Inferx 10-Q 2010 Q3 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

x QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2010

¨ TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT OF 1934

For the transition period from _______ to _______

Commission file number 000-51720

InferX Corporation

(Exact name of registrant as specified in its charter)

Delaware	54-1614664
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

46950 Jennings Farm Drive
Suite 290
Sterling, Virginia	20164
(Address of principal executive offices)	(Zip Code)

(703) 444-6030

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes  oNo x

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

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

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

As of November 15, 2010 there were 16,192,996 outstanding shares of the registrant’s common stock, $.0001 par value.

INDEX

		PAGE
PART 1.	Financial Information
Item 1.	Financial Statements
	Consolidated Balance Sheet as of  September 30, 2010 (Unaudited) and December 31, 2010 (Audited)	1
	Consolidated Statement of Operations for the Nine and Three Months Ended September 30, 2010 (Unaudited) and September 30, 2009 (Unaudited)	2
	Consolidated Statement of Changes in Stockholders’ Deficit for the Nine Months Ended  September 30, 2010 (Unaudited)
	Consolidated Statement of Cash Flows for the Nine Months Ended September 30, 2010 (Unaudited) and September 30, 2009 (Unaudited)	3
	Notes to Consolidated Financial Statements	4
Item 2.	Management’s Discussion and Analysis	24
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	32
Item 4T.	Controls and Procedures	32
PART 11.	Other Information	33
Item 1.	Legal Proceedings	33
Item 1A.	Risk Factors	33
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	34
Item 3.	Defaults Upon Senior Securities	34
Item 4.	Submission of Matters to a Vote of Security Holders	35
Item 5.	Other Information	35
Item 6.	Exhibits	35
	Signatures
	Exhibits

INFERX CORPORATION

 CONDENSED CONSOLIDATED BALANCE SHEETS

SEPTEMBER 30, 2010 (UNAUDITED) AND DECEMBER 31, 2009

ASSETS
	SEPTEMBER 30			DECEMBER 31,
	2010			2009
CURRENT ASSETS
Cash	$	73,979		$	49,989
Accounts receivable		634,770			916,641
Prepaid expenses		17,617			-
Total current assets		726,366			966,630
Fixed assets, net of depreciation		28,728			49,722
Other Assets
Other assets		6,000			6,000
Computer software development costs, net of amortization		16,222			64,888
Total other asset		22,222			70,888
TOTAL ASSETS	$	777,316		$	1,087,240
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES
Accounts payable and accrued expenses	$	2,438,867		$	2,102,644
Line of credit		341,587			358,087
Related party payable		725,000			725,000
Notes payable - related party		50,600			-
Convertible debenture, net of debt discount		240,369			51,870
Derivative liability		170,125			220,052
Liability for stock to be issued - preferred stock		-			200
Liability for stock to be issued - common stock		9,500			61,909
Current portion of notes payable, net of debt discount		43,053			545
Total current liabilities		4,019,101			3,520,307
Long-term Liabilities
Notes payable, net of current portion, net of debt discount		351,883			354,391
TOTAL LIABILITIES		4,370,984			3,874,698
STOCKHOLDERS' EQUITY (DEFICIT)
Preferred stock, par value $0.0001 per share, 10,000,000 shares authorized and
no shares issued and outstanding		-			-
Common stock, par value $0.0001 per share, 400,000,000 shares authorized and
16,192,996 and 3,920,645 shares issued and outstanding, respectively		1,619			392
Additional paid-in capital		382,121			-
Retained earnings (defict)		(3,977,408	)		(2,787,850	)
Total stockholders' equity (deficit)		(3,593,668	)		(2,787,458	)
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)	$	777,316		$	1,087,240

 The accompanying notes are an integral part of these condensed consolidated financial statements.

1

INFERX CORPORATION

  CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

FOR THE NINE AND THREE MONTHS ENDED SEPTEMBER 30, 2010 AND 2009 (UNAUDITED)

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2010			2009			2010			2009
							(unaudited)
REVENUE	$	1,104,623		$	1,764,907		$	3,813,288		$	5,636,895
COST OF REVENUES
Direct labor and other finges		291,865			339,495			911,148			787,287
Subcontractor		601,574			1,249,116			2,404,875			3,392,134
Other direct costs		32,413			(7,742	)		78,421			80,817
Amortization of computer software development costs		16,222			-			48,666			-
Total costs of revenues		942,074			1,580,869			3,443,110			4,260,238
GROSS PROFIT		162,549			184,038			370,178			1,376,657
OPERATING EXPENSES
Indirect and overhead labor and fringes		273,421			162,375			915,740			493,905
Professional fees		17,802			19,680			140,190			61,830
Business development costs		1,538			22,296			11,144			34,823
Rent		21,630			22,476			68,238			67,090
Advertising and promotion		815			5,656			27,855			9,461
General and administrative		29,913			71,561			105,313			132,371
Stock based compensation		79,435			-			198,486
Depreciation		6,224			5,279			20,993			26,309
Total operating expenses		430,778			309,323			1,487,959			825,789
NET INCOME (LOSS) FROM OPERATIONS BEFORE OTHER EXPENSE AND
PROVISION FOR INCOME TAXES		(268,229	)		(125,285	)		(1,117,781	)		550,868
OTHER INCOME (EXPENSE)
Amortization of debt discount		(45,178	)		-			(150,494	)		-
Fair value adjustment on derivative liability		102,054			-			121,922			-
Interest expense, net of interest income		(12,401	)		(6,160	)		(43,205	)		(16,381	)
Total other income (expense)		44,475			(6,160	)		(71,777	)		(16,381	)
NET INCOME (LOSS) FROM OPERATIONS BEFORE
PROVISION FOR INCOME TAXES		(223,754	)		(131,445	)		(1,189,558	)		534,487
Provision for income taxes		-			-			-			-
NET INCOME (LOSS) APPLICABLE TO SHARES	$	(223,754	)	$	(131,445	)	$	(1,189,558	)	$	534,487
NET INCOME (LOSS) PER BASIC SHARES	$	(0.02	)	$	(0.15	)	$	(0.13	)	$	0.60
NET INCOME (LOSS) PER DILUTED SHARES	$	(0.02	)	$	(0.15	)	$	(0.13	)	$	0.18
WEIGHTED AVERAGE NUMBER OF
SHARES OUTSTANDING - BASIC		15,078,291			886,926			9,112,317			886,926
WEIGHTED AVERAGE NUMBER OF
SHARES OUTSTANDING - DILUTED		15,078,291			886,926			9,112,317			2,953,115

 The accompanying notes are an integral part of these condensed consolidated financial statements.

2

INFERX CORPORATION

 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2010 AND 2009 (UNAUDITED)

	Nine Months Ended September 30,
	2010			2009
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)	$	(1,189,558	)	$	534,487
Adjustments to reconcile net income (loss)
to net cash provided by (used in) operating activities:
Stock based compensation		198,486			-
Amortization of debt discount		150,494			-
Services rendered for promissory note		40,000			-
Fair value adjustment for derivative liability		(121,922	)		-
Amortization of computer software development costs		48,666			-
Depreciation		20,993			26,309
Change in assets and liabilities
(Increase) decrease in accounts receivable		281,871			(648,895	)
(Increase) decrease in other current assets		(17,617	)		(20,075	)
Increase in accounts payable and accrued expenses		458,977			576,721
(Decrease) in liability for stock to be issued		9,500			-
Total adjustments		1,069,448			(65,940	)
Net cash provided by (used in) operating activities		(120,110	)		468,547
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of fixed assets		-			(6,688	)
(Increase) in note receivable					(18,255	)
Net cash (used in) financing activities		-			(24,943	)
CASH FLOWS FROM FINANCING ACTIVITIES:
(Repayment) of line of credit, net		(16,500	)		(470,000	)
Proceeds from notes payable - related parties		50,600
Proceeds received from convertible debentures		110,000
Net cash provided by (used in) financing activities		144,100			(470,000	)
NET INCREASE IN CASH AND CASH EQUIVALENTS		23,990			(26,396	)
CASH AND CASH EQUIVALENTS - BEGINNING OF PERIOD		49,989			71,450
CASH AND CASH EQUIVALENTS - END OF PERIOD	$	73,979		$	45,054

 The accompanying notes are an integral part of these condensed consolidated financial statements.

3

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

NOTE 1- ORGANIZATION AND BASIS OF PRESENTATION

The unaudited condensed consolidated financial statements included herein have been prepared, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”).  The condensed consolidated financial statements and notes are presented as permitted on Form 10-Q and do not contain information included in the Company’s annual statements and notes.  Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures are adequate to make the information presented not misleading.  It is suggested that these condensed consolidated financial statements be read in conjunction with the December 31, 2009 audited financial statements and the accompanying notes thereto.  While management believes the procedures followed in preparing these condensed consolidated financial statements are reasonable, the accuracy of the amounts are in some respects dependent upon the facts that will exist, and procedures that will be accomplished by the Company later in the year.

These unaudited condensed consolidated financial statements reflect all adjustments, including normal recurring adjustments which, in the opinion of management, are necessary to present fairly the consolidated operations and cash flows for the periods presented.

Black Nickel Acquisition Corporation I was incorporated in Delaware on May 26, 2005, and was formed as a vehicle to pursue a business combination. From inception through October 24, 2006, Black Nickel Acquisition Corporation I, was engaged in organizational efforts and obtaining initial financing.

On May 17, 2006, Black Nickel Acquisition Corporation I entered into a letter of intent with InferX Corporation, a privately-held Virginia corporation (“InferX Virginia”), with respect to entering into a merger transaction relating to bridge financing for InferX Virginia and the acquisition of and merger with InferX Virginia. The transaction closed on October 24, 2006. Following the merger, Black Nickel Acquisition Corporation I effected a short-form merger of InferX Virginia with and into Black Nickel Acquisition Corp. I, pursuant to which the separate existence of InferX Virginia terminated and Black Nickel Acquisition Corp. I changed its name to InferX Corporation (“InferX” or the “Company”).

The transaction was recorded as a recapitalization under the purchase method of accounting, as InferX became the accounting acquirer. The reported amounts and disclosures contained in the consolidated financial statements are those of InferX Corporation, the operating company.

InferX was incorporated under the laws of Delaware in 1999. On December 31, 2005, InferX and Datamat Systems Research, Inc. (“Datamat”), a company incorporated in 1992 under the corporate laws of the Commonwealth of Virginia executed an Agreement and Plan of Merger (the “Merger”). InferX and Datamat had common majority directors. The financial statements herein reflect the combined entity, and all intercompany transactions and accounts have been eliminated. As a result of the Merger, InferX merged with and into Datamat, the surviving entity. Upon completion, Datamat changed its name to InferX Corporation.

InferX was formed to develop and commercially market computer applications software systems that were initially developed by Datamat with grants from the Missile Defense Agency.  Datamat was formed as a professional services research and development firm, specializing in the Department of Defense. The Company provided services and software to the United States government and to commercial entities as well.

On March 16, 2009, the Company entered into an agreement and plan of reorganization (the “Merger Agreement”) with the Irus Group, Inc. (“Irus”) under which it effected a reverse triangular merger between Irus and the Company’s wholly-owned subsidiary, Irus Acquisition Corp. (formed for the purse of completing this transaction).  The Merger Agreement was then amended on June 15, 2009 (the “First Amended and Restated Agreement”) to reflect the change in the amount of the shares issued to Irus in the transaction.

4

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

NOTE 1- ORGANIZATION AND BASIS OF PRESENTATION(CONTINUED)

Under the terms of the First Amended and Restated Agreement, the issued and outstanding shares of Irus common stock was automatically converted into the right to receive 56% of the issued and outstanding shares of the Company’s common stock.

The Merger Agreement also provides that, at the effective time of the Merger, the Company’s Board of Directors agreed to appoint Vijay Suri, President and CEO of the Company and have Vijay Suri fill a vacancy on its Board of Directors. In addition, effectiveness of the Merger Agreement is conditional upon (i) the Company restructuring existing debt by converting the existing debt and warrants to common stock with the intention of having no more than 57-60 million shares of its common stock outstanding prior to a reverse split of not less than 1:10; (ii) the Company using its best efforts to reduce its accounts payable by 70%, (iii) Vijay Suri, President and CEO of The Irus Group executing an employment agreement with the Company, and (iv) additional customary closing conditions relating to delivery of financial statements, closing certificates as to representations and warranties, and the delivery of any required consents or government approvals.

In accordance with the merger, the Company on July 27, 2009 filed a Schedule 14C with the Securities and Exchange Commission. The Schedule 14C, contained 2 proposals; to increase the authorized common shares from 75,000,000 to 400,000,000 and to reverse split the common stock on a 1:20 basis. All share and per share amounts have been presented on a post-split basis.

On October 27, 2009, the Company and Irus completed the Merger. As consideration for the Merger, the Company issued 9,089,768 shares of common stock and 1,000,000 shares of preferred stock to Vijay Suri, the sole stockholder of Irus. On June 2, 2010, the Board rescinded the 1,000,000 shares of preferred stock and issued Vijay Suri 1,000,000 shares of common stock in recognition of his personal guarantee of certain corporate debt of the Company, which were issued as of September 30, 2010.

Irus was a consulting firm advising on the planning, implementation and development of complex business intelligence and corporate performance management systems. Irus has successfully implemented projects across a broad cross-section of clients in the government, financial services, retail, manufacturing, and telecommunications markets. Irus has provided business solutions for many large clients, including MasterCard, JP Morgan Chase, ConAgra, and the US Navy, and collaborated with a wide range of technology partners including Oracle, IBM/Cognos and Microsoft.

The Merger with Irus was accounted for as a recapitalization under the purchase method of accounting, as Irus became the accounting acquirer. The reported amounts and disclosures contained in the consolidated financial statements are those of Irus, the operating company. In the transaction, Irus did assume the technology of the Company as well as the liabilities.

Effective July 1, 2009, the Company adopted the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 105-10, Generally Accepted Accounting Principles – Overall (“ASC 105-10”). ASC 105-10 establishes the FASB Accounting Standards Codification (the “Codification”) as the source of authoritative accounting principles recognized by the FASB to be applied by nongovernmental entities in the preparation of financial statements in conformity with U.S. GAAP. Rules and interpretive releases of the SEC under authority of federal securities laws are also sources of authoritative U.S. GAAP for SEC registrants. All guidance contained in the Codification carries an equal level of authority. The Codification superseded all existing non-SEC accounting and reporting standards. All other non-grandfathered, non-SEC accounting literature not included in the Codification is non-authoritative. The FASB will not issue new standards in the form of Statements, FASB Positions or Emerging Issue Task Force Abstracts. Instead, it will issue Accounting Standards Updates (“ASUs”).

5

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

NOTE 1- ORGANIZATION AND BASIS OF PRESENTATION(CONTINUED)

The FASB will not consider ASUs as authoritative in their own right. ASUs will serve only to update the Codification, provide background information about the guidance and provide the bases for conclusions on the change(s) in the Codification. References made to FASB guidance throughout this document have been updated for the Codification.

Going Concern

As shown in the accompanying condensed consolidated financial statements the Company has incurred a loss of $1,189,558 for the nine months ended September 30, 2010, and has a working capital deficiency of $3,292,735 as of September 30, 2010.  The principal reasons for the recurring losses and working capital deficiency relates to the Company’s continued focus on consolidating operations directly related to the merger, as well as refining its products and search for profitable government contracts and the continued uncertainty in the commercial market due to the recent national down-turn in business and available capital to the firm.  The Company expects the negative cash flow from operations to continue its trend through the next three months, however continues to expand their pipeline of contracts.  These factors raise significant doubt about the ability of the Company to continue as a going concern.

Management’s plans to address these conditions include continued efforts to expand the firm’s current business backlog, by obtaining new government contracts, as well as commercial contracts through expanding sources and new technology, and the raising of additional capital through the sale of the Company’s stock. Additionally, the executive management team has put into place an aggressive cost and expense savings spending plan to identify and eliminate costs which are directly impacting profitability.

The Company’s long-term success is dependent upon the obtainment of sufficient capital to fund its operations; development of its products; and launching its products to the worldwide market. These factors will contribute to the Company’s obtaining sufficient sales volume to be profitable. To achieve these objectives, the Company may be required to raise additional capital through public or private financings or other arrangements.

It cannot be assured that such financings will be available on terms attractive to the Company, if at all. Such financings may be dilutive to existing stockholders and may contain restrictive covenants.

The Company is subject to certain risks common to technology-based companies in similar stages of development. Principal risks to the Company include uncertainty of growth in market acceptance for its products; history of losses in recent years; ability to remain competitive in response to new technologies; costs to defend, as well as risks of losing patent and intellectual property rights; reliance on limited number of suppliers; reliance on outsourced manufacture of its products for quality control and product availability; uncertainty of demand for its products in certain markets; ability to manage growth effectively; dependence on key members of its management; and its ability to obtain adequate capital to fund future operations.

The condensed consolidated financial statements do not include any adjustments relating to the carrying amounts of recorded assets or the carrying amounts and classification of recorded liabilities that may be required should the Company be unable to continue as a going concern.

NOTE 2- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation

The condensed consolidated financial statements include those of the Company and its wholly-owned subsidiary. All intercompany accounts and transactions have been eliminated in consolidation.

6

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

  NOTE 2-   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Use of Estimates

The preparation of condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and 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.

Cash and Cash Equivalents

The Company considers all highly liquid debt instruments and other short-term investments with a maturity of three months or less, when purchased, to be cash equivalents.

The Company maintains cash and cash equivalent balances at one financial institution that is insured by the Federal Deposit Insurance Corporation up to $250,000.

Allowance for Doubtful Accounts

The Company provides an allowance for doubtful accounts, which is based upon a review of outstanding receivables as well as historical collection information.  Credit is granted to substantially all customers on an unsecured basis.  In determining the amount of the allowance, management is required to make certain estimates and assumptions.  Management has determined that as of September 30, 2010, no allowance for doubtful accounts is required.

Fixed Assets

Fixed assets are stated at cost, less accumulated depreciation. Depreciation is provided using the straight-line method over the estimated useful lives of the related assets (primarily three to five years). Costs of maintenance and repairs are charged to expense as incurred.

Computer Software Development Costs

During 2009, the Company capitalized certain software development costs.  The Company capitalizes the cost of software in accordance with ASC 985-20 once technological feasibility has been demonstrated, as the Company has in the past sold, leased or otherwise marketed their software, and plans on doing so in the future.  The Company capitalizes costs incurred to develop and market their privacy preserving software during the development process, including payroll costs for employees who are directly associated with the development process and services performed by consultants.  Amortization of such costs is based on the greater of (1) the ratio of current gross revenues to the sum of current and anticipated gross revenues, or (2) the straight-line method over the remaining economic life of the software, typically five years. It is possible that those anticipated gross revenues, the remaining economic life of the products, or both, may be reduced as a result of future events.  The Company has not developed any software for internal use.

For the nine months ended September 30, 2010 and 2009, the Company recognized $48,666 and $0 of amortization expense on its capitalized software costs, respectively.

7

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

  NOTE 2-   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Recoverability of Long-Lived Assets

The Company reviews the recoverability of our long-lived assets on a periodic basis whenever events and changes in circumstances have occurred which may indicate a possible impairment. The assessment for potential impairment is based primarily on our ability to recover the carrying value of long-lived assets from expected future cash flows from operations on an undiscounted basis. If such assets are determined to be impaired, the impairment recognized is the amount by which the carrying value of the assets exceeds the fair value of the assets. Fixed assets to be disposed of by sale are carried at the lower of the then current carrying value or fair value less estimated costs to sell.

Revenue Recognition

Revenue is recognized when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable, and collectability is probable.  We enter into certain arrangements where we are obligated to deliver multiple products and / or services (multiple elements).  In these transactions, we allocate the total revenue among the elements based on the sales price of each element when sold separately (vendor-specific objective evidence).  The Company generates revenue from application license sales, application maintenance and support, professional services rendered to customers as well as from application management support contracts with commercial and governmental units.  The Company’s revenue is generated under time-and-material contracts and fixed-price contracts.

The Company’s business is not seasonal in nature.  The timing of contract awards, the availability of funding from the customer, the incurrence of contract costs and unit deliveries are the primary drivers of our revenue recognition.  These factors are influenced by the federal government’s October-to-September fiscal year.  This process has historically resulted in higher revenues in the latter half of the government fiscal year.  Many of our government customers schedule deliveries toward the end of the calendar year, resulting in increasing revenues and earnings over the course of the year.

The Company does not derive revenue from projects involving multiple revenue-generating activities.  If a contract would involve the provision of multiple service elements, total estimated contract revenue would be allocated to each element based on the fair value of each element.  The amount of revenue allocated to each element would then be limited to the amount that is not contingent upon the delivery of another element in the future.  Revenue for each element would then be recognized depending upon whether the contract is a time-and-materials contract or a fixed-price, fixed-time contract.

Stock-Based Compensation

In 2006, the Company adopted the provisions of ASC 718-10 “Share-Based Payments” (“ASC 718-10”) which requires recognition of stock-based compensation expense for all share-based payments based on fair value.  Share-based payment transactions within the scope of ASC 718-10 include stock options, restricted stock plans, performance-based awards, stock appreciation rights, and employee share purchase plans.  This adoption had no effect on the Company’s operations.  Prior to January 1, 2006, the Company measured compensation expense for all of the share-based compensation using the intrinsic value method.

8

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

  NOTE 2-   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Stock-Based Compensation (continued)

The Company has elected to use the modified–prospective approach method.  Under that transition method, the calculated expense in 2006 is equivalent to compensation expense for all awards granted prior to, but not yet vested as of January 1, 2006, based on the grant-date fair values.  Stock-based compensation expense for all awards granted after January 1, 2006 is based on the grant-date fair values.  The Company recognizes these compensation costs, net of an estimated forfeiture rate, on a pro rata basis over the requisite service period of each vesting tranche of each award.  The Company considers voluntary termination behavior as well as trends of actual option forfeitures when estimating the forfeiture rate.

The Company measures compensation expense for non-employee stock-based compensation under ASC 505-50, “Accounting for Equity Instruments that are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services".  The fair value of the option issued is used to measure the transaction, as this is more reliable than the fair value of the services received.  The fair value is measured at the value of the Company’s common stock on the date that the commitment for performance by the counterparty has been reached or the counterparty’s performance is complete.  The fair value of the equity instrument is charged directly to compensation expense and additional paid-in capital.

Concentrations

For the nine months ended September 30, 2010 the Company has derived 96% of its revenue from three customers.

Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of accounts receivable.  To date, accounts receivable have been derived from contracts with agencies of the federal government.  Accounts receivable are generally due within 30 days and no collateral is required.

Segment Reporting

The Company follows the provisions of ASC 280-10, "Disclosures about Segments of an Enterprise and Related Information”. This standard requires that companies disclose operating segments based on the manner in which management disaggregates the Company in making internal operating decisions. The Company only operates in one reporting segment as of September 30, 2010 and for the nine months ended September, 2010 and 2009.

Fair Value of Financial Instruments (other than Derivative Financial Instruments)

The carrying amounts reported in the consolidated balance sheets for cash and cash equivalents, and accounts payable approximate fair value because of the immediate or short-term maturity of these financial instruments.  For the notes payable, the carrying amount reported is based upon the incremental borrowing rates otherwise available to us for similar borrowings.  For the warrants that are classified as derivatives, fair values were calculated at net present value using our weighted average borrowing rate for debt instruments without conversion features applied to total future cash flows of the instruments.

9

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

  NOTE 2-   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Convertible Instruments

The Company reviews the terms of convertible debt and equity securities for indications requiring bifurcation, and separate accounting, for the embedded conversion feature. Generally, embedded conversion features, where the ability to physical or net-share settle the conversion option is not within the control of the Company, are bifurcated and accounted for as a derivative financial instrument. Bifurcation of the embedded derivative instrument requires allocation of the proceeds first to the fair value of the embedded derivative instrument with the residual allocated to the debt instrument. The resulting discount to the face value of the debt instrument is amortized through periodic charges to interest expense using the Effective Interest Method.

Income Taxes

Under ASC 740 the liability method is used in accounting for income taxes.  Under this method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities, and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse.

Uncertainty in Income Taxes

Under ASC 740-10-25 recognition and measurement of uncertain income tax positions is required using a “more-likely-than-not” approach. The Company evaluates their tax positions on an annual and quarterly basis, and has determined that as of September 30, 2010 no additional accrual for income taxes is necessary.

Earnings (Loss) Per Share of Common Stock

Basic net earnings (loss) per common share (“EPS”) is computed using the weighted average number of common shares outstanding for the period.  Diluted earnings per share include additional dilution from common stock equivalents, such as stock issuable pursuant to the exercise of stock options and warrants. Common stock equivalents are not included in the computation of diluted earnings per share when the Company reports a loss because to do so would be anti-dilutive for the periods presented.

10

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

  NOTE 2-   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(Loss) Per Share of Common Stock (continued)

The following is a reconciliation of the computation for basic and diluted EPS:

	Nine Months Ended
	September 30,		September 30,
	2010		2009
Net income (loss)	$	(1,189,558)		534,487
Weighted-average common shares outstanding :
Basic		9,112,317		886,926
Convertible notes		-		945,000
Warrants		6,344,000		1,020,439	-
Options		3,870,000		100,750
Diluted		19,326,317		2,953,115
Basic net income (loss) per share	$	(0.13)		0.60
Diluted net income (loss) per share	$	(0.13)		0.18

Research and Development

Research and development expenses include payroll, employee benefits, equity compensation, and other headcount-related costs associated with product development.  The Company has determined that technological feasibility for the software products is reached shortly before the products are released to manufacturing. Costs incurred after technological feasibility is established are not material, and accordingly, the Company expenses all research and development costs when incurred.  In addition, research and development costs have been included in the consolidated statements of operations for the nine months ended September 30, 2010 and 2009, respectively.

Recent Issued Accounting Standards

In September 2006, ASC issued 820, Fair Value Measurements. ASC 820 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosure about fair value measurements. This statement is effective for financial statements issued for fiscal years beginning after November 15, 2007. Early adoption is encouraged. The adoption of ASC 820 is not expected to have a material impact on the financial statements.

11

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

  NOTE 2-   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Recent Issued Accounting Standards (continued)

In February 2007, ASC issued 825-10, The Fair Value Option for Financial Assets and Financial Liabilities – Including an amendment of ASC 320-10, (“ASC 825-10”) which permits entities to choose to measure many financial instruments and certain other items at fair value at specified election dates. A business entity is required to report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. This statement is expected to expand the use of fair value measurement. ASC 825-10 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years.

In December 2007, ASC 810-10-65, “Noncontrolling Interests in Consolidated Financial Statements,” (“ASC 810-10-65”), was issued. ASC 810-10-65 establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, changes in a parent’s ownership of a noncontrolling interest, calculation and disclosure of the consolidated net income attributable to the parent and the noncontrolling interest, changes in a parent’s ownership interest while the parent retains its controlling financial interest and fair value measurement of any retained noncontrolling equity investment.

ASC 810-10-65 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. Early adoption is prohibited. Management is determining the impact that the adoption of ASC 810-10-65 will have on the Company’s financial position, results of operations or cash flows.

In December 2007, the Company adopted ASC 805, Business Combinations (“ASC 805”). ASC 805 retains the fundamental requirements that the acquisition method of accounting be used for all business combinations and for an acquirer to be identified for each business combination. ASC 805 defines the acquirer as the entity that obtains control of one or more businesses in the business combination and establishes the acquisition date as the date that the acquirer achieves control.  ASC 805 will require an entity to record separately from the business combination the direct costs, where previously these costs were included in the total allocated cost of the acquisition.  ASC 805 will require an entity to recognize the assets acquired, liabilities assumed, and any non-controlling interest in the acquired at the acquisition date, at their fair values as of that date.

ASC 805 will require an entity to recognize as an asset or liability at fair value for certain contingencies, either contractual or non-contractual, if certain criteria are met.  Finally, ASC 805 will require an entity to recognize contingent consideration at the date of acquisition, based on the fair value at that date.  This will be effective for business combinations completed on or after the first annual reporting period beginning on or after December 15, 2008.  Early adoption is not permitted and the ASC is to be applied prospectively only. Upon adoption of this ASC, there would be no impact to the Company’s results of operations and financial condition for acquisitions previously completed. The adoption of ASC 805 is not expected to have a material effect on the Company’s financial position, results of operations or cash flows.

In March 2008, ASC issued ASC 815, Disclosures about Derivative Instruments and Hedging Activities, (“ASC 815”). ASC 815 requires enhanced disclosures about an entity’s derivative and hedging activities. These enhanced disclosures will discuss: how and why an entity uses derivative instruments; how derivative instruments and related hedged items are accounted for and its related interpretations; and how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. ASC 815 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. The Company does not believe that ASC 815 will have an impact on their results of operations or financial position.

12

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

  NOTE 2-   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Recent Issued Accounting Standards (continued)

In April 2008, ASC issued ASC 350, “Determination of the Useful Life of Intangible Assets”. This amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under ASC 350. The guidance is used for determining the useful life of a recognized intangible asset shall be applied prospectively to intangible assets acquired after adoption, and the disclosure requirements shall be applied prospectively to all intangible assets recognized as of, and subsequent to, adoption. The Company does not believe ASC 350 will materially impact their financial position, results of operations or cash flows.

In May 2008, ASC 470-20, “Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)” (“ASC 470-20”), was issued. ASC 470-20 requires the issuer of certain convertible debt instruments that may be settled in cash (or other assets) on conversion to separately account for the liability (debt) and equity (conversion option) components of the instrument in a manner that reflects the issuer’s non-convertible debt borrowing rate.  ASC 470-20 is effective for fiscal years beginning after December 15, 2008 on a retroactive basis.  The Company does not believe that the adoption of ASC 470-20 will have a material effect on its financial position, results of operations or cash flows.

In June 2008, ASC 815-40, “Determining Whether an Instrument (or Embedded Feature) Is Indexed to an Entity’s Own Stock” (“ASC 815-40”), was issued.  ASC 815-40 provides guidance for determining whether an equity-linked financial instrument (or embedded feature) is indexed to an entity’s own stock and it applies to any freestanding financial instrument or embedded feature that has all the characteristics of a derivative.  ASC 815-40 also applies to any freestanding financial instrument that is potentially settled in an entity’s own stock.  The Company is determining what impact, if any, ASC 815-40 will have on its financial position, results of operations and cash flows.

In June 2008, ASC 470-20-65, “Transition Guidance for Conforming Changes to, Accounting for Convertible Securities with Beneficial Conversion Features or Contingently Adjustable Conversion Ratios”, (“ASC 470-20-65”), was issued. ASC 470-20-65 is effective for years ending after December 15, 2008.  The overall objective of ASC 470-20-65 is to provide for consistency in application of the standard.  The Company has computed and recorded a beneficial conversion feature in connection with certain of their prior financing arrangements and does not believe that ASC 470-20-65 will have a material effect on that accounting.

In May 2009, ASC 855, “Subsequent Events”, (“SFAS 165”), was published. ASC 855 requires the Company to disclose the date through which subsequent events have been evaluated and whether that date is the date the financial statements were issued or the date the financial statements were available to be issued. ASC 855 is effective for financial periods ending after June 15, 2009.  

Effective July 1, 2009, the Company adopted FASB ASU No. 2009-05, Fair Value Measurement and Disclosures (Topic 820) (“ASU 2009-05”). ASU 2009-05 provided amendments to ASC 820-10, Fair Value Measurements and Disclosures – Overall, for the fair value measurement of liabilities. ASU 2009-05 provides clarification that in circumstances in which a quoted market price in an active market for the identical liability is not available, a reporting entity is required to measure fair value using certain techniques. ASU 2009-05 also clarifies that when estimating the fair value of a liability, a reporting entity is not required to include a separate input or adjustment to other inputs relating to the existence of a restriction that prevents the transfer of a liability.

13

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

  NOTE 2-   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Recent Issued Accounting Standards (continued)

ASU 2009-05 also clarifies that both a quoted price in an active market for the identical liability at the measurement date and the quoted price for the identical liability when traded as an asset in an active market when no adjustments to the quoted price of the asset are required for Level 1 fair value measurements. Adoption of ASU 2009-05 did not have a material impact on the Company’s results of operations or financial condition.

In January 2010, the Company adopted FASB ASU No. 2010-06, Fair Value Measurement and Disclosures (Topic 820) - Improving Disclosures about Fair Value Measurements (“ASU 2010-06”). These standards require new disclosures on the amount and reason for transfers in and out of Level 1 and 2 fair value measurements. The standards also require new disclosures of activities, including purchases, sales, issuances, and settlements within the Level 3 fair value measurements. The standard also clarifies existing disclosure requirements on levels of disaggregation and disclosures about inputs and valuation techniques. These new disclosures are effective beginning with the first interim filing in 2010.

The disclosures about the roll forward of information in Level 3 are required for the Company with its first interim filing in 211.  The Company does not believe this standard will impact their financial statements.

Other ASU’s that have been issued or proposed by the FASB ASC that do not require adoption until a future date and are not expected to have a material impact on the financial statements upon adoption.

NOTE 3- FIXED ASSETS

Fixed assets consist of the following as of September 30, 2010 (unaudited) and December 31, 2009, respectively:

	Estimated Useful	September 30,		December 31
	Lives (Years)	2010		2009
Computer equipmenta	5	$	299,915	$	299,915
Office machinery and equipment	5		15,099		15,638
Furniture  and fixtures	5		86,934		86,934
Computer software	3		14,895		14,895
Automobile	5		50,914		50,914
			468,296		468,296
Less: Accumulated depreciation			(439,568)		(418,574)
Total, net		$	28,728	$	49,722

Depreciation expense was $20,993  and $26,309 for the nine months ended September 30, 2010 and 2009, respectively.

14

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

NOTE 4- COMPUTER SOFTWARE DEVELOPMENT COSTS

Computer software development costs consist of the following as of September 30, 2010 (unaudited) and December 31, 2009, respectively:

	Estimated Useful	September 30,		December 31,
	Lives (Years)	2010		2009
Computer software development costs	5	$	986,724	$	986,724
Less: Accumulated amortization			(970,502)		(921,836)
Total, net		$	16,222	$	64,888

Amortization expense was $48,666 and $0 for the nine months ended September 30, 2010 and 2009, respectively.

Amortization expense anticipated through December 31, 2010 is as follows:

Period ended December 31:
2010	$	16,222

NOTE 5- NOTES PAYABLE

SBA Loan

On July 22, 2003, the Company and the U.S. Small Business Administration (“SBA”) entered into a Note (the “Note”) under the SBA’s Secured Disaster Loan program in the amount of $377,100.

Under the Note, the Company agreed to pay principal and interest at an annual rate of 4% per annum, of $1,868 every month commencing twenty-five (25) months from the date of the Note (commencing August 2005). The Note matures July 2034.

The Company must comply with the default provisions contained in the Note. The Company is in default under the Note if it does not make a payment under the Note, or if it: a) fails to comply with any provision of the Note, the Loan Authorization and Agreement, or other Loan documents; b) defaults on any other SBA loan; c) sells or otherwise transfers, or does not preserve or account to SBA’s satisfaction for, any of the collateral (as defined therein) or its proceeds; d) does not disclose, or anyone acting on their behalf does not disclose, any material fact to the SBA; e) makes, or anyone acting on their behalf makes, a materially false or misleading representation to the SBA; f) defaults on any loan or agreement with another creditor, if the SBA believes the default may materially affect the Company’s ability to pay this Note; g) fails to pay any taxes when due; h) becomes the subject of a proceeding under any bankruptcy or insolvency law; i) has a receiver or liquidator appointed for any part of their business or property; j) makes an assignment for the benefit of creditors; k) has any adverse change in financial condition or business operation that the SBA believes may materially affect the Company’s ability to pay this Note; l) dies; m) reorganizes, merges, consolidates, or otherwise changes ownership or business structure without the

15

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

  NOTE 5-   NOTES PAYABLE (CONTINUED)

SBA Loan (continued)

SBA’s prior written consent; or n) becomes the subject of a civil or criminal action that the SBA believes may materially affect the Company’s ability to pay this Note. The Company is not in default and current on its obligation.  The Company has accrued interest at a rate of $38.90 per day.

As of September 30, 2010, the Company has an outstanding principal balance of $354,936. Interest expense on the SBA loan for the nine months ended September 30, 2010 and 2009 respectively was $ 10,502 and $ 0.

Tangiers Investors, LP

On February 26, 2010, the Company entered into a Promissory Note with Tangiers Investors, LP in the amount of $40,000. The $40,000 was the value of services performed for the Company and not for cash paid. The Company has agreed to repay the note in two tranches of $20,000. The initial payment was due April 30, 2010 and the final payment was due June 30, 2010. Interest is calculated at 5% per annum.

In August 2010, upon failure of the Company to pay either of the agreed upon payments, the Company and Tangiers Investors, LP entered into a Forbearance Agreement, which gave the company the option to either repay the entire $40,000 plus interest by October 15, 2010 and issue 50,000 common shares, repay $15,000 plus interest by October 15, 2010 and issue 50,000 common shares with the remaining $25,000 plus interest due by December 31, 2010 or repay the entire $40,000 plus interest by December 31, 2010 and issue 100,000 common shares. As of the date of this filing, no repayments have been made by the Company.

Interest expense for the nine months ended September 30, 2010 and 2009 respectively was $1,184and $ 0. The interest is accrued as of September 30, 2010.

NOTE 6- NOTE PAYABLE – RELATED PARTY

In April 2010, the Company entered into two separate promissory notes with the Company’s President who loaned the Company a total of $26,000 on April 16, 2010 and $24,600 on April 30, 2010. Payments of $1,000 per month commence July 1, 2010 for five months and the balance due on December 1, 2010. Interest is calculated at 1.5% per month; escalating to 2.5% per month should the monthly $1,000 payments not be made timely. The Company has not made the required $1,000 payments, thus the interest, effective July 1, 2010 on these notes has been accrued at 2.5% per month in accordance with the note agreements.

Interest expense for the nine months ended September 30, 2010 and accrued interest at September 30, 2010 related to these notes are $462.

NOTE 7- LINE OF CREDIT

The Company has a line of credit with a bank in the amount of $850,000 as of September 30, 2010. The Company has an outstanding balance of $341,587 as of September 30, 2010.

The loan accrues interest at annual interest rates of prime plus ¼ %. Interest expense for the nine months ended September 30, 2010 and 2009 respectively was $ 8,260 and $ 17,703. The line of credit is secured by the Company’s accounts receivables and personally guaranteed by the Company’s President.

16

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

NOTE 8- CONVERTIBLE DEBENTURE

On December 23, 2009, the Company entered into a Debenture and Warrant Purchase Agreement pursuant to which Street Capital, LLC, the placement agent, agreed to use its best efforts to provide bridge financing through unnamed prospective purchasers in return for an 8% secured convertible debenture (“Debenture”) in the principal amount of $300,000 at a conversion price of $0.20 per share of the Company’s common stock and equity participation in the form of a class A common stock purchase warrant to purchase an aggregate of up to 450,000 shares of the Company’s common stock with an exercise price of $0.20, and a class B common stock purchase warrant to purchase an aggregate of up to 120,000 shares of the Company’s common stock, with an exercise price per share equal to $0.50. On July 9, 2010, the exercise price was changed to $0.20 as the Company failed to convert or repay the instrument by the due date of June 23, 2010. The Company received $150,000 of the $300,000 total principal on December 23, 2009 and entered into two additional debentures for $100,000 and $10,000 for a total of $110,000 in April 2010. As of September 30, 2010, the Company has $260,000 outstanding in convertible debentures.

The Company also entered into a Security Agreement pursuant to which it granted to the Debenture holders a first lien against all of its assets, including its software, as security for repayment of the Debenture. As a result of the Company raising $260,000 of the $300,000 in proceeds, they issued a total of 390,000 class A and 104,000 class B warrants to the respective parties. Interest expense for the nine months ended September 30, 2010 and accrued as of September 30, 2010 is $13,224. There was no interest for the nine months ended September 30, 2009.

In accordance with ASC 470-20, the Company separately accounted for the conversion feature and recognized each component of the transaction separately. As a result, the Company recognized a discount on the convertible debenture in the amount of $170,125 that will be amortized over the life of the convertible debentures which is six-months on each debenture.

The Company recognized the discount as a derivative liability, and in accordance with the ASC, values the derivative liability each reporting period to market. The Company has recognized a gain of $121,922 in the nine months ended September 30, 2010 due to the beneficial conversion of the various instruments. The convertible debenture matured in June 2010, without conversion or repayment. The Company entered into an Amendment to Debenture and Warrants which extended the due date of the original $150,000 debenture from June 2010 to August 31, 2010 and amended the exercise price of the Class B warrants from $0.50 to $0.20 on July 9, 2010. The Company is in continuing discussions with the Debenture Holders to extend the amended due date of the original $150,000 denture from August 31, 2010 to a future date to be acceptable to all parties.  No notice of default his been given to the Company.

NOTE 9- STOCKHOLDERS’ EQUITY (DEFICIT)

Preferred Stock

The Company was incorporated on May 26, 2005, and the Board of Directors authorized 10,000,000 shares of preferred stock with a par value of $0.0001. The Company as of December 31, 2009 has authorized the issuance of 2,000,000 shares of preferred stock. 1,000,000 of the shares were authorized to be issued to Vijay Suri in connection with the Merger Agreement, and 1,000,000 shares of preferred stock were authorized to be issued to B.K. Gogia the former CEO upon his resignation as CEO. The Company and Vijay Suri and B.K. Gogia on June 2, 2010, agreed to rescind the issuance of the preferred stock. As a result of the recession, the Company and its officers agreed to issue them each 1,000,000 shares of common stock for their personal guarantees of certain debt of the Company.

17

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

NOTE 9- STOCKHOLDERS’ EQUITY (DEFICIT) (CONTINUED)

Common Stock

The Company was incorporated on May 26, 2005, and since then the Board of Directors authorized 75,000,000 shares of common stock with a par value of $0.0001. On March 13, 2009, the Company’s Board of Directors approved the increase of the authorized shares of common stock to 400,000,000.

The Company as of September 30, 2010had 16,192,996 shares of common stock issued and outstanding.

During the nine months ended September 30, 2010 the Company has issued 12,272,351 shares of common stock as follows: 9,089,768 shares that were issued for the 100% exchange in the Irus transaction; 300,000 shares for services rendered that were also previously recorded as a liability for stock to be issued; 142,500 shares under a pledge agreement with Tangiers L.P.; and 5,000 shares for services rendered that were previously recorded as a liability for stock to be issued; and the Company cancelled a net of 5,000 shares (issued 45,000 shares and cancelled 50,000 shares); 90,083 shares to pay an existing accounts payable, 2,300,000 shares recorded as a liability for stock to be issued; 350,000 shares for late fees associated with missed payments.  The total reduction of the liability for stock to be issued for the nine months ended September 30, 2010 related to these transactions was $61,709 and the Company recorded an additional $87,575in stock based compensation. In addition, the Company has $9,500 recorded as a liability for additional common shares to be issued.

From January 1, 2009 through October 27, 2009, the period prior to the reverse merger with Irus, the following transactions occurred:

·   The Company effectuated a reverse 1:20 stock split. All shares of common stock have been reflected with the 1:20 reverse split, retroactively in accordance with SAB Topic 14C;

·   1,875,000 shares of common stock were issued in conversion of $393,500 in convertible notes, interest and warrants that were issued with the convertible notes;

·   617,500 shares of common stock were issued for cash in the amount of $135,000;

·   187.500 shares of common stock were issued for services rendered valued at $53,000;

·   232,940 shares of common stock were issued in connection with the exercise of warrants issued in the prior financing that InferX completed in 2007. The Company valued these warrants at $2,236,224, which is what the exercise price would have been had the warrants been exercised for cash. The Company provided the warrant holders a cashless exercise as a result of the Merger; and

·   100,750 shares of common stock were issued in the exercise of stock options for $0, as a result of the Merger, no cash was required.

The transactions resulted in the Company going from 886,955 shares issued and outstanding to 3,920,645 shares.

Additional items impacting equity prior to the reverse merger were:

·   Conversion of accrued interest to additional paid in capital in the amount of $45,913; and

·   Conversion of accrued compensation to related parties to additional paid in capital, as a result of their forgiveness of the accrued compensation in the amount of $524,226.

The Merger Agreement called for the Company to issue 9,089,768 shares of common stock in exchange for 100% of the shares of Irus.

Post-merger, the Company recognized $877,060 in stock based compensation (for the year ended December 31, 2009) relating to vested stock options issued to the officers of the Company, and $198,486 for the nine months ended September 30, 2010 for vested options and warrants issued. .

18

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

NOTE 9- STOCKHOLDERS’ EQUITY (DEFICIT) (CONTINUED)

Warrants

The Company prior to the reverse merger with Irus, converted all of their previous issued and outstanding warrants from the private placement completed in 2007 as well as the warrants issued with the convertible notes.

The Company issued 225,000 Class A warrants and 60,000 Class B warrants in connection with the convertible debenture on December 23, 2009. The Class A warrants have an exercise price of $0.20 per share and the Class B warrants have an exercise price of $0.50 per share. All warrants have a term of 5 years. The value of the warrants at inception was $98,130 which represented the debt discount. The Class B warrants exercise price was amended on July 9, 2010 to a price of $0.20 due to the Company’s failure to convert or repay the instrument by June 23, 2010.

The Company issued 15,000 Class A warrants and 4,000 Class B warrants to an individual investor in connection with the convertible debenture first entered into on April 1, 2010.  The Class A warrants have an exercise price of $0.20 per share and the Class B warrants have an exercise price of $0.50 per share. All warrants have a term of 5 years. The value of the warrants at inception was $8,855 which represented the debt discount.

The Company issued 150,000 Class A warrants and 40,000 Class B warrants to an individual investor in connection with the convertible debenture first entered into on April 19, 2010.  The Class A warrants have an exercise price of $0.20 per share and the Class B warrants have an exercise price of $0.50 per share. All warrants have a term of 5 years. The value of the warrants at inception was $63,140 which represented the debt discount.

The Company issued 150,000 warrants to an investment banker as part of their overall compensation package to raise funds for the Company. The warrants have an exercise price of $0.20 per share and expire in 5 years. These warrants have vested as of September 30, 2010, and have recorded $28,402 as of September 30, 2010 in stock-based compensation.

The Company issued 900,000 warrants to an investment consultant as part of their overall compensation package to raise funds for the Company. These warrants have an exercise price of $0.20 per share and expire in 5 years. These warrants vest with 400,000 over one year beginning in July 2010, and the balance of 500,000 warrants vest based upon achievement of performance objectives mutually agreed between the Company and the Consultant.  The company incurred an $18,935 stock-based compensation expense to record the first schedulaed vesting of 100,000 warrants in July 2010. No other warrants  have vested as of September 30, 2010.

The Company issued 4,500,000 warrants to B.K. Gogia as part of his overall compensation package. These warrants have an exercise price of $0.20 per share and expire in 5 years. These warrants vest based upon achievement of performance objectives mutually agreed between the Company and the Employee and the stock price being not less than $0.50 per share.  None of these warrants have vested as of September 30, 2010.

The Company issued 300,000 warrants to an individual in exchange for services previously rendered and recorded.  These warrants have an exercise price of $0.20 per share, expire in five years and became fully vested in April 2010. The value of these warrants were $104,736.

19

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

NOTE 9- STOCKHOLDERS’ EQUITY (DEFICIT) (CONTINUED)

Warrants (Continued)

The following is a breakdown of the warrants:

		Exercise		Date
Warrants		Price		Issued	Term
	225,000	$	0.20	12/23/2009	5 years
	60,000	$	0.50	12/23/2009	5 years
	150,000	$	0.20	1/26/2010	5 years
	15,000	$	0.20	4,/1/2010	5 years
	4,000	$	0.50	4,/1/2010	5 years
	900,000	$	0.20	4,/6/2010	5 years
	4,500,000	$	0.20	4,/6/2010	5 years
	300,000	$	0.20	4,/6/2010	5 years
	150,000	$	0.20	4,/19/2010	5 years
	40,000	$	0.50	4,/19/2010	5 years
	6,344,000

The warrants have a weighted average price of $0.26.

The warrants were valued utilizing the Black – Scholes criteria as follows:

Strike Price	$	.20		$	.50
Expected Life of Warrant	5 yrs.			5 yrs.
Annualized Volatility		261.6	%		261.6	%
Discount Rate		1.25	%		1.25	%
Annual Rate of Quarterly Dividends	None			None

Options

Since October 2007, the Company’s Board of Directors and Shareholders approved the adoption of an option plan for a total of 5,000,000.  The Company prior to the reverse merger with Irus exercised all of the options that were outstanding at the time. Subsequent to the reverse merger, the Company issued stock options in connection with certain employment agreements. The Company granted 3,250,000 options, 2,950,000 are vested, and none of which have been exercised as of December 31, 2009.  In the three and nine months ended September 30, 2010, the Company granted 620,000 stock options, 50,000 are vested and none of which have been exercised as of September 30, 2010.

The total options granted as of September 30, 2010 were 3,870,000, of which 2,990,000 are vested and none have been exercised.

These options all have strike prices that are equal to the market value at the time of grant. The options were valued based on the black-scholes model with the following criteria:

20

INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

NOTE 9- STOCKHOLDERS’ EQUITY (DEFICIT) (CONTINUED)

Options (Continued)

Strike Price	$	0.15 – 0.50
Expected Life of Option	5 yr.
Annualized Volatility		261.60	%
Discount Rate		1.25	%
Annual Rate of Quarterly Dividends	None

The value attributable to these options that vested for the nine months ended September 30, 2010 and 2009 is $9,486 and $0, respectively and is reflected in the consolidated statements of operations as stock based compensation.

NOTE 10- COMMITMENTS

Office Lease

The Company leases office space in Sterling, Virginia pursuant to a lease with a related party through common ownership which expires in 2010. The lease provides for an annual rental of approximately $78,000.

Rent expense for the nine months ended September 30, 2010 and 2009 was $68,238 and $67,090, respectively.

Board of Advisors Agreements

The Company’s board of directors approved the addition of two members to its Board of Advisors. Each of these members will provide assistance to the Company with respect to their healthcare solution and predictive technology to prospective banking, insurance and healthcare customers. As consideration for the placement on the Board of Advisors, the Company has, in addition to quarterly cash payments, granted those options under their 2007 Stock Incentive Plan that vest over a two-year period of time commencing in May 2010. The Company has included these fees in their condensed consolidated statements of operations for the nine months ended September 30, 2010 and 2009.

Consulting Agreements

The Company has entered into consulting agreements with marketing and strategic consulting groups with terms that do not exceed one year. These companies are to be paid fees for the services they perform. The Company has included these fees in their condensed consolidated statements of operations for the nine months ended September 30, 2010 and 2009.

On January 26, 2010, the Company entered into an agreement with Coady Diemar Partners, LLC, an investment banker in connection with investment banking services. Pursuant to the agreement, Coady Diemar Partners, LLC will receive a retainer of $30,000 payable in two tranches of $15,000 and receive 150,000 warrants as well as receive an 8% fee on amounts raised. The term of the agreement is one-year. The warrants did not vest until June 2010.

In June 2010, the Company entered into a consulting agreement with a company to provide financial services and locate potential investment opportunities. The term of the agreement is for one-year, and the consultant will receive monthly payments of $7,500 as well as be issued 300,000 shares of restricted common stock, and 900,000 warrants that vest over the one-year period and upon certain financing criteria being met. None of the warrants have vested as of September 30, 2010. The Company has included these fees in their condensed consolidated statements of operations for the nine months ended September 30, 2010 and 2009.

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INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

NOTE 10- COMMITMENTS (CONTINUED)

Employment Agreements

During the year ended December 31, 2009, the Company entered into four separate employment agreements with their key executives.  The employment agreements range in years from 3 to 5, and require the Company to compensate the key executives for a base salary, as well as provide for incentive compensation. In addition, the executives were granted in total 3,250,000 stock options that vest through December 2011. The Company also entered into another employment agreement in January 2010 which granted an additional 20,000 options to an employee. This agreement was for a period of two years.

  NOTE 11-   PROVISION FOR INCOME TAXES

Deferred income taxes will be determined using the liability method for the temporary differences between the financial reporting basis and income tax basis of the Company’s assets and liabilities. Deferred income taxes are measured based on the tax rates expected to be in effect when the temporary differences are included in the Company’s tax return. Deferred tax assets and liabilities are recognized based on anticipated future tax consequences attributable to differences between financial statement carrying amounts of assets and liabilities and their respective tax bases.

At September 30, 2010, deferred tax assets consist of the following:

Net operating losses	$	1,060,857
Valuation allowance		(1,060,857)
	$	-

At September 30, 2010, the Company had net operating loss carry forward in the approximate amount of $3,120,169, available to offset future taxable income through 2030.  The Company established valuation allowances equal to the full amount of the deferred tax assets due to the uncertainty of the utilization of the operating losses in future periods.

A reconciliation of the Company’s effective tax rate as a percentage of income before taxes and federal statutory rate for the nine months ended September 30, 2010 and 2009 is summarized below.

	2010			2009
Federal statutory rate		(34.0	)%		(34.0	)%
State income taxes, net of federal benefits		6.0			6.0
Valuation allowance		28.0			28.0
		0	%		0	%

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INFERX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2010 AND 2009

NOTE 12- RELATED PARTY TRANSACTIONS

The Company has a rent expense in the amount for the nine months ended September 30, 2010 and 2009 of $68,238 and $67,090, respectively. to a company owned by a relative of an officer of the Company.  In addition, the Company has outstanding fees due the President & CEO of $725,000 as of September 30, 2010 relating to past due distributions prior to the reverse merger.  Further, the Company entered into two separate promissory notes with Vijay Suri during April 2010, in which Mr. Suri loaned the Company a total of $26,000 on April 16, 2010 and $24,600 on April 30, 2010.  The notes are due on December 1, 2010.

NOTE 13- MAJOR CUSTOMERS

The Company has derived 96% of its revenue and accounts receivable for the nine months ended September 30, 2010 and 2009 from three customers.

NOTE 14- FAIR VALUE MEASUREMENTS

The Company adopted certain provisions of ASC Topic 820. ASC 820 defines fair value, provides a consistent framework for measuring fair value under generally accepted accounting principles and expands fair value financial statement disclosure requirements. ASC 820’s valuation techniques are based on observable and unobservable inputs. Observable inputs reflect readily obtainable data from independent sources, while unobservable inputs reflect our market assumptions. ASC 820 classifies these inputs into the following hierarchy:

Level 1 inputs: Quoted prices for identical instruments in active markets.

Level 2 inputs: Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable or whose significant value drivers are observable.

Level 3 inputs: Instruments with primarily unobservable value drivers.

The following table represents the fair value hierarchy for those financial assets and liabilities measured at fair value on a recurring basis as of September 30, 2010:

	Level 1			Level 2			Level 3		Total
Cash		73,979			-			-		73,979
Total assets		73,979			-			-		73,979
Convertible debentures, net of discount		-			-			240,369		240,369
Embedded conversion feature and derivative			-			-		170,125		170,125
Total liabilities		-			-			410,494		410,494

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

The information set forth and discussed in this Management’s Discussion and Analysis or Plan of Operation is derived from our financial statements and the related notes, which are included. The following information and discussion should be read in conjunction with those financial statements and notes, as well as the information provided in our Annual Report on Form 10-K for our fiscal year ended December 31, 2009.

Overview

Our company was formed in May 2005 to pursue a business combination. On October 24, 2006, we acquired InferX Corporation, a Virginia corporation (“InferX Virginia”), and on October 27, 2006 we merged InferX Virginia into our company and changed our name to “InferX Corporation.” After the acquisition of InferX Virginia, we succeeded to its business as our sole line of business. InferX Virginia was formed in August 2006 by the merger of the former InferX Corporation, a Delaware corporation (“InferX Delaware”), with and into Datamat Systems Research, Inc., a Virginia corporation and an affiliate of InferX Delaware (“Datamat”), pursuant to which Datamat was the surviving corporation and changed its name to “InferX Corporation.”

Datamat was formed in 1992 as a professional services research and development firm, specializing in technology for distributed analysis of sensory data relating to airborne missile threats under contracts with the Missile Defense Agency and other DoD contracts.  InferX Delaware was formed in 1999 to commercialize Datamat’s missile defense technology to build applications of real time predictive analytics. The original technology was developed in part with grants by the Missile Defense Agency.

Prior to the merger with the Irus Group, Inc., InferX Corporation derived nearly all of its sales revenues under federal government contracts. Under these contracts, the Company performed research and development that enabled us to retain ownership of the intellectual property, which led to the creation of our current products. Due to the relatively small and uncertain margins associated with fixed price government contracts and the inherent limit of the market size, in fiscal 2002 we began to develop our software as a commercial product, concentrating on building specific applications that we believed would meet the needs of potential new customers. In fiscal 2003-2004, we sold two commercial licenses. However, since fiscal 2004, all of our revenues have derived from government contracts. Recently, we completed one contract with the Missile Defense Agency which called for us to develop a prototype application of our software.

On October 27, 2009 we merged with The Irus Group, Inc., a company providing consulting services in the business intelligence (“BI”) and corporate performance market. The Irus Group specialized in the planning, implementation and development of complex BI and corporate performance management solutions for government, financial services, retail and healthcare clients.  Since its founding in 1996, The Irus Group has conducted engagements for over 200 clients, including MasterCard, JP Morgan Chase, ConAgra, US Navy, US Army, US Air Force, and several civilian Federal Agencies.  We initiated the merger both to obtain additional financial support in advance of the full rollout of our enterprise software solutions and to serve as a source of sales leads for our Predictive Analytics (PA) enterprise software product.  We believe that our PA product suite has been enhanced with Irus’ BI expertise and is being offered through Irus’ consulting relationships as a large scale enterprise solution for the three targeted verticals – health care, financial services and the public sector.

Strategy and Focus Areas

Our strategy centers on being the leader in the increasing role of Predictive Analytics as the next generation business and government information and decision support capability. Consistent with our strategy during the fiscal 2009 economic downturn, we will continue to seek to expand our share of our current customers’ information technology spending. We will endeavor to achieve this objective by focusing on our contractual relationships and building our core technology capabilities, while continuing to expand broadly into our three focused markets (Healthcare, Financial and Government). We have continued our focus on our core PA technology capabilities and have expanded our movement into market, primarily through the realignment of resources, while simultaneously reducing our operating expenses as a percentage of revenue.

We refer to the evolutionary process by which opportunities arise as the market transitions. Specifically, we believe the key market transitions currently taking place in our industry pertain to the process of aggregating the current siloed data sources into unified, shared data resource pools that can be dynamically delivered to applications on demand, without the expense of creating a common data warehouse to store all the data prior to analysis thus providing the ability to rapidly and efficiently analyze the data. Due to changing technology trends such as the increasing adoption in the rise of scalable processing, a significant market transition appears to be under way in the enterprise data market. We believe the market is at an inflection point, as awareness grows that data analytics is becoming a critical platform for productivity improvement and global competitiveness. We are seeking to capitalize on this market transition through, among other things, our InferX products and our data analytics domain expertise.

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Driving Operational Efficiency

We have implemented an ongoing program to optimize efficiency and reduce cost across the company. As part of those efforts, we are continuing to execute on our multi-year program to consolidate core functions in order to reduce our IT spending and operational costs. In addition, we are continuing to implement the restructuring plan announced in the fourth quarter of fiscal 2009 to optimize the cost structure of our business so that we can nimbly react to opportunities and market conditions.

Investing for Growth through Innovation

We are investing some of the savings derived from our efficiency initiatives for growth.  For example, we are increasing our sales coverage to better address the markets that we cover, including further expansion in markets such as Healthcare research.  We are creating innovative new products and developing new channels to connect with our customers, particularly within the government healthcare business area. We are able to do this through the unique offering of our product suites.  Additionally, we are developing technology alliances with other vendors to include our product suites into their market offerings.

Critical Accounting Policies

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and 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. We rely on historical experience and on other assumptions we believe to be reasonable under the circumstances in making our judgments and estimates. Actual results could differ from those estimates. We consider our critical accounting policies to be those that are complex and those that require significant judgments and estimates, including the following: recognition of revenue, capitalization of software development costs and income taxes.

Principles of Consolidation

The consolidated financial statements include those of InferX. All intercompany accounts and transactions have been eliminated in consolidation.

Use of Estimates

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and 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.

Cash and Cash Equivalents

We consider all highly liquid debt instruments and other short-term investments with a maturity of six months or less, when purchased, to be cash equivalents.

We maintain cash and cash equivalent balances at one financial institution that is insured by the Federal Deposit Insurance Corporation up to $250,000.

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Allowance for Doubtful Accounts

We provide an allowance for doubtful accounts, which is based upon a review of outstanding receivables as well as historical collection information.  Credit is granted to substantially all customers on an unsecured basis.  In determining the amount of the allowance, management is required to make certain estimates and assumptions.

Fixed Assets

Fixed assets are stated at cost, less accumulated depreciation. Depreciation is provided using the straight-line method over the estimated useful lives of the related assets (primarily three to five years). Costs of maintenance and repairs are charged to expense as incurred.

Computer Software Development Costs

During 2009, the Company capitalized certain software development costs.  The Company capitalizes the cost of software in accordance with ASC 985-20 once technological feasibility has been demonstrated, as the Company has in the past sold, leased or otherwise marketed their software, and plans on doing so in the future.  The Company capitalizes costs incurred to develop and market their privacy preserving software during the development process, including payroll costs for employees who are directly associated with the development process and services performed by consultants.  Amortization of such costs is based on the greater of (1) the ratio of current gross revenues to the sum of current and anticipated gross revenues, or (2) the straight-line method over the remaining economic life of the software, typically five years. It is possible that those anticipated gross revenues, the remaining economic life of the products, or both, may be reduced as a result of future events.  The Company has not developed any software for internal use.

Recoverability of Long-Lived Assets

We review the recoverability of its long-lived assets on a periodic basis whenever events and changes in circumstances have occurred which may indicate a possible impairment.  The assessment for potential impairment is based primarily on the Company’s ability to recover the carrying value of its long-lived assets from expected future cash flows from its operations on an undiscounted basis.  If such assets are determined to be impaired, the impairment recognized is the amount by which the carrying value of the assets exceeds the fair value of the assets.  Fixed assets to be disposed of by sale are carried at the lower of the then current carrying value or fair value less estimated costs to sell.

Revenue Recognition

Revenue is recognized when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable, and collectability is probable.  We enter into certain arrangements where we are obligated to deliver multiple products and/or services (multiple elements).  In these transactions, we allocate the total revenue among the elements based on the sales price of each element when sold separately (vendor-specific objective evidence).  The Company generates revenue from application license sales, application maintenance and support, professional services rendered to customers as well as from application management support contracts with governmental units.  The Company’s revenue is generated under time-and-material contracts and fixed-price contracts.

Our business is not seasonal in nature.  The timing of contract awards, the availability of funding from the customer, the incurrence of contract costs and unit deliveries are the primary drivers of our revenue recognition.  These factors are influenced by the federal government’s October-to-September fiscal year.  This process has historically resulted in higher revenues in the latter half of the year.  Many of our government customers schedule deliveries toward the end of the calendar year, resulting in increasing revenues and earnings over the course of the year.

We do not derive revenue from projects involving multiple revenue-generating activities.  If a contract would involve the provision of multiple service elements, total estimated contract revenue would be allocated to each element based on the fair value of each element.  The amount of revenue allocated to each element would then be limited to the amount that is not contingent upon the delivery of another element in the future.  Revenue for each element would then be recognized depending upon whether the contract is a time-and-materials contract or a fixed-price, fixed-time contract.

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Stock-Based Compensation

In 2006, we adopted the provisions of ASC 718-10 “Share-Based Payments” (“ASC 718-10”) which requires recognition of stock-based compensation expense for all share-based payments based on fair value.  Share-based payment transactions within the scope of ASC 718-10 include stock options, restricted stock plans, performance-based awards, stock appreciation rights, and employee share purchase plans. This adoption had no effect on the Company’s operations. Prior to January 1, 2006, we measured compensation expense for all of our share-based compensation using the intrinsic value method.

We have elected to use the modified–prospective approach method. Under that transition method, the calculated expense in 2006 is equivalent to compensation expense for all awards granted prior to, but not yet vested as of January 1, 2006, based on the grant-date fair values. Stock-based compensation expense for all awards granted after January 1, 2006 is based on the grant-date fair values. We recognize these compensation costs, net of an estimated forfeiture rate, on a pro rata basis over the requisite service period of each vesting tranche of each award. We consider voluntary termination behavior as well as trends of actual option forfeitures when estimating the forfeiture rate.

We measure compensation expense for non-employee stock-based compensation under ASC 505-50, “Accounting for Equity Instruments that are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services".   The fair value of the option issued is used to measure the transaction, as this is more reliable than the fair value of the services received.  The fair value is measured at the value of the Company’s common stock on the date that the commitment for performance by the counterparty has been reached or the counterparty’s performance is complete.  The fair value of the equity instrument is charged directly to compensation expense and additional paid-in capital.  For common stock issuances to non-employees that are fully vested and are for future periods, we classify these issuances as prepaid expenses and expense the prepaid expenses over the service period.At no time have we issued common stock for a period that exceeds one year.

Concentrations

Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of accounts receivable.  To date, accounts receivable have been derived from contracts with agencies of the federal government.  Accounts receivable are generally due within 30 days and no collateral is required.

Segment Reporting

We follow the provisions of ASC 280-10, “Disclosures about Segments of an Enterprise and Related Information.” This standard requires that companies disclose operating segments based on the manner in which management disaggregates the company in making internal operating decisions. We believe that there is only one operating segment.

Fair Value of Financial Instruments (other than Derivative Financial Instruments)

The carrying amounts reported in the consolidated balance sheet for cash and cash equivalents, and accounts payable approximate fair value because of the immediate or short-term maturity of these financial instruments.  For the notes payable, the carrying amount reported is based upon the incremental borrowing rates otherwise available to the Company for similar borrowings.

Convertible Instruments

We review the terms of convertible debt and equity securities for indications requiring bifurcation, and separate accounting, for the embedded conversion feature. Generally, embedded conversion features, where the ability to physical or net-share settle the conversion option is not within our control, are bifurcated and accounted for as a derivative financial instrument. Bifurcation of the embedded derivative instrument requires allocation of the proceeds first to the fair value of the embedded derivative instrument with the residual allocated to the debt instrument. The resulting discount to the face value of the debt instrument is amortized through periodic charges to interest expense using the Effective Interest Method.

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Income Taxes

Under ASC 740 the liability method is used in accounting for income taxes. Under this method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities, and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse.

Uncertainty in Income Taxes

Under ASC 740-10-25 recognition and measurement of uncertain income tax positions is required using a “more-likely-than-not” approach. We evaluate our tax positions on an annual basis, and have determined that no additional accrual for income taxes is necessary.

(Loss) Per Share of Common Stock

Basic net (loss) per common share (“EPS”) is computed using the weighted average number of common shares outstanding for the period.  Diluted earnings per share include additional dilution from common stock equivalents, such as stock issuable pursuant to the exercise of stock options and warrants.  Common stock equivalents are not included in the computation of diluted earnings per share when the Company reports a loss because to do so would be anti-dilutive for the periods presented.

Research and Development

Research and development expenses include payroll, employee benefits, equity compensation, and other headcount-related costs associated with product development. The Company has determined that technological feasibility for the software products is reached shortly before the products are released to manufacturing. Costs incurred after technological feasibility is established are not material, and accordingly, the Company expenses all research and development costs when incurred.

Recent Issued Accounting Standards

In September 2006, ASC 820, “Fair Value Measurements” (ASC 820) was issued. ASC 820 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosure about fair value measurements. This statement is effective for financial statements issued for fiscal years beginning after November 15, 2007. Early adoption is encouraged. The adoption of ASC 820 is not expected to have a material impact on the consolidated financial statements.

In February 2007, ASC 825-10, “The Fair Value Option for Financial Assets and Financial Liabilities” (“ASC 825-10”), was issued. This included an amendment of ASC 320-10, which permits entities to choose to measure many financial instruments and certain other items at fair value at specified election dates. A business entity is required to report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. This statement is expected to expand the use of fair value measurement. ASC 825-10 is effective for financial statements issued for fiscal years beginning after November 15, 2008, and interim periods within those fiscal years.

In December 2007, ASC 810-10-65, “Noncontrolling Interests in Consolidated Financial Statements,” (“ASC 810-10-65”), was issued. ASC 810-10-65 establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, changes in a parent’s ownership of a noncontrolling interest, calculation and disclosure of the consolidated net income attributable to the parent and the noncontrolling interest, changes in a parent’s ownership interest while the parent retains its controlling financial interest and fair value measurement of any retained noncontrolling equity investment.

ASC 810-10-65 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. Early adoption is prohibited. Management is determining the impact that the adoption of ASC 810-10-651 will have on our consolidated financial position, results of operations or cash flows.

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In December 2007, the Company adopted ASC 805, “Business Combinations” (“ASC 805”). ASC 805 has the fundamental requirements that the acquisition method of accounting be used for all business combinations and for an acquirer to be identified for each business combination. ASC 805 defines the acquirer as the entity that obtains control of one or more businesses in the business combination and establishes the acquisition date as the date that the acquirer achieves control. ASC 805 will require an entity to record separately from the business combination the direct costs, where previously these costs were included in the total allocated cost of the acquisition. ASC 805 will require an entity to recognize the assets acquired, liabilities assumed, and any non-controlling interest in the acquired at the acquisition date, at their fair values as of that date.

ASC 805 will require an entity to recognize as an asset or liability at fair value for certain contingencies, either contractual or non-contractual, if certain criteria are met. Finally, ASC 805 will require an entity to recognize contingent consideration at the date of acquisition, based on the fair value at that date. This will be effective for business combinations completed on or after the first annual reporting period beginning on or after December 15, 2008. Early adoption of this standard is not permitted and the standards are to be applied prospectively only. Upon adoption of this standard, there would be no impact to our results of operations and financial condition for acquisitions previously completed. The adoption of ASC 815 is not expected to have a material effect on our consolidated financial position, results of operations or cash flows.

In March 2008, ASC 815, Disclosures about Derivative Instruments and Hedging Activities” (“ASC 815”), was issued. ASC 815 requires enhanced disclosures about an entity’s derivative and hedging activities. These enhanced disclosures will discuss: how and why an entity uses derivative instruments; how derivative instruments and related hedged items are accounted for and its related interpretations; and how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. ASC 815 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. The Company does not believe that ASC 815 will have an impact on their results of operations or financial position.

In April 2008, ASC 350, “Determination of the Useful Life of Intangible Assets”, (“ASC 350”), was issued. ASC 350 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset. The guidance is used for determining the useful life of a recognized intangible asset shall be applied prospectively to intangible assets acquired after adoption, and the disclosure requirements shall be applied prospectively to all intangible assets recognized as of, and subsequent to, adoption. The Company does not believe ASC 350 will materially impact our financial position, results of operations or cash flows.

ASC 470-20, “Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)” (“ASC 470-20”) requires the issuer of certain convertible debt instruments that may be settled in cash (or other assets) on conversion to separately account for the liability (debt) and equity (conversion option) components of the instrument in a manner that reflects the issuer’s non-convertible debt borrowing rate. ASC 470-20 is effective for fiscal years beginning after December 15, 2008 on a retroactive basis. The Company does not believe that the adoption of ASC 470-20 will have a material effect on its financial position, results of operations or cash flows.

In May 2008, ASC 470-20, “Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)” (“ASC 470-20”), was issued. ASC 470-20 requires the issuer of certain convertible debt instruments that may be settled in cash (or other assets) on conversion to separately account for the liability (debt) and equity (conversion option) components of the instrument in a manner that reflects the issuer’s non-convertible debt borrowing rate. ASC 470-20 is effective for fiscal years beginning after December 15, 2008 on a retroactive basis. The Company does not believe that the adoption of ASC 470-20 will have a material effect on its financial position, results of operations or cash flows.

In June 2008, ASC 815-40, “Determining Whether an Instrument (or Embedded Feature) Is Indexed to an Entity’s Own Stock” (“ASC 815-40”), was issued. ASC 815-40 provides guidance for determining whether an equity-linked financial instrument (or embedded feature) is indexed to an entity’s own stock and it applies to any freestanding financial instrument or embedded feature that has all the characteristics of a derivative. ASC 815-40 also applies to any freestanding financial instrument that is potentially settled in an entity’s own stock. The Company is determining what impact, if any, ASC 815-40 will have on its financial position, results of operations and cash flows.

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In June 2008, ASC 470-20-65, “Transition Guidance for Conforming Changes to, Accounting for Convertible Securities with Beneficial Conversion Features or Contingently Adjustable Conversion Ratios”, (“ASC 470-20-65”), was issued. ASC 470-20-65 is effective for years ending after December 15, 2008. The overall objective of ASC 470-20-65 is to provide for consistency in application of the standard. The Company has computed and recorded a beneficial conversion feature in connection with certain of their prior financing arrangements and does not believe that ASC 470-20-65 will have a material effect on that accounting.

In May 2009, ASC 855, “Subsequent Events”, (“SFAS 165”), was published. ASC 855 requires the Company to disclose the date through which subsequent events have been evaluated and whether that date is the date the financial statements were issued or the date the financial statements were available to be issued. ASC 855 is effective for financial periods ending after June 15, 2009.

Effective July 1, 2009, the Company adopted FASB ASU No. 2009-05, “Fair Value Measurement and Disclosures (Topic 820)” (“ASU 2009-05”). ASU 2009-05 provided amendments to ASC 820-10, “Fair Value Measurements and Disclosures – Overall”, for the fair value measurement of liabilities. ASU 2009-05 provides clarification that in circumstances in which a quoted market price in an active market for the identical liability is not available, a reporting entity is required to measure fair value using certain techniques. ASU 2009-05 also clarifies that when estimating the fair value of a liability, a reporting entity is not required to include a separate input or adjustment to other inputs relating to the existence of a restriction that prevents the transfer of a liability. ASU 2009-05 also clarifies that both a quoted price in an active market for the identical liability at the measurement date and the quoted price for the identical liability when traded as an asset in an active market when no adjustments to the quoted price of the asset are required for Level 1 fair value measurements. Adoption of ASU 2009-05 did not have a material impact on the Company’s results of operations or financial condition.

In January 2010, the Company adopted FASB ASU No. 2010-06, Fair Value Measurement and Disclosures (Topic 820) - Improving Disclosures about Fair Value Measurements (“ASU 2010-06”). These standards require new disclosures on the amount and reason for transfers in and out of Level 1 and 2 fair value measurements. The standards also require new disclosures of activities, including purchases, sales, issuances, and settlements within the Level 3 fair value measurements. The standard also clarifies existing disclosure requirements on levels of disaggregation and disclosures about inputs and valuation techniques. These new disclosures are effective beginning with the first interim filing in 2010.

The disclosures about the rollforward of information in Level 3 are required for the Company with its first interim filing in 2011. The Company does not believe this standard will impact their financial statements.

Other accounting standards that have been issued or proposed by the FASB ASC that do not require adoption until a future date are not expected to have a material impact on the consolidated financial statements upon adoption.

Three Months Ended September 30, 2010 and 2009

Revenue

Revenue for the three months ended September 30, 2010 was $1,104,623, a decrease from $1,764,907 for the same period in 2009; a 37% decrease. We believe this decrease reflects a continuing uncertain economic environment across all of our focus market areas. From a customer market perspective, we did not see an improved environment for capital expenditures across our enterprise, commercial, and government markets, during the third quarter of fiscal 2010. In this same period, our net sales decreased on a year-over-year basis across all of our focus market areas, likewise our revenue from legacy professional services contracts decreased by 41%, compared with the corresponding periods of fiscal 2009.  In the third quarter of fiscal 2010 and 2009, we had no revenue from core PA technology products.

Cost of Revenues

Costs of revenues for the three months ended September 30, 2010 were $942,074, a 40% decrease from $1,580,869 for the same period in 2009.  The decrease resulted primarily from lower subcontractor costs attributable to lower revenue as well as benefits from our ongoing program to optimize efficiency and reduce costs.

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Gross Margin

In the third quarter of fiscal 2010, our gross margin percentage decreased by approximately 12% compared with the corresponding period of fiscal 2009. This decrease in gross margin percentage for the third quarter of fiscal 2010 was the result of a decline in our service gross margin.

Operating Expenses

For the third quarter operating expenses of fiscal 2010 increased by approximately 39% compared with the corresponding period of fiscal 2009.  The increase was attributable to higher headcount-related expenses, including variable compensation expenses (ie stock based), and higher discretionary expenses. Operating expenses for the three months ended September 30, 2010, which include indirect labor, professional fees, travel, rent, general and administrative, stock issued for services, stock based compensation, and depreciation, increased $121,455 to $430,778 from $309,323 for the same period in 2009.

Other Income (Expense)

Other income increased $50,635 in the three months ended September 30, 2010 compared to the same period in 2009. The increase is attributable to the fair value increase in the derivative liability of $102,054 offset by the increase in the amortization of debt discount of $45,178 and an increase in interest expense of $6,160.

Nine Months Ended September 30, 2010 and 2009

Revenue

Revenue for the nine months ended September 30, 2010 was $3,813,288, a decrease from $5,636,895 for the same period in 2009. For the nine months ended September 30, 2010, our total revenue decreased by 32.4% on a year-over-year basis, reflecting what we believe to be an uncertain economic environment across all of our focus market areas. From a customer market perspective, we did not see an improved environment for capital expenditures across our enterprise, commercial, and government markets, during the nine months of fiscal 2010. In the nine months of fiscal 2010, our revenue from professional services contracts decreased by 26% compared with the corresponding periods of fiscal 2009.  In the nine months of fiscal 2010 and 2009, we had no revenue from core PA technology products.

Cost of Revenues

Costs of revenues for the nine months ended September 30, 2010 were $3,443,110, a 19% decrease from $4,260,238 for the same period in 2009.  The decrease resulted primarily from lower subcontractor costs attributable to lower revenue and there were limited new contracts during the period.

Gross Margin

In the nine months of fiscal 2010, our gross margin percentage decreased by approximately 73% compared with the corresponding period of fiscal 2009. This decrease in gross margin percentage was the result of a decline in our service gross margin.

Operating Expenses

For the nine months, operating expenses of fiscal 2010 increased by approximately 80% from the corresponding period of fiscal 2009. The increase was attributable to higher headcount-related expenses, including variable compensation expenses (ie stock based), and higher discretionary expenses such as accounting fees associated with yearly and quarterly audits. Operating expenses for the nine months ended September 30, 2010, which include indirect labor, professional fees, travel, rent, general and administrative, stock issued for services, stock based compensation, and depreciation, increased $662,170 to $1,487,959 from $825,789 for the same period in 2009.  Depreciation decreased by $5,316 as certain fixed assets became fully depreciated and no fixed assets were acquired during the nine months ending September 30, 2010 from the same period in 2009.

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Other Income (Expense)

Other income decreased $55,396 in the nine months ended September 30, 2010 compared to the same period in  2009. The increase in expense is attributable to the fair value increase in the derivative liability of $121,922 offset by the increase in the amortization of debt discount of $150,494, and an increase in interest expense of $26,824.

Factors That May Impact Net Sales and Gross Margin

Product sales may continue to be affected by multiple factors, including the continuing national economic downturn and related market uncertainty, which have resulted in reduced or cautious spending in our enterprise, commercial and government markets; changes in the national economic conditions; competition, including price-focused competitors; new product introductions; sales cycles and product implementation cycles; changes in the mix of our customers between government and commercial markets; changes in the mix of direct sales and indirect sales; variations in sales channels; and final acceptance criteria of the product, system, or solution as specified by the customer. For additional factors that may impact net product sales, see “Part II, Item 1A Risk Factors.” Product gross margin may be adversely affected in the future by changes in the mix of products sold, including further periods of increased growth of some of our lower margin products; introduction of new products, changes in distribution channels; price competition, the timing of revenue recognition; sales discounts; increases in material or labor costs; warranty costs; and the extent to which we successfully execute on our strategy and operating plans. Service gross margin may be impacted by various factors such as the change in mix between technical support services and advanced services, the timing of technical support service contract initiations and renewals, and the timing of our strategic investments in headcount and resources to support this business.

Liquidity and Capital Resources

We had cash of $73,979 and a working capital deficit of $3,292,735 as of September 30, 2010.  During the nine months ended September 30, 2010, we used approximately $120,110 of cash from our operations.  Operations were funded primarily from the consulting revenue generated in this period.

We will need to generate significant additional revenue to support our projected increases in staffing and other operating expenses in light of the recent merger. We are currently expending approximately $40,037 per month to support our operations. Our current business plan anticipates fiscal 2010 expenditures of approximately $35,500 per month for the next three months. We expect to raise additional financing through the sale of our common stock during the fourth quarter of fiscal 2010 to supplement the cash generated from the services that are provided through our contract backlog that we believe will be sufficient to fund our operations through the end of the second quarter of 2011. If we are unable to generate sufficient cash through the sale of our stock it will be necessary for us to significantly reduce expenses to stay in business. Although we believe the additional capital we will require will be provided through one of these sources, we cannot assure you that we will be successful in these financing efforts or find financing at acceptable prices. Our failure to generate such revenue, reduce expenses or obtain necessary financing could impair our ability to stay in business and raises substantial doubt about our ability to remain as a going concern.

Item 3.                      Quantitative and Qualitative Disclosures About Market Risk.

Not applicable

Item 4T.                      Controls and Procedures.

Evaluation of disclosure controls and procedures.

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Our management, with the participation of our principal executive officer and principal financial officer, has evaluated the effectiveness of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act” )) as of September 30, 2010. Based on this evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures are not effective due to the existence of material weaknesses in our internal control over financial reporting discussed in our Annual Report on Form 10-K for the quarter ended December 31, 2009 and which remain unremediated.

Changes in internal control over financial reporting.

During the last fiscal quarter, there was no change in our internal control over financial reporting 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.

Arnold Worldwide, Inc., the landlord of InferX at its former premises at 1600 International Drive, Suite 110, McLean, Virginia 22102, commenced an action against InferX in the General District Court of Fairfax County, on August 25, 2008, seeking (i) damages, including rent due under the sublease between InferX and Arnold Worldwide, late fees due under the sublease, attorney’s fees due under the sublease, and interest, for a total amount claimed of $180,066.53; and (ii) an order for possession of the Premises.  Though the Company disputes the amount outstanding, it has made a good faith gesture to resolve this matter by making a payment of $30,000 on September 12, 2008, and entered into good-faith discussions to resolve the issue with Arnold Worldwide.  The Company agreed to the entry of a Consent Order of Possession that allowed Arnold Worldwide to take possession of the premises. The lease for the premises at 1600 International Drive terminated November 30, 2008.

Item 1A.                      Risk Factors.

We face intense competition.

Our business is rapidly evolving and intensely competitive and is subject to changing technology, shifting user needs, and frequent introductions of new products and services. We have many competitors from different industries, including providers of online products and services. Our current and potential competitors range from large and established companies to emerging start-ups. Established companies have longer operating histories and more established relationships with customers and end users, and they can use their experience and resources against us in a variety of competitive ways, including by making acquisitions, investing aggressively in research and development, and competing aggressively for customers and market share. Emerging start-ups may be able to innovate and provide products and services faster than we can. If our competitors are more successful than we are in developing compelling products or in attracting and retaining clients, our revenues and growth rates could decline.

If we do not continue to innovate and provide products and services that are useful to users, we may not remain competitive, and our revenues and operating results could suffer.

Our success depends on providing products and services that make using our technology a more useful and business impactful experience for our customers. Our competitors are constantly developing innovations in technology embedded in their products and services. As a result, we must continue to invest significant resources in research and development in order to enhance our predictive analytics technology and our existing products and services and introduce new products and services solutions that people can easily and effectively use. If we are unable to provide quality products and services, then our users may become dissatisfied and move to a competitor’s products and services. In addition, these new products and services may present new and difficult technology challenges, and our operating results would also suffer if our innovations are not responsive to the needs of our users and or are not effectively brought to market. This may force us to compete in different ways and expend significant resources in order to remain competitive.

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We generate our revenues almost entirely from federal government contracts, and the reduction in spending by or loss of government contracts could seriously harm our business.

We generated 93% of our revenues in 2009 and an average of 93% of our revenues in the first three quarters of 2010 from our federal government contracts.  The federal government can generally terminate their contracts with us at any time, without cause, for the benefit and convenience of the government.

Interruption or failure of our information technology and communications systems could hurt our ability to effectively provide our products and services, which could damage our reputation and harm our operating results.

The availability of our products and services depends on the continuing operation of our information technology and communications systems. Our systems are vulnerable to damage or interruption from earthquakes, terrorist attacks, floods, fires, power loss, telecommunications failures, computer viruses, computer denial of service attacks, or other attempts to harm our systems. Some of our systems are not fully redundant, and our disaster recovery planning cannot account for all eventualities. In addition, our products and services are highly technical and complex and may contain errors or vulnerabilities. Any errors or vulnerabilities in our products and services, or damage to or failure of our systems, could result in interruptions in delivery of our products and services, which could reduce our revenues and profits, and damage our brand.

If we were to lose the services of B.K. Gogia, Vijay Suri, Dr. Jerzy Bala, or Ray Piluso, or other members of our senior management team, we may not be able to execute our business strategy.

Our future success depends in a large part upon the continued service of key members of our senior management team. In particular, our CEO, Vijay Suri, and B.K. Gogia our Chairman, Dr. Jerzy Bala, our Chief Technology Officer, and Ray Piluso, are critical to the overall management of InferX Corporation as well as the development of our technology, our culture, and our strategic direction. The loss of any of our management or key personnel could seriously harm our business.

We rely on highly skilled personnel and, if we are unable to retain or motivate key personnel, hire qualified personnel, or maintain our corporate culture, we may not be able to grow effectively.

Our performance largely depends on the talents and efforts of highly skilled individuals. Our future success depends on our continuing ability to identify, hire, develop, motivate, and retain highly skilled personnel for all areas of our organization. Competition in our industry for qualified employees is intense, and certain of our competitors have directly targeted our employees. In addition, our compensation arrangements, such as our equity award programs, may not always be successful in attracting new employees and retaining and motivating our existing employees. Our continued ability to compete effectively depends on our ability to attract new employees and to retain and motivate our existing employees.

In addition, we believe that our corporate culture fosters innovation, creativity, and teamwork. As our organization grows, and we are required to implement more complex organizational management structures, we may find it increasingly difficult to maintain the beneficial aspects of our corporate culture. This could negatively impact our future success.

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

None.

Item 3.                      Defaults Upon Senior Securities.

None.

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

None.

Item 5.                      Other Information.

Except as otherwise noted, the securities described in this Item were issued pursuant to the exemption from registration provided by Section 4(2) of the Securities Act of 1933 and/or Regulation D promulgated under the Securities Act. Each such issuance was made pursuant to individual contracts that are discrete from one another and are made only with persons who were sophisticated in such transactions and who had knowledge of and access to sufficient information about the Company to make an informed investment decision. Among this information was the fact that the securities were restricted securities.

Item 6.                      Exhibits.

10.1	Amendment to Debenture and Warrants dated July 7, 2010
31	Certification of the Principal Executive, Financial and Accounting Officer required by Rule 13a-14(a) or Rule 15d-14(a).
32	Certification of the Chief Executive Officer and Chief Financial Officer required by Rule 13a-14(b) or Rule 15d-14(b) and 18 U.S.C. 1350.

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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.

Dated: November 15, 2010	InferX Corporation
	By:	/s/ Vijay Suri
		Vijay Suri, President, CEO and CFO
		(Principal Executive, Financial and
		Accounting Officer)