i have developped a web for a LAN, and this is what I had to do:

1. check the password synchronization box (in your IIS management console, right click on root of web, properties...)
2. NT challenge/response checked
3. You may have to specify an anonymous user such as IUSR_servername, with a password and give this person all read rights
4. Have SQL inherit NT login (when i access my DSN i don't need a separate pass/login)

I can't say I fully understand this stuff... there are multiple levels of security (i.e. Network Level, domain level, browser level, and then the database has it's own level) I had a real fun time getting mine going. I hope something I said might give you an idea...

good luck.