innotrac derives its revenue primarily from two sources: (1) fulfillment operations and (2) the delivery of call center services integrated with our fulfillment operations. Innotrac's fulfillment services operations record revenue at the conclusion of the material selection, packaging and shipping process. The shipping process is considered complete after transfer to an independent freight carrier and receipt of a bill of lading or shipping manifest from that carrier. Innotrac's call center service revenue is recognized according to written pricing agreements based on the number of calls, minutes or hourly rates when those calls and time rated services occur. All other revenues are recognized as services are rendered.

Stock-Based Compensation Plans. In December 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standard (“SFAS”) No. 123(R), “Share-Based Payment,” which revises SFAS No. 123, “Accounting for Stock-Based Compensation.” SFAS No. 123(R) requires all share-based payments to employees, including grants of employee stock options, to be recognized as compensation expense in the financial statements based on their fair values. That expense will be recognized over the period during which an employee is required to provide services in exchange for the award, known as the requisite service period (usually the vesting period). The Company adopted SFAS No. 123(R) effective January 1, 2006 using the Modified Prospective Application Method. Under this method, SFAS 123(R) applies to new awards and to awards modified, repurchased or cancelled after the effective date. Additionally, compensation expense for the portion of awards for which the requisite service has not been rendered that are outstanding as of the required effective date shall be recognized as the requisite service is performed on or after the required effective date. Under the requirements of SFAS No. 123(R) the Company recorded $25,000 and $31,000 in compensation expense for the three months ended June 30, 2008 and 2007, respectively. For the six months ended June 30, the Company recorded $46,000 and $51,000 in 2008 and 2007, respectively. As of June 30, 2008, approximately $66,000 of unrecognized compensation expense related to non-vested stock options is expected to be recognized over the following 34 months. In addition, on April, 16, 2007, 265,956 restricted shares were issued under the terms provided in the Executive Retention Plan, which plan was approved by the Board of Directors in 2005 with the restricted shares issued from the shares available under the 2000 Stock Option and Incentive Award Plan. In accordance with SFAS No. 123(R) the market value of the 265,956 shares was determined at the date of grant to be $750,000 and is being amortized using the straight-line method over the 10 year maximum vesting period defined in the Executive Retention Plan. During the three and six months ended June 30, 2008, the Company recorded $19,000 and $37,000, respectively, in compensation expense related to the issuance of the restricted stock.

INNOTRAC CORPORATION

NOTES TO CONDENSED FINANCIAL STATEMENTS

June 30, 2008 and 2007

(Unaudited)

The fair value of each option was estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted average assumptions:

	Six months ended June 30,
	2008	2007
Risk-free interest rate	4.1%	5.1%
Expected dividend yield	0%	0%
Expected lives	2.3 Years	2.1 Years
Expected volatility	75.9%	71.7%

Fair Value Measurements. In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS No. 157”). SFAS No. 157 defines fair value, establishes a framework for measuring fair value in accordance with accounting principles generally accepted in the United States, and expands disclosures about fair value measurements. SFAS No. 157 was effective for fiscal years beginning after November 15, 2007, with earlier application encouraged. There was no impact on the Company’s financial statements upon adoption on January 1, 2008.

Effective January 1, 2008 on a prospective basis, we determined the fair values of certain financial instruments based on the fair value hierarchy established in SFAS No. 157, “Fair Value Measurements” (“SFAS No. 157”). SFAS No. 157 requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value.

Level 1: quoted price (unadjusted) in active markets for identical assets

Level 2: inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the instrument

Level 3: inputs to the valuation methodology are unobservable for the asset or liability

SFAS No. 157 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.

INNOTRAC CORPORATION

NOTES TO CONDENSED FINANCIAL STATEMENTS

June 30, 2008 and 2007

(Unaudited)

To measure fair value, we obtain statements of amounts outstanding for our debt instruments since our debt instruments consist of a revolving credit line and a term note which mature within one year of June 30, 2008.

We did not have any assets or liabilities measured at fair value on a recurring basis using quoted market prices in active markets (Level 1), significant other observable inputs (Level 2) or significant unobservable inputs (Level 3) during the period.

Assets and Liabilities Recorded at Fair Value on a Non-recurring Basis

As allowed under FSP FAS 157-2, “Effective Date of FASB Statement No. 157”, as of January 1, 2008, we have elected not to fully adopt SFAS No. 157 and are deferring adoption for certain non-financial assets and liabilities until January 1, 2009. We are evaluating the effect, if any, of the full adoption of SFAS No. 157 for certain non-financial assets and liabilities.

2. FINANCING OBLIGATIONS

The Company has a revolving credit facility with Wachovia Bank, which has a maximum borrowing limit of $15.0 million. The revolving credit facility is used to fund the Company’s capital expenditures, operational working capital and seasonal working capital needs. At June 30, 2008 the Company also had a $5.0 million second lien loan outstanding to a credit management company. The specific terms of the $5.0 million second lien loan are more fully described below. The combined amount outstanding at June 30, 2008 under these two financing obligations was $10.2 million.

The revolving bank credit agreement matures in March 2009 and has a maximum borrowing limit of $15.0 million. Although the maximum borrowing limit is $15.0 million, the credit facility limits borrowings to a specified percentage of eligible accounts receivable and inventory, which totaled $17.1 million at June 30, 2008. As provided for in the second waiver agreement dated April 16, 2007, our Chairman and Chief Executive Officer, Scott Dorfman, has granted to the bank a security interest in $2.0 million of his personal securities, which after application of a 75% factor, results in $1.5 million of additional collateral to support the borrowing limit of $15.0 million under the credit facility. Additionally, the terms of the credit facility provide that the amount borrowed and outstanding at any time combined with letters of credit outstanding be subtracted from the total collateral adjusted for certain reserves to arrive at an amount of unused availability to borrow under the line of credit. The total collateral under the credit facility at June 30, 2008 amounted to $18.6 million. The amount borrowed and outstanding including letters of credit outstanding at June 30, 2008 amounted to $6.9 million. As a result, the Company had $8.1 million of borrowing availability under the $15.0 million revolving credit line at June 30, 2008.

The Company has granted a security interest in all of its assets to the lender as collateral under this revolving credit agreement. The revolving credit agreement contains a restrictive fixed charge coverage ratio. The provisions of the revolving credit agreement require that the Company maintain a lockbox arrangement with the lender, and allows the lender to declare any outstanding borrowing amounts to be immediately due and payable as a result of noncompliance with any of the covenants. Accordingly, in the event of noncompliance, these amounts could be accelerated. The fixed charge coverage ratio requires the Company to maintain a minimum twelve month trailing fixed charge coverage ratio of 1.05 to 1.0 from June through September 2008 and 1.1 to 1.0 from October 2008 through the maturity of the facility in March 2009. The Company was in compliance with the terms and conditions of the revolving credit agreement, as amended, and the Second Lien Credit Agreement as of June 30, 2008.

INNOTRAC CORPORATION

NOTES TO CONDENSED FINANCIAL STATEMENTS

June 30, 2008 and 2007

(Unaudited)

On September 28, 2007 the Company and the bank entered into the fifth amendment to its revolving bank credit facility entitled “Fifth Amendment Agreement” (the “Fifth Amendment”) whereby the bank agreed to the Company’s entering into a debt obligation described as the “Second Lien Credit Agreement” which is subordinated to the bank’s position as senior lender to the Company. The Second Lien Credit Agreement was entered into with Chatham Credit Management III, LLC, as agent for Chatham Investment Fund III, LLC, Chatham Investment Fund QP III, LLC, and certain other lenders party thereto from time to time, and Chatham Credit Management III, LLC, as administrative agent (Chatham Credit Management III, LLC, Chatham Investment Fund III, LLC, Chatham Investment Fund QP III, LLC, and Chatham Credit Management III, LLC are collectively referred to as “Chatham”). The proceeds of the $5.0 million Second Lien Credit Agreement were needed to fund fourth quarter 2007 capital expenditure projects and provide seasonal working capital needs in the same quarter resulting from high revenue growth through the nine months ended September 30, 2007. We anticipate repaying the term loan, from cash generated from operations, before September 28, 2008, the one year anniversary of its inception.

The Second Lien Credit Facility has a one year term with the option to renew for five months resulting in an ultimate maturity date of March 1, 2009, the same date on which the revolving bank credit agreement, described above, matures. If the option to renew for five months is exercised, the Company will be obligated to pay a $62,500 success fee which amount is five twelfths of the success fee paid when the loan was entered into on September 28, 2007. There are no scheduled principal payments before maturity under the Second Lien Credit Facility. Borrowings under the Second Lien Credit Facility bear interest at an annual rate equal to the greater of (a) LIBOR or (b) 5.75% plus 9.25% for a rate of 15%. Interest on borrowings under the Second Lien Credit Facility which accrued from inception to December 31, 2007 was paid on January 2, 2008. Interest accruing during the period from January 1, 2008 through June 30, 2008 was, according to the terms of the Second Lien Credit Facility paid on January 1, 2008 when the Company signed an additional note for the value of the interest for that period of $379,000. The additional note will be repaid in accordance with the terms of the Second Lien Credit Agreement. In the event of default, all obligations will bear interest at the otherwise applicable rate plus 2.00% per annum until the event of default is cured.

The Company’s obligations under the Second Lien Credit Facility are secured by a second priority security interest in, and a second priority lien on, substantially all of the assets and property of the Company. The Company’s obligations under the Second Lien Credit Facility are partially guaranteed by Scott Dorfman, the Company’s Chairman, President, and Chief Executive Officer, pursuant to a Limited Guaranty Agreement between Mr. Dorfman and Chatham Credit Management III, LLC. Mr. Dorfman has also pledged as partial collateral for the loans under the Second Lien Credit Facility, pursuant to a Guarantor Pledge Agreement between Mr. Dorfman and Chatham Credit Management III, LLC, the membership interests he owns in Chatham Investment Fund II, LLC and Chatham Investment Fund III, LLC (collectively, the “Chatham Funds”). Mr. Dorfman’s guarantee is limited to the value of this Chatham Funds collateral. Chatham Investment Fund III, LLC is one of the lenders under the Second Lien Credit Agreement, and both of the Chatham Funds are affiliated with the other Chatham entities acting as agents and lenders under the Second Lien Credit Agreement. Mr. Dorfman previously served on the advisory board of Chatham Investment Fund II, LLC.

The Second Lien Credit Agreement contains a fixed charge coverage ratio covenant with the same ratio requirements as those included in the revolving credit agreement with Wachovia. The Second Lien Credit Agreement also limits the amount of capital expenditures the Company may make in any fiscal year beginning in the fiscal year 2008 to $4,500,000. The Second Lien Credit Agreement contains representations and warranties, affirmative and negative covenants and events of default (and, as appropriate, grace periods). Simultaneous with the execution of the Fifth Amendment and the Second Lien Credit Agreement on September 28, 2007, the bank and Chatham entered into an intercreditor agreement defining the relative priority of security interests and other subordination terms.

INNOTRAC CORPORATION

NOTES TO CONDENSED FINANCIAL STATEMENTS

June 30, 2008 and 2007

(Unaudited)

Interest on borrowings under the revolving credit agreement is payable monthly at rates equal to the prime rate, or at the Company’s option, LIBOR plus up to 200 basis points; however so long as the fixed charge ratio is less than 1.00 to 1.00, the interest rate will be equal to the prime rate plus 1% or at the Company’s option, LIBOR plus 285 basis points. Interest on borrowings under the Second Lien Credit Agreement is accrued on a monthly basis equal to the greater of (a) LIBOR or (b) 5.75% plus 9.25% for a rate of 15% of the principal balance plus accrued interest payable outstanding on the $5.0 million loan.

For the three months ended June 30, 2008, we recorded interest expense of $57,000 on the revolving credit agreement at a weighted average interest rate of 4.05% and $190,000 of interest expense on the Second Lien Credit Agreement at a constant interest rate for the three months of 15.0%, excluding the amortization of loan costs of $104,000 for the three months ended June 30, 2008. For the three months ended June 30, 2007, we recorded interest expense of $152,000 at a weighted average rate of 7.73% on the revolving credit agreement and did not have any outstanding balance or interest expense for the Second Lien Credit Agreement. Our weighted average interest rate for the three months ended June 30, 2008, including amounts borrowed under both the revolving credit agreement and the Second Lien Credit Agreement, was 9.16%. At June 30, 2008, the rate of interest being charged on the revolving credit agreement and the Second Lien Credit Agreement was 3.96% and 15.0%, respectively. The Company also incurred unused revolving credit facility fees of approximately $4,000 and $10,000 for the three months ended June 30, 2008 and 2007, respectively.

For the six months ended June 30, 2008, we recorded interest expense of $135,000 on the revolving credit agreement at a weighted average interest rate of 4.76% and $379,000 of interest expense on the Second Lien Credit Agreement at a constant interest rate for the six months of 15.0%, excluding the amortization of loan costs of $208,000. For the six months ended June 30, 2007, we recorded interest expense of $310,000 at a weighted average rate of 7.67% on the revolving credit agreement and did not have any outstanding balance or interest expense for the Second Lien Credit Agreement. Our weighted average interest rate for the six months ended June 30, 2008, including amounts borrowed under both the revolving credit agreement and the Second Lien Credit Agreement, was 9.54%. The Company also incurred unused revolving credit facility fees of approximately $9,000 and $20,000 for the six months ended June 30, 2008 and 2007 respectively.

Based on current projections, the Company believes that it will be able to comply with the terms and conditions of the revolving credit agreement, as amended, and the Second Lien Credit Agreement.

INNOTRAC CORPORATION

NOTES TO CONDENSED FINANCIAL STATEMENTS

June 30, 2008 and 2007

(Unaudited)

3. EARNINGS PER SHARE

The following table shows the shares (in thousands) used in computing diluted earnings per share (“EPS”) in accordance with Statement of Financial Accounting Standards No. 128, “Earnings per Share”:

	Three Months Ended June 30,				Six Months Ended June 30,
	2008		2007		2008		2007
Diluted earnings per share:
Weighted average shares outstanding		12,320		12,282		12,320		12,281
Employee and director stock options and unvested restricted shares		98		1		83		-
Weighted average shares assuming dilution		12,418		12,283		12,403		12,281

Options outstanding to purchase 945,000 shares of the Company’s common stock for the three months ended June 30, 2008 and 1.0 million shares for six months ended June 30, 2008 were not included in diluted earnings per share because their effect was anti-dilutive. Options outstanding to purchase 1.9 million shares for both the three and six months ended June 30, 2007 were not included in the computation of diluted EPS because their effect was anti-dilutive. On April 16, 2007, 265,956 restricted shares were issued, but not vested, under the terms provided in the Executive Retention Plan which plan was approved by the Board of Directors in 2005 with the restricted shares issued from the shares available under the 2000 Stock Option and Incentive Award Plan. These restricted shares are included in the fully diluted earnings per share calculation.

4. INCOME TAXES

Innotrac utilizes the liability method of accounting for income taxes. Under the liability method, deferred taxes are determined based on the difference between the financial and tax basis of assets and liabilities using enacted tax rates in effect in the years in which the differences are expected to reverse. A valuation allowance is recorded against deferred tax assets if the Company considers it is more likely than not that deferred tax assets will not be realized. Innotrac’s gross deferred tax asset as of June 30, 2008 and December 31, 2007 was approximately $18.7 million and $18.9 million, respectively. This deferred tax asset was generated primarily by net operating loss carryforwards created mainly by a special charge of $34.3 million recorded in 2000 and the net losses generated in 2002, 2003, 2005 and 2006. Innotrac has a net operating loss carryforward which expires between 2022 and 2027 and totaled $49.1 million at December 31, 2007.

Innotrac’s ability to generate the expected amounts of taxable income from future operations is dependent upon general economic conditions, competitive pressures on sales and margins and other factors beyond management’s control. These factors, combined with losses in recent years, create uncertainty about the ultimate realization of the gross deferred tax asset in future years. Therefore, a valuation allowance of approximately $13.1 million and $13.8 million has been recorded as of June 30, 2008 and December 31, 2007, respectively. Income taxes associated with future earnings will be offset by the utilization of the net operating loss carryforward resulting in a reduction in the valuation allowance. For the three and six months ended June 30, 2008, the deferred tax expense of $387,000 and $724,000, respectively, was offset by a corresponding decrease of the deferred tax asset valuation allowance. When, and if, the Company can return to consistent profitability, and management determines that it is likely it will be able to utilize the net operating losses prior to their expiration, then the valuation allowance can be reduced or eliminated.

INNOTRAC CORPORATION

NOTES TO CONDENSED FINANCIAL STATEMENTS

June 30, 2008 and 2007

(Unaudited)

In June 2006, the FASB issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109 (“FIN 48”), which clarifies the accounting for uncertainty in tax positions. This Interpretation requires that the Company determine whether it is more likely than not that a tax position will be sustained upon audit, based on the technical merits of the position. A tax position that meets the more likely than not recognition threshold is measured to determine the amount of benefit to recognize in the financial statements. The tax position is measured at the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement. The Company adopted FIN 48 effective January 1, 2007. The Company has a gross deferred tax asset of approximately $18.9 million at December 31, 2007, which did not change significantly during the six months ended June 30, 2008. As discussed in Note 6 to the financial statements in the 2007 Form 10-K, the Company has a valuation allowance against the full amount of its deferred tax asset. The Company currently provides a valuation allowance against deferred tax assets when it is more likely than not that deferred tax assets will not be realized. The Company has recognized tax benefits from all tax positions we have taken, and there has been no adjustment to any net operating loss carryforwards as a result of FIN 48 and there are no unrecognized tax benefits and no related FIN 48 tax liabilities at June 30, 2008. Therefore, the application of FIN 48 had no material impact on the financial statements.

The Company generally recognizes interest and/or penalties related to income tax matters in general and administrative expenses. As of June 30, 2008, we have no accrued interest or penalties related to uncertain tax positions.

5. COMMITMENTS AND CONTINGENCIES

Legal Proceedings. The Company is subject to various legal proceedings and claims that arise in the ordinary course of business. There are no material pending legal proceedings to which the Company is a party.

Employment Commitment. In June 1999, in conjunction with the opening of a new call center facility, the Company entered into an employment commitment agreement with the City of Pueblo, Colorado, whereby the Company received cash incentives of $968,000. These funds were accounted for as a reduction in the basis of the assets acquired. In return for this consideration, the Company is obligated to employ a minimum number of full-time employees at its Pueblo facility, measured on a quarterly basis. This obligation, which became effective June 2002, will continue through June 2009. In the event that the number of full-time employees fails to meet the minimum requirement, the Company will incur a quarterly penalty of $96.30 for each employee less than the minimum required amount. During the three and six months ended June 30, 2008 and 2007, the Company did not meet the minimum employee requirements of 359 full-time employees, as measured on a quarterly basis, incurring a penalty of approximately $4,000 and $2,000 for the three months ended June 30, 2008 and 2007, respectively. The Company incurred a penalty of approximately $4,000 and $7,000 for the six months ended June 30, 2008 and 2007 respectively.

6. RELATED PARTY TRANSACTION

In early 2004, the Company learned that certain trading activity of the IPOF Fund L.P., an owner of more than 5% of the outstanding Common Stock, may have violated the short-swing profit rules under Section 16(b) of the Securities Exchange Act of 1934. The Company promptly conducted an investigation of the matter. IPOF Fund L.P. and its affiliates entered into a settlement agreement with the Company on March 4, 2004 regarding the potential Section 16(b) liability issues that provided for the Company’s recovery of $301,957 no later than March 3, 2006. In December 2005, the United States District Court in Cleveland, Ohio appointed a receiver to identify and administer the assets of the IPOF Fund, L.P. and its general partner, David Dadante. The Company informed the IPOF receiver of such agreement, but the likelihood of recovering such amount from the receiver is doubtful. The Company has not recorded any estimated receivable from this settlement. Additionally, the Federal Court has prohibited the financial institutions holding Company stock owned by the IPOF Fund and Mr. Dadante in margin accounts from selling any of these shares through September 5, 2008. The court has permitted open market sales by the receiver as he may in his sole discretion determine to be consistent with his duty to maximize the value of the assets of IPOF Fund, and as warranted by market conditions. The receiver has indicated to the Company that he does not intend to direct any open market sales during this period except in circumstances in which he believes that there would be no material adverse impact on the market price for the Company’s shares.

INNOTRAC CORPORATION

NOTES TO CONDENSED FINANCIAL STATEMENTS

June 30, 2008 and 2007

(Unaudited)

Pursuant to the Third Amendment to the Company’s revolving bank credit agreement, Scott Dorfman, the Company’s Chairman, President and CEO has granted Wachovia Bank a security interest in certain personal assets to be treated as additional collateral under the credit agreement until the earlier of (x) April 30, 2008 and (y) the date all deferred payments in connection with the ClientLogic acquisition are paid in full, so long as no default exists and the fixed charge coverage ratio for the most recent period is equal to or greater than 1.05 to 1.00. As of June 30, 2008, the Company still included the personal assets as collateral.

On September 28, 2007, the Company entered into a Second Lien Credit Agreement in the amount of $5.0 million with Chatham Credit Management III, LLC (“Chatham”). Scott Dorfman is a private investor in various funds managed by Chatham. The Loan is subordinated to the revolving credit facility held with Wachovia Bank, N.A. Additionally, the Second Lien Credit agreement is partially guaranteed by Mr. Dorfman in an amount up to the value of Mr. Dorfman’s investment in the Chatham Funds. The terms of the loan are more fully described in the Liquidity and Capital Resources section of this Quarterly Report on Form 10-Q.

Item 2 -

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion may contain certain forward-looking statements that are subject to conditions that are beyond the control of the Company. Actual results may differ materially from those expressed or implied by such forward-looking statements. Factors that could cause actual results to differ include, but are not limited to, the Company’s reliance on a small number of major clients; risks associated with the terms and pricing of our contracts; reliance on the telecommunications and direct marketing industries and the effect on the Company of the downturns, consolidation and changes in those industries in the past three years; risks associated with the fluctuations in volumes from our clients; risks associated with upgrading, customizing, migrating or supporting existing technology; risks associated with competition; and other factors discussed in more detail under “Item 1A – Risk Factors” in our Annual Report on Form 10-K. We undertake no obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise.

Overview

Innotrac Corporation (“Innotrac” or the “Company”), founded in 1984 and headquartered in Atlanta, Georgia, is a full-service fulfillment and logistics provider serving enterprise clients and world-class brands. The Company employs sophisticated order processing and warehouse management technology and operates eight fulfillment centers and two call centers in seven cities spanning all time zones across the continental United States.

We receive most of our clients’ orders either through inbound call center services, electronic data interchange (“EDI”) or the Internet. On a same-day basis, depending on product availability, the Company picks, packs, verifies and ships the item, tracks inventory levels through an automated, integrated perpetual inventory system, warehouses data and handles customer support inquiries. Our fulfillment and customer support services interrelate and are sold as a package, however they are individually priced. Our clients may utilize our fulfillment services, our customer support services, or both, depending on their individual needs.

Our core service offerings include the following:

Fulfillment Services:

· sophisticated warehouse management technology

· automated shipping solutions

· real-time inventory tracking and order status

· purchasing and inventory management

· channel development

· zone skipping for shipment cost reduction

· product sourcing and procurement

· packaging solutions

· back-order management; and

· returns management.

Customer Support Services:

· inbound call center services

· technical support and order status

· returns and refunds processing

· call centers integrated into fulfillment platform

· cross-sell/up-sell services

· collaborative chat; and

· intuitive e-mail response.

Item 2 -

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The Company is primarily focused on five diverse lines of business, or industry verticals. This is a result of a significant effort made by the Company to diversify both its industry concentration and client base over the past several years.

Business Mix

	Three Months Ended June 30,						Six Months Ended June 30,
Business Line/Vertical	2008			2007			2008			2007
Direct Marketing		35.8	%		30.2	%		36.4	%		31.0	%
eCommerce / Direct to Consumer		36.3			35.3			35.4			33.5
Modems		18.6			17.8			18.4			17.8
Business-to-Business (“B2B”)		5.5			11.1			6.2			12.0
Telecommunications		3.8			5.6			3.6			5.7
		100.0	%		100.0	%		100.0	%		100.0	%

eCommerce / Direct-to-Consumer and Direct Marketing. The Company provides a variety of fulfillment and customer support services for a significant number of eCommerce, direct–to-consumer and direct marketing clients, including such companies as Target.com, a Division of Target Corporation, Ann Taylor Retail, Inc., Smith & Hawken, Ltd., Porsche Cars North America, Inc. and Thane International. We take orders for our eCommerce and direct marketing clients via the Internet, through customer service representatives at our Pueblo and Reno call centers or through direct electronic transmission from our clients. The orders are processed through one of our order management systems and then transmitted to one of our eight fulfillment centers located across the country and are shipped to the end consumer or retail store location, as applicable, typically within 24 hours of when the order is received. Inventory for our eCommerce and direct marketing clients is held on a consignment basis, with minor exceptions, and includes items such as shoes, dresses, accessories, books, outdoor furniture, electronics, small appliances, home accessories, sporting goods and toys. Our revenues are sensitive to the number of orders and customer service calls received. Our client contracts do not guarantee volumes. We anticipate that the percentage of our total revenues attributable to our eCommerce and direct marketing clients will increase during the remainder of 2008 due to the projected growth rates of our clients’ business in these verticals being greater than other verticals’ projected rates of growth.

Telecommunications and Modems. The Company has historically been a major provider of fulfillment and customer support services to the telecommunications industry. In spite of a significant contraction and consolidation in this industry in the past several years, the Company continues to provide customer support services and fulfillment of consumer telephones and caller ID equipment and Digital Subscriber Line Modems (“Modems”) for clients such as AT&T, Inc. and Qwest Communications International, Inc. and their customers. The consolidation in the telecommunications industry resulted in the acquisition of BellSouth by AT&T in December of 2006. On November 6, 2007, AT&T notified us that it intended to transition its fulfillment business in-house. The transition date was initially planned for the fourth quarter of 2008 but is now expected to occur some time in 2009. After that transition is complete, we project that our telecommunications and modems customers may represent less than 5% of our annual revenues.

Item 2 -

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Business-to-Business. The Company also provides fulfillment and customer support services for business-to-business (“B2B”) clients, including Books Are Fun, Ltd. (a subsidiary of Reader’s Digest), NAPA and The Walt Disney Company.

Results of Operations

The following table sets forth unaudited summary operating data, expressed as a percentage of revenues, for the three and six months ended June 30, 2008 and 2007. The data has been prepared on the same basis as the annual financial statements. In the opinion of management, it reflects normal and recurring adjustments necessary for a fair presentation of the information for the periods presented. Operating results for any period are not necessarily indicative of results for any future period.

The financial information provided below has been rounded in order to simplify its presentation. However, the percentages below are calculated using the detailed information contained in the condensed financial statements.

	Three Months Ended June 30,						Six Months Ended June 30,
	2008			2007			2008			2007

Service revenues		79.3	%		80.3	%		78.5	%		80.0	%
Freight revenues		20.7			19.7			21.5			20.0
Total Revenues		100.0	%		100.0	%		100.0	%		100.0	%

Cost of service revenues		35.8			36.8			36.4			37.1
Cost of freight expense		20.4			19.5			21.3			19.8
Selling, general and administrative expenses		35.8			38.3			34.8			39.2
Depreciation and amortization		3.4			4.7			3.3			4.6
Operating income (loss)		4.6			0.7			4.2			(0.7	)
Other expense, net		(1.2	)		(0.5	)		(1.2	)		(0.6	)
Income (loss) before income taxes		3.4			0.2			3.0			(1.3	)
Income tax benefit		-			-			-			-
Net income (loss)		3.4	%		0.2	%		3.0	%		(1.3	)%

Three Months Ended June 30, 2008 Compared to Three Months Ended June 30, 2007

Service revenues. Net service revenues increased 3.9% to $23.4 million for the three months ended June 30, 2008 from $22.5 million for the three months ended June 30, 2007. This increase was primarily attributable to a $1.6 million increase in our direct marketing vertical resulting from the addition of several new clients and increased volume from existing clients, a $661,000 increase in our eCommerce / direct-to-consumer vertical resulting from increased volume and improved pricing from existing clients, a $484,000 increase in revenues from our DSL clients due to improved pricing from existing clients, offset by a $1.4 million decrease in revenues from our B2B vertical due to the loss of a customer and a $465,000 reduction in revenue from our Telecom vertical resulting from decreased volumes.

Item 2 -

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Freight Revenues. The Company’s freight revenues increased 10.7% to $6.1 million for the three months ended June 30, 2008 from $5.5 million for the three months ended June 30, 2007. The increase in freight revenues of $558,000 is primarily attributable to a $ 471,000 increase in our direct marketing vertical resulting from the addition of new clients and increased volume from existing clients and a $165,000 increase in revenue from our eCommerce / direct-to-consumer vertical due to increased volume from an existing client.

Cost of service revenues. Cost of service revenues increased 2.3% to $10.6 million for the three months ended June 30, 2008, compared to $10.3 million for the three months ended June 30, 2007. The cost of revenue increase was primarily due to the increase in labor costs associated with the increase in service revenues.

Freight Expense. The Company’s freight expense increased 10.0% to $6.0 million for the three months ended June 30, 2008 compared to $5.5 million for the three months ended June 30, 2007 due to the increase in freight revenue for the reasons listed above.

Selling, General and Administrative Expenses. S,G&A expenses for the three months ended June 30, 2008 decreased slightly to $10.6 million, or 35.8% of total revenues, compared to $10.7 million, or 38.3% of total revenues, for the same period in 2007. The decrease in S,G&A expenses as a percentage of revenue in 2008 as compared to 2007 was primarily attributable to the overall increase in revenue and our ability to manage our business growth while maintaining a constant administrative overhead expense.

Interest Expense. Interest expense for the three months ended June 30, 2008 and June 30, 2007 was $353,000 and $162,000, respectively. The increase was related to the interest and amortization of loan costs for the loans outstanding under the $5.0 million term loan which was not outstanding in the second quarter of 2007, partially offset by a decrease in the amount outstanding under the revolving credit agreement and a reduction in the weighted average interest rate.

Income Taxes. The Company’s effective tax rate for the three months ended June 30, 2008 and 2007 was 0%. At December 31, 2003, a valuation allowance was recorded against the Company’s net deferred tax assets as losses in recent years created uncertainty about the realization of tax benefits in future years. Income taxes associated with income for the three months ended June 30, 2008 were offset by a corresponding decrease of the valuation allowance resulting in an effective tax rate of 0% for the three months ended June 30, 2008. Income taxes associated with the profit for the three months ended June 30, 2007 were offset by a corresponding decrease of the valuation allowance resulting in an effective tax rate of 0% for the three months ended June 30, 2007.

Six Months Ended June 30, 2008 Compared to Six Months Ended June 30, 2007

Service revenues. Net service revenues increased 9.5% to $48.9 million for the six months ended June 30, 2008 from $44.6 million for the six months ended June 30, 2007. This increase was primarily attributable to a $3.4 million increase in our direct marketing vertical resulting from the addition of several new clients and increased volume from existing clients, a $2.7 million increase in our eCommerce vertical resulting from increased volume and improved pricing from existing clients, a $1.5 million increase in revenues from our DSL clients due to increased volumes and improved pricing from existing clients, offset by a $2.6 million decrease in revenues from our B2B vertical due to the loss of a customer and a $987,000 reduction in revenue from our Telecom vertical resulting from decreased volumes.

Freight Revenues. The Company’s freight revenues increased 19.4% to $13.4 million for the six months ended June 30, 2008 from $11.2 million for the six months ended June 30, 2007. The increase in freight revenues of $2.2 million is primarily attributable to a $1.9 million increase in our direct marketing vertical resulting from the addition of new clients and increased volume from existing clients and a $453,000 increase in revenue from our eCommerce / direct-to-consumer vertical due to increased volume from an existing client.

Item 2 -

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Cost of service revenues. Cost of service revenues increased 9.4% to $22.7 million for the six months ended June 30, 2008, compared to $20.7 million for the six months ended June 30, 2007. The cost of revenue increase was primarily due to the increase in labor costs associated with the increase in service revenues.

Freight Expense. The Company’s freight expense increased 20.3% to $13.3 million for the six months ended June 30, 2008 compared to $11.0 million for the six months ended June 30, 2007 due to the increase in freight revenue for the reasons listed above.

Selling, General and Administrative Expenses. S,G&A expenses for the six months ended June 30, 2008 decreased slightly to $21.7 million, or 34.8% of total revenues, compared to $21.9 million, or 39.2% of total revenues, for the same period in 2007. The decrease in S,G&A expenses as a percentage of revenue in 2008 as compared to 2007 was primarily attributable to the overall increase in revenue and our ability to manage our business growth while maintaining a constant administrative overhead expense.

Interest Expense. Interest expense for the six months ended June 30, 2008 and June 30, 2007 was $726,000 and $329,000, respectively. The increase was related to the interest and amortization of loan costs for the loans outstanding under the $5.0 million term loan which was not outstanding in the second quarter of 2007, partially offset by a decrease in the amount outstanding under the revolving credit agreement and a reduction in the weighted average interest rate.

Income Taxes. The Company’s effective tax rate for the six months ended June 30, 2008 and 2007 was 0%. At December 31, 2003, a valuation allowance was recorded against the Company’s net deferred tax assets as losses in recent years created uncertainty about the realization of tax benefits in future years. Income taxes associated with income for the six months ended June 30, 2008 were offset by a corresponding decrease of the valuation allowance resulting in an effective tax rate of 0% for the six months ended June 30, 2008. Income taxes associated with the loss for the six months ended June 30, 2007 were offset by a corresponding increase of the valuation allowance resulting in an effective tax rate of 0% for the six months ended June 30, 2007.

Liquidity and Capital Resources

The Company had cash and cash equivalents of approximately $343,000 at June 30, 2008 as compared to $1.1 million at December 31, 2007. The reduced amount of cash and cash equivalents at June 30, 2008 as compared to December 31, 2007 is the result of our consolidation of cash accounts under our revolving credit line at June 30, 2008 thereby lowering our loan outstanding and increasing our availability under the credit line. Additionally, the Company decreased its borrowings outstanding under its revolving credit facility (discussed below) to $5.2 million at June 30, 2008, as compared to $6.2 million at December 31, 2007. This reduction resulted from the use of funds provided by a reduction in Accounts Receivable of $6.8 million during the six months ended June 30, 2008 resulting from improved collection efforts during the second quarter of 2008. The Company generated positive cash flow from operations of $1.6 million during the six months ended June 30, 2008, as compared to $2.7 million in the same period in 2007. The $1.0 million decrease in cash flow generated from operations was mostly due to the combined result of generating a net profit of $1.9 million compared to a net loss of $749,000 offset by the net effect of all working capital accounts using $2.3 million of cash during the six months ended June 30, 2008 compared with the net effect of all working capital accounts providing $666,000 of cash during the six months ended June 30, 2007.

Item 2 -

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Item 2 -

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The Second Lien Credit Facility has a one year term with the option to renew for five months resulting in an ultimate maturity date of March 1, 2009, the same date on which the revolving bank credit agreement, described above, matures. There are no scheduled principal payments before maturity under the Second Lien Credit Facility. If the option to renew for five months is exercised, the Company will be obligated to pay a $62,500 success fee which amount is five twelfths of the success fee paid when the loan was entered into on September 28, 2007. There are no scheduled principal payments before maturity under the Second Lien Credit Facility. Borrowings under the Second Lien Credit Facility bear interest at an annual rate equal to the greater of (a) LIBOR or (b) 5.75% plus 9.25% for a rate of 15%. Interest on borrowings under the Second Lien Credit Facility which accrued from inception to December 31, 2007 was paid on January 2, 2008. Interest accruing during the period from January 1, 2008 through June 30, 2008 was, according to the terms of the Second Lien Credit Facility paid on January 1, 2008 when the Company signed an additional note for the value of the interest for that period of $379,000. The additional note will be repaid in accordance with the terms of the Second Lien Credit Agreement. In the event of default, all obligations will bear interest at the otherwise applicable rate plus 2.00% per annum until the event of default is cured.

Interest on borrowings under the revolving credit agreement is payable monthly at rates equal to the prime rate, or at the Company’s option, LIBOR plus up to 200 basis points; however so long as the fixed charge ratio is less than 1.00 to 1.00, the interest rate will be equal to the prime rate plus 1% or at the Company’s option, LIBOR plus 285 basis points. During the six month period ended June 30, 2008, the Company maintained a fixed charge ratio above 1.0. For the six months ended June 30, 2008 and 2007, the Company incurred interest expense related to the revolving credit agreement of approximately $135,000 and $310,000, respectively. The Company also incurred unused revolving credit facility fees of approximately $9,000 and $20,000 during the six months ended June 30, 2008 and 2007, respectively.

Interest on borrowings under the Second Lien Credit Agreement is accrued on a monthly basis equal to the greater of (a) LIBOR or (b) 5.75% plus 9.25% for a rate of 15% of the principal balance plus accrued interest payable outstanding on the $5.0 million loan. For the six months ended June 30, 2008 and 2007, the Company incurred interest expense related to the Second Lien Credit Agreement of approximately $379,000 and $0, respectively.

Item 2 -

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

For the six months ended June 30, 2008, we recorded interest expense of $135,000 on the revolving credit agreement at a weighted average interest rate of 4.76% and $379,000 of interest expense on the Second Lien Credit Agreement at a constant rate of 15.0%. Our weighted average interest rate for the six months ended June 30, 2008, including amounts borrowed under both the revolving credit agreement and the Second Lien Credit Agreement, was 9.54%. At June 30, 2008, the rate of interest being charged on the revolving credit agreement and the Second Lien Credit Agreement was 3.96% and 15.0%, respectively.

For the six months ended June 30, 2008, compared to the same six month period in 2007, the Company had a decrease in cash generated from operating activities of $1.0 million resulting from positive cash flow from operations of $1.6 million in 2008 compared to $2.7 million in 2007. The $1.0 million decrease for the six months ended June 30, 2008 from the same period ended 2007 was mostly due to the combined result of generating a net profit of $1.9 million compared to a net loss of $749,000 offset by the net effect of all working capital accounts using $2.3 million of cash during the six months ended June 30, 2008 compared with the net effect of all working capital accounts providing $666,000 of cash during the six months ended June 30, 2007. The net use of cash in 2008 working capital accounts resulted mainly from the payment of fourth quarter seasonal accounts payable in the first six months of 2008 which reduction did not occur until after June 30th in 2007. Additionally, non cash expenses for depreciation, which are included in net profit, were $2.1 million compared to $2.6 million for the six months ended June 30, 2008 and 2007, respectively.

During the six months ended June 30, 2008, net cash used in investing activities was $1.4 million as compared to $2.7 million in the same period in 2007. The decrease of $1.3 million was due to expenditures made in 2007 relating to the Target facility that did not reoccur in 2008. Expenditures have been made in the second quarter of 2008 to improve certain facilities’ work flow and to accommodate the addition of a new client.

During the six months ended June 30, 2008, net cash used in financing activities was $948,000 compared to net cash provided from financing activities of $408,000 in the same period of 2007. The $1.4 million increase in cash used in financing activities is due to additional repayments of the obligations outstanding under the revolving credit facility in 2008 as compared to 2007.

The Company estimates that its cash and financing needs through the rest of 2008 will be met by cash flows from operations and its operating cash flows will provide sufficient liquidity to repay the Second Lien Credit Agreement before its one year anniversary on September 28, 2008.

Critical Accounting Policies

Critical accounting policies are those policies that can have a significant impact on the presentation of our financial position and results of operations and demand the most significant use of subjective estimates and management judgment. Because of the uncertainty inherent in such estimates, actual results may differ from these estimates. Specific risks inherent in our application of these critical policies are described below. For all of these policies, we caution that future events rarely develop exactly as forecasted, and the best estimates routinely require adjustment. These policies often require difficult judgments on complex matters that are often subject to multiple sources of authoritative guidance. Additional information concerning our accounting policies can be found in Note 1 to the condensed financial statements in this Form 10-Q and Note 2 to the financial statements appearing in our Annual Report on Form 10-K for the year ended December 31, 2007. The policies that we believe are most critical to an investor’s understanding of our financial results and condition and require complex management judgment are discussed below.

Item 2 -

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Goodwill and Other Acquired Intangibles. The Company accounts for goodwill and other intangible assets in accordance with SFAS No. 142, “Goodwill and Other Intangible Assets”. Under SFAS No. 142, goodwill impairment is deemed to exist if the net book value of a reporting unit exceeds its estimated fair value.

Innotrac’s goodwill carrying amount as of June 30, 2008 was $25.2 million. This asset relates to the goodwill associated with the Company’s acquisition of Universal Distribution Services (“UDS”) in December 2000 (including an earn out payment made to the former UDS shareholders in February 2002), and the acquisition of iFulfillment, Inc. in July 2001. In accordance with SFAS No. 142, the Company performed a goodwill valuation in the first quarter of 2008. The valuation supported that the fair value of the reporting unit at January 1, 2008 exceeded the carrying amount of the net assets, including goodwill, and thus no impairment was determined to exist. The Company performs this impairment test annually as of January 1 or sooner if circumstances indicate.

Accounting for Income Taxes. Innotrac utilizes the liability method of accounting for income taxes. Under the liability method, deferred taxes are determined based on the difference between the financial and tax basis of assets and liabilities using enacted tax rates in effect in the years in which the differences are expected to reverse. A valuation allowance is recorded against deferred tax assets if the Company considers it more likely than not that deferred tax assets will not be realized. Innotrac’s gross deferred tax asset as of June 30, 2008 and December 31, 2007 was approximately $18.7 million and $18.9 million, respectively. This deferred tax asset was generated primarily by net operating loss carryforwards created primarily by the special charge of $34.3 million recorded in 2000 and the net losses generated in 2002, 2003, 2005 and 2006. Innotrac’s net operating loss carryforward expires between 2022 and 2027 and totaled $49.1 million at December 31, 2007.

Innotrac’s ability to generate the expected amounts of taxable income from future operations is dependent upon general economic conditions, competitive pressures on sales and margins and other factors beyond management’s control. These factors, combined with losses in recent years, create uncertainty about the ultimate realization of the gross deferred tax asset in future years. Therefore, a valuation allowance of approximately $13.1 million and $13.8 million has been recorded as of June 30, 2008 and December 31, 2007, respectively. Income taxes associated with future earnings will be offset by the utilization of the net operating loss carryforward resulting in a reduction in the valuation allowance. For the six months ended June 30, 2008, an income tax expense of $724,000 was offset by a corresponding decrease of the deferred tax asset valuation allowance. When, and if, the Company can return to consistent profitability, and management determines that it will be able to utilize net operating losses prior to their expiration, then the valuation allowance can be reduced or eliminated.

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

Item 2 -

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Recent Accounting Pronouncements

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS No. 157”). SFAS No. 157 defines fair value, establishes a framework for measuring fair value in accordance with accounting principles generally accepted in the United States, and expands disclosures about fair value measurements. SFAS No. 157 was effective for fiscal years beginning after November 15, 2007, with earlier application encouraged. Any amounts recognized upon adoption as a cumulative effect adjustment will be recorded to the opening balance of retained earnings (deficit) in the year of adoption. There was no impact on the Company’s financial statements upon adoption on January 1, 2008.

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities – Including an amendment of FASB Statement No. 115” (“SFAS No. 159”). This standard permits an entity to choose to measure certain financial assets and liabilities at fair value. SFAS No. 159 also revises provisions of SFAS No. 115 that apply to available-for-sale and trading securities. This statement is effective for fiscal years beginning after November 15, 2007. There was no impact on the Company’s financial statements upon adoption on January 1, 2008.

In December 2007, the FASB issued SFAS No 141(R) which revised SFAS 141 “Business Combinations”. This revised standard will be effective for fiscal years beginning after December 15, 2008 and changes the requirements for measuring the value of acquired assets, the date of the measurement of the acquired assets, the use of fair value accounting and rules for capitalization of costs of acquisition. Since SFAS 141(R) will apply to acquisitions occurring in the future, the Company does not expect there to be any impact on the historic reported financial statements of the Company when it is adopted.

In December 2007, the FASB issued SFAS No. 160 “Noncontrolling Interests in Consolidated Financial Statements” which amended Accounting Research Bulletin No. 51. This standard will be effective for fiscal years beginning after December 15, 2008 and applies to reporting requirements for minority interest ownership. The Company does not expect the effect, if any, of adopting SFAS No. 160 on its financial statements will be material.

Item 3 - Quantitative and Qualitative Disclosures About Market Risks

Management believes the Company’s exposure to market risks (investments, interest rates and foreign currency) is immaterial. Innotrac holds no market risk sensitive instruments for trading purposes. At present, the Company does not employ any derivative financial instruments, and does not currently plan to employ them in the future. The Company does not transact any sales in foreign currency. To the extent that the Company has borrowings outstanding under its credit facility and its second lien term loan, the Company will have market risk relating to the amount of borrowings due to variable interest rates under the credit facility. All of the Company’s lease obligations are fixed in nature as noted in Note 5 to the Financial Statements contained in our Annual Report on Form 10-K for the year ended December 31, 2007, and the Company has no long-term purchases commitments.

Item 4 – Controls and Procedures

Evaluation of Disclosure Controls and Procedures

The Company’s management, under the supervision and with the participation of the Company's Chief Executive Officer and Chief Financial (and principal accounting) Officer, carried out an evaluation of the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934) as of June 30, 2008. Based upon that evaluation, and the identification of the material weakness in the Company’s internal control over financial reporting as described below and more fully in “Item 9A – Controls and Procedures – Management’s Report on Internal Control over Financial Reporting” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2007, the Chief Executive Officer and Chief Financial Officer concluded that the disclosure controls and procedures were ineffective as of the end of the period covered by this report. The identified material weakness consists of an understaffed financial and accounting function, and the need for additional personnel to prepare and analyze financial information in a timely manner and to allow review and on-going monitoring and enhancement of our controls.

Changes in Internal Control Over Financial Reporting

During the three months ended June 30, 2008, we completed our review of our staffing requirements for our financial reporting and disclosure functions. At June 30, 2008 we have partially filled the identified positions with expected full staffing before the end of September 2008. Accordingly, the material weakness discussed above has not been corrected resulting in a reasonable possibility that a material misstatement could result in our financial reporting. As described more fully in “Item 9A – Controls and Procedures – Plan for Remediation of Material Weaknesses” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2007, to address such material weakness, we continue to monitor our disclosure and financial reporting control procedures and are reviewing staffing requirements to remediate the material weakness.

Part II – Other Information

Item 4 – Submission of Matters to a Vote of Security Holders

On June 5, 2008, the Company held its annual meeting of shareholders in Duluth, Georgia. As of the record date, May 2, 2008, there were 12,585,759 shares of Common Stock issued, outstanding and entitled to vote at the annual meeting. Represented at the meeting in person or by proxy were 11,923,956 shares representing 94.7% of the total shares of Common Stock entitled to vote at the meeting.

The purpose of the meeting was to re-elect the following director to a three-year term expiring in 2011. The following table sets forth the number of votes cast “for” reelection and the number of votes “withheld” for the director.

	Number of Votes
	For	Withheld
Bruce V. Benator	11,280,984	642,972

The directors whose terms continued after the meeting are Martin J. Blank, Scott D. Dorfman, Thomas J. Marano and Joel E. Marks.

Item 6 – Exhibits

Exhibits:

31.1	Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d – 14(a).

31.2	Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d – 14(a).

32.1	Certification of Chief Executive Officer Pursuant to 18 U.S.C. § 1350.

32.2	Certification of Chief Financial Officer Pursuant to 18 U.S.C. § 1350.

SIGNATURES

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

	INNOTRAC CORPORATION
	(Registrant)



Date: August 14, 2008	By:	/s/ Scott D. Dorfman
		Scott D. Dorfman
		President, Chief Executive Officer and Chairman of the Board (Principal Executive Officer)

Date: August 14, 2008	By:	/s/ George M. Hare
		George M. Hare
		Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer)