Unassociated Document

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	PART I - FINANCIAL INFORMATION

Item 1.	Financial Statements	2
Item 2.	Management’s Discussion and Analysis or Plan of Operation	14
Item 3.	Controls and Procedures	19

	PART II - OTHER INFORMATION

Item 1.	Legal Proceedings	20
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	20
Item 3.	Defaults Upon Senior Securities	20
Item 4.	Submission of Matters to a Vote of Security Holders	20
Item 5.	Other Information	20
Item 6.	Exhibits and Reports on Form 8-K	20

SIGNATURES		21

EXPLANATORY NOTE:

This Amendment No. 2 to our Quarterly Report on Form 10-QSB gives effect to the correction in our financial statements of an error in our previous filing that resulted in the incorrect treatment of our automatic conversion of our Barron Debt as an extinguishment in our statement of operations rather than as a traditional conversion that resulted in a reclassification of (i) the related compound derivative and (ii) the debt carrying value both to stockholders’ equity. The accompanying financial statements have been restated for this error, which resulted in an increase in our net loss for the three months ended March 31, 2007 from ($102,497) to ($1,494,507) and an increase in our loss per common share for the three months ended March 31, 2007 from ($0.00) to ($0.09). This restatement did not result in any changes to our assets or liabilities as of March 31, 2007. In addition, the Company has received comments from the Staff of the Securities and Exchange Commission in connection this and certain other reports that it has filed under the Securities Exchange Act of 1934, as amended and the Securities Act of 1933. The aforementioned error arose from our consideration of these comments. In addition, certain disclosures have been enhanced as a result of our consideration of the comments. We intend to fully respond to, and properly address, all comments received. While we believe this amendment embodies all comments and suggestions by the Staff, they have not approved our filings and, accordingly, additional changes may be required.

PART I - FINANCIAL INFORMATION

LATTICE INCORPORATED AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

	March 31, 2007			December 31, 2006
	(Unaudited, Restated)			(Restated)
ASSETS
Current assets:
Cash and cash equivalents	$	240,739		$	392,275
Accounts receivable - net		3,087,553			2,412,164
Inventories		65,674			64,442
Other current assets		129,741			698,514
Total current assets		3,523,707			3,567,395

Property and equipment, net		33,061			37,187
Goodwill		2,547,866			2,547,866
Other intangibles, net		6,823,807			7,344,235
Other assets		96,701			122,935
Total assets	$	13,025,142		$	13,619,618

LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable	$	983,671		$	892,773
Accrued expenses		940,013			1,736,754
Customer deposits		15,000			15,000
Deferred revenue		33,874			62,495
Notes payable		1,607,178			1,998,189
Derivative liability		13,047,396			19,873,782
Total current liabilities		16,627,132			24,578,993

Deferred tax liabilities		406,162			406,162
Minority interest		182,604			135,561

Shareholders' equity - (deficit)
Preferred stock - .01 par value 10,000,000 shares authorized 8,826,087 and 1,000,000 issued		83,761			10,000
Common stock - .01 par value, 200,000,000 shares authorized, 16,642,428 and16,642,428 issued 16,629,848 and 16.629.848 outstanding in 2007 and 2006 respectively		166,425			166,425
Additional paid-in capital		35,022,426			24,850,967
Accumulated deficit		(39,065,535	)		(36,130,657	)
		(3,792,923	)		(11,103,265	)
Common stock held in treasury, at cost		(397,833	)		(397,833	)
Shareholder’ deficit		(4,190,756	)		(11,501,098	)
Total liabilities and shareholders' deficit	$	13,025,142		$	13,619,618

See accompanying notes.

LATTICE INCORPORATED AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

	Three Months Ended March 31,
	2007			2006
	(Restated)
Sales - Technology services	$	2,887,079		$	917,917
Sales - Technology products		289,402			423,890
Total sales		3,176,481			1,341,807

Cost of Sales - Technology services		1,383,262			478,248
Cost of Sales - Technology products		89,192			154,120
Total cost of sales		1,472,454			632,368

Gross profit		1,704,027			709,439
Operating costs and expenses:
Selling, general and administrative		1,649,152			504,606
Research and development		109,041			109,134
		1,758,193			613,740

Operating (loss) income		(54,166	)		95,699
Other income (expense):
Derivative income (expense)		(845,365	)		—
Extinguishment loss		(157,130	)		—
Interest expense		(385,803	)		(129,890	)
Finance expense		(5,000	)		(8,043	)
Total other income (expenses)		(1,393,298	)		(137,933	)

Loss before minority interest		(1,447,464	)		(42,234	)
Minority interest		(47,043	)		(7,442	)

Net loss	$	(1,494,507	)	$	(49,676	)

Reconciliation of net loss to loss applicable to common shareholders:
Net loss	$	(1,494,507	)	$	(49,676	)
Preferred stock dividends		(12,500	)		—
	$	(1,507,007	)	$	(49,676	)
Loss per common share:
Basic	$	(0.09	)	$	(0.01	)
Diluted	$	(0.09	)	$	(0.01	)
Weighted average shares – Basic and diluted		16,629,848			8,984,150

See accompanying notes.

LATTICE INCORPORATED AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

	Three Months Ended March 31,
	2007			2006
	(Restated)
Cash flows from operating activities:
Net loss	$	(1,494,507	)	$	(49,676	)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Derivative (income) expense		845,365			—
Amortization intangible assets		520,428			56,690
Amortization of debt discount (effective method)		205,809			—
Amortization of financing expense		118,207			44,223
Extinguishment loss		157,130			—
Minority interest		47,043			7,442
Share based payments		61,440			—
Depreciation		4,125			20,940
Changes in operating assets and liabilities:
(Increase) decrease in:
Accounts receivable		(675,389	)		(320,390	)
Inventories		(1,232	)		4,106
Other current assets		8,090			(37,049	)
Other assets		26,235			(2,100	)
Increase (decrease) in:
Accounts payable and accrued expenses		180,911			154,883
Customer deposits		—			16,111
Deferred revenue		(28,621	)		—
Total adjustments		1,469,541			(55,144	)
Net cash provided by (used in) operating activities		(24,966	)		(104,820	)

Cash flows from financing activities:
Payments on notes payable		(45,000	)		—
Revolving credit facility (payments) borrowings, net		(81,570	)		166,591
Net cash (used in) provided by financing activities		(126,570	)		166,591
Net increase (decrease) in cash and cash equivalents		(151,536	)		61,771
Cash and cash equivalents - beginning of period		392,275			53,997
Cash and cash equivalents - end of period	$	240,739		$	115,768

Supplemental Information:
Interest paid in cash	$	40,315		$	54,527

See accompanying notes

LATTICE INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

Note 1- Organization and summary of significant accounting policies

a) Organization:

Lattice Incorporated (the “Company”) was incorporated in the State of Delaware May 1973 and commenced operations in July 1977. The Company began as a provider of specialized solutions to the telecom industry. Throughout its history the Company has adapted to the changes in this industry by reinventing itself to be more responsive and open to the dynamic pace of change experienced in the broader converged communications industry of today. Currently the Company provides advanced solutions for several vertical markets. The greatest change in operations is in the shift from being a component manufacturer to a solution provider focused on developing applications through software on its core platform technology. To further its strategy of becoming a solutions provider, the Company acquired a majority interest in “SMEI” in February 2005. With the SMEI acquisition, approximately 90% of the Company’s revenues are derived from solution services. In September 2006 the Company purchased all of the issued and outstanding shares of the common stock of Ricciardi Technologies Inc. (“RTI”). RTI was founded in 1992 and provides software consulting and development services for the command and control of biological sensors and other Department of Defense requirements to the United States federal governmental agencies either directly or though prime contractors of such governmental agencies. RTI’s proprietary products include SensorView, which provides clients with the capability to command, control and monitor multiple distributed chemical, biological, nuclear, explosive and hazardous material sensors. With the SMEI and the RTI acquisitions, approximately 90% of the Company’s revenues are derived from solution services. In January 2007, we changed our name from Science Dynamics to Lattice Incorporated.

b) Basis of presentation:

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Item 310 of Regulation SB. Accordingly; they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. For further information, refer to the financial statements and footnotes thereto included in the Company's annual report for Form 10-KSB for the year ended December 31, 2006. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three month period ended March 31, 2007 are not necessarily indicative of the results that may be expected for the year ended December 31, 2007.

The Company’s auditors have emphasized uncertainty regarding our ability to continue as a going concern in their audit reports for our years ended December 31, 2006 and 2005.

c) Principles of consolidation:

The accompanying condensed consolidated financial statements included the accounts of the Company and all if its subsidiaries in which a controlling financial interest is maintained. We consider a controlling financial interest to reflect unimpaired ownership in a majority of the voting common shares of a subsidiary. We consider the effects of minority rights in determining our consolidation rights; there are no minority participation rights related to our consolidated subsidiaries. All significant inter-company accounts and transactions have been eliminated in consolidation. The minority interests in our consolidated net income (loss) are reflected as a component of minority interest in the accompanying statement of operations. During the periods presented, minority interest represents the minority interest in the income of our 86% owned subsidiary, Systems Management Engineering Inc. (“SMEI”).

d) Use of estimates:

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

e) Share-based payments:

On January 1, 2006, the Company adopted the fair value recognition provisions of Financial Accounting Standards Board (“FASB”) Statement of Financial Accounting Standards (“SFAS”) No. 123(R), Accounting for Share-based payments, to account for compensation costs under its stock option plans and other share-based arrangements. Prior to January 1, 2006, the Company utilized the intrinsic value method under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees. Statement 123R requires all share-based payments to employees, including grants of employee stock options, to be recognized in the financial statements based on their fair values. For purposes of estimating far value of stock options, we use the Black-Scholes-Merton valuation technique. For the three months ended March 31, 2007 and 2006, share-based payment expense was $61,440 and $0.00 respectively. As of March 31, 2007, there was approximately $312,000 of total unrecognized compensation cost related to unvested share-based compensation awards granted under the equity compensation plans which does not include the effect of future grants of equity compensation, if any. $312,000 will be amortized over the weighted average remaining service period of two years. See Note 7 for more information.

f) Depreciation, amortization and long-lived assets:

Property, plant and equipment - These assets are recorded at cost and increased by the cost of any significant improvements after purchase. The Company depreciates the cost over the assets' estimated useful lives using the straight-line method.

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

Identifiable intangible assets - These assets are recorded at cost. Intangible assets with finite lives are reviewed on an annual basis and amortized evenly over their estimated useful lives using the straight-line method. Intangible assets with indefinite lives are not amortized but are subjected to impairment tests along with goodwill, as described above.

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

g) Derivative financial instruments and registration payment arrangements:

Derivative financial instruments, as defined in Financial Accounting Standard No. 133, Accounting for Derivative Financial Instruments and Hedging Activities (“FAS 133”), consist of financial instruments or other contracts that contain a notional amount and one or more underlying variables (e.g. interest rate, security price or other variable), require no initial net investment and permit net settlement. Derivative financial instruments may be free-standing or embedded in other financial instruments. Further, derivative financial instruments are initially, and subsequently, measured at fair value and recorded as liabilities or, in rare instances, assets. The Company generally does not use derivative financial instruments to hedge exposures to cash-flow, market or foreign-currency risks. However, the Company has entered into various types of financing arrangements to fund its business capital requirements, including convertible debt and other financial instruments indexed to the Company’s own stock. These contracts require careful evaluation to determine whether derivative features embedded in host contracts require bifurcation and fair value measurement or, in the case of freestanding derivatives (principally warrants) whether certain conditions for equity classification have been achieved. In instances where derivative financial instruments require liability classification, the Company is required to initially and subsequently measure such instruments at fair value. Accordingly, the Company adjusts the fair value of these derivative components at each reporting period through a charge to income until such time as the instruments require classification in stockholders’ equity. See Note 5 for additional information.

As previously stated, derivative financial instruments are initially recorded at fair value and subsequently adjusted to fair value at the close of each reporting period. The Company estimates fair values of derivative financial instruments using various techniques (and combinations thereof) that are considered to be consistent with the objective of measuring fair values. In selecting the appropriate technique, management considers, among other factors, the nature of the instrument, the market risks that it embodies and the expected means of settlement. For less complex derivative instruments, such as free-standing warrants, the Company generally uses the Black-Scholes-Merton option valuation technique because it embodies all of the requisite assumptions (including trading volatility, estimated terms and risk free rates) necessary to fair value these instruments. For complex derivative instruments, such as embedded conversion options, the Company generally uses the Flexible Monte Carlo valuation technique because it embodies all of the requisite assumptions (including credit risk, interest-rate risk and exercise/conversion behaviors) that are necessary to fair value these more complex instruments. For forward contracts that contingently require net-cash settlement as the principal means of settlement, the Company projects and discounts future cash flows applying probability-weightage to multiple possible outcomes. Estimating fair values of derivative financial instruments requires the development of significant and subjective estimates that may, and are likely to, change over the duration of the instrument with related changes in internal and external market factors. In addition, option-based techniques are highly volatile and sensitive to changes in the trading market price of our common stock, which has a high-historical volatility. Since derivative financial instruments are initially and subsequently carried at fair values, our income (loss) will reflect the volatility in these estimate and assumption changes.

During December 2006, the Financial Accounting Standards Board issued FASB Staff Position (FSP) EITF 00-19-2, Accounting for Registration Payment Arrangements, which amended FAS 133. The FASB Staff Position specifies that the contingent obligation to make future payments or otherwise transfer consideration under a registration payment arrangement, whether issued as a separate agreement or included as a provision of a financial instrument or other agreement, should be separately recognized and measured in accordance with FASB Statement No. 5, Accounting for Contingencies (“FAS 5”). FAS 5 provides for the recognition of registration payments when they are both probable of being incurred and reasonably estimable. The Company adopted EITF 00-19-2 in the fourth fiscal quarter of the Company’s year ended December 31, 2006. Accordingly, during the fourth quarter of 2006, the Company recorded a contingent liability of $874,000 related to the liquidated damages as estimated and calculated under FAS 5. As more fully discussed in Note 4(b), our liability was settled during the first quarter of this current fiscal year.

h) Recent accounting pronouncements:

In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159, The Fair Value Option for Financial Assets and Financial Liabilities, (“FAS 159”). FAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value. The objective is to improve financial reporting by providing entities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. FAS 159 is effective for fiscal years beginning after November 15, 2007. The Company does not believe that FAS 159 will have any material effect on its financial statements.

i) Earnings per common share:

The Company calculates earnings per share in accordance with Statements on Financial Accounting Standards No. 128, Earnings Per Share (“FAS 128”). Basic earnings per common share is based on the weighted-average number of common shares outstanding in each year and after preferred stock dividend requirements, whether or not declared or paid. Diluted earnings per common share assume that any dilutive convertible debentures and convertible preferred shares outstanding at the beginning of each year were converted at those dates, with related interest, preferred stock dividend requirements and outstanding common shares adjusted accordingly. It also assumes that outstanding common shares were increased by shares issuable upon exercise of those stock options for which market price exceeds exercise price, less shares that could have been purchased by the Company with related proceeds. See Note 8 for the components of the earnings per common share computation.

Note 2 - Business acquisition:

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

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

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

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

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

Intangible assets acquired consisted of the following:

	Life
Customer relationships		5	$	3,382,517
Know how and processes		5		2,924,790
Goodwill		—		484,033
Contractual backlog		1		534,272
Employment contract		1		165,000
			$	7,490,612

The Company recorded amortization of $463,738 for the three months ended March 31, 2007 related to the intangible assets listed above. The Company believes that the expansion into this business affords it an opportunity for synergy, thus justifying the amount of goodwill attributed to the acquisition of RTI. Due to certain limitations imposed by the Internal Revenue Service, the Company does not expect goodwill to result in any deductible amounts in the near future.

Note 3- Segment reporting:

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

	Three Months Ended March 31, 2007		Three Months Ended March 31, 2006
Revenue
Technology Services	$	2,887,079	$	917,917
Technology Products		289,402		423,890
Total Consolidated Revenue	$	3,176,481	$	1,341,807
Gross Profit
Technology Products	$	1,503,817	$	439,669
Technology Services		200,210		269,770
Total Gross Profit	$	1,704,027	$	708,439

Note 4 - Notes payable:

Notes payable consists of the following as of March 31, 2007 and December 31, 2006:

	2007			2006

Revolving credit facility (a)		509,178		$	590,749
Notes Payable - Stockholders/Officers (b)		848,000			893,000
Short term notes payable (c)		250,000			250,000
Convertible note (d)		—			264,440
Total notes payable		1,607,178			1,998,189
Less current maturities, associated with notes payable		(1,607,178	)		(1,998,189	)

Long-term debt	$	—		$	—

(a) Revolving Line of credit:

On November 10, 2006, the Company secured a Line of Credit facility with Greater Bay Business Funding ("GBBF") for $2,000,000. The line is primarily secured by the Company's accounts receivables. The Advance Rate is 85% of qualifying accounts receivable. Interest on the line is at of Prime (currently 8.25%), plus 6.0%. Upon securing the line with GBBF, the Company repaid in full and closed out the credit facility with Presidential Financial Group. The total outstanding balance on this facility as of March 31, 2007 and December 31, 2006 was $509,178 and $590,749 respectively. Additionally, the Company incurred an up-front fee of $20,000 which is being amortized on the straight-line method, due to the immaterial amount involved, over the twelve month term of the facility. As of March 31, 2007, $11,667 remains unamortized.

(b) Notes payable stockholders/officers:

The Company has a short-term loan payable to a former officer and stockholder of the Company amounting to $75,000. This note bears interest of 8.0% per annum. The note is an unsecured demand note.

At December 31, 2006 the Company has a short term note payable of $250,000 with a director of the Company. This note is collateralized by proceeds from the future sale of the New Jersey Net Operating Loss in 2006, upon approval from the State of NJ. In the event the Company is not approved for this program, the Company will repay this note and accrued interest from operating cash flows. The note bears interest at 20.0% per annum and is payable at its maturity date of December 31, 2007.

As part of the RTI acquisition the Company issued a note in the amount of $500,000 to the former stockholders of RTI as part of the purchase price. The note is payable in September 2007 and bears an interest rate of 10.0% per annum.

(c) Short term notes:

On September 18, 2006, the Company entered into an Omnibus Amendment and Waiver Agreement with Laurus Master Fund, LTD (“Laurus”). Under the terms of the amendment, in exchange for full and complete satisfaction of the $2,000,000 note, the Company i) paid Laurus $500,000 ii) issued a seven-year warrant to purchase up to 1,458,333 shares of common stock for an exercise price of $0.1 per share and iii) entered into a Term Note for $250,000 with Laurus. The Term Note bears interest at a rate per annum equal to the prime rate published in The Wall Street Journal from time to time, plus 3%, but shall not be less than 8%. Interest payments are due monthly, in arrears, commencing on August 1, 2006 and ending on the maturity date which is September 18, 2007. The Company estimated the fair value of the warrants on the inception date, and subsequently, using the Black-Scholes-Merton technique because that technique embodies all the assumptions (including volatility, expected terms, and risk free rates) that are necessary to fair value freestanding warrants.

(d) 2006 Barron Financing Arrangement:

On September 19, 2006, the Company entered into a financing arrangement that provided for the issuance of $4,500,000, 6.0% Convertible Promissory Notes, due May 31, 2007, and warrants to purchase 25,000,000 shares of common stock. Proceeds, which were net of $404,851 in cash financing costs, amounted to $4,045,149. The Convertible Promissory Note was convertible into Preferred Stock at $.575; however, if a Restated Certificate of Incorporation was not filed within 150 days, then for each month, the conversion price would be reduced by 6%. Upon filing of the Restated Certificate of Incorporation, the note provided for automatic conversion of the face value into Series B Preferred Stock. The Company concluded that the conversion feature embedded in the note was not afforded either the FAS133 exemption as a “Conventional Convertible” instrument or the FAS133 exemption for derivative instruments indexed to a company’s own stock due to the variable conversion feature; that is, the variable conversion feature results in the presumption that the Company would have insufficient common shares to settle all of its share-indexed obligations. Since share settlement was not considered to be in the Company’s control, certain other non-exempt freestanding derivative instruments (principally warrants to purchase common stock) were considered tainted (that is, the aforementioned presumption puts their share settlement presumably beyond the Company’s control, also) and in accordance with Emerging Issues Task Force Consensus EITF 00-19, Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in a Company’s Own Stock , they were reclassed from stockholder’s equity to liabilities at their fair value of approximately $523,000.

Proceeds from this financing arrangement were allocated to the fair value of the conversion option and warrants, based upon their fair values because share-settlement of these instruments was not considered to be within the Company’s control. There was no basis in the proceeds following the allocation to the derivative financial instruments to allocate to the Convertible Notes Payable. Thus, they were initially recorded a zero value and are subject to amortization over the term using the effective interest method.

The following table illustrates the components of the initial allocation of the net proceeds:

Financial instrument or account:
Warrant derivative, at fair value	$	13,895,090
Compound derivative, at fair value		8,113,451
Deferred financing costs		(867,357	)
Convertible notes payable		—
Day-one derivative loss		(17,096,035	)
	$	4,045,149

The derivative warrants were issued in two traunches, each having terms of five years. The traunches have exercise prices of $0.50 and $1.20, respectively. The Company recorded the derivative warrants at fair value using the Black-Scholes-Merton Technique because this technique embodies all of the assumptions necessary to fair value non-complex instruments. The compound derivative comprises certain derivative features embedded in the host convertible note payable contract including the variable conversion feature, anti-dilution protections and certain redemption features. These instruments were combined into one compound derivative and bifurcated from the host instrument at fair value. The Company applied the Monte-Carlo valuation technique to fair value this derivative because Monte Carlo embodies all assumptions (including credit risk, interest rate risk, conversion/redemption behaviors) necessary to fair value complex, compound derivative financial instruments. Fair values of our derivative financial instruments are highly influenced by our trading stock price and volatility, changes in our credit risk and market interest rates. Further derivative income or expense will reflect changes in these underlying assumptions.

As reflected in the above table, proceeds were insufficient to record the derivative financial instruments at their fair values. Accordingly, the Company was required to recognize a day-one derivative loss in its statement of operations in the amount of $17,096,035. This charge was recorded in the Company’s third fiscal quarter of its year ended December 31, 2006.

The Restated Certificate of Incorporation was filed on February 2, 2007, at which time, the conversion rate on the Convertible Promissory Notes became fixed at $.575 and the bifurcated conversion option no longer required separate derivative classification and accounting under FAS 133. However, we were required to adjust the derivative value to fair values on the date of this event and recognize the adjustments in income. Based on the guidance of EITF 06-07, Issuers Accounting for a Previously Bifurcated Conversion Option No Longer Meets the Bifurcation Criteria in FASB Statement No.133, when a previously bifurcated conversion option no longer requires bifurcation, the Company is required to immediately adjust the derivative to fair value and reclass that amount to stockholder’s equity. Application of this standard resulted in reclassification of the fair value of the embedded conversion feature on the event date (amounting to $7,223,234) to paid in capital. The warrants continue to require classification as derivative warrants because, notwithstanding the Company’s re-established ability to share settle all of its share-indexed financial instruments, the warrants continue to fail certain other requirements for equity classification (principally the requirement of payment of penalties in the event of non-filing of reports with the Securities and Exchange Commission; a requirement under the arrangement presumed not to be within the control of the Company).

Generally, under EITF 06-07, the host debt instrument remains subject to continued amortization using the effective method following the reclassification of the embedded conversion feature to stockholder’s equity However, in accordance with the terms of the agreement, the convertible note automatically converted into Preferred Stock upon the filing of the Restated Certificate of Incorporation. Based on the guidance of APB 26, Early Extinguishment of Debt and a related Accounting Interpretation of APB Opinion No. 26, the carrying amount of the debt, including the unamortized discount was credited to the capital accounts upon conversion to reflect the stock issued and no gain or loss was recognized. Adoption of this guidance resulted in reclassification of $27,776 to the capital accounts.

On February 7, 2007, the Company entered into a letter agreement with Barron which provided for (i) the waiver of all accrued and unpaid liquidated damages for not filing the registration statement and (ii) the extension to a later date of certain mandated events, such as the re-composition of the Board. This waiver required compensation in the form of warrants to purchase 1,900,000 shares of common stock which were valued at approximately $1,031,000 using the Black-Scholes-Merton technique. Significant assumptions used in the model included: exercise price of $.50; volatility factor of 126.43%; 5 year term to expiration; and a risk free rate of 4.73%. Since the warrants met the eight conditions for equity classification provided in EITF 00-19, the fair value of these warrants was classified as equity. As discussed in Note 1, the Company had an accrued liability amounting to $874,000 for liquidating damages and, accordingly, the difference between the fair value of the warrants and the carrying amount of the liability was recognized as a loss on extinguishment of approximately $151,000.

Note 5 - Derivative financial instruments:

The balance sheet caption derivative liability at December 31, 2006 consists of (i) embedded conversion features and (ii) the Warrants issued in connection with the 2005 Laurus Financing Arrangement, the 2006 Omnibus Amendment and Waiver Agreement with Laurus. Derivative liabilities at March 31, 2007 consist of the warrants issued in connection with the 2005 Laurus Financing Arrangement, the 2006 Omnibus Amendment and Waiver Agreement and the 2006 Barron Financing Arrangement. These derivative financial instruments are indexed to an aggregate of 27,358,333 and 6,307,242 shares of the Company’s common stock as of March 31, 2007 and 2006, respectively, and are carried at fair value. The following tabular presentations set forth information about the derivative instruments for the quarter ended March 31, 2007 and 2006:

	Quarter ended March 31, 2007			Quarter ended March 31, 2006
Derivative income (expense)
Conversion features	$	(467,120	)	$	-
Warrant derivative	$	(378,245	)	$	-

	March 31, 2007			March 31, 2006
Liabilities
Compound derivative	$	-		$	(255,462	)
Warrant derivative	$	(13,047,396	)	$	(207,000	)

Freestanding derivative instruments, consisting of warrants that arose from the Laurus and Barron financings are valued using the Black-Scholes-Merton valuation methodology because that model embodies all of the relevant assumptions that address the features underlying these instruments. Significant assumptions used in the Black Scholes models included: exercise or strike prices ranging from $0.10 - $1.25; volatility factors ranging from 82.61% - 139.49% based upon forward terms of instruments; remaining term for all instruments; and a risk free rate ranging from 4.92% - 5.03%.

Embedded derivative instruments consist of multiple individual features that were embedded in the convertible debt instruments. The Company evaluated all significant features of the hybrid instruments and, where required under current accounting standards, bifurcated features for separate report classification. These features were, as attributable to each convertible note, aggregated into one compound derivative financial instrument for financial reporting purposes. The compound embedded derivative instruments were valued using the Flexible Monte Carlo methodology because that model embodies certain relevant assumptions (including, but not limited to, interest rate risk, credit risk, and Company-controlled redemption privileges) that are necessary to value these complex derivatives.

Note 6 - Stockholders’ equity:

On August 28, 2006, the Company designated 9,000,000 shares as Series A Convertible Preferred Stock (“Series A Preferred”) and 1,000,000, shares as Series B Convertible Redeemable Preferred Stock (“Series B Preferred”), each with a stated par value of $.01 per share.

The Series A Preferred shares do not have voting rights or cumulative dividends. The preferred shares are convertible into the Company’s common stock at a fixed conversion price of $.23 per common share, subject to adjustment in certain instances, including the issuance by the Company of common stock at a price less $.23 per share. In the event the Company’s EBITDA for the year ended December 31, 2006 is less than $.019 per share or if the Company’s EBITDA for the year ended December 31, 2007 is less than $.0549 on a fully-diluted basis, then the conversion price will be reduced by the percentage shortfall, up to a maximum of 30%. Each share of Series A Preferred is convertible into 25 shares of the Company’s common stock and will be automatically converted into common stock upon a change in control or liquidation, at an amount equal to $.575 per share. The Series A Preferred stock ranks senior to holders of common stock with respect to payment of dividends and amounts upon liquidation, dissolution or winding up of the Company. If the Company does not deliver conversion shares in accordance with the terms of the agreement, the Company will be required to pay liquidating damages of $50 per trading day for each $5,000 of conversion value. These damages will increase to $100 per trading day after three trading days and $200 per trading day after six trading days.

The Series B Preferred shares do not have voting rights unless a vote is required by law in connection with a merger, consolidation or sale of substantially all of the Company’s assets. The holders of the Series B Preferred shares are entitled to receive an annual dividend of $.05 per share, payable quarterly, commencing November 1, 2006. The Series B Preferred stock ranks senior to holders of common stock with respect to payment of dividends and amounts upon liquidation, dissolution or winding up of the Company. One year from the date the Certificate of Designation is filed, the preferred stock will automatically convert into common stock at a rate of 8 1/3 shares of common stock for every share of Series B Preferred Stock. The Company has the right to redeem the Series B Preferred Stock, any time prior to one year from the date the Certificate of Designation is filed with the Secretary of State, at $.50 per share. No dividends have been declared on the Series B Preferred Stock.

On February 2, 2007 the Company affected a one-for-ten reverse stock split restating the common shares from 166,424,280 to 16,642,428. All reference to shares has been restated to reflect the reverse.

On February 2, 2007 the Company filed a restated certificate of incorporation with the State of Delaware; upon the effectiveness, the principal and interest due on the Barron note was automatically converted into 7,826,087 shares of the Company's Series A Preferred Stock as is determined by dividing the principal amount of the note by the Conversion Price, which initially is $.575.

Note 7-Share-based payments:

a) 2002 Employee stock option plan:

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

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

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

	Number of		Number of		Weighted-
	Options		Options		Average
	Available		Outstanding		Exercise Price
Balance January 1, 2007		467,000		1,371,000	$	1.00
Options granted under Plan		—		—
Options expired		—		—
Balance March 31, 2007		467,000		1,371,000	$	1.00

No options were issued during the three months ended March 31, 2007 and 2006.

The weighted-average fair value per share of the options granted during 2007 and 2006 was estimated on the date of grant using the Black-Scholes-Merton option pricing model; the following assumptions were used to estimate the fair value of the options at grant date based on the following:

	2007			2006
Risk-Free interest rate		4.65	%		4.92	%
Expected dividend yield					—
Expected stock price volatility		156	%		156	%
Expected option life		10 years			10 years

Note 8 – Restatement:

We have restated our financial statements for the following matters.

(i)

We have restated our financial statements to treat the automatic conversion of the Barron debt on February 2, 2007 as a conversion of indebtedness under its original terms (See Note 4(d)). We previously accounted for the conversion as an extinguishment. This restatement had the effect of increasing our net loss by ($2,230,719), or ($0.13) per common share.

(ii)

We have restated our financial statements to treat the issuance of 1,900,000 warrants issued to Barron on February 7, 2007 as consideration for the settlement of liquidated damages liabilities (See Note 4(d)). We previously allocated a portion of the fair value of the warrants to derivative expense. This restatement had the effect of decreasing our net loss by $838,709, or $0.05 per common share.

The combined effect of these restatements resulted in a net increase in our net loss by ($1,392,010) or ($0.08) per common share. These restatements did not have an effect on our total assets or liabilities. The following table illustrates the restatement.

	Net Loss			Loss per Common Share
Net loss, as reported	$	(102,497	)	$	(0.00	)
Correction for Barron conversion accounting		(2,230,719	)		(0.13	)
Correction for warrant consideration accounting		838,709			0.05
Net loss, as restated	$	(1,494,507	)	$	(0.09	)

In addition to the above matters, we have provided in our amended statement of operations for the three-months ended March 31, 2007 a reconciliation of our net loss, as restated above, to our loss applicable to common shareholders’. The reconciliation provides for the presentation of cumulative, undeclared preferred stock dividends (amounting to $12,500) as a reduction to our net loss to arrive at loss per common share.

2. Management’s Discussion and Analysis or Plan of Operation.

GENERAL OVERVIEW

Lattice Incorporated was incorporated in the State of Delaware in May 1973 and commenced operations in July 1977. We have been developing and delivering secure technologically advanced communication solutions for over twenty-five years and recently expanded our product offering to include IT solutions with the acquisition of 86% of Systems Management Engineering, Inc. ("SMEI") on February 14, 2005. In September 2006, pursuant to a Stock Purchase Agreement, dated as of September 12, 2006 (the "RTI Agreement"), the Company purchased all of the issued and outstanding shares of the common stock of Ricciardi Technologies Inc. ("RTI"). RTI was founded in 1992 and provides software consulting and development services for the command and control of biological sensors and other Department of Defense requirements to United States federal governmental agencies either directly or though prime contractors of such governmental agencies RTI's proprietary products include SensorView, which provides clients with the capability to command, control and monitor multiple distributed chemical, biological, nuclear, explosive and hazardous material sensors. RTI is headquartered in Manassas, Virginia. The purchase of RTI's common stock was completed on September 19, 2006.

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

The information in this report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. This Act provides a "safe harbor" for forward-looking statements to encourage companies to provide prospective information about themselves so long as they identify these statements as forward looking and provide meaningful cautionary statements identifying important factors that could cause actual results to differ from the projected results. All statements other than statements of historical fact made in this report are forward looking. In particular, the statements herein regarding industry prospects and future results of operations or financial position are forward-looking statements. Forward-looking statements reflect management's current expectations and are inherently uncertain. Our actual results may differ significantly from management's expectations.

The following discussion and analysis should be read in conjunction with the financial statements and notes thereto included elsewhere in this report and with our annual report on Form 10-KSB for the fiscal year ended December 31, 2006. This discussion should not be construed to imply that the results discussed herein will necessarily continue into the future, or that any conclusion reached herein will necessarily be indicative of actual operating results in the future. Such discussion represents only the best present assessment of our management.

RESULTS OF OPERATIONS

THREE MONTHS ENDED MARCH 31, 2007 COMPARED TO THE THREE MONTHS ENDED MARCH 31, 2006

SALES:

Total sales for the three months ended March 31, 2007 increased by $1,834,674 or 137% to $3,176,481 compared to $1,341,807 for the three months ended March 31, 2006. This consisted of service revenues of $2,887,079 (91% of Total Revenues) and product revenues of $289,402 (9% of Total Revenues). Included in the increase were revenues of $1,396,491 attributable to the acquisition of “RTI” which closed in September 2006.

GROSS MARGIN:

Gross margin for the three months ended March 31, 2007 was $1,704,027, an increase of $994,588 or 141% compared to the $709,439 for three months ended March 31, 2006. Our overall gross margin percentage increased to 53.7% from 52.9% for the same period in 2006. This was attributable to an improvement in the gross margin percentage for our services segment to 52.1% from 47.9% combined with an increase in the gross margin percentage for our technology products segment to 69.2% from 63.7% for the three months ended March 31, 2006. The increase in service margins was primarily a result of a shift towards higher margin fixed price contracts.

RESEARCH AND DEVELOPMENT EXPENSES:

Research and development expenses consist primarily of salaries and related personnel costs, and consulting fees associated with product development.

For the three months ended March 31, 2007, research and development expenses decreased to $109,041 as compared to $109,134 for the three months ended March 31, 2006.

Management believes that continual enhancements of the Company's products will be required to enable the Company to maintain its competitive position. The Company will have to focus its principal future product development and resources on developing new, innovative, technical products and updating existing products

SELLING, GENERAL AND ADMINISTRATIVE EXPENSES:

Selling, General and administrative ("SG&A") expenses consist primarily of expenses for management, finance, administrative personnel, legal, accounting, consulting fees, sales commissions, marketing, facilities costs, depreciation and amortization of intangible assets.

For the three months ended March 31, 2007 SG&A expenses increased to $1,649,152 compared to $504,606 for the comparative three months ended March 31, 2006. The increase was primarily due to SG&A expenses of RTI acquired September 2006 combined with amortization expenses of intangibles related to the “RTI” purchase accounting. The non-cash amortization expense in the quarter related to “RTI” intangibles was $520,428 .

INTEREST EXPENSE:

Interest Expense increased to $385,803 for the three months ended March 31, 2007 compared to $129,890 for the three months ended March 31, 2006. Included in 2007 interest was non-cash amortization of debt discount of $205,809 attributable to the $4.5 million convertible debt with Barron. The Barron debt was automatically converted into preferred stock. Accordingly, in the absence of additional borrowings, we anticipate a decrease in our interest expense as a result of this conversion.

DERIVATIVE INCOME (EXPENSE):

The following table is derived from Note 5 in the accompanying financial statements.

	Three months ended March 31, 2007			Three months ended March 31, 2006
Derivative income (expense)
Conversion features	$	(467,120	)	$	(394,836	)
Warrant derivative	$	(378,245	)	$	(138,000	)

As provided in the discussion of the Company’s accounting policies in Note 1, derivative financial instruments are recorded initially and subsequently at fair value. The Company estimates fair values of derivative financial instruments using various techniques (and combinations thereof) that are considered to be consistent with the objective measuring of fair values. In selecting the appropriate technique, management considers, among other factors, the nature of the instrument, the market risks that it embodies and the expected means of settlement. For less complex derivative instruments, such as free-standing warrants, the Company generally uses the Black-Scholes-Merton option valuation technique because it embodies all of the requisite assumptions (including trading volatility, estimated terms and risk free rates) necessary to fair value these instruments. For complex derivative instruments, such as embedded conversion options, the Company generally uses the Flexible Monte Carlo valuation technique because it embodies all of the requisite assumptions (including credit risk, interest-rate risk and exercise/conversion behaviors) that are necessary to fair value these more complex instruments. For forward contracts that contingently require net-cash settlement as the principal means of settlement, the Company projects and discounts future cash flows applying probability-weightage to multiple possible outcomes. Estimating fair values of derivative financial instruments requires the development of significant and subjective estimates that may, and are likely to change over the duration of the instrument with related changes in internal and external market factors. In addition, option-based techniques are highly volatile and sensitive to changes in the trading market price of our common stock, which has a high-historical volatility. Since derivative financial instruments are initially and subsequently carried at fair values, the Company’s income (loss) will reflect the volatility in these estimates and assumption changes.

It should be noted that during February 2007, the Company was able to reclassify the conversion feature in the above table to stockholders’ equity. Accordingly, no further fair value adjustments will arise from this feature. However, the warrants continue to require liability classification and fair value measurement. As noted in the preceding paragraph, the effects on our future income will be affected, possibly significantly, by the changes in the assumptions underlying our valuation techniques.

EXTINGUISHMENT LOSS:

NET INCOME (LOSS):

The Company's net loss for the three months ended March 31, 2007 was $1,494,507 compared to a net loss of $49,676 for the three months ended March 31, 2006. Net income is influenced by the matters discussed in the other sections of this MD&A. However, it should be noted that net income included $845,365 of derivative loss which represents the increase in fair value of derivative liabilities (principally compound derivatives that were bifurcated from hybrid convertible securities and non-exempt warrants). See Derivative Income (Expense) above where we discuss the material assumptions underlying fair value adjustments and their potential effect on income

INCOME (LOSS) APPLICABLE TO COMMON STOCKHOLDERS:

Loss applicable to common stock gives effect to cumulative undeclared dividends on the Company’s Series B Preferred Stock amounting to $12,500 and $0 for the three months ended March 31, 2007 and 2006, respectively. Loss applicable to common stockholders’ serves as the numerator in our basic earnings per common share calculation. The Company will continue to reflect cumulative preferred stock dividends until the preferred stock is converted into common, if ever.

LIQUIDITY AND CAPITAL RESOURCES

Going concern considerations:

The Company’s auditors have emphasized uncertainty regarding our ability to continue as a going concern in their audit reports for our years ended December 31, 2006 and 2005.

Working capital and other activities:

The Company’s working capital deficiency as of March 31, 2007 amounts to $13,103,425 compared to a deficiency of $4,361,484 as of March 31, 2006. The increase in the deficiency is largely attributable to the increase of $12,640,963 related to our derivative liabilities. This increase gives effect to the reclassification of $7,223,000 of derivative liabilities to stockholders’ equity upon achieving equity classification conditions for the embedded conversion feature previously bifurcated from certain hybrid debt agreements and fair value adjustments to remaining derivative financial instruments that continue to require liability classification and fair value measurement. As of March 31, 2007, the remaining derivative balance of $13,047,396 relates to certain warrants that do not achieve equity classification under current accounting standards. Other components of the Company’s working capital and changes there in are discussed as follows:

For the three month period ended March 31, 2007, cash and cash equivalents decreased to $240,739 from $392,275 at December 31, 2006. Net cash used by operating activities was $24,966 for the three months ended March 31, 2007 compared to net cash used by operating activities of $104,820 in the corresponding three month period ended March 31, 2006. This consisted of a net loss of $1,494,507, an increase in our accounts receivable of $675,389, an increase in inventories of $1,232, a decrease in deferred revenue of 28,621 offset by a decrease in other current assets of $8,090, a decrease in other assets of $26,235, an increase in the Company's accounts payable and accrued expenses of $180,911, favorably offset by net non-cash items (depreciation, amortization of intangibles, amortization of debt discount, derivative interest, minority interest expense, financing cost, share based payments and extinguishment loss) amounting to $1,959,547.

Net cash used by financing activities was $126,570 for the three months ended March 31, 2007 compared to net cash provided by financing of $166,591 in the corresponding three months ended March 31, 2006.

Total current assets at March 31, 2007 were $3,523,707 compared to current liabilities totaling $16,627,132 (including non-cash derivative liabilities of $13,047,396).

The current maturities of our short-term notes at March 31, 2007 totaled $1,607,178 compared to $1,998,189 at December 31, 2006. The Company has $1,075,000 of short term notes coming due by December 31, 2007 ($750,000 in September, 2007 and $325,000 in December 2007) (See Note 4 to the Financial Statements for a discussion of these liabilities) The Company anticipates that it will have sufficient availability on its $2.0M line of revolving credit facility to satisfy these payments.

OFF BALANCE SHEET ARRANGEMENTS:

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

SENSITIVE ESTIMATES:

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

Derivative Financial Instruments:

Derivative financial instruments are initially recorded at fair value and subsequently adjusted to fair value at the close of each reporting period. The Company estimates fair values of derivative financial instruments using various techniques (and combinations thereof) that are considered to be consistent with the objective measuring of fair values. In selecting the appropriate technique, management considers, among other factors, the nature of the instrument, the market risks that it embodies and the expected means of settlement. For less complex derivative instruments, such as free-standing warrants, the Company generally uses the Black-Scholes-Merton option valuation technique because it embodies all of the assumptions (including trading volatility, estimated terms and risk free rates) necessary to fair value these instruments. For complex derivative instruments, such as embedded conversion options, the Company generally uses the Flexible Monte Carlo valuation technique because it embodies all of the requisite assumptions (including credit risk, interest rate risk and exercise/conversion behaviors) that are necessary to fair value these more complex instruments. For forward contracts that contingently require net-cash settlement as the principal means of settlement, the Company projects and discounts future cash flows applying probability-weightage to multiple possible outcomes. Estimating fair values of derivative financial instruments, requires the development of significant and subjective estimates that may, and are likely to, change over the duration of the instrument with related changes in internal and external market factors. In addition, option-based techniques are highly volatile and sensitive to changes in the trading market price of our common stock, which has a high-historical volatility. Since derivative financial instruments are initially and subsequently carried at fair values, our income (loss) will reflect the volatility in these estimate and assumption changes.

Revenue Recognition:

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

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

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

Impairments of long-lived assets:

At least annually, the Company reviews all long-lived assets with determinate lives for impairment. Long-lives assets subject to this evaluation include property and equipment and intangible assets that amount to $6,856,868 (or 52%) of total assets at March 31, 2007. The Company considers the possibility that impairments may exist when indicators of impairment are present. In the event that indicators are identified or, if within management’s normal evaluation cycle, the Company establishes the presence of possible impairment by comparing asset carrying values to undiscounted projected cash flows. The preparation of cash flow projections requires management to develop many estimates about the Company’s performance. These estimates include consideration of revenue streams from existing customer bases, the potential increase and decrease in customer sales activity and potential changes in the Company’s direct and indirect costs. In addition, if the carry values of long-lived assets exceed undiscounted cash flow, the Company would estimate the impairment based upon discounted cash flow. The development of discount rates necessary to develop this cash flow information requires additional assumptions, including the development of market and risk adjusted rates for discounting cash flows. While management utilizes all available information in developing these estimates, actual results are likely to be different from those estimates.

Goodwill represents the difference between the purchase price of an acquired business and the fair value of the net assets of businesses the Company has acquired. Goodwill is not amortized. Rather, the Company tests goodwill for impairment annually (or in interim periods if events or changes in circumstances indicate that its carrying amount may not be recoverable) by comparing the fair value of each reporting unit, as measured by discounted cash flows, to the carrying value of the reporting unit to determine if there is an indication that potential impairment may exist. One of the most significant assumptions underlying this process is the projection of future sales. The Company reviews its assumptions when goodwill is tested for impairment and makes appropriate adjustments, if any, based on facts and circumstances available at that time. While management utilizes all available information in developing these estimates, actual results are likely to be different than those estimates.

Item 3. Controls and Procedures.

During the quarter, we encountered some problems in integrating RTI’s IT systems which as a result limited the CFO function from gaining full access to financial systems detailed information. We have since resolved these issues to where full access to financial information has been restored. Additionally, the detailed information supporting RTI’s book of record was subsequently reviewed and we concluded that there were no material effects to the Company’s financial statements as included with the 10QSB/A for the fiscal quarter ended March 31, 2007 as filed.

PART II

Item 1. Legal Proceedings.

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

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

Not applicable

Item 3. Defaults Upon Senior Securities.

Not applicable.

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

Not applicable.

Item 5. Other Information.

Not applicable.

Item 6.

Exhibits.

Exhibit Number		Description
3.10		Restated Certificate of Incorporation (Incorporated by reference to the Registration Statement on Form SB-2 filed on February 12, 2007.)
31.1		Certification by Chief Executive Officer, required by Rule 13a-14(a) or Rule 15d-14(a) of the Exchange Act.
31.2		Certification by Chief Financial Officer, required by Rule 13a-14(a) or Rule 15d-14(a) of the Exchange Act.
32.1		Certification by Chief Executive Officer, required by Rule 13a-14(b) or Rule 15d-14(b) of the Exchange Act and Section 1350 of Chapter 63 of Title 18 of the United States Code.
32.2		Certification by and Chief Financial Officer, required by Rule 13a-14(b) or Rule 15d-14(b) of the Exchange Act and Section 1350 of Chapter 63 of Title 18 of the United States Code.

SIGNATURES

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

LATTICE INCORPORATED

Date: September 13, 2007	By:	/s/ Paul Burgess
		Paul Burgess
		President, Chief Executive Officer and Director

Date: September 13, 2007	By:	/s/ Joe Noto
		Joe Noto
		Chief Financial Officer and Principal Accounting Officer