Accel Brands 424B3 Prospectus supplement

		Page

PART I. FINANCIAL INFORMATION:

Item 1. Financial Statements (Unaudited)

Condensed Consolidated Balance Sheet at December 31, 2006		1

Condensed Consolidated Statements of Operations for the Six Months Ended December 31, 2006 and 2005		2

Condensed Consolidated Statements of Operations for the Three Months Ended December 31, 2006 and 2005		3

Condensed Consolidated Statement of Stockholders’ Equity for the Six Months Ended December 31, 2006		4

Condensed Consolidated Statements of Cash Flows for the Six Months Ended December 31, 2006 and 2005		5

Notes to Condensed Consolidated Financial Statements		7

Item 2. Management’s Discussion and Analysis or Plan of Operation		23

Item 3. Controls and Procedures		44

PART II. OTHER INFORMATION

Item 1. Legal Proceedings		44

Item 4. Submission of Matters to a Vote of Security Holders		45

Item 6. Exhibits		47

Signatures		48

STATEMENTS CONTAINED IN THIS FORM 10-QSB, WHICH ARE NOT HISTORICAL FACTS CONSTITUTE FORWARD-LOOKING STATEMENTS AND ARE MADE UNDER THE SAFE HARBOR PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995. FORWARD-LOOKING STATEMENTS INVOLVE SUBSTANTIAL RISKS AND UNCERTAINTIES. YOU CAN IDENTIFY THESE STATEMENTS BY FORWARD-LOOKING WORDS SUCH AS "MAY", "WILL", "EXPECT", "ANTICIPATE", "BELIEVE", "ESTIMATE", "CONTINUE", AND SIMILAR WORDS. YOU SHOULD READ STATEMENTS THAT CONTAIN THESE WORDS CAREFULLY. ALL FORWARD-LOOKING STATEMENTS INCLUDED IN THIS FORM 10-QSB ARE BASED ON INFORMATION AVAILABLE TO US ON THE DATE HEREOF, AND WE ASSUME NO OBLIGATION TO UPDATE ANY SUCH FORWARD-LOOKING STATEMENTS. EACH FORWARD-LOOKING STATEMENT SHOULD BE READ IN CONJUNCTION WITH THE FINANCIAL STATEMENTS AND NOTES THERETO IN PART I, ITEM 1, OF THIS QUARTERLY REPORT AND WITH THE INFORMATION CONTAINED IN ITEM 2 TOGETHER WITH MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION CONTAINED IN OUR ANNUAL REPORT ON FORM 10-KSB FOR THE YEAR ENDED JUNE 30, 2006, INCLUDING, BUT NOT LIMITED TO, THE SECTION THEREIN ENTITLED "RISK FACTORS."

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

TECHNEST HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEET

DECEMBER 31, 2006

(Unaudited)

ASSETS

Current Assets
Cash and cash equivalents	$	1,626,441
Accounts receivable		8,510,019
Unbilled receivables		889,302
Restricted cash		250,000
Inventory		229
Prepaid expenses and other current assets		103,816
Total Current Assets		11,379,807

Property and Equipment - Net of accumulated depreciation and amortization of $875,302		597,290

Other Assets
Deposits		87,432
Deferred financing costs - Net of accumulated amortization of $171,162		1,112,847
Definite-lived intangible assets -
Net of accumulated amortization of $4,378,548		10,659,506
Goodwill		14,035,551
Total Other Assets		25,895,336
	$	37,872,433

LIABILITIES AND STOCKHOLDERS’ EQUITY

Current Liabilities
Accounts payable	$	10,038,756
Accrued expenses and other current liabilities		3,692,203
Due to related party		442,829
Revolving line of credit		3,360,635
Current portion of long-term debt		1,794,744
Total Current Liabilities		19,329,167

Non Current Liabilities
Long-term debt, less current portion and discount of $190,288		2,337,520
Total Liabilities		21,666,687

Commitments and Contingencies

Stockholders’ Equity
Series A Convertible Preferred Stock - $.001 par value; 150 shares authorized; 64.325 shares issued and outstanding (preference in liquidation of $64,325 at December 31, 2006)		--
Series C Convertible Preferred Stock - $.001 par value; 1,149,425 shares authorized: 632,185 issued and outstanding (preference in liquidation of $1,375,002 at December 31, 2006)		632
Common stock - par value $.001 per share; 500,000,000 shares authorized; 16,618,347 shares issued and outstanding		16,617
Additional paid-in capital		35,171,839
Accumulated deficit		(18,983,342)
Total Stockholders’ Equity		16,205,746
	$	37,872,433

See notes to condensed consolidated financial statements.

TECHNEST HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

	For the Six Months Ended December 31,
	2006		2005

Revenues	$	35,720,510	$	37,285,917

Cost of Revenues (including $344,566 and $-0- to related parties in the six months ended December 31, 2006 and 2005, respectively)		28,646,974		30,227,124
Gross Profit		7,073,536		7,058,793

Operating Expenses:
Selling, general and administrative (including $500,000 to related parties in the six months ended December 31, 2006 and 2005, respectively)		7,464,434		6,311,234
Research and development		33,617		138,448
Amortization of intangible assets		893,023		893,122
Total Operating Expenses		8,391,074		7,342,804

Operating Loss		(1,317,538)		(284,011)

Other Expenses (Income), Net
Interest expense		2,461,791		1,595,820
Derivative income		--		(25,046,489)
Other income, net		(33,926)		(83,178)
Total Other Expenses (Income), Net		2,427,865		(23,533,847)

Net Income (Loss)	$	(3,745,403)	$	23,249,836

Basic Income (Loss) Per Common Share	$	(0.23)	$	1.58

Diluted Income (Loss) Per Common Share	$	(0.23)	$	1.47

Weighted Average Number of Common Shares Outstanding - Basic		16,234,986		14,719,365
- Diluted		16,234,986		15,807,465

See notes to condensed consolidated financial statements.

(Reflects reverse stock split of 1 for 211.18 on July 19, 2005)

TECHNEST HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

	For the Three Months Ended December 31,
	2006		2005

Revenues	$	15,750,872	$	18,289,576

Cost of Revenues (including $283,403 and $-0- to related parties in the three months ended December 31, 2006 and 2005, respectively)		12,437,451		14,636,669
Gross Profit		3,313,421		3,652,907

Operating Expenses:
Selling, general and administrative (including $250,000 to related parties in the three months ended December 31, 2006 and 2005, respectively)		3,708,528		3,343,894
Research and development		28,193		77,703
Amortization of intangible assets		446,512		452,253
Total Operating Expenses		4,183,233		3,873,850

Operating Loss		(869,812)		(220,943)

Other Expenses (Income), Net
Interest expense		1,009,332		852,781
Other income, net		(6,032)		(52,596)
Total Other Expenses, Net		1,003,300		800,185

Net Loss	$	(1,873,112)	$	(1,021,128)

Basic and Diluted Loss Per Common Share	$	(0.11)	$	(0.07)

Weighted Average Number of Common Shares Outstanding		16,432,728		15,141,121

See notes to condensed consolidated financial statements.

(Reflects reverse stock split of 1 for 211.18 on July 19, 2005)

TECHNEST HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY

FOR THE SIX MONTHS ENDED DECEMBER 31, 2006

(Unaudited)

	COMMON STOCK			SERIES A CONVERTIBLE PREFERRED STOCK			SERIES C CONVERTIBLE PREFERRED STOCK			ADDITIONAL PAID IN CAPITAL		ACCUMULATED DEFICIT		TOTAL STOCKHOLDERS' EQUITY
	SHARES	AMOUNT		SHARES	AMOUNT		SHARES	AMOUNT		AMOUNT		AMOUNT		AMOUNT
Balance - July 1, 2006	15,867,911	$	15,867	64	$	--	632,185	$	632	$	32,404,174	$	(15,237,939)	$	17,182,734

Stock issued in connection with liquidated damages associated with registration rights agreements	590,657		590	--		--	--		--		1,241,237		--		1,241,827

Stock issued to note holders in connection with subordination of security interest for bank financing	99,779		100	--		--	--		--		344,138		--		344,238

Issuance and amortization of stock-based compensation related to restricted stock grants	60,000		60	--		--	--		--		711,520		--		711,580

Fair value of warrants issued in connection with bank financing	--		--	--		--	--		--		217,732		--		217,732

Fair value of warrants issued to a consultant	--		--	--		--	--		--		253,038		--		253,038

Net loss	--		--	--		--	--		--		--		(3,745,403)		(3,745,403)

Balance - December 31, 2006	16,618,347	$	16,617	64	$	--	632,185	$	632	$	35,171,839	$	(18,983,342)	$	16,205,746

See notes to condensed consolidated financial statements.

(Reflects reverse stock split of 1 for 211.18 on July 19, 2005)

TECHNEST HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE SIX MONTHS ENDED DECEMBER 31, 2006 AND 2005

(Unaudited)

	2006		2005
Cash Flows From Operating Activities:

Net income (loss)	$	(3,745,403)	$	23,249,836

Adjustment to reconcile net income (loss) to net cash used in operating activities:
Derivative income		--		(25,046,489)
Depreciation and amortization of property and equipment		212,119		179,492
Amortization of intangible assets		893,023		893,122
Common stock issued in settlement of liquidated damages		1,241,827		1,150,000
Non-cash interest expense		861,643		146,797
Stock-based compensation		711,580		96,339
Fair value of warrants issued to a consultant		253,038		--
Changes in operating assets and liabilities:
Accounts receivable		864,860		678,525
Unbilled receivables		1,164,819		--
Inventory and work in process		20,006		279,768
Deposits and prepaid expenses and other current assets		38,354		399,644
Restricted cash		--		(250,000)
Due to related parties		(152,953)		(1,476,521)
Accounts payable		(3,206,681)		(1,479,238)
Accrued expenses and other current liabilities		(1,156,732)		129,375
Net Cash Used In Operating Activities		(2,000,500)		(1,049,350)

Cash Flows From Investing Activities:
Purchase of property and equipment		(37,121)		(166,429)
Net Cash Used In Investing Activities		(37,121)		(166,429)

Cash Flows From Financing Activities:
Proceeds from term loan		3,000,000		--
Proceeds from revolving line of credit, net		3,360,635		--
Payment of debt issuance costs		(141,667)		--
Payment of loan guarantee fee to Markland		(580,372)		--
Repayment of term loan		(333,333)		--
Repayment of notes payable		(5,003,411)		(633,433)
Net Cash Provided by (Used in) Financing Activities		301,852		(633,433)

TECHNEST HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE SIX MONTHS ENDED DECEMBER 31, 2006 AND 2005 (concluded)

(Unaudited)

	2006		2005

Net Decrease In Cash		(1,735,769)		(1,849,212)

Cash And Cash Equivalents - Beginning Of Period		3,362,210		5,862,608

Cash And Cash Equivalents - End Of Period	$	1,626,441	$	4,013,396

Supplemental Disclosures Of Cash Flow Information:

Cash paid during the periods for:
Interest	$	307,258	$	225,631

Taxes	$	--	$	--

Non-cash investing and financing activities:

Fair value of common stock and warrants issued as deferred financing costs	$	561,970	$	--

See notes to condensed consolidated financial statements.

TECHNEST HOLDINGS, INC AND SUBSIDIARIES

NOTES TO CONDENSED AND CONSOLIDATED FINANCIAL STATEMENTS

For the Six Months Ended December 31, 2006 and 2005

(Unaudited)

1. NATURE OF OPERATIONS

Business History

Technest Holdings, Inc. (“Technest” or “the Company”) had no operations between October 10, 2003 and February 14, 2005.

On February 14, 2005, Technest became a majority owned subsidiary of Markland Technologies, Inc. (“Markland”), a homeland defense, armed services and intelligence contractor. Technest issued to Markland 1,954,023 shares of its common stock, representing at the time of the acquisition a 93% ownership interest in Technest’s common stock on a primary basis, in exchange for 10,168,764 shares of Markland common stock which were used as partial consideration for the concurrent acquisition of Genex Technologies, Inc. (“Genex”). The acquisition of Genex was effected pursuant to an Agreement and Plan of Merger dated February 14, 2005 (the "Merger Agreement"), by and among Markland, Technest, MTECH Acquisition, Inc. ("MTECH"), a wholly-owned subsidiary of Technest, Genex and Jason Geng, the sole stockholder of Genex.

Effective June 29, 2004, Markland acquired 100% of the outstanding common stock of E-OIR Technologies, Inc. (“EOIR”), a company incorporated under the laws of the Commonwealth of Virginia, in conjunction with a Stock Purchase Agreement dated June 29, 2004 ("the Acquisition"). Markland agreed to pay the stockholders of EOIR $19,000,000, consisting of $8,000,000 in cash and promissory notes of $11,000,000. Additionally, Markland issued certain members of EOIR's management team options to purchase approximately $4,000,000 of Markland common stock. As a result of this transaction, EOIR became a wholly-owned subsidiary of Markland effective June 29, 2004.

On August 17, 2005, pursuant to a Stock Purchase Agreement with Markland, Technest purchased all of the outstanding stock of EOIR. As consideration for this purchase, Technest issued 12 million shares of its common stock to Markland. As a result of this transaction, EOIR became a wholly-owned subsidiary of Technest effective August 17, 2005. Since this was a transaction between entities under common control, in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 141, “Business Combinations”, Appendix D, Technest recognized the net assets of EOIR at their carrying amounts in the accounts of Markland on the date Technest came into Markland’s control group, February 14, 2005 and restated the financial statements to include the activity of EOIR from that date forward (see Note 3).

In connection with these acquisitions, the accounts of Technest and Genex have been adjusted using the push-down basis of accounting to recognize the allocation of the consideration paid to the respective net assets acquired.

Our business, as it exists today, consists primarily of providing advanced engineering and research and development services in the areas of remote sensor systems and technologies, intelligent surveillance, chemical and explosives detection, and advanced technologies research and development.

Reorganization and Restatement

On August 17, 2005, pursuant to a Stock Purchase Agreement with Markland Technologies, Inc., Technest’s majority stockholder, Technest purchased all of the outstanding stock of E-OIR Technologies, Inc., formerly one of Markland’s wholly-owned subsidiaries. As consideration for the stock of EOIR, Technest issued 12 million shares of its common stock to Markland. Markland’s ownership of Technest increased, at the time of the transaction, from 85% to approximately 98% on a primary basis and from 39% to approximately 82% on a fully diluted basis (assuming the conversion of all convertible securities and the exercise of all warrants to purchase Technest common stock). Accordingly, this reorganization did not result in a change of control of EOIR and Technest did not need stockholder consent in order to complete this reorganization. Since this is a transaction between entities under common control, in accordance with SFAS No. 141, “Business Combinations”, Appendix D, the Company recorded the net assets of EOIR at their carrying value on the date Technest came into Markland’s control group, February 14, 2005 and the Company has restated its financial statements to include EOIR from this date (see Note 3). Markland acquired EOIR on June 29, 2004.

Technest also corrected its accounting for derivative financial instruments to conform to the requirements of Statements of Financial Accounting Standards ("SFAS") No. 133, as amended, and Emerging Issues Task Force No. ("EITF") 00-19 (See Notes 2 and 5). For certain warrants issued by Technest in February 2005, Technest could not conclude that the warrants were able to be settled in unregistered shares of common stock due to liquidated damage provisions in registration rights agreements. Therefore the warrants did not meet the requirements for classification as equity instruments. Instead, the warrants were recorded as liabilities and carried at fair value. Fair value adjustments to these derivative liabilities are charged (credited) to the statement of operations.

The impact of the restatement on the financial statements for the six months ended December 31, 2005 to correct the accounting for the warrants is as follows:

	As originally stated		Impact of restatement		As restated
Net income (loss)	$	(1,796,653)	$	25,046,489	$	23,249,836

Net income (loss) applicable to common stockholders	$	(1,796,653)	$	25,046,489	$	23,249,836

Basic net income (loss) applicable to common stockholders per common share	$	(0.12)	$	1.70	$	1.58
Diluted net income (loss) applicable to common stockholders per common share	$	(0.12)	$	1.59	$	1.47

There was no impact on the financial statements for the three months ended December 31, 2005 as a result of the restatement.

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements of Technest have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information, without being audited, pursuant to the rules and regulations of the Securities and Exchange Commission. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary to make the financial statements not misleading have been included. Operating results for the six months ended December 31, 2006 are not necessarily indicative of the result that may be expected for the year ending June 30, 2007. The unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and footnotes included in the Company's 10-KSB for the year ended June 30, 2006 filed with the Securities and Exchange Commission.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation

The condensed consolidated financial statements include the accounts of Technest and its wholly-owned subsidiaries, Genex Technologies, Inc. and EOIR Technologies, Inc. All significant inter-company balances and transactions have been eliminated in consolidation.

Use of Estimates

The preparation of the accompanying consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. Significant estimates that are particularly susceptible to change are the revenue recognized under the percentage of completion method on firm fixed price contracts, allowance for doubtful accounts, the estimated useful lives of property and equipment, carrying value of goodwill, useful lives of definite-lived intangible assets, the realizability of deferred tax assets, the amount due to contracting government agencies as a result of their audits, the fair value allocation of consideration paid to the net assets of businesses acquired and the fair value of derivative liabilities and equity instruments issued.

Concentrations

A significant portion of revenue is generated from contracts with Federal government agencies. Including one contract with the U.S. Army which represented approximately $30.6 million of revenue for the six months ended December 31, 2006. Consequently, a significant portion of all accounts receivable are due from Federal government agencies either directly or through other government contractors.

Cash and Cash Equivalents

The Company considers all highly liquid investments with maturities of ninety days or less to be cash equivalents. Cash equivalents consist of money market mutual funds as of December 31, 2006. The Company has cash balances in banks in excess of the maximum amount insured by the FDIC as of December 31, 2006.

Restricted Cash

Restricted cash represents a one year certificate of deposit, maturing April 2007, collateralizing a letter of credit in the amount of $250,000 issued in favor of a bank in conjunction with the Company’s corporate credit cards.

Accounts Receivable

Accounts receivable represent the amount invoiced for product shipped and amounts invoiced by the Company under contracts. An allowance for doubtful accounts is determined based on management's best estimate of probable losses inherent in the accounts receivable balance. Management assesses the allowance based on known trouble accounts, historical experience and other currently available evidence.

A significant portion of the Company's receivables are due from government contracts, either directly or as a subcontractor. The Company has not experienced any material losses in accounts receivable related to these contracts and has provided no allowance at December 31, 2006. If management determines amounts to be uncollectible, they will be charged to operations when that determination is made.

Unbilled receivables represent amounts earned related to allowable costs incurred under contracts but not billed.

Inventory

Inventories are stated at the lower of cost or market. Cost is determined by the first-in, first-out method and market represents the lower of replacement costs or estimated net realizable value.

Property and Equipment

Property and equipment are valued at cost and are being depreciated over their useful lives using the straight-line method for financial reporting. Routine maintenance and repairs are charged to expense as incurred. Expenditures which materially increase the value or extend useful lives are capitalized.

Property and equipment are depreciated using straight-line methods over the estimated useful lives of assets as follows:

	Software	3 years
	Computer equipment	3 years
	Furniture and fixtures	5-7 years
	Leasehold improvements	Shorter of useful life and lease term
	Vehicles	5 years

Property and equipment consisted of the following at December 31, 2006:

Software	$	180,057
Computer equipment		691,252
Furniture and fixtures		345,275
Leasehold improvements		222,338
Vehicles		33,670
		1,472,592
Less accumulated depreciation and amortization		(875,302	)
	$	597,290

Depreciation and amortization expense for the six months ended December 31, 2006 and 2005 was $212,119 and $179,492, respectively.

Definite-lived Intangible Assets

Included in definite-lived intangible assets are the amounts assigned to customer relationships and contracts and patents acquired in connection with business combinations. Also included are certain costs of outside legal counsel related to obtaining new patents.

Patent costs are amortized over the legal life of the patents, generally fifteen years, starting on the patent issue date. The costs of unsuccessful and abandoned patent applications are expensed when abandoned. The cost to maintain existing patents are expensed as incurred. The nature of the technology underlying these patents relates primarily to 3D imaging, intelligent surveillance and 3D facial recognition technologies. As of December 31, 2006, certain of these technologies have been licensed to Markland.

With the acquisition of Genex, Technest acquired commercialized technology relating to 3D facial recognition cameras and contracts and customer relationships from the application of 3D imaging technologies to breast cancer research for the National Institute of Health and disposable sensors and 3D face mapping for the U.S. Department of Defense. The amounts assigned to these definite-lived intangible assets were determined by management based on a number of factors including an independent purchase price allocation analysis. These assets are being amortized over their estimated useful life of five years.

Contracts and Customer Relationships acquired as a result of business combinations have been valued by management considering various factors including independent appraisals done by valuation and financial advisory firms in accordance with SFAS No. 141, “Business Combinations”, SFAS No. 142, “Goodwill and Other Intangible Assets”, Financial Accounting Standards Board (“FASB”) Concepts Statement Number 7 and Emerging Issued Task Force (“EITF”) Issue No. 02-17, “Recognition of Customer Relationship Assets Acquired in a Business Combination”. These assets are being amortized over the contractual terms of the existing contracts plus anticipated contract renewals in accordance with EITF Issue No. 02-17.

Fair Value of Financial Instruments

The financial statements include various estimated fair value information at December 31, 2006, as required by SFAS No. 107, "Disclosures about Fair Value of Financial Instruments." Financial instruments are initially recorded at historical cost. If subsequent circumstances indicate that a decline in the fair value of a financial asset is other than temporary, the financial asset is written down to its fair value.

Unless otherwise indicated, the fair values of financial instruments approximate their carrying amounts. By their nature, all financial instruments involve risk, including credit risk for non-performance by counterparties. The maximum potential loss may exceed any amounts recognized in the consolidated balance sheets.

The fair value of cash, accounts receivable and long-term debt approximate their recorded amounts because of their relative market and settlement terms. The fair value of the notes payable issued to the former owners of EOIR have been recorded at their fair value. Management was primarily responsible for determining this fair value and in making its determination, management considered a number of factors, including an independent valuation.

Operating Segments

The Company operates in two Operating Segments as defined in paragraph 10 of SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information”. These are (1) the business of EOIR which primarily consists of products and services in remote sensing technology and (2) the business of Genex which primarily consists of research and development, design and fabrication of 3D imaging and of intelligent surveillance products. Further, since both these operating segments have similar economic characteristics, as well as similar products and services, production processes, customers, distribution methods and regulatory environment, the Company concluded that they meet the aggregation criteria outlined in paragraph 17 of SFAS No. 131. Therefore, the Company aggregates the two operating segments into a single reportable segment in accordance with paragraph 16 of SFAS No. 131.

Revenue Recognition

Revenues from products are recognized when the following criteria are met: (1) there is persuasive evidence of an arrangement, such as contracts, purchase orders or written requests; (2) delivery has been completed and no significant obligations remain; (3) price to the customer is fixed or determinable; and (4) collection is probable. Revenues from services related to border security logistic support are recognized at the time these services are performed.

Revenues from time and materials contracts are recognized as costs are incurred and billed. Allowable costs incurred but not billed as of a period end are recorded as work in process.

Revenues from firm fixed price contracts are recognized on the percentage-of-completion method, either measured based on the proportion of costs recorded to date on the contract to total estimated contract costs or measured based on the proportion of labor hours expended to date on the contract to total estimated contract labor hours, as specified in the contract.

EOIR participates in teaming agreements where they are the primary contractor and they participate with other organizations to provide complex integrated remote sensor product and technology development services to the Federal government. EOIR has managerial and oversight responsibility for all team members as well as the responsibility for the ultimate acceptability of all integrated technical performance criteria under the contracts for deliverable services and products. EOIR, as the prime contractor who accepts risks for these customer funded tasks, includes as revenues the amounts that they bill under these teaming arrangements and include as direct costs amounts that are reimbursable or paid to team members because these teaming arrangements meet the criteria for gross revenue reporting as discussed in EITF Issue No. 99-19, “Reporting Revenue Gross as a Principal versus Net as an Agent”. This policy on revenue recognition is also supported by paragraph 60 of the AICPA’s Statement of Position No. 81-1 “Accounting for Performance of Construction-Type and Certain Production-Type Contracts”. Revenues under teaming arrangements amounted to approximately $1.9 million for the six months ended December 31, 2006.

Shipping Costs

Delivery and shipping costs are included in cost of revenue in the accompanying consolidated statements of operations.

Research and Development

The Company charges unfunded research and development costs to expense as incurred. Funded research and development is part of the Company's revenue base and the associated costs are included in cost of revenues. The Company capitalizes costs related to acquired technologies that have achieved technological feasibility and have alternative uses. The Company expenses as research and development costs the technologies we acquire if they are in process at the date of acquisition or have no alternative uses.

Income Taxes

In accordance with SFAS No. 109, “Accounting for Income Taxes,” the Company allocates current and deferred taxes as if it were a separate tax payer.

Since its acquisition by Markland, the Company files consolidated income tax returns with Markland and, for financial statement purposes, computes its provision or benefit for income taxes based on the income and expenses reported in the Company’s statements of operations. The allocation is not subject to a tax sharing arrangement with Markland and it is based on the tax effect of the Company’s operations as if it had not been included in a consolidated return, based on the preacquisition book and tax basis of the Company’s assets and liabilities. Therefore, the impact of applying push down accounting to the Company is not considered in determining the Company’s provision for income taxes. Amounts included in the Company’s statement of operations related to the impact of push down accounting, including the amortization of definite-lived intangible assets and stock-based compensation, have been considered permanent differences for purposes of the intercompany tax allocation.

Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, and operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which these temporary differences are expected to be recovered or settled. A deferred tax asset is recorded for net operating loss and tax credit carry forwards to the extent that their realization is more likely than not. The deferred tax benefit or expense for the period represents the change in the deferred tax asset or liability from the beginning to the end of the period.

Income (Loss) Per Share

Basic and diluted net income (loss) per common share has been computed based on the weighted average number of shares of common stock outstanding during the periods presented. Basic net income (loss) per share is computed by dividing net income (loss) by weighted-average common shares outstanding during the year. Diluted net income(loss) per share is computed by dividing net income (loss) by the weighted-average number of common and dilutive option and warrant shares outstanding based on the average market price of Technest’s common stock (under the treasury stock method).

Common stock equivalents, consisting of Series A and C Convertible Preferred Stock and warrants were not included in the calculation of the diluted loss per share in the six months ended December 31, 2006 because their inclusion would have had the effect of decreasing the loss per share otherwise computed.

The following table sets forth the computation of the weighted-average number of shares used in calculating basic and diluted net income per share in the six months ended December 31, 2005:

Weighted-average shares outstanding for basic net income per share			14,719,365
Series A Convertible Preferred Stock			306,028
Series C Convertible Preferred Stock			747,127
Warrants to purchase common stock			34,945
Total shares for diluted net income per share			15,807,465

For purposes of computing the weighted average number of common shares outstanding, the Company assumed that the 12,000,000 shares of common stock issued to Markland in conjunction with the acquisition of EOIR (see Note 3) were issued on February 14, 2005.

Net income (loss) per share for all prior periods have been retroactively restated to reflect a 1 for 211.18 reverse stock split effective at the close of business on July 19, 2005.

Impairment of Intangible Assets

The Company records as goodwill the excess of the purchase price over the fair value of the identifiable net assets acquired. Goodwill is identified and recorded at the reporting unit level as required by paragraphs 30-31 of SFAS No 142, "Goodwill and Other Intangible Assets". SFAS No. 142 prescribes a two-step process for impairment testing, at the reporting unit level, of goodwill annually as well as when an event triggering impairment may have occurred. The first step tests for impairment, while the second step, if necessary, measures the impairment. The Company has determined that its reporting units are its operating segments since this is the lowest level at which discrete financial information is available and regularly reviewed by management. The Company has elected to perform its annual analysis during the fourth quarter of each fiscal year. No indicators of impairment were identified in the six months ended December 31, 2006.

Impairment of Long-Lived Assets

Pursuant to SFAS No. 144, "Accounting for the Impairment or Disposal of Long-lived Assets", Technest continually monitors events and changes in circumstances that could indicate carrying amounts of long-lived assets may not be recoverable. An impairment loss is recognized when expected cash flows are less than the asset's carrying value. Accordingly, when indicators of impairment are present, Technest evaluates the carrying value of such assets in relation to the operating performance and future undiscounted cash flows of the underlying assets. Technest’s policy is to record an impairment loss when it is determined that the carrying amount of the asset may not be recoverable. No impairment charges were recorded in the six months ended December 31, 2006.

Derivative Instruments

Technest generally does not use derivative instruments to hedge exposures to cash-flow or market risks. However, certain warrants to purchase common stock that are indexed to the Company's common stock were classified as liabilities when the Company was not permitted to settle the instruments in unregistered shares. In such instances, net-cash settlement is assumed for financial reporting purposes, even when the terms of the underlying contracts do not provide for net-cash settlement. Such financial instruments were initially recorded at relative fair value with subsequent changes in fair value charged (credited) to operations in each reporting period. If the Company subsequently achieves the ability to settle the instruments in unregistered shares, the instruments are reclassified to equity at their fair value.

Stock-Based Compensation

On July 1, 2006, the Company adopted the provisions of SFAS No. 123(R), “Share-Based Payment”, which is a revision of SFAS No. 123, “Accounting for Stock Based Compensation”. There was no cumulative effect to the Company as a result of adopting this new accounting principle. Under SFAS No. 123(R), the Company now recognizes compensation costs resulting from the issuance of stock-based awards to employees and directors as an expense in the statement of operations over the service period based on a measurement of fair value for each stock award. As permitted under SFAS No. 123, prior to July 1, 2006, the Company accounted for its stock-based employee and director awards under the recognition and measurement principles of Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees”, and related interpretation including Financial Accounting Standards Board ("FASB") Interpretation No. 44, "Accounting for Certain Transactions Involving Stock Compensation", an interpretation of APB No. 25. Under this intrinsic value method, compensation expense represented the excess, if any, of the quoted market price of the Company’s common stock at the grant date over the exercise price.

Had the Company followed the fair value method in accounting for its stock-based employee compensation it would have had the following effect on the net income for the six months ended December 31, 2005.

	Six months ended December 31,
	2005
Net income as reported	$	23,249,836
Add: stock-based employee compensation under intrinsic value method included in net loss		96,339
Deduct: stock-based employee compensation under fair value method		(196,958)
Pro forma net income (loss) to applicable to common stockholders	$	23,149,217
Basic income per share - as reported	$	1.58
Basic income per share - pro forma	$	1.57
Diluted income per share - as reported	$	1.47
Diluted income per share - pro forma	$	1.46

There was no effect on the net loss for the three months ended December 31, 2005.

Recent Accounting Pronouncements

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. This statement is effective for financial statements issued for fiscal years beginning after Nov. 15, 2007. The Company is currently evaluating the impact of SFAS 157 on the consolidated financial statements.

In September 2006, the SEC issued Staff Accounting Bulletin No. 108 (“SAB 108”). SAB 108 considers the effects of prior year misstatements when quantifying misstatements in current year financial statements. It is effective for fiscal years ending after Nov. 15, 2006. The Company does not believe the adoption of SAB 108 will have a material impact on the consolidated financial statements.

In June 2006, the FASB issued FIN 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. FIN 48 requires financial statement recognition of the impact of a tax position, if that position is more likely than not to be sustained on examination, based on the technical merits of the position. The provisions of FIN 48 will be effective for financial statements issued for fiscal years beginning after Dec. 15, 2006, with the cumulative effect of the change in accounting principle recorded as an adjustment to opening retained earnings. The Company is currently evaluating the impact of FIN 48 on the consolidated financial statements.

3. ACQUISITIONS

Acquisition of EOIR and Restatement

On August 17, 2005, pursuant to a Stock Purchase Agreement with Markland Technologies, Inc., our majority stockholder, we purchased all of the outstanding stock of E-OIR Technologies, Inc., formerly one of Markland’s wholly-owned subsidiaries. As consideration for the stock of EOIR, we issued 12 million shares of our common stock to Markland. Markland’s ownership of Technest increased, at the time of the transaction, from 85% to approximately 98% on a primary basis and from 39% to approximately 82% on a fully diluted basis (assuming the conversion of all of our convertible securities and the exercise of all warrants to purchase Technest common stock). Accordingly, this reorganization did not result in a change of control of EOIR and Technest did not need stockholder consent in order to complete this reorganization. Since this is a transaction between entities under common control, in accordance with Statement of Financial Accounting Standards (SFAS) No. 141, “Business Combinations”, Appendix D, the Company recorded the net assets of EOIR at their carrying value on the date Technest came into Markland’s control group, February 14, 2005 and the Company has restated its financial statements to include EOIR from this date (see Note 1). Additionally, the Company has reported the results of operations and cash flows as though the transfer of EOIR occurred at the beginning of the periods presented. Financial statements and financial information for prior periods has been restated to include the results of EOIR in order to provide comparative information. Markland acquired EOIR on June 29, 2004. EOIR generated approximately 97% of Markland’s revenue for its fiscal year ended June 30, 2005.

4. DEFINITE-LIVED INTANGIBLE ASSETS

Definite-lived intangible assets consist of the following at December 31, 2006:

Patents	$	601,110
Customer relationships and contracts		14,436,944
Accumulated amortization		(4,378,548	)
Net definite-lived intangible asset	$	10,659,506

Amortization expense was $893,023 and $893,122 for the six months ended December 31, 2006 and 2005, respectively.

5. DERIVATIVE LIABILITY

On February 14, 2005, in conjunction with the issuance of Technest’s Series B and C Convertible Preferred Stock, the Company issued warrants to purchase 1,149,425 shares of common stock at $6.50 per share. The shares issuable upon exercise of these warrants are covered by a Registration Rights Agreement which requires the Company to pay certain liquidated damages in the event that the Company does not have an effective registration statement. Due to the significance of the liquidated damages potentially due under the Registration Rights Agreement, the Company must conclude that settling the warrants in unregistered shares was “uneconomic”. Since it is not within the Company’s control to settle the warrants in registered shares, the Company is required to assume that the warrants will be net-cash settled. As a result, under EITF 00-19, the warrants did not meet the definition of equity instruments.

On September 30, 2005, the Company amended the terms of the Registration Rights Agreement such that any liquidated damages would only be payable in common stock. As a result of this amendment, the Company was able to conclude that the settlement of the warrants in unregistered shares was no longer uneconomic. Therefore, on September 30, 2005, the then fair value of the warrants, $1,917,127, was reclassified from derivative liabilities to additional paid-in capital.

In the six months ended December 31, 2005 changes in the fair value of the warrants recorded as derivative income in the statements of operations was $25,046,489.

6. LONG-TERM DEBT AND REVOLVING LINE OF CREDIT

Bank loan

On August 10, 2006, Technest, EOIR and Genex, closed on a financing (the “Financing”) under two Loan and Security Agreements with Silicon Valley Bank (the “Bank”). One Credit Agreement provides for a term loan facility under which the Company may borrow term loans with an initial minimum loan of $3,000,000 (the “Term Loan”). The other Credit Agreement provides for a one year revolving line of credit for up to $8,750,000 (the “Revolver”), provided that the Company’s borrowing under the Revolver is limited to 80% of Eligible Accounts Receivable, as defined. In addition, the maximum amount outstanding under both Credit Agreements at any time may not exceed $10,000,000. Both the Term Loan Facility and the Revolver are secured by all of the Company’s assets and the assets of its subsidiaries, including all intellectual property.

Upon the date of closing under the Credit Agreements, the Company borrowed the entire $3,000,000 available under the Term Loan facility and borrowed approximately $4,445,000 under the Revolver. At December 31, 2006, the outstanding balance was $2,666,667 on the Term Loan and $3,360,635 on the Revolver.

Interest on all outstanding amounts under the Term Loan is payable monthly at a rate equal to the Bank’s prime rate plus 2.75%. Each loan under the Term Loan is repayable in 36 equal monthly principal installments (currently $83,333) plus accrued interest.

The Revolver bears interest at a rate equal to the Bank’s prime rate plus 0.50% per annum, but the Company must pay a minimum quarterly amount equal to the interest on an outstanding balance of $1,400,000. In addition, the Company pays a monthly collateral handling fee of 0.10% per month on financed receivables. Interest and handling fees are paid as invoices are collected.

The Bank’s prime rate as of December 31, 2006 was 8.25%.

The financial covenants under the Term Loan require that the Company maintain, on a monthly basis tested as of the last day of each month, a minimum quick ratio (representing the ratio of quick assets (or cash and accounts receivable) plus total marketable securities to current liabilities, plus all short-term indebtedness to the Bank but excluding subordinated debt and debt from affiliates) of 0.70 to 1.0 through November 30, 2006, 0.85 to 1.0 from December 31, 2006 through May 31, 2007, 1.0 to 1.0 from June 30, 2007 through August 31, 2007 and 1.20 to 1.0 from December 31, 2007 and all monthly reporting periods thereafter. If the Company does not maintain these ratios, then the sum of the Company’s cash plus 80% of eligible accounts receivable minus borrowings under the Revolver must exceed $2,000,000. The Company must maintain a Fixed Charge Coverage Ratio, as defined, measured on the last day of every month for the three month period ending on the last day of such month, of at least 1:0 to 1:0 through periods ending November 30, 2006; at least 1.25:1.0 for periods ending on December 31, 2006 through May 31, 2007; and at least 1.50:1.0 for all periods thereafter. In addition, the Credit Agreements contain affirmative and negative covenants concerning the Company operations including restrictions on our ability to dispose of our assets, change our business, ownership or management, incur other indebtedness, create or permit liens on the Company’s property, make investments, pay dividends, redeem stock or engage in transactions with affiliates.

On December 31, 2006, the Company notified the Bank that it did not meet the Fixed Charge Coverage Ratio due to a negative EBITDA for the quarter ended December 31, 2006. The Company has received a waiver of its noncompliance from the Bank.

In the event of prepayment, the Company will pay to Bank a Prepayment Fee equal to: (i) three percent (3.0%) of the amount of any Term Advance prepaid during the first year of the Term Loan and (ii) two percent (2.0%) of the amount of any Term Advance prepaid for each year thereafter, prior to the Commitment Termination Date.

Markland has entered into an Unconditional Guaranty pursuant to which Markland agreed to guaranty up to $6,000,000 of the principal obligations plus interest thereon and related expenses under the Credit Agreements and a Stock Pledge Agreement pursuant to which Markland pledged to the Bank 1,739,130 shares of Technest common stock currently owned by Markland, which had a market value of $6,000,000 as of August 4, 2006. The Guaranty and the Stock Pledge Agreement terminate August 3, 2008 if no event of default has occurred. In consideration for this guarantee and stock pledge, Technest paid Markland $580,372. This amount has been recorded as a debt issuance cost and will be amortized over the life of the Term Loan of 36 months. The Company incurred additional debt issuance costs of approximately $141,667.

A summary of the deferred financing costs as of December 31, 2006 is as follows:

Payment to Markland for guaranty	$	580,372
Fair value of warrants granted to Silicon Valley Bank (see Note 8)		217,732
Fair value of common stock issued to EOIR note holders in connection with subordination (see Note 7)		344,238
Other deferred financing costs paid		141,667
Gross deferred financing costs		1,284,009
Accumulated amortization		(171,162)
Net deferred financing costs	$	1,112,847

Pre-Payment of Promissory Notes

On June 29, 2004, EOIR issued notes guaranteed by Markland in the face amount of $11,000,000 in connection with Markland’s acquisition of EOIR’s common stock. These notes accrue interest at 6% compounded monthly and are payable in quarterly installments over 60 months. The fair market value of these notes was $9,532,044 as determined by management based on a number of factors including an independent valuation. The discount of $1,467,956 is amortized to interest expense over the life of the note.

The Company used a portion of the proceeds of the Financing to pre-pay the outstanding principal of $4,952,526 of certain EOIR promissory notes issued in June 2004. After these payments, there remain outstanding, notes having a total principal balance of $1,655,885. The security interest securing these remaining notes was subordinated to the Bank’s first priority security interest.

At December 31, 2006, the face value of the notes and unamortized discount was $1,655,885 and $190,288, respectively. During the six month ended December 31, 2006, the Company amortized $690,485 to non-cash interest expense.

During the six months ended December 31, 2006, the Company also prepaid in total $50,885 of debt due to First Market Bank. There is no outstanding balance on these loans at December 31, 2006.

7. STOCKHOLDERS' EQUITY

Series B and C Convertible Preferred Stock

In conjunction with its Series B and C Convertible Preferred Stock financing, the Company has obligations under registration rights agreements. In the six months ended December 31, 2006, the Company incurred liquidated damages related to these registration rights of $1,241,827 which was charged to non-cash interest expense for the Company's failure to file a registration statement and settled by the issuance of 590,657 shares of Technest common stock. Subsequent to December 31, 2006, the Company filed the required registration statement and the registration statement became effective.

Common Stock Issuances

During the six months ended December 31, 2006, the Company issued the following amounts of common stock.

·	590,657 shares of Technest common stock with a fair value of $1,241,827 in settlement of liquidated damages for failure to have an effective registration statement which has been recorded as non-cash interest expense.

99,779 shares of Technest common stock with a fair value of $344,238 to certain employees of EOIR that hold remaining outstanding sellers notes in consideration for subordination of their security interest in the assets of the Company to Silicon Valley Bank in connection with the bank financing. This amount has been recorded as deferred financing costs (see Note 6) and will be amortized over the life of the Term Loan of 36 months. This issuance includes 23,913 shares of common stock issued to the Company’s Chairman and Chief Executive Officer, Dr. Joseph Mackin.

60,000 shares of Technest common stock between Darlene Deptula-Hicks, Robert Doto and David Gust, or non-employee directors, as compensation for their election and service on the Company’s board of directors beginning in March 2006. These shares are subject to forfeiture in the event that the grantee is not providing services to Technest as a director on April 1, 2007. The fair value of these shares was $306,000 and is being recognized as expense over the requisite service period.

8. OPTIONS AND WARRANTS

In June 2001, the Company established the 2001 Stock Option Plan ("Plan") which provides for the granting of options which are intended to qualify either as incentive stock options ("Incentive Stock Options") within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended, or as options which are not intended to meet the requirements of such section ("Non-Statutory Stock Options"). The total number of shares of common stock for issuance under the 2001 Plan shall not exceed 10,000,000. Options to purchase shares may be granted under the Plan to persons who, in the case of Incentive Stock Options, are key employees (including officers) of the Company or, in the case of Non-statutory Stock Options, are key employees (including officers) or nonemployee directors of, or nonemployee consultants to, the Company.

The exercise price of all Incentive Stock Options granted under the Plan must be at least equal to the fair market value of such shares on the date of the grant or, in the case of Incentive Stock Options granted to the holder of more than 10% of the Company's common stock, at least 110% of the fair market value of such shares on the date of the grant. The maximum exercise period for which Incentive Stock Options may be granted is ten years from the date of grant (five years in the case of an individual owning more than 10% of the Company's common stock). The aggregate fair market value (determined at the date of the option grant) of shares with respect to which Incentive Stock Options are exercisable for the first time by the holder of the option during any calendar year shall not exceed $100,000.

The exercise price of all Non-Statutory Stock Options granted under the Plan must be at least equal to 80% of the fair market value of such shares on the date of the grant.

No options were granted pursuant to the Plan during the periods ended December 31, 2006 and 2005 and there are currently no options outstanding under the Plan.

Summary information with respect to warrants is as follows:

	Number of Shares		Weighted average Exercise Price
Balance, June 30, 2006		374,286	$	6.50
Issued		275,000		2.97
Expired		-		-

Balance, December 31, 2006		649,286	$	5.00

The weighted average fair value per share of the warrants issued in the six months ended December 31, 2006 is $1.83.

The following table summarizes the Company's warrants outstanding at December 31, 2006:

Warrants outstanding and exercisable

Exercise price	Number	Expiration Date
$6.50	374,286	02/14/2010
$5.85	75,000	08/13/2013
$1.89	200,000	07/17/2011
	649,286
Weighted average remaining life			4.0 years

As of December 31, 2006 all warrants are exercisable.

As consideration for the Credit Agreements and in connection with the closing of the Financing (see Note 6), the Company issued Silicon Valley Bank a warrant to purchase 75,000 shares of Technest common stock at an exercise price of $5.85 per share with a term of 7 years. The warrant expires August 3, 2013. The Company also entered into a Registration Rights Agreement with the Bank pursuant to which we granted “piggy-back” and S-3 registration rights for the shares of Technest common stock underlying the warrant. The Registration Rights Agreement does not include any liquidated damage provisions. The fair value of this warrant was $217,732 and is recorded as deferred financing costs (see Note 6) and amortized to interest expense over the term of the Term Loan.

On July 17, 2006, the Company entered into an agreement with Crystal Research Associates to have an Executive Informational Overview independently written about the company. As part of the consideration, the Company issued Crystal Research a fully vested warrant to purchase 200,000 shares of Technest common stock at an exercise price of 110% of the closing price of the Company’s stock on July 17, 2006 or $1.89 with a term of 5 years. The fair value of this warrant was $253,038 and was included in selling, general and administrative expense in the six months ended December 31, 2006.

The relative fair value of these warrants was estimated using the Black-Scholes model and the following assumptions:

Exercise price	$ 1.89 - $5.85
Expected dividend yield	0%
Expected lives of warrants (in years)	5.0 - 7.0
Volatility	110%
Risk-free interest rate	4.78%

Stock Award Plan

On March 13, 2006, Technest adopted the Technest Holdings, Inc. 2006 Stock Award Plan, pursuant to which Technest may award up to 1,000,000 shares of its common stock to employees, officers, directors, consultants and advisors to Technest and its subsidiaries. The purpose of this plan is to secure for Technest and its shareholders the benefits arising from capital stock ownership by employees, officers and directors of, and consultants or advisors to, Technest and its subsidiaries who are expected to contribute to the Company’s future growth and success.

Technest has broad discretion in making grants under the Plan and may make grants subject to such terms and conditions as determined by the board of directors or the committee appointed by the board of directors to administer the Plan. Stock awards under the Plan will be subject to the terms and conditions, including any applicable purchase price and any provisions pursuant to which the stock may be forfeited, set forth in the document making the award. Pursuant to the Stockholder Agreement with Markland, (i) awards relating to no more than 500,000 shares may be granted in calendar year 2006 (the “2006 Awards”), (ii) the 2006 Awards shall vest no earlier than twelve (12) months following the date of grant of such awards, and (iii) awards granted on or after January 1, 2007 shall vest no more frequently than in four equal quarterly installments.

Summary information with respect to the Plan is as follows:

	Number of Shares
	Issued		Granted but not issued			Total
Balance, June 30, 2006		--		443,579			443,579
Issued		159,779		(159,779	)		--
Granted but not issued		--		--			--
Forfeited		--		--			--

Balance, December 31, 2006		159,779		283,800			443,579

There were no shares granted under the Plan in the six months ended December 31, 2006. At December 31, 2006, none of the shares granted or issued were fully vested. The compensation expense expected to be recognized over the next nine months related to non-vested shares granted is approximately $689,000 at December 31, 2006. In the six months ended December 31, 2006, stock-based compensation related to previously granted shares was $711,580.

As of December 31, 2006, the Company has 556,421 shares available for future grant under the Plan.

9. NET LOSS PER SHARE

Securities that could potentially dilute basic net loss per share in the future, and that were not included in the computation of diluted net loss per share for the six months ended December 31, 2006 because to do so would have been anti-dilutive consists of the following:

	Shares Potentially
	Issuable
Series A Convertible Preferred Stock		306,028
Series C Convertible Preferred Stock		632,185
Warrants		649,286
Total as of December 31, 2006		1,587,499

10. COMMITMENTS AND CONTINGENCIES

Facility Rental

Technest has a three-year lease for executive offices of approximately 2,000 square feet in Boston, Massachusetts, which expires December 31, 2009. The monthly rental amount for this facility is approximately $4,500.

Genex Technologies, Inc., a wholly-owned subsidiary of Technest, currently leases offices with approximately 6,848 square feet in Bethesda, Maryland, pursuant to a five-year lease which expires March 31, 2011. This lease was assigned to Technest during the quarter ended December 31, 2006. Monthly lease amounts for this facility total approximately $14,263, increasing annually by 3%. Genex moved into this space on April 1, 2006. Genex had leased offices with approximately 6,831 square feet in Kensington, Maryland, pursuant to a five-year lease which expired on January 31, 2006, which we had been extending on a monthly basis. Monthly lease amounts for this facility totaled approximately $10,100.

EOIR holds a three-year lease for its executive and administrative offices of approximately 5,420 square feet in Woodbridge, Virginia. The lease expires on December 31, 2008. EOIR leases approximately 10,000 square feet in Spotsylvania, Virginia, where it houses its software development unit. The lease expires on October 31, 2009. EOIR also holds a five-year lease for 6,951 square feet in Spotsylvania, Virginia. The lease expires on October 15, 2010. EOIR also has several offices located in Fredericksburg, Virginia - one office with 1,200 square feet, with a two-year lease that expires on October 31, 2006, and one with 4,200 square feet, with a six-year lease that expires on June 30, 2007. Monthly lease amounts for these facilities total approximately $36,600.

Rent expense for the six months ended December 31, 2006 and 2005, was $352,695 and $294,798, respectively.

Government Contracts - Genex

The Company's billings and revenue on time and material contracts are based on provisional fringe, general & administrative and overhead rates which are subject to audit by the contracting government agency. During an audit conducted in November 2004 covering the fiscal year 2002, the Defense Contract Audit Agency (“DCAA”) discovered significant deficiencies in Genex’s accounting system that resulted in misclassified and unallowable costs. They were:

1.	Contractor does not follow policies and procedures concerning accounting for unallowable costs.

2.	Contractor does not follow policies and procedures concerning accounting for material costs.

3.	Contractor lacks adequate written policies and procedures concerning capitalization of assets.

4.	Contractor does not have adequate policies and procedures to ensure proper segregation of duties in handling its labor costs.

5.	Contractor’s procedure for calculating the proposed hourly labor rate of its employees results in overstated labor costs.

6.	Contractor fails to maintain policies and procedures for classifying the labor categories of its employees.

7.	Employees fail to follow the contractor’s policies and procedures in regards to maintaining timesheets on a current basis.

8.	Contractor’s policy of billing labor costs results in billing the Government for employees that are not employees of Genex.

Since the acquisition of Genex, the management of Technest has terminated the Genex employees responsible for this function and rapidly installed appropriate internal controls and oversight over Genex’s accounting system to ensure that they comply with applicable laws and regulations and are adequate and operating effectively. The DCAA has since re-audited the Genex financial systems and has communicated to Genex that the revised procedures are satisfactory. Genex will be allowed to complete certain previous contacts awarded by the Department of Defense but may be required to refund amounts overbilled to its customers.

In the quarter ended December 31, 2006, the Government completed its audit and concluded that $194,221 is due to be refunded to the Government. This amount is included in accrued expenses at December 31, 2006.

The Company's billings related to certain U.S. Government contracts are based on provisional general & administrative and overhead rates which are subject to audit by the contracting government agency.

Lien on Assets

Silicon Valley Bank (see Note 6) has a primary lien on all the assets of Technest and its subsidiaries. The balance outstanding to Silicon Valley Bank as of December 31, 2006 was $6,027,302.

Letter of Credit

EOIR has a letter of credit in the amount of $250,000 issued in favor of a bank in conjunction with corporate credit cards.

Employment Agreements

The Company is obligated under employment agreements with certain members of senior management.

11. INCOME TAXES

There was no provision for federal or state income taxes for the six months ended December 31, 2006 and 2005, due to the Company's operating losses and a full valuation reserve. Since its acquisition by Markland, the Company files a consolidated tax return with Markland.

The Company's deferred tax assets consist primarily of the net operating loss carry forwards. The use of the federal net operating loss carry forwards may be limited in future years as a result of ownership changes in the Company's common stock, as defined by section 382 of the Internal Revenue Code. The Company has not completed an analysis of these changes.

The Company has provided a full valuation reserve against the deferred tax asset because of the Company's loss history and significant uncertainty surrounding the Company's ability to utilize its net operating loss and tax credit carryforward.

12. RELATED PARTY TRANSACTIONS

With the exception of Deer Creek Fund LP, ipPartners, Inc., and Southshore Capital Fund Limited, all of the Investors in the Investor Financing on February 14,2005 are either shareholders, officers and/or directors of Markland. ipPartners, Inc. is a corporation majority owned and controlled by Mr. Tarini, Markland's Chief Executive Officer and Chairman. The Investor Financing was negotiated on behalf of Markland by senior management of Markland, including Mr. Tarini. The Markland Investment was approved by a unanimous vote of the Board of Directors of Markland including, Mr. Mackin and Mr. Ducey, neither of whom has an interest in the transaction.

During the six months ended December 31, 2006, Markland invoiced EOIR $844,566 for administrative support services, engineering services and product manufacturing rendered by Markland. During the six months ended December 31, 2006, EOIR paid Markland $927,995 in conjunction with the intercompany transactions described above.

At December 31, 2006, the Company had amounts due Markland in the amount of $442,829.

As consideration for the subordination of the security interest to the Bank and in connection with the closing of the Financing on August 10, 2006, the Company issued to the seven remaining EOIR subordinated note holders a total of 99,779 shares of the Company’s common stock having a fair value of $344,238, of which our current Chief Executive Officer and one of the Company’s directors, Joseph P. Mackin, received 23,913 shares. These were recorded as deferred financing costs (see Note 6).

Markland has entered into an Unconditional Guaranty pursuant to which Markland agreed to guaranty up to $6,000,000 of the principal obligations plus interest thereon and related expenses under the Credit Agreements and a Stock Pledge Agreement pursuant to which Markland pledged to the Bank 1,739,130 shares of Technest common stock currently owned by Markland, which had a market value of $6,000,000 as of August 4, 2006. The Guaranty and the Stock Pledge Agreement terminate August 3, 2008 if no event of default has occurred. In consideration for this guarantee and stock pledge, Technest paid Markland $580,372. This was recorded as a deferred financing cost (see Note 6).

13. EMPLOYEE BENEFIT PLANS

Genex maintains a Simplified Employee Pension (the “SEP Plan”) for all employees who have attained the age of 21 and have completed six years of service Participants may make voluntary contributions up to the maximum amount allowed by law, but not to exceed 15% of each participant’s eligible compensation. The combined totals of participant and Genex contributions may not exceed $30,000 by law. Genex contributions vest immediately to the participants.

Genex also maintains a defined contribution 401(k) profit sharing plan (the “401(k) Plan”) for all employees except those who are non-resident aliens or are covered by a collective bargaining agreement. Participants may make voluntary contributions up to the maximum amount allowable by law but not to exceed 20% of the participant's eligible compensation. Genex contributions to the 401(k) Plan are at the discretion of management and vest to the participants ratably over a five-year period, beginning with the second year of participation.

EOIR has adopted a 401(k) plan for the benefit of certain employees. Essentially all EOIR employees are eligible to participate. The Company also contributes to the plan under a safe harbor plan requiring a 3% contribution for all eligible participants. In addition, the Company may contribute a 3% elective match. The Company contributed 6%, excluding bonuses on an annual basis, to those who have been employed by EOIR for more than one year and remain employed on the last day of the fiscal year.

Contributions and other costs of these plans in the six months ended December 31, 2006 and 2005 were $414,562 and $406,794, respectively.

14. LITIGATION

H&H Acquisition Corp.

On July 23, 1998, H & H Acquisition Corp., individually and purportedly on behalf of Technest, commenced an action in federal court in the Southern District of New York against Technest, the founder and certain officers, among others. The complaint is an action to recover shares of common stock of the Company and unspecified damages. Management believes that the claims against the Company and certain officers are without merit and is vigorously defending the action. The Company cannot make any assurances about the litigation's outcome. However, the Company could be adversely affected if the plaintiff prevails.

In September 2002 the Company was served with a Summary Judgment Motion regarding H & H Acquisition Corp. and the Company answered the motion in November 2002. On January 3, 2005, the court denied the motion for summary judgment.

As of February 5, 2007, Technest has not been notified of a trial date for this matter.

Deer Creek

On or about May 30, 2006, Deer Creek Fund LLC filed a claim for Interference with Contract and Breach of the Implied Covenant of Good Faith and Fair Dealing against Technest, seeking unspecified monetary damages. Deer Creek alleges misconduct on the part of Technest related to a proposed sale by Deer Creek of 157,163 shares of Technest common stock at $7.00 per share and the applicability of certain selling restrictions under a registration rights agreement entered into between the parties. Technest believes that the allegations in this lawsuit are entirely without merit. Technest has been aggressively defending this action, and has filed an answer denying Deer Creek’s allegations and vigorously opposes all relief sought. On February 5, 2007, Technest was notified that the trial in this matter was set for July 10, 2007.

Joseph R. Moulton

On or about September 16, 2004, Joseph R. Moulton, Sr. initiated a lawsuit in the Circuit Court of Spotsylvania County, Virginia, against Markland, EOIR, and our former Chief Executive Officer and former Director, Robert Tarini, in his capacity as Markland’s Chief Executive Officer. Mr. Moulton was the largest single shareholder of EOIR prior to its acquisition by Markland, owning approximately 67% of the EOIR capital stock. Mr. Moulton received approximately $5,863,000 in cash and a promissory note of EOIR in the approximate principal amount of $6,967,000 for his shares of EOIR at the closing of the acquisition of EOIR by Markland.

In his complaint Mr. Moulton asserts, among other things, that Markland and EOIR breached their obligations under the Stock Purchase Agreement, dated June 30, 2004, pursuant to which Markland acquired EOIR, by terminating Mr. Moulton's employment with EOIR and removing him from the EOIR board of directors.

On August 3, 2006, Mr. Moulton, Technest, Markland, EOIR and Robert Tarini reached a settlement agreement pursuant to which upon payment of $120,000 and the pre-payment of certain EOIR outstanding promissory notes, the parties each dismissed their claims against one another.

Greg & Mary Williams

On May 4, 2006, the court granted the Williams’ motion for summary judgment with regard to liability on Count I of the Williams’ claim regarding severance payment and Count III of their claim regarding Markland’s failure to register shares of Markland’s common stock underlying their options. We have, and continue to assert that Count III of the Williams’ complaint does not allege wrongdoing by EOIR and thus, we believe that we have no liability on that claim. Count II of the claim, which seeks a declaration that the promissory notes issued to Mr. and Mrs. Williams in connection with the acquisition of EOIR by Markland on June 29, 2004 are in default and an acceleration of the payments due under those notes, was not addressed by the court’s order.

On July 27, 2006, we entered into an agreement with the Williams’ pursuant to which we paid them $246,525 in satisfaction of their claims for severance under Count I and agreed to pay the outstanding balance of their promissory notes, along with all accrued but unpaid interest, in satisfaction of Count II which was paid on August 10, 2006. The Williams continue to assert claims against us for attorney’s fees and costs on all six counts of their complaint. Count III was not addressed by this agreement.

On September 1, 2006, we entered into an agreement with Markland pursuant to which we agreed to indemnify Markland against any judgment for damages or attorney’s fees ordered by the Court pursuant to Counts I or II and Markland agreed to indemnify us against any judgment for damages or attorney’s fees ordered by the Court pursuant to Count III.

On October 24, 2006 the trial of this case was continued to March 21, 2007, at which time the damages, if any, for Count III will be determined as well as costs and attorney’s fees, if applicable, for Counts I, II and III.

In the event that Mr. and Mrs. Williams prevail in any of their claims against Markland, Technest shares owned by Markland would be among the assets available to satisfy a resulting judgment.

15. SUBSEQUENT EVENTS

Common Stock Issuances

Subsequent to December 31, 2006, the Company has issued 239,655 shares of common stock in satisfaction of liquidated damages under our Registration Rights Agreement dated February 14, 2005, as amended on October 3, 2005 and February 27, 2006.

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

The following discussion and analysis of our financial condition and results of operations for our financial quarter ending December 31, 2006 should be read together with our financial statements and related notes included elsewhere in this report.

FORWARD LOOKING STATEMENTS

The information in this discussion contains forward-looking statements. These forward-looking statements involve risks and uncertainties, including but not limited, to statements regarding Technest Holdings, Inc.’s capital needs, business strategy and expectations. Any statements contained herein that are not statements of historical facts may be deemed to be forward-looking statements. In some cases, you can identify forward-looking statements by terminology such as “may”, “should”, “expect”, “plan”, “intend”, “anticipate”, “believe”, “estimate”, “predict”, “potential” or “continue”, the negative of such terms or other comparable terminology. Actual events or results may differ materially. In evaluating these statements, you should consider various factors, including the risks outlined in the Risk Factors section below, and, from time to time, in other reports we file with the Securities and Exchange Commission (the “SEC”). These factors may cause our actual results to differ materially from any forward-looking statement. Readers are cautioned not to place undue reliance on any forward looking statements contained in this report. We will not update these forward looking statements unless the securities laws and regulations require us to do so.

OVERVIEW

General

On February 14, 2005, Technest became a majority owned subsidiary of Markland Technologies, Inc., a homeland defense, armed services and intelligence contractor. Markland is a public company with a class of equity securities registered pursuant to Section 12(g) of the Exchange Act. Technest issued to Markland 1,954,023 shares of its common stock in exchange for 10,168,764 shares of Markland common stock which were used as partial consideration for the concurrent acquisition of Genex Technologies, Inc.

Prior to our acquisition of Genex, we were a public “shell” company with no operations, nominal assets, accrued liabilities totaling $184,468 and 139,620 (post-split) shares of common stock issued and outstanding. From May 2002 through our acquisition of Genex, we had no operations.

On November 1, 2006, pursuant to the Asset Contribution Agreement between Technest and Genex, which is attached to this quarterly report as Exhibit 10.2, Genex transferred certain of its assets and liabilities to Technest in order to preserve the continued eligibility for certain contracts under Small Business Innovation Research programs. The transfer primarily involved all of Genex’s government contracts which have since been novated to Technest and the associated intellectual property. As our financial results are reported on a consolidated basis, this transfer did not impact our financial statements.

Technest Business

We operate in five principal technical areas: Advanced Sensor Systems, Imaging and Intelligence Solutions, Operational Management, Intelligent Surveillance, and Chemical and Explosive Detection.

Advanced Sensor Systems

Advanced Sensor Systems is engaged in design, research and development, systems integration, sustainment, support, and upgrade of advanced sensor systems for the U.S. military; this includes high performance targeting and surveillance sensors, driving enhancements, rifle sights, fusion and automatic target recognition, mine and minefield detection, mine neutralization, minefield breaching, sensor system performance modeling and analysis, virtual prototyping, simulation-based analyses, high-performance multi-color Focal Plane Array (FPA), multi-function lasers, distributed sensor networks, Long Wavelength Infrared (LWIR) and Short Wavelength Infrared (SWIR) arrays, unattended ground sensors, and rapid prototyping.

The majority of the work performed by Advanced Sensor Systems is carried out through an Omnibus Contract with the United States Army Night Vision and Electronic Sensors Directorate. We retain non-exclusive rights to sell the technologies that we develop under this contract. Our main products, developed or nearing development, include Interchangeable Wide Area Search Surveillance System (IWAS³), Safety Evaluation Range Training System (SERTS^TM), Universal Sensor Remoting Device (USRD), Pelco Camera Translators, WinProc^TM, IProc^TM, GPS GroundTruther, TTAASP^TM, and EOIRTA^TM.

Imaging and Intelligence Solutions

Imaging and Intelligence Solutions is engaged in the design, research and development, integration, analysis, modeling, and training of classified solutions in support of the United States’ intelligence community and homeland security.

We provide support to the National Geospatial-Intelligence Agency (NGA) College, including program management support, curriculum development and instruction in Geospatial and Imaging Analysis, Advanced Geospatial Intelligence, and Measurements and Signal Intelligence. We develop core curriculum: platform, web- and computer-based training; and maintain the Soft Copy Keys Program. We develop specialized tools and algorithms for atmospheric computation and full-spectrum signal processing, promote imaging standards, evaluate new technology, assist users with Advanced Geospatial Intelligence technologies, and maintain spectral libraries used throughout the Intelligence Community. For the National Ground Intelligence Center, we provide systems modeling, intelligence analysis for military operations and disaster relief, and we develop and integrate remote triggering devices and monitoring stations used in field testing and air-and ground-based sensor analysis. We support maritime advanced geospatial imagery exploitation and counter drug operations, as well as all-source analysis for Army operational forces.

The Advanced Technologies Research and Development group of Genex is focused on developing our imaging technology portfolio via advanced research in 3D facial recognition, intelligent surveillance 3D imaging, and medical imaging. By integrating our marketing pursuits with our R&D efforts, we expect to bring to market technological advances that have enhanced customer value. Some of our targeted research areas include: (i) fully integrated Surematch™ suite of 3D facial recognition software application programs; (ii) intelligent surveillance using two- and three-dimensional image processing to support homeland security, military, and commercial applications; (iii) detection of concealment of intent using thermal and 3D imaging to support anti-terrorist efforts; (iv) early detection of cancer using non-invasive and non-radiological diffuse optical tomography; and (v) more effective and less risky radiation treatment for cancer by use of 3D imaging for patient positioning.

Operational Management

Operational Management is engaged in the program management, integration, training, logistics, analysis, and field support of numerous projects for the U.S. military.

We provide program management support for the Marine Corps Systems Command (MCSC), which includes providing logistical support of current projects and integration with legacy systems. We also are assisting in the development of the Electro-Optical Test Facility (EOTF) for the Program Manager Optics and Non-Lethal Systems (PM ONLS). This encompasses the full life-cycle of the test facility; as we will design the facility, oversee the procurement of equipment, develop standard operating procedures, and manage the thermal testing portion of the lab. We provide systems integration, board design, training, and field support for products, such as DoubleShot, which is currently actively deployed in Operation Iraqi Freedom (OIF) in support of the Marine Corps Warfighting Lab (MCWL). In addition, we represent the Marine Corps in the joint development of Joint Chemical Agent Detector (JCAD), Joint Service Light Standoff Chemical Agent Detector (JSLSCAD), Joint Service Light Nuclear, Biological, Chemical, Reconnaissance System (JSLNBCRS), as well as other engineering technology in support of the MCSC Chemical, Biological, Radiological, Nuclear Defense (CBRND) team. This support consists of testing emerging technology, providing logistical support and management of legacy systems. We also provide systems integration support for the Directed Energy Technology Office (DETO) at Naval Surface Warface Center Dahlgren Division (NSWCDD) integrating various sensors, such as Driver Viewer Enhancer and Blue Force Tracker, into a prototype directed energy system in support of OIF.

Intelligent Surveillance

Intelligent Surveillance is engaged in the design, research and development, integration, analysis, modeling, system networking, and support of advanced surveillance and three-dimensional imaging devices and systems.

We provide full life-cycle support, technology, and very specialized expertise in the areas of real-time embedded image processing, software and systems engineering, as well as three-dimensional facial recognition. We also develop re-configurable, multi-sensor systems with unique, nonstandard architectures. In addition, we develop sensors for detection of concealment of intent using thermal and three-dimensional imaging, devices for early detection of cancer using non-invasive and non-radiological diffuse optical tomography, and more effective and less risky radiation treatments for cancer by using three-dimensional imaging for patient re-positioning. Our major products, developed or nearing development, include our OmniEye™ Wellcam, OmniEye™ Cerberus, Smart Optical Sensor (SOS), Smart Suite™, Omnivision, Small Tactical Ubiquitous Detection System (STUDS), and 3D SketchArtist.

Chemical and Explosive Detection

Chemical and Explosive Detection is engaged in the design, research and development, software and hardware engineering, integration, training, and networking of advanced Chemical/Biological and Improvised Explosive Devices detection sensors.

We provide technologies that reliably detect the presence of chemical, biological, and explosive devices or components from stand-off distances utilizing multi-spectral electro-optical sensing methods. We also provide Chemical/Biological and Improvised Explosive Devices simulators and real-time training devices with product specific specifications. Our major products, developed or nearing development, include our Shipboard Automatic Chemical Agent Detection and Alarm (ACADA), Automated, Adaptive Chemical Examination System (AACES), and M22 Simulator.

RESULTS OF OPERATIONS

For the six months ended December 31, 2005, Technest corrected its accounting for derivative financial instruments to conform to the requirements of Statements of Financial Accounting Standards ("SFAS") No. 133, as amended, and Emerging Issues Task Force No. ("EITF") No. 00-19. For certain warrants issued by Technest in February 2005, Technest could not conclude that the warrants were able to be settled in unregistered shares of common stock due to liquidated damage provisions in registration rights agreements. Therefore the warrants did not meet the requirements for classification as equity instruments. Instead, the warrants were recorded as liabilities and carried at fair value. Fair value adjustments to these derivative liabilities are charged (credited) to the statement of operations.

Six months ended December 31, 2006 compared with the six months ended December 31, 2005

Revenue

Technest had $35,720,510 in revenue during the six months ended December 31, 2006 compared with $37,285,917 for the same period in 2005.

Technest had $15,750,872 in revenue during the three months ended December 31, 2006 compared with $18,289,576 for the same period in 2005. Revenues were adversely impacted during the last quarter by the novation of certain contracts from Genex Technologies to Technest. This process has now been completed. In addition, due to Governmental budgetary considerations, there was a delay in the award of certain contracts that the Company would have normally received.

Revenues from EOIR’s omnibus contract were approximately $30.6 million for the six months ended December 31, 2006 compared to $31.5 million for the six months ended December 31, 2005. In August 2006, the Government granted EOIR an additional “award term” for one year from July 2006 to July 2007. The performance periods for these contracts extend for 12 months beyond the end of the contract award period expiring in July 2008.

Gross profit

The gross profit for the six months ended December 31, 2006 was $7,073,536 compared with $7,058,793 for the same period in 2005. The gross profit margin for the six months ended December 31, 2006 was 20% compared with 19% for the same period in 2005. The gross profit for the three months ended December 31, 2006 was $3,313,421 compared with $3,652,907 for the same period in 2005. The gross profit margin for the three months ended December 31, 2006 was 21% compared with 20% for the same period in 2005. The gross profit improvement was due to a higher percentage of higher margin labor services provided compared with material procurement contracts.

Selling, general and administrative expenses

Selling, general and administrative expenses for the six months ended December 31, 2006 was $7,464,434 and consisted primarily of payroll. Selling, general and administrative expenses for the six months ended December 31, 2005 was $6,311,234. The increase in selling, general and administrative expenses is due to higher stock compensation expense and the fair value of a warrant issued to a consultant. Included in selling, general and administrative expenses, amortization of compensatory element of stock issuances for the six months ended December 31, 2006 were $711,580. This represents the amortization of stock-based compensation related to restricted stock grants to certain officers, directors and senior employees. Amortization of compensatory element of stock issuances for the six months ended December 31, 2005 were $96,339 and related to options for the purchase of Markland common stock granted to EOIR employees by Markland in conjunction with the original acquisition of EOIR in June 2004. Selling, general and administrative expenses for the six months ended December 31, 2006 included a charge of $253,038 for the fair value of a warrant granted to a consultant. Also included in selling general and administrative expenses are management fees paid to Markland. These amounted to $500,000 for the six months ended December 31, 2006 and 2005, respectively and are expected to terminate in March 2007.

Selling, general and administrative expenses for the three months ended December 31, 2006 and December 31, 2005 were $3,708,528 and $3,343,894, respectively.

Research and development

Research and development expenses for the six months ended December 31, 2006 and 2005 were $33,617, and $138,448, respectively. These expenditures consisted primarily of unfunded research for new product development. Funded research and development is part of the Company’s revenue base and the associated costs are included in cost of revenues.

Amortization of intangible assets

Amortization of intangible assets for the six months ended December 31, 2006 and 2005 were $893,023 and $893,122, respectively.

Operating loss

The operating loss for the six months ended December 31, 2006 was $1,317,538 compared with a loss of $284,011 for the period ended December 31, 2005.

The operating loss for the three months ended December 31, 2006 was $869,812 compared with a loss of $220,943 for the period ended December 31, 2005

Interest expense and other income

In connection with the acquisition of EOIR by Markland, EOIR issued $11,000,000 in original principal amount of notes due to the former stockholders of EOIR. The fair market value of these notes was $9,532,044 as determined by Markland’s management based on a number of factors including an independent valuation. The discount of $1,467,956 is being amortized to interest expense over the life of the note. These notes bear interest at the rate of six percent (6%) per annum and must be repaid within the next six years. In the six months ended December 31, 2006, Technest pre-paid outstanding principal of $4,952,526 of certain of the EOIR promissory notes. After these payments, there remain outstanding EOIR notes having a total principal balance of $1,655,893.

Interest expense for the six months ended December 31, 2006 and 2005 were $2,461,791 and $1,595,820, respectively. This included non-cash interest expense of $1,241,827 (paid in common stock) related to liquidated damages incurred for failure to have an effective registration statement, $171,158 related to amortization of deferred financing costs and a $690,485 related to the accelerated accretion of the note discount resulting from the prepayment of the EOIR note and ongoing accretion on the balance of the note. The Company also incurred and paid interest of $215,673 and $63,341 on the Silicon Valley Bank debt and remaining EOIR notes, respectively.

Derivative income represents the change in the fair value of certain warrants issued by Technest on February 14, 2005. These warrants did not meet the requirements for classification as equity instruments since the Company could not conclude that the warrants were settleable in unregistered shares of its common stock. As a result, the Company was required to reflect these warrants as derivative liabilities on the balance sheet. Each period, the change in the fair value of the warrants was charged (credited) to the statement of operations. In the six months ended December 31, 2005, the change in the fair value of the warrants recorded as derivative income in the statements of operations was $25,046,489. Derivative income had no impact of the Company’s cash flows and none of the warrants have been settled in cash. The Company determined the fair value of the warrants using the Black-Scholes option pricing model. Excluding derivative income would have resulted in pro forma net loss applicable to common shareholders of ($1,796,653) for the six months ended December 31, 2005. Pro forma basic and diluted loss per common share would have been ($0.12), for the same period.

On September 30, 2005, the Company amended the terms of its Registration Rights Agreement such that any liquidated damages would only be payable in common stock. As a result of this amendment, the Company was able to conclude that the warrants could be settled in unregistered shares. Therefore, the warrants were no longer required to be recorded as derivative liabilities and there have been no additional derivative income (loss) recorded related to these warrants since that date.

Other income for the six months ended December 31, 2006 and 2005 was $33,926 and $83,178, respectively, and was primarily related to interest income on cash balances.

Net income (loss) applicable to common shareholders

The net loss applicable to common stockholders for the six months ended December 31, 2006 was ($3,745,403). The net income applicable to common stockholders for the six months ended December 31, 2005 was $23,249,836. As previously described, the net income was entirely due to derivative income of $25,046,489.

LIQUIDITY AND CAPITAL RESOURCES

Cash and Working Capital

On December 31, 2006, Technest had a negative working capital balance of $7,949,360. This amount includes a current balance of $1,000,000 on the Term Loan and $3,360,635 on the Revolver with Silicon Valley Bank. Technest’s current liabilities include $442,829 due to Markland, Technest’s parent company. Net cash used in operating activities was $2,000,500 for the six months ended December 31, 2006. Non-cash expenses included in the net loss of $3,745,403 totaled $4,173,230 while changes in the components of working capital used cash of $2,428,327. Most of this change in working capital was related to reductions in accounts payables and accrued expenses and other current liabilities of $4,363,413.

Cash Used in Investing Activities

Technest used cash of $37,121 for the acquisition of equipment in the six months ended December 31, 2006.

Cash Used in Financing Activities

In the six months ended December 31, 2006, $5,336,744 was used for loan repayments and $5,638,596 was raised from bank financing, net of expenses.

Sources of Liquidity

During the six months ended December 31, 2006, we satisfied our cash requirements primarily through operating cash flows, our cash reserves and a bank loan. On December 31, 2006, the Company had cash and cash equivalents of $1,626,441 and a funded contract backlog from the Government of $38.2 million. In addition, the Company obtained a revolving line of credit and a term loan with a commercial bank in the maximum amount of $10 million. At December 31, 2006, under certain conditions, an additional $4 million is available to fund the Company’s working capital needs. As a result of the forgoing, management believes that Technest has sufficient sources of liquidity to satisfy its obligations for at least the next 12 months.

Off Balance Sheet Arrangements

We have a letter of credit in the amount of $250,000 issued in favor of a bank in conjunction with our corporate credit cards. Other than this letter of credit, we have no other off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to stockholders. As of December 31, 2006, Technest had warrants outstanding for the purchase of 649,286 shares of common stock. However, given the exercise price of these warrants, Technest does not expect these warrants to be exercised and therefore, does not expect any material cash proceeds.

Effect of inflation and changes in prices

Management does not believe that inflation and changes in price will have a material effect on operations.

CRITICAL ACCOUNTING POLICIES

The preparation of Technest's financial statements and related disclosures 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 disclosure of contingent assets and liabilities as of the date of the financial statements and the amounts of revenues and expenses recorded during the reporting periods. We base our estimates on historical experience, where applicable, and other assumptions that we believe are reasonable under the circumstances. Actual results may differ from our estimates under different assumptions or conditions.

The sections below present information about the nature of and rationale for our critical accounting policies.

PRINCIPLES OF CONSOLIDATION

Our consolidated financial statements as of December 31, 2006 include the accounts of Technest, and our wholly-owned subsidiaries- Genex and EOIR. We have eliminated all significant inter-company balances and transactions.

CONCENTRATIONS

Statement of Financial Accounting Standards ("SFAS") No. 105, "Disclosure of Information about Financial Instruments with Off-Balance-Sheet Risk and Financial Instruments with Concentrations of Credit Risk," requires that we disclose any significant off-balance-sheet and credit risk concentrations. We are subject to concentrations of credit risk because the majority of our revenues and accounts receivable are derived from the U.S. government, including the Department of Defense, who is not required to provide collateral for amounts owed to us. We do not believe that we are subject to any unusual credit risks, other than the normal level of risk attendant to operating our business.

As of December 31, 2006, we had cash balances in banks in excess of the maximum amount insured by the FDIC. In addition, we derive substantially all of our contract revenue from contracts with Federal government agencies. Consequently, substantially all of our accounts receivable are due from Federal government agencies either directly or through other government contractors.

RESEARCH AND DEVELOPMENT

We charge research and development costs to expense as incurred. Funded research and development is part of our revenue base and the associated costs are included in cost of revenues. We capitalize costs related to acquired technologies that have achieved technological feasibility and have alternative uses. We expense as research and development costs the technologies we acquire if they are in process at the date of acquisition or have no alternative uses.

No new technologies were acquired during the six months ended December 31, 2006 and as such there are no capitalized or expensed in-process research and development costs during this period relating thereto.

IMPAIRMENT OF GOODWILL AND AMORTIZABLE INTANGIBLES

In accordance with SFAS No. 142, "Goodwill and Other Intangible Assets," we review goodwill and amortizable intangibles for impairment annually, or more frequently if an event occurs or circumstances change that would more likely than not reduce the fair value of our business enterprise below its carrying value. The impairment test requires us to estimate the fair value of our overall business enterprise down to the reporting unit level. We identify and record our intangible assets at the reporting unit level and also conduct our impairment tests at the reporting unit level as required by paragraphs 30-31 of SFAS No. 142, “Goodwill and Other Intangible Assets”.

We estimate fair value using either a discounted cash flows model, or an approach using market comparables, to determine fair value. Under the discounted cash flows method, we utilize estimated long-term revenue and cash flows forecasts developed as part of our planning process, together with an applicable discount rate, to determine fair value. Under the market approach, fair value is determined by comparing us to similar businesses (or guideline companies). Selection of guideline companies and market ratios require management's judgment. The use of different assumptions within our discounted cash flows model or within our market approach model when determining fair value could result in different valuations for goodwill.

ESTIMATED USEFUL LIVES OF AMORTIZABLE INTANGIBLE ASSETS

We amortize our amortizable intangible assets over the shorter of the contractual/legal life or the estimated economic life.

Definite-lived intangible assets acquired from Genex represent costs of outside legal counsel related to obtaining new patents. Patent costs are amortized over the legal life of the patents, generally fifteen years, starting on the patent issue date. The costs of unsuccessful and abandoned patent applications are expensed when abandoned. The cost to maintain existing patents are expensed as incurred. The nature of the technology underlying these patents relates to 3D imaging, intelligent surveillance and 3D facial recognition technologies.

Technest also acquired commercialized technology relating to 3D facial recognition cameras and contracts and customer relationships from the application of 3D imaging technologies to breast cancer research for the National Institute of Health and disposable sensors and 3D face mapping for the Department of Defense. The amounts assigned to definite-lived intangible assets were determined by management based on a number of factors including an independent purchase price allocation analysis. These assets have an estimated useful life of five years.

Contracts and Customer relationships acquired as a result of business combinations have been valued by management considering various factors including independent appraisals done by valuation and financial advisory firms in accordance with SFAS No. 141, “Business Combinations”, SFAS No. 142, “Goodwill and Other Intangible Assets”, FASB Concepts Statement Number 7 and EITF Issue No. 02-17, “Recognition of Customer Relationship Assets Acquired in a Business Combination”. These assets are being amortized over the contractual terms of the existing contracts plus anticipated contract renewals in accordance with EITF Issue No. 02-17.

IMPAIRMENT OF LONG-LIVED ASSETS

Pursuant to SFAS No. 144, we continually monitor events and changes in circumstances that could indicate carrying amounts of long-lived assets may not be recoverable. We recognize an impairment loss when the carrying value of an asset exceeds expected cash flows. Accordingly, when indicators or impairment of assets are present, we evaluate the carrying value of such assets in relation to the operating performance and future undiscounted cash flows of the underlying business. Our policy is to record an impairment loss when we determine that the carrying amount of the asset may not be recoverable. No impairment charges were recorded in the six months ended December 31, 2006 and 2005.

REVENUE RECOGNITION

We recognize revenue when the following criteria are met: (1) we have persuasive evidence of an arrangement, such as agreements, purchase orders or written requests, (2) we have completed delivery and no significant obligations remain, (3) our price to our customer is fixed or determinable, and (4) collection is probable.

Revenues from time and materials contracts are recognized as costs are incurred. Revenues from firm fixed price contracts are recognized on the percentage-of-completion method, either measured based on the proportion of costs recorded to date on the contract to total estimated contract costs or measured based on the proportion of labor hours expended to date on the contract to total estimated contract labor hours, as specified in the contract. However, during the six months ended December 31, 2006 less than 5% of Technest’s revenue has come from firm fixed price contracts.

Provisions for estimated losses on all contracts are made in the period in which such losses become known. Changes in job performance, job conditions, and estimated profitability, including those arising from contract penalty provisions, and final contract settlements may result in revision to cost and income and are recognized in the period in which the revisions are determined. Technest participates in teaming agreements where they are the primary contractor and they participate with other organizations to provide complex integrated remote sensor product and technology development services to the Federal government. Technest has managerial and oversight responsibility for all team members as well as the responsibility for the ultimate acceptability of all integrated technical performance criteria under the contracts for deliverable services and products. Technest, as the prime contractor who accepts risks for these customer funded tasks, includes as revenues the amounts that they bill under the teaming arrangements and include as direct costs amounts that are reimbursable or paid to team members. Revenues under teaming arrangements amounted to $21 million for the six months ended December 31, 2006.

IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS

RISK FACTORS

Any investment in our common stock involves a high degree of risk. You should consider carefully the risks described below and elsewhere in this report and the information under “Forward-Looking Statements,” before you decide to buy our common stock. If any of the following risks, or other risks not presently known to us or that we currently believe are not material, develop into an actual event, then our business, financial condition and results of operations could be adversely affected. In that case, the trading price of our common stock could decline due to any of these risks and uncertainties, and you may lose part or all of your investment.

We have a limited operating history. As a result, it may be difficult to evaluate our prospects for profitable operations and our ability to produce a positive return on Genex or EOIR.

Technest has a limited operating history on which a potential investor may base an evaluation of us, our prospects and our ability to operate Genex or EOIR profitably. If Technest is unable to sustain profitable operations, investors may lose their entire investment in Technest.

We have a history of operating losses and cannot give assurance of future revenues or operating profits; investors may lose their entire investment.

Technest has had net operating losses each year since its inception. As of December 31, 2006, our accumulated deficit was $18,983,342. If Technest continues to suffer losses as it has in the past, investors may not receive any return on their investment and may lose their entire investment.

If we cannot obtain additional capital required to fund our operations and finance the growth our business, operating results and financial condition may suffer and the price of our stock may decline.

The development of our technologies will require additional capital, and our business plan is to acquire additional revenue-producing assets. Although we believe that we have sufficient sources of liquidity to satisfy our obligations for at least the next 12 months, we may be unable to obtain additional funds, if needed, in a timely manner or on acceptable terms, which may render us unable to fund our operations or expand our business. If we are unable to obtain capital when needed, we may have to restructure our business or delay or abandon our development and expansion plans. If this occurs, the price of our common stock may decline and you may lose part or all of your investment.

We will have ongoing capital needs as we expand our business. If we raise additional funds through the sale of equity or convertible securities, your ownership percentage of our common stock will be reduced. In addition, these transactions may dilute the value of our common stock. We may have to issue securities that have rights, preferences and privileges senior to our common stock. The terms of any additional indebtedness may include restrictive financial and operating covenants that would limit our ability to compete and expand. Although we have been successful in the past in obtaining financing for working capital and acquisitions, there can be no assurance that we will be able to obtain the additional financing we may need to fund our business, or that such financing will be available on acceptable terms.

We have grown quickly; if we cannot effectively manage our growth, our business may suffer.

We have rapidly and significantly expanded our operations through the acquisitions of EOIR in August 2005 and Genex in February 2005. This growth has placed, and is expected to continue to place, a strain on our personnel, management, financial and other resources. Some of our officers have no prior senior management experience at public companies. To manage our growth effectively, we must, among other things:

upgrade and expand our contract support, manufacturing facilities and capacity in a timely manner;

successfully attract, train, motivate and manage a larger number of employees for contract support, manufacturing, sales and customer support activities;

control higher inventory and working capital requirements; and

improve the efficiencies within our operating, administrative, financial and accounting systems, procedures and controls.

To meet our growth objectives we must attract and retain highly skilled technical, operational, managerial and sales and marketing personnel. If we fail to attract and retain the necessary personnel, we may be unable to achieve our business objectives and may lose our competitive position, which could lead to a significant decline in net sales. We face significant competition for these skilled professionals from other companies, research and academic institutions, government entities and other organizations.

If we fail to manage our growth properly, we may incur unnecessary expenses and the efficiency of our operations may decline, adversely affecting our business and the price of our stock.

Future acquisitions of other companies, if any, may disrupt our business and result in additional expenses, which could harm our business.

We have made significant acquisitions in the past, and we plan to continue to review potential acquisition candidates, and our business plan includes building our business through strategic acquisitions. However, acceptable acquisition candidates may not be available in the future or may not be available on terms and conditions acceptable to us.

Acquisitions involve numerous risks including among others, difficulties and expenses incurred in the consummation of acquisitions and the assimilation of the operations, personnel, and services and products of the acquired companies. Additional risks associated with acquisitions include the difficulties of operating new businesses, the diversion of management's attention from other business concerns and the potential loss of key employees of the acquired company. If we do not successfully integrate the businesses we may acquire in the future, our business will suffer.

If we fail to realize some or all of the anticipated benefits from our acquisition of EOIR, our business will suffer.

Our combined company may fail to realize some or all of the anticipated benefits and synergies of the transaction as a result of, among other things, lower than expected order rates from customers of EOIR, unanticipated costs, deterioration in the U.S. economy and other factors. There can be no assurance that we will receive new orders under EOIR’s existing contract with the United States Army Night Vision and Electronic Sensors Directorate.

Some of our competitors are much larger than we are, have better name recognition than we do and have far greater financial and other resources than we do. If we cannot effectively compete, our business may suffer and the price of our stock would decrease.

With the U.S. government's large appropriation of money for homeland security programs, many companies are competing for the same homeland security contracts and there can be no assurance that Technest will effectively compete with large companies who have more resources and funds than we do. Several companies have been working on issues relevant to the safety of the American people for the past several years. Because of the services and additional human and financial resources that these larger companies can provide, they may be more attractive to the U.S. Government. Lockheed Martin and Northrop Grumman are providers of hardware engineering and systems engineering solutions. Computer Sciences Corporation and EDS provide computer and computer software solutions. Defense companies, such as General Dynamics, Boeing and Raytheon, are solutions providers that could easily expand their businesses into the homeland security business and are currently allocating resources to develop programs in this area.

Our business may suffer if we cannot protect our proprietary technology.

Our ability to compete depends significantly upon our patents, our trade secrets, our source code and our other proprietary technology. Any misappropriation of our technology or the development of competing technology could seriously harm our competitive position, which could lead to a substantial reduction in revenue.

The steps we have taken to protect our technology may be inadequate to prevent others from using what we regard as our technology to compete with us. Our patents could be challenged, invalidated or circumvented, in which case the rights we have under our patents could provide no competitive advantages. Existing trade secrets, copyright and trademark laws offer only limited protection. In addition, the laws of some foreign countries do not protect our proprietary technology to the same extent as the laws of the United States, which could increase the likelihood of misappropriation. Furthermore, other companies could independently develop similar or superior technology without violating our intellectual property rights.

If we resort to legal proceedings to enforce our intellectual property rights, the proceedings could be burdensome, disruptive and expensive, distract the attention of management, and there can be no assurance that we would prevail.

Claims by others that we infringe their intellectual property rights could increase our expenses and delay the development of our business. As a result, our business and financial condition could be harmed.

Our industries are characterized by the existence of a large number of patents and frequent claims and related litigation regarding patent and other intellectual property rights. We cannot be certain that our products do not and will not infringe issued patents, patents that may be issued in the future, or other intellectual property rights of others.

We do not conduct exhaustive patent searches to determine whether the technology used in our products infringes patents held by third parties. In addition, product development is inherently uncertain in a rapidly evolving technological environment in which there may be numerous patent applications pending, many of which are confidential when filed, with regard to similar technologies.

We may face claims by third parties that our products or technology infringe their patents or other intellectual property rights. Any claim of infringement could cause us to incur substantial costs defending against the claim, even if the claim is invalid, and could distract the attention of our management. If any of our products are found to violate third-party proprietary rights, we may be required to pay substantial damages. In addition, we may be required to re-engineer our products or obtain licenses from third parties to continue to offer our products. Any efforts to re-engineer our products or obtain licenses on commercially reasonable terms may not be successful, which would prevent us from selling our products, and, in any case, could substantially increase our costs and have a material adverse effect on our business, financial condition and results of operations.

Fluctuations in our quarterly revenue and results of operations could depress the market price of our common stock.

Our future net sales and results of operations are likely to vary significantly from quarter to quarter due to a number of factors, many of which are outside our control. Accordingly, you should not rely on quarter-to-quarter comparisons of our results of operations as an indication of future performance. It is possible that our revenue or results of operations in a quarter will fall below the expectations of securities analysts or investors. If this occurs, the market price of our common stock could fall significantly. Our results of operations in any quarter can fluctuate for many reasons, including:

timing of orders from our largest customers - the DOD, Homeland Security and various INTEL;

our ability to perform under contracts and manufacture, test and deliver products in a timely and cost-effective manner;

our success in winning competitions for orders;

the timing of new product introductions by us or our competitors;

the mix of products we sell;

competitive pricing pressures; and

general economic climate.

A large portion of our expenses, including expenses for facilities, equipment, and personnel, are relatively fixed. Accordingly, if our revenues decline or do not grow as much as we anticipate, we might be unable to maintain or improve our operating margins. Any failure to achieve anticipated revenues could therefore significantly harm our operating results for a particular fiscal period.

Our ability to service our debt and meet our cash requirements depends on many factors, some of which are beyond our control.

Although there can be no assurances, we believe that the level of borrowings available to us, combined with cash provided by our operations, will be sufficient to provide for our cash requirements for the foreseeable future. However, our ability to satisfy our obligations will depend on our future operating performance and financial results, which will be subject, in part, to factors beyond our control, including interest rates and general economic, financial and business conditions. If we are unable to generate sufficient cash flow to service our debt, we may be required to:

refinance all or a portion of our debt;

obtain additional financing;

sell some of our assets or operations;

reduce or delay capital expenditures and/or acquisitions; or

revise or delay our strategic plans.

If we are required to take any of these actions, it could have a material adverse effect on our business, financial condition, results of operations and liquidity. In addition, we cannot assure you that we would be able to take any of these actions, that these actions would enable us to continue to satisfy our capital requirements or that these actions would be permitted under the terms of our credit facilities.

The covenants in our term loan facility with Silicon Valley Bank impose restrictions that may limit our ability and the ability of our subsidiaries to take certain actions and our failure to comply with these covenants could result in an acceleration of our indebtedness.

The covenants in our term loan facility with Silicon Valley Bank restrict our ability and the ability of our subsidiaries to, among other things:

sell, transfer or lease certain parts of our business and property or that of our subsidiaries;

incur additional debt;

pay dividends and make other restricted payments and restricts our subsidiaries from doing the same;

make certain investments, loans and advances;

create or permit certain liens;

enter into transactions with affiliates;

engage in certain business activities; and

consolidate or merge or sell all or substantially all of our assets or those of our subsidiaries.

Our term loan facility contains other covenants customary for credit facilities of this nature, including requiring us to meet specified financial ratios and financial tests. Our ability to borrow under our term loan facility will depend upon satisfaction of these covenants. Events beyond our control can affect our ability to meet those covenants.

If we are unable to meet the terms of our financial covenants, or if we violate any of these covenants, a default could occur under this agreement. A default, if not waived by our lender, could result in the acceleration of our outstanding indebtedness and cause our debt to become immediately due and payable. If acceleration occurs, we would not be able to repay our debt, and it is unlikely that we would be able to borrow sufficient funds to refinance our debt. Even if new financing is made available to us, it may not be on terms acceptable to us.

As of December 31, 2006, we were not in compliance with our fixed charge coverage ratio; however, Silicon Valley Bank has waived this noncompliance upon the payment of additional fees.

Our credit facilities with Silicon Valley Bank are based on variable rates of interest, which could result in higher interest expenses in the event of an increase in interest rates.

The interest rate that we pay on our credit facilities with Silicon Valley Bank depend on the Bank’s prime rate. This increases our exposure to fluctuations in market interest rates. If the Bank’s prime rate rises, the interest rate on our credit facilities also may increase. Therefore, an increase in the Bank’s prime rate may increase our interest payment obligations and have a negative effect on our cash flow and financial position.

Our contract with the United States Army Night Vision and Electronic Sensors Directorate expires in July 2007. We are in the “re-compete” process. If we are not awarded a new contract, our revenues would decrease significantly and our financial condition would be adversely affected.

We have a contract with the United States Army Night Vision and Electronic Sensors Directorate that may provide for revenues of up to approximately $406 million (including revenue already recognized) depending upon the U.S. Army's needs of which our subsidiary, EOIR, recognized in excess of approximately $70.31 million in revenues for the year ended June 30, 2006 or 86.6% of our total consolidated revenues during that period. This contract expires in July 2007 and we anticipate that the U.S. Army will competitively award a replacement contract. We will expend substantial cost and managerial time and effort to prepare for the bid and proposal for this new contract. Although we believe that it is likely that we will be awarded a new contract, if we are not awarded a new contract, our revenues would significantly decrease and our financial condition could be adversely affected.

Although the U.S. Army has not announced the evaluation criteria for the replacement contract, there are several factors that are likely to be considered during the re-compete process, such as our ability to do the work or find subcontractors that can do the work; our competitive pricing; our reputation, the Government’s prior experience with our work; our competition; changes in Government programs or requirements; budgetary priorities; changes in fiscal policies; curtailment of the Government’s use of technology solutions firms; new contract requirements; and the government’s need for a diverse contracting base. If we are not able to satisfy the Government’s requirements, we may not be awarded a new contract.

Our current and future expected revenues are derived from a small number of customers within the U.S. government such that the loss of any one ultimate customer could materially reduce our revenues. As a result, our financial condition and our stock price would be adversely affected.

We currently derive substantially all of our revenue from contracts with the U.S. Government, including the DOD, Homeland Security and various INTEL within the U.S. Government. We have a contract with the United States Army Night Vision and Electronic Sensors Directorate that may provide for revenues of up to approximately $406 million (including revenue already recognized) depending upon the U.S. Army's needs of which our subsidiary, EOIR, recognized in excess of approximately $70.31 million in revenues for the year ended June 30, 2006 or 86.6% of our total consolidated revenues during that period. Although we expect this contract to account for a substantial portion of our revenues going forward, this contract expires in July 2007 and we are in the process of competing for a new contract. If we are not awarded a new contract, our revenues would significantly decrease and our financial condition could be adversely affected.

In addition, the loss of this customer due to cutbacks, competition, or other reasons would materially reduce our revenue base. Annual or quarterly losses may occur or be increased if there are material gaps or delays in orders from one of our largest customers that are not replaced by other orders or other sources of income.

Our largest customers are the DOD, Homeland Security, and various other INTEL whose operations are subject to unique political and budgetary constraints, involve competitive bidding, and our contacts with these customers may be subject to cancellation with or without penalty, which may produce volatility in our earnings and revenue.

Our largest customers are the DOD, Homeland Security, and various other INTEL. Due to political and budgetary processes and other scheduling delays that may frequently occur relating to the contract or bidding process, some government agency orders may be canceled or delayed, and the receipt of revenues or payments may be substantially delayed. This irregular and unpredictable revenue stream makes it difficult for our business to operate smoothly. Obtaining contracts from government agencies is challenging, and government contracts often include provisions that are not standard in private commercial transactions. For example, government contracts may:

include provisions that allow the government agency to terminate the contract without penalty under some circumstances;

be subject to purchasing decisions of agencies that are subject to political influence;

contain onerous procurement procedures; and

be subject to cancellation if government funding becomes unavailable.

In addition, federal government agencies routinely audit government contracts. These agencies review a contractor's performance on its contract, pricing practices, cost structure and compliance with applicable laws, regulations and standards. These audits may occur several years after completion of the audited work. An audit could result in a substantial adjustment to our revenues because we would not be reimbursed for any costs improperly allocated to a specific contract, and we would be forced to refund any improper costs already reimbursed. If a government audit uncovers improper or illegal activities, we may be subject to civil and criminal penalties and administrative sanctions, including termination of contracts forfeiture of profits, suspension of payments, fines and suspension or debarment from doing business with federal government agencies. In addition, our reputation could be harmed if allegations of impropriety were made against us.

Our business could be adversely affected by changes in budgetary priorities of the Government.

Because we derive a substantial majority of our revenue from contracts with the Government, we believe that the success and development of our business will continue to depend on our successful participation in Government contract programs. Changes in Government budgetary priorities could directly affect our financial performance. A significant decline in government expenditures, or a shift of expenditures away from programs that we support, or a change in Government contracting policies, could cause Government agencies to reduce their purchases under contracts, to exercise their right to terminate contracts at any time without penalty or not to exercise options to renew contracts. Any such actions could cause our actual results to differ materially from those anticipated. Among the factors that could seriously affect our Government contracting business are:

changes in Government programs or requirements;

budgetary priorities limiting or delaying Government spending generally, or specific departments or agencies in particular, and changes in fiscal policies or available funding, including potential Governmental shutdowns (as occurred during the Government’s 1996 fiscal year);

curtailment of the Government’s use of technology solutions firms.

Our Government contracts may be terminated by the government at any time and may contain other provisions permitting the government not to continue with contract performance. If lost contracts are not replaced, our operating results may differ materially from those anticipated.

We derive substantially all of our revenue from Government contracts that typically span one or more base years and one or more option years. The option periods typically cover more than half of the contract’s potential duration. Government agencies generally have the right not to exercise these option periods. In addition, our contracts typically also contain provisions permitting a government client to terminate the contract for its convenience. A decision not to exercise option periods or to terminate contracts could result in significant revenue shortfalls from those anticipated.

Our Government contracts contain numerous provisions that are unfavorable to us.

Government contracts, including ours, contain provisions and are subject to laws and regulations that give the government rights and remedies, some of which are not typically found in commercial contracts, including allowing the Government to:

cancel multi-year contracts and related orders if funds for contract performance for any subsequent year become unavailable;

claim rights in systems and software developed by us;

suspend or debar us from doing business with the Government or with a Government agency, impose fines and penalties and subject us to criminal prosecution; and

control or prohibit the export of our data and technology.

If the Government terminates any of our contracts for convenience, we may recover only our incurred or committed costs, settlement expenses and profit on work completed prior to the termination. If the Government terminates any of our contracts for default, we may be unable to recover even those amounts, and instead may be liable for excess costs incurred by the Government in procuring undelivered items and services from another source. Depending on the value of the particular contract, that type of termination could cause our actual results to differ materially from those anticipated. Our Government contracts also contain organizational conflict of interest clauses that limit our ability to compete for certain related follow-on contracts. For example, when we work on the design of a particular system, we may be precluded from competing for the contract to install that system. As we grow our business, we expect to experience organizational conflicts of interest more frequently. Depending upon the value of the matters affected by an organizational conflict of interest issue that precludes our participation in a program or contract could cause our actual results to differ materially from those anticipated.

We derive significant revenue from contracts and task orders awarded through a competitive bidding process. If we are unable to consistently win new awards over any extended period, our business and prospects will be adversely affected.

Substantially all of our contracts and task orders with the Government are awarded through a competitive bidding process. We expect that much of the business that we will seek in the foreseeable future will continue to be awarded through competitive bidding. Budgetary pressures and changes in the procurement process have caused many Government clients to increasingly purchase goods and services through indefinite delivery/indefinite quantity, or ID/IQ, contracts, GSA schedule contracts and other government-wide acquisition contracts. These contracts, some of which are awarded to multiple contractors, have increased competition and pricing pressure, requiring that we make sustained post-award efforts to realize revenue under each such contract. In addition, in consideration of recent publicity regarding the practice of agencies awarding work under such contracts that is arguably outside their intended scope, both the GSA and the DOD have initiated programs aimed to ensure that all work fits properly within the scope of the contract under which it is awarded. The net effect of such programs may reduce the number of bidding opportunities available to us. Moreover, even if we are highly qualified to work on a particular new contract, we might not be awarded business because of the Government’s policy and practice of maintaining a diverse contracting base.

The competitive bidding process presents a number of risks, including the following:

we bid on programs before the completion of their design, which may result in unforeseen technological difficulties and cost overruns;

we expend substantial cost and managerial time and effort to prepare bids and proposals for contracts that we may not win;

we may be unable to estimate accurately the resources and cost structure that will be required to service any contract we win; and

we may encounter expense and delay if our competitors protest or challenge awards of contracts to us in competitive bidding, and any such protest or challenge could result in the resubmission of bids on modified specifications, or in the termination, reduction or modification of the awarded contract.

If we are unable to win particular contracts, we may be unable to provide clients services that are purchased under those contracts for a number of years. If we are unable to consistently win new contract awards over any extended period, our business and prospects will be adversely affected and that could cause our actual results to differ materially from those anticipated. In addition, upon the expiration of a contract, if the client requires further services of the type provided by the contract, there is frequently a competitive re-bidding process. There can be no assurance that we will win any particular bid, or that we will be able to replace business lost upon expiration or completion of a contract, and the termination or non-renewal of any of our significant contracts could cause our actual results to differ materially from those anticipated.

Our business may suffer if we or our employees are unable to obtain the security clearances or other qualifications we and they need to perform services for our clients.

Many of our Government contracts require us to have security clearances and employ personnel with specified levels of education, work experience and security clearances. High-level security clearances can be difficult and time-consuming to obtain. If we or our employees lose or are unable to obtain necessary security clearances, we may not be able to win new business and our existing clients could terminate their contracts with us or decide not to renew them. To the extent we cannot obtain or maintain the required security clearances for our employees working on a particular contract, we may not derive the revenue anticipated from the contract, which could cause our results to differ materially from those anticipated.

The Government may change its procurement or other practices in a manner adverse to us.

The Government may change its procurement practices or adopt new contracting rules and regulations, such as cost accounting standards. It could also adopt new contracting methods relating to GSA contracts or other government-wide acquisition contracts, or adopt new socio-economic requirements. These changes could impair our ability to obtain new contracts or win re-competed contracts. New contracting requirements could be costly or administratively difficult for us to satisfy, and, as a result could cause actual results to differ materially from those anticipated.

Restrictions on or other changes to the Government’s use of service contracts may harm our operating results.

We derive a significant amount of revenue from service contracts with the Government. The Government may face restrictions from new legislation, regulations or union pressures, on the nature and amount of services the Government may obtain from private contractors. Any reduction in the Government’s use of private contractors to provide services could cause our actual results to differ materially from those anticipated.

Our contracts and administrative processes and systems are subject to audits and cost adjustments by the Government, which could reduce our revenue, disrupt our business or otherwise adversely affect our results of operations.

Government agencies, including the Defense Contract Audit Agency, or DCAA, routinely audit and investigate Government contracts and Government contractors’ administrative processes and systems. These agencies review our performance on contracts, pricing practices, cost structure and compliance with applicable laws, regulations and standards. They also review our compliance with regulations and policies and the adequacy of our internal control systems and policies, including our purchasing, property, estimating, compensation and management information systems. Any costs found to be improperly allocated to a specific contract will not be reimbursed, and any such costs already reimbursed must be refunded. Moreover, if any of the administrative processes and systems is found not to comply with requirements, we may be subjected to increased government oversight and approval that could delay or otherwise adversely affect our ability to compete for or perform contracts. Therefore, an unfavorable outcome to an audit by the DCAA or another agency could cause actual results to differ materially from those anticipated. If an investigation uncovers improper or illegal activities, we may be subject to civil and criminal penalties and administrative sanctions, including termination of contracts, forfeitures of profits, suspension of payments, fines and suspension or debarment from doing business with the Government. In addition, we could suffer serious reputational harm if allegations of impropriety were made against us. Each of these results could cause actual results to differ materially from those anticipated.

Unfavorable government audit results could force us to adjust previously reported operating results and could subject us to a variety of penalties and sanctions.

The federal government audits and reviews our performance on awards, pricing practices, cost structure, and compliance with applicable laws, regulations, and standards. Like most large government vendors, our awards are audited and reviewed on a continual basis by federal agencies, including the Defense Contract Management Agency and the Defense Contract Audit Agency. An audit of our work, including an audit of work performed by companies we have acquired or may acquire or subcontractors we have hired or may hire, could result in a substantial adjustment in our operating results for the applicable period. For example, any costs which were originally reimbursed could subsequently be disallowed. In this case, cash we have already collected may need to be refunded and our operating margins may be reduced. To date, we have not experienced any significant adverse consequences as a result of government audits.

If a government audit uncovers improper or illegal activities, we may be subject to civil and criminal penalties and administrative sanctions, including termination of contracts, forfeiture of profits, suspension of payments, fines and suspension or debarment from doing business with U.S. Government agencies.

Employee misconduct, including security breaches, could result in the loss of clients and our suspension or disbarment from contracting with the Government.

We may be unable to prevent our employees from engaging in misconduct, fraud or other improper activities that could adversely affect our business and reputation. Misconduct could include the failure to comply with procurement regulations, regulations regarding the protection of classified information and legislation regarding the pricing of labor and other costs in government contracts. Many of the systems we develop involve managing and protecting information involved in national security and other sensitive functions. A security breach in one of these systems could prevent us from having access to such critically sensitive systems. Other examples of employee misconduct could include time card fraud and violations of the Anti-Kickback Act. The precautions we take to prevent and detect this activity may not be effective, and we could face unknown risks or losses. As a result of employee misconduct, we could face fines and penalties, loss of security clearance and suspension or debarment from contracting with the Government, which could cause our actual results to differ materially from those anticipated.

If our subcontractors or vendors fail to perform their contractual obligations, our performance as a prime contractor and our ability to obtain future business could be materially and adversely impacted and our actual results could differ materially from those anticipated.

Our performance of Government contracts may involve the issuance of subcontracts or purchase orders to other companies upon which we rely to perform all or a portion of the work we are obligated to deliver to our clients. A failure by one or more of our subcontractors or vendors to satisfactorily deliver on a timely basis the agreed-upon supplies and/or perform the agreed-upon services may materially and adversely impact our ability to perform our obligations as a prime contractor.

A performance deficiency by a subcontractor or a vendor could result in the Government terminating our contract for default. A default termination could expose us to liability for excess costs of re-procurement by the Government and have a material adverse effect on our ability to compete for future contracts and task orders.

Depending upon the level of problem experienced, such problems with subcontractors could cause our actual results to differ materially from those anticipated.

We are a majority owned subsidiary of Markland. As a result, the ability of minority shareholders to influence our affairs is extremely limited.

As of February 5, 2007, Markland controlled approximately 79.8% of outstanding Technest common stock on a primary basis. As a result, Markland has the ability to control all matters submitted to the stockholders of Technest for approval (including the election and removal of directors). Pursuant to the Stockholder Agreement between Markland and Technest dated March 13, 2006, Markland agreed to elect Joseph Mackin, Gino Pereira, and our three independent directors, Robert Doto, Gen. David Gust (US Army Rtd.) and Darlene Deptula-Hicks.

This concentration of ownership may have the effect of delaying, deferring or preventing a change in control, impeding a merger, consolidation, takeover or other business combination involving us, or discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control, which in turn could materially and adversely affect the market price of the common stock.

Minority shareholders of Technest will be unable to affect the outcome of stockholder voting as long as Markland or any other party retains a controlling interest. Further, pursuant to the Stockholder Agreement entered into between Markland and Technest on March 13, 2006, Markland agreed until March 13, 2007, not to vote the shares held by it to increase the size of our board of directors or to remove any of the directors currently in office.

If our majority stockholder, Markland Technologies, Inc., sells or transfers all or a significant portion of the shares of our common stock that it currently holds, a change of control could result, which could significantly disrupt our operations.

Currently, Markland owns approximately 79.8% of our outstanding common stock. Markland has declared a distribution to its stockholders of 2,500,000 shares that it owns of Technest and has placed in escrow an aggregate of 4,640,192 shares of our common stock held by Markland to secure the conversion of the Markland Series E preferred stock. Upon the distribution to its stockholders of 2,500,000 shares of Technest, Markland’s ownership of Technest will be 65%. If all of the shares held in escrow were transferred by Markland, Markland’s ownership of Technest would drop to 37%. These holdings represent a significant portion of Markland’s assets. If Markland disposes of a large number of shares of our common stock for any reason, a change of control may result. In particular, Markland is subject to various legal actions, proceedings and claims and may become subject to additional actions, proceedings and claims in the future. Were any of these claims to result in an outcome adverse to Markland, the resulting damages or amounts paid in settlement could be satisfied partially or wholly with shares of our common stock. A change of control at the shareholder level could result in a change to the composition of our board and, ultimately, a change in our management and business plan. Any such transition could lead to, among other things, a decline in service levels, disruption in our operations and departures of key personnel, which could in turn harm our business.

Gino Pereira serves as a director and Chief Financial Officer of Technest and Markland. Conflicts of interest could arise as a result of these overlapping positions.

While Mr. Pereira’s employment agreement provides that he shall spend no less than 60% of his time working for Technest, there can be no assurance competing demands on Mr. Pereira at a given time will not result in an allocation of time and resources unfavorable to us. Neither our organizational documents nor our policies specify a minimum standard of time and attention that our officers and directors are required to devote to us, and there can be no assurance that conflicts of interest will not arise.

In light of Markland’s significant holdings of our common stock and the potential for conflict given Mr. Pereira’s current positions with Markland and Technest, in an effort to avoid even the mere appearance of a conflict, the board of directors of Technest on September 22, 2006 formed a special committee comprised of the three independent directors, Robert Doto, Gen. David Gust (US Army Rtd.) and Darlene Deptula-Hicks, to address issues arising from or related to, directly or indirectly, the ownership of our common stock by Markland and its assignees and to take any action the special committee deems appropriate.

Risks Related To Capital Structure

Shares eligible for future sale, if sold into the public market, may adversely affect the market price of our common stock.

Pursuant to the terms of the Merger Agreement and the Registration Rights Agreements executed on February 14, 2005 in connection with our acquisition of Genex, Technest was obligated to file a registration statement with the Securities and Exchange Commission; such registration statement went effective on February 7, 2007. In addition, we are obligated to registered shares held by Markland or any of its transferees. Our common stock is thinly traded. The registration of these shares for public resale may result in a greater number of shares being available for trading than the market can absorb. This may cause the market price of our common stock to decrease.

The sale of material amounts of common stock could encourage short sales by third parties and further depress the price of our common stock. As a result, you may lose all or part of your investment.

The significant downward pressure on our stock price caused by the sale of a significant number of shares could cause our stock price to decline, thus allowing short sellers of our stock an opportunity to take advantage of any decrease in the value of our stock. The presence of short sellers in our common stock may further depress the price of our common stock.

Technest does not foresee paying cash dividends in the foreseeable future.

Technest has not paid cash dividends on our stock and does not plan to pay cash dividends on our stock in the foreseeable future.

It may be difficult for you to resell shares of our common stock if an active market for our common stock does not develop.

Our common stock is not actively traded on a securities exchange and we do not meet the initial listing criteria for any registered securities exchange or the Nasdaq National Market System. It is quoted on the less recognized OTC Bulletin Board. This factor may further impair your ability to sell your shares when you want and/or could depress our stock price. As a result, you may find it difficult to dispose of, or to obtain accurate quotations of the price of, our securities because smaller quantities of shares could be bought and sold, transactions could be delayed and security analyst and news coverage of our company may be limited. These factors could result in lower prices and larger spreads in the bid and ask prices for our shares.

Technest’s common stock is “penny stock,” with the result that trading of our common stock in any secondary market may be impeded.

Due to the current price of our common stock, many brokerage firms may not be willing to effect transactions in our securities, particularly because low-priced securities are subject to SEC rules imposing additional sales requirements on broker-dealers who sell low-priced securities (generally defined as those having a per share price below $5.00). These disclosure requirements may have the effect of reducing the trading activity in the secondary market for our stock as it is subject to these penny stock rules. Therefore, stockholders may have difficulty selling those securities. These factors severely limit the liquidity, if any, of our common stock, and will likely continue to have a material adverse effect on its market price and on our ability to raise additional capital.

The penny stock rules require a broker-dealer, prior to a transaction in a penny stock, to deliver a standardized risk disclosure document prepared by the SEC, that:

(a)	contains a description of the nature and level of risk in the market for penny stocks in both public offerings and secondary trading;

(b)	contains a description of the broker’s or dealer’s duties to the customer and of the rights and remedies available to the customer with respect to a violation to such duties or other requirements of securities laws;

(c)	contains a brief, clear, narrative description of a dealer market, including bid and ask prices for penny stocks and the significance of the spread between the bid and ask price;

(d)	contains a toll-free telephone number for inquiries on disciplinary actions;

(e)	defines significant terms in the disclosure document or in the conduct of trading in penny stocks; and

(f)	contains such other information and is in such form, including language, type, size and format, as the SEC may require by rule or regulation.

In addition, the broker-dealer also must provide, prior to effecting any transaction in a penny stock, the customer with:

(a)	bid and ask quotations for the penny stock;

(b)	the compensation of the broker-dealer and its salesperson in the transaction;

(c)	the number of shares to which such bid and ask prices apply, or other comparable information relating to the depth and liquidity of the market for such stock; and

(d)	monthly account statements showing the market value of each penny stock held in the customer’s account.

Also, the penny stock rules require that prior to a transaction in a penny stock not otherwise exempt from those rules, the broker-dealer must make a special written determination that the penny stock is a suitable investment for the purchaser and receive the purchaser’s written acknowledgment of the receipt of a risk disclosure statement, a written agreement to transactions involving penny stocks, and a signed and dated copy of a written suitability statement.

We cannot predict the extent to which investor interest in our stock or a business combination, if any, will lead to an increase in our market price or the development of an active trading market or how liquid that market, if any, might become.

The market price of our common stock may be volatile. As a result, you may not be able to sell our common stock in short time periods, or possibly at all.

Our stock price has been volatile. From January 2003 to February 5, 2007, the trading price of our common stock ranged from a low price of $0.02 per share to a high price of $63.29 per share. Many factors may cause the market price of our common stock to fluctuate, including:

variations in our quarterly results of operations;

the introduction of new products by us or our competitors;

acquisitions or strategic alliances involving us or our competitors;

future sales of shares of common stock in the public market; and

market conditions in our industries and the economy as a whole.

In addition, the stock market has recently experienced extreme price and volume fluctuations. These fluctuations are often unrelated to the operating performance of particular companies. These broad market fluctuations may adversely affect the market price of our common stock. When the market price of a company's stock drops significantly, stockholders often institute securities class action litigation against that company. Any litigation against us could cause us to incur substantial costs, divert the time and attention of our management and other resources or otherwise harm our business.

The homeland security and defense industries are characterized by rapid technological change and evolving industry standards, and unless we keep pace with the changing technologies, we could lose customers and fail to win new customers.

Our future success will depend, in part, upon our ability to develop and introduce a variety of new products and services and enhancements to these new product and services in order to address the changing and sophisticated needs of the homeland security marketplace. Delays in introducing new products, services and enhancements, the failure to choose correctly among technical alternatives or the failure to offer innovative products and services at competitive prices may cause customers to forego purchases of our products and services and purchase those of our competitors. Frequently, technical development programs in the homeland security industry require assessments to be made of the future directions of technology and technology markets generally, which are inherently risky and difficult to predict.

We face intense competition, which could result in lower revenues and higher research and development expenditures and could adversely affect our results of operations.

Current political tensions throughout the world have heightened interest in the homeland security industry, and we expect competition in this field, which is already substantial, to intensify. If we do not develop new and enhanced products, or if we are not able to invest adequately in our research and development activities, our business, financial condition and results of operations could be negatively impacted. Many of our competitors have significantly more cash and resources than we have. Our competitors may introduce products that are competitively priced, have increased performance or functionality, or incorporate technological advances that we have not yet developed or implemented. To remain competitive, we must continue to develop, market and sell new and enhanced systems and products at competitive prices, which will require significant research and development expenditures.

We cannot assure you that we will be able to compete successfully against current and future competitors.

Risks Relating to New Corporate Governance Standards

We expect our administrative costs and expenses resulting from new regulations to increase, adversely affecting our financial condition and results of operations.

We face new corporate governance requirements under the Sarbanes-Oxley Act of 2002, the NASDAQ Capital Market requirements and SEC rules adopted thereunder These regulations when we become subject to them will increase our legal and financial compliance and make some activities more difficult, time-consuming and costly.

New corporate governance requirements have made it more difficult to attract qualified directors. As a result, our business may be harmed and the price of our stock may be adversely affected.

New corporate governance requirements have increased the role and responsibilities of directors and executive officers of public companies. These new requirements have made it more expensive for us to maintain director and officer liability insurance. We may be required to accept reduced coverage or incur significantly higher costs to maintain coverage. As a result, although we recently elected three directors that satisfy the “independence” standards of NASDAQ, it may be more difficult for us to attract and retain other qualified individuals to serve as members of our board of directors.

If we fail to maintain effective internal controls over financial reporting, the price of our common stock may be adversely affected.

We are required to establish and maintain appropriate internal controls over financial reporting. Our internal controls over financial reporting may have weaknesses and conditions that need to be addressed, the disclosure of which may have an adverse impact on the price of our common stock.

Failure to establish those controls, or any failure of those controls once established, could adversely impact our public disclosures regarding our business, financial condition or results of operations. In addition, management's assessment of internal controls over financial reporting may identify weaknesses and conditions that need to be addressed in our internal controls over financial reporting or other matters that may raise concerns for investors. Any actual or perceived weaknesses and conditions that need to be addressed, disclosure of management's assessment of our internal controls over financial reporting or disclosure of our independent registered public accounting firm's attestation to or report on management's assessment of our internal controls over financial reporting may have an adverse impact on the price of our common stock.

Standards for compliance with Section 404 of the Sarbanes-Oxley Act of 2002 are uncertain, and if we fail to comply in a timely manner, our business could be harmed and our stock price could decline.

Rules adopted by the SEC pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 require annual assessment of our internal control over financial reporting, and attestation of this assessment by our independent registered public accountant. We expect that these requirements will first apply to our annual report for the fiscal year ending June 30, 2008 and June 30, 2009, respectively. The standards that must be met for management to assess the effectiveness of the internal control over financial reporting are new and complex, and require significant documentation, testing and possible remediation to meet the detailed standards. We may encounter problems or delays in completing activities necessary to make an assessment of its internal control over financial reporting. In addition, we may encounter problems or delays in completing the implementation of any requested improvements and receiving an attestation of its assessment by our independent registered public accountants. If management cannot assess our internal control over financial reporting as effective, or our independent registered public accounting firm is unable to issue an unqualified attestation report on such assessment, investor confidence and share value may be negatively impacted.

Item 3. Controls and Procedures

Evaluation of Disclosure Controls and Procedures.

Based on our management's evaluation (with the participation of our principal executive officer and principal financial officer), as of the end of the period covered by this report, our principal executive officer and principal financial officer have concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, (the "Exchange Act")) are effective to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act (i) is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms, and (ii) is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.

Changes in Internal Control Over Financial Reporting.

There was no change in our internal control over financial reporting during the quarter ended December 31, 2006 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

ITEM 1. Legal Proceedings.

Technest Holdings, Inc.

On or about July 23, 1998, H & H Acquisition Corporation, individually and purportedly on behalf of Technest Holdings, commenced an action in United States District Court, Southern District of New York entitled H & H Acquisition Corp., individually and on behalf of Technest Holdings, Inc. v. Financial Intranet Holdings, Inc. Technest Holdings, Inc., F/K /A Financial Intranet, Inc., Ben Stein, Interwest Transfer Co., Steven A. Sanders, Michael Sheppard, Maura Marx, Henry A. Schwartz, Leonard Gotshalk, Gotshalk Enterprises, Law Office of Steven A. Sanders, P.C. and Beckman, Millman & Sanders, LLP, 98 Civ. 5269. The plaintiffs are purporting to act on behalf of Technest in the context of a shareholder’s derivative suit. The action’s principal basis appears to be a claim that Ben Stein, a former director and Secretary of Technest, wrongfully claims ownership of shares of common stock that Stein agreed to purchase from H&H. According to H&H, these shares belong to them. H&H asserts sixteen causes of action. Only some make allegations against Technest Holdings, Inc., Michael Sheppard and Maura Marx, former officers of Technest.

Technest, Mr. Sheppard and Ms. Marx believe that the claims against Technest, Mr. Sheppard and Ms. Marx are without merit and are vigorously defending the action. Technest, Mr. Sheppard and Ms. Marx have filed responses to the claims against them. The responses deny all material allegations of the complaint and the claim asserted by the transfer agent, and asserts a variety of defenses. We cannot make any assurances about the litigation’s outcome.

In June 2006, the court directed the parties to address the court’s continuing subject matter jurisdiction over Technest in the H&H matter. Technest has responded to the court’s direction and believes that as a result of intervening corporate actions, the injunctive relief sought by the plaintiff which gives rise the court’s subject matter jurisdiction in this case has been rendered moot, thereby depriving the court of continuing subject matter jurisdiction. Technest believes that the case as currently styled is fundamentally a dispute between H&H Acquisition Corp. and Ben Stein.

As of February 5, 2007, Technest has not been notified of a trial date for this matter.

On February 5, 2007, Technest was notified that the trial in this matter was set for July 10, 2007.

EOIR Technologies, Inc.

Markland and EOIR were notified on July 11, 2005 by counsel for Greg and Mary Williams, former shareholders and employees of EOIR and, in the case of Mr. Williams, a former director of Markland, that the Williams’ filed a lawsuit in the Commonwealth of Virginia, naming EOIR and Markland as defendants, seeking damages in the amount of $3,000,000 regarding a number of contractual disputes involving the registration of shares of Markland common stock underlying certain options issued to the Williams’ in connection with the acquisition of EOIR by Markland and severance payments pursuant to severance agreements by and among the Williams’, EOIR and Markland. On August 3, 2005, EOIR and Markland filed an answer and a demurrer denying all liability. On November 4, 2005, the Court heard the demurrer filed by EOIR Technologies, Inc. and Markland Technologies, Inc. and denied it. On April 6, 2006, a hearing was held in the Circuit Court for the City of Fredericksburg, Virginia on the Williams’ motion for summary judgment. On May 4, 2006, the court granted the Williams’ motion for summary judgment with regard to liability on Count I of the Williams’ claim regarding severance payment and Count III of their claim regarding Markland’s failure to register shares of Markland’s common stock underlying their options. We have, and continue to assert that Count III of the Williams’ complaint does not allege wrongdoing by EOIR and thus, we believe that we have no liability on that claim. Count II of the claim, which seeks a declaration that the promissory notes issued to Mr. and Mrs. Williams in connection with the acquisition of EOIR by Markland on June 29, 2004 are in default and an acceleration of the payments due under those notes, was not addressed by the court’s order.

On July 27, 2006, we entered into an agreement with the Williams pursuant to which we paid them $246,525 in satisfaction of their claims for severance under Count I and agreed to pay the outstanding balance of their promissory notes, along with all accrued but unpaid interest, in satisfaction of Count II which was paid on August 10, 2006. The Williams continue to assert claims against us for attorney’s fees and costs on all three counts of their complaint. Count III was not addressed by this agreement.

On October 24, 2006, the trial of this case was continued to March 21, 22 and 23, 2007, at which time the damages, if any, for Count III will be determined as well as costs and attorney’s fees, if applicable, for Counts I, II and III.

In the event that Mr. and Mrs. Williams prevail in any of their claims against Markland, Technest shares owned by Markland would be among the assets available to satisfy a resulting judgment.

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

At the Annual Meeting of Stockholders held on December 8, 2006, the stockholders of Technest Holdings, Inc. voted as follows:

1. To elect the following nominees to the Board of Directors for a one-year term:

Nominee	Total Vote “FOR”	Total Vote “WITHHELD”
Darlene M. Deptula-Hicks	14,654,740	865
Robert Doto	14,654,740	865
David R. Gust	14,654,740	865
Joseph P. Mackin	14,654,740	865
Gino M. Pereira	14,654,740	865

All received a plurality of the votes cast by stockholders entitled to vote thereon. Abstentions and broker non-votes were counted for determining a quorum, but were not treated as votes cast.

2. To ratify the audit committee's selection of Wolf & Company, P.C. as our independent registered accounting firm for fiscal year 2007.

Number of Votes for		Number of Votes Against		Number of Votes Abstaining		Number of Broker Non-Votes
14,654,573		1,030		2		-

ITEM 6. EXHIBITS

Exhibit No.	Description	Filed with this Quarterly Report	Incorporated by reference
			Form	Filing Date	Exhibit No.
3.1	By-law amendments		8-K	December 20, 2006	3.1
10.1	Office Lease Agreement Amendment No. 1 by and among Genex Technologies, Incorporated, Technest Holdings, Inc. and Motor City Drive, LLC dated as of November 1, 2006.	X
10.2	Asset Contribution Agreement between Technest Holdings, Inc. and Genex Technologies Incorporated dated November 1, 2006.	X
31.1	Certification by CEO of Periodic Report Pursuant to Rule 13a-14(a) or Rule 15d-14(a).	X
31.2	Certification by CFO of Periodic Report Pursuant to Rule 13a-14(a) or Rule 15d-14(a).	X
32.1	Certification by CEO and CFO of Periodic Report Pursuant to 18 U.S.C. Section 1350.	X

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.


	TECHNEST HOLDINGS, INC.
Date: February 14, 2007	By:	/s/ Joseph P. Mackin Joseph P. Mackin Chief Executive Officer and President

Date: February 14, 2007	By:	/s/ Gino M. Pereira
		Gino M. Pereira Chief Financial Officer

Accel Brands (ACLP) Inactive 424B3Prospectus supplement