Particle Drilling 10-Q 2006 Q3 Quarterly report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

(Mark One)

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2006

OR

oTRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                     to

Commission File Number 000-30819

Particle Drilling Technologies, Inc.
(Exact name of registrant as specified in its charter)

Nevada	20-1563395
(State or other jurisdiction of	(I.R.S. Employer
incorporation or organization)	Identification No.)

11757 Katy Freeway, Suite 1300
Houston, Texas 77079
(Address of principal executive offices)
(Zip Code)

713-223-3031
(Registrant’s telephone number, including area code)

1021 Main Street, Suite 2650
Houston, Texas 77002
(Former name, former address and former fiscal year, if changed since last report)

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 x  No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer o                             Accelerated filer x                      Non-accelerated filer o

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

The number of shares of the registrant’s common stock, $.001 par value, outstanding as of August 2, 2006 was 25,008,705.

PARTICLE DRILLING TECHNOLOGIES, INC.
(a development stage enterprise)

FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 2006

INDEX

Part I - Financial Information

Item 1.	Financial Statements (Unaudited)
	Consolidated Balance Sheets (Unaudited) at June 30, 2006 and September 30, 2005	3
	Consolidated Statements of Operations (Unaudited) - Three and Nine Months Ended June 30, 2006 and 2005, and from June 9, 2003 (date of inception) to June 30, 2006	4
	Consolidated Statements of Cash Flows (Unaudited) - Nine Months Ended June 30, 2006 and 2005, and from June 9, 2003 (date of inception) to June 30, 2006	5
	Notes to Consolidated Financial Statements (Unaudited)	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	9
Item 3.	Quantitative and Qualitative Disclosures about Market Risk	14
Item 4.	Controls and Procedures	14
Part II - Other Information		14
Item 1.	Legal Proceedings	14
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	15
Item 6.	Exhibits	16
	Signatures	17

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PARTICLE DRILLING TECHNOLOGIES, INC.

(a development stage enterprise)

CONSOLIDATED BALANCE SHEETS

	June 30, 2006			September 30, 2005
	(Unaudited)			(Restated)
ASSETS
Current assets:
Cash and cash equivalents	$	4,711,810		$	10,504,646
Short-term investments	385,839			—
Accounts receivable - related party	—			42,330
Prepaid expenses	71,371			229,963
Total current assets	5,169,020			10,776,939
Property, plant & equipment, net	1,127,031			1,277,982
Intangibles, net	1,208,513			1,102,403
Other assets	33,665			391,089
Total assets	$	7,538,229		$	13,548,413
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	884,716		$	1,056,733
Short-term notes payable	—			79,880
Current portion of long-term debt	20,866			11,597
Accrued liabilities	715,570			242,633
Total current liabilities	1,621,152			1,390,843
Long-term debt	18,790			9,463
Commitments and contingencies - Note 8
Stockholders’ equity:
Common stock, $.001 par value, 100,000,000 shares authorized, 27,989,291 shares issued and 24,986,205 shares outstanding at June 30, 2006, and 27,441,472 shares issued and 24,441,472 shares outstanding at September 30, 2005	27,989			27,441
Additional paid-in capital	24,655,752			23,218,868
Treasury stock at cost, 3,003,086 shares at June 30, 2006 and 3,000,000 shares at September 30, 2005	(1,511,817		)	(1,500,000		)
Deficit accumulated during the development stage	(17,273,637		)	(9,598,202		)
Total stockholders’ equity	5,898,287			12,148,107
Total liabilities and stockholders’ equity	$	7,538,229		$	13,548,413

The accompanying notes are an integral part of these statements.

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PARTICLE DRILLING TECHNOLOGIES, INC.

(a development stage enterprise)

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

													Period from
													June 9, 2003
													(date of
													inception) to
	Three Months Ended June 30,						Nine Months Ended June 30,						June 30,
	2006			2005			2006			2005			2006
				(Restated)						(Restated)			(Restated)
Revenues	$	—		$	—		$	—		$	—		$	—
Operating expenses:
Research and development	1,735,857			731,054			4,469,449			1,721,457			7,932,982
General and administrative	1,157,885			984,863			3,530,056			2,098,850			9,898,551
Total operating expenses	2,893,742			1,715,917			7,999,505			3,820,307			17,831,533
Loss from operations	(2,893,742		)	(1,715,917		)	(7,999,505		)	(3,820,307		)	(17,831,533		)
Other income (expenses)
Interest income	64,018			80,725			224,314			126,102			433,619
Rental income - related party	—			3,880			46,565			3,880			73,727
Gain on debt extinguishment	—			—			—			26,990			35,283
Gain on assignment of lease - related party	—			—			55,614			—			55,614
Interest expense	(821		)	(361		)	(2,423		)	(10,813		)	(40,347		)
Total other income	63,197			84,244			324,070			146,159			557,896
Net loss	$	(2,830,545	)	$	(1,631,673	)	$	(7,675,435	)	$	(3,674,148	)	$	(17,273,637	)
Net loss per common share, basic and diluted	$	(0.11	)	$	(0.07	)	$	(0.31	)	$	(0.17	)	$	(0.94	)
Weighted average number of common shares outstanding - basic and diluted	24,968,159			24,312,819			24,461,636			21,385,891			18,359,429

The accompanying notes are an integral part of these statements.

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PARTICLE DRILLING TECHNOLOGIES, INC.

(a development stage enterprise)

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

							Period from
							June 9, 2003
							(date of
							inception) to
	Nine Months Ended June 30,						June 30,
	2006			2005			2006
				(Restated)			(Restated)
Cash flows from operating activities:
Net loss	$	(7,675,435	)	$	(3,674,148	)	$	(17,273,637	)
Adjustments to reconcile net loss to net cash used in operating activities:
Gain on debt extinguishment	—			(26,990		)	(35,283		)
Gain on assignment of lease - related party	(55,614		)	—			(55,614		)
Depreciation and amortization expense	504,324			244,598			1,043,200
Short-term note issued for services	—			—			44,000
Common stock issued for services	—			(66,500		)	931,500
Warrants issued for services	—			57,999			63,829
Stock-based employee compensation	1,431,342			302,583			2,097,056
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable - related party	1,510			(9,316		)	(40,820		)
Decrease in prepaid expenses	158,592			20,606			40,619
(Decrease) in accounts payable	(172,017		)	(516,868		)	544,778
Increase in accrued liabilities	569,371			9,365			812,004
Net cash used in operating activities	(5,237,927		)	(3,658,671		)	(11,828,368		)
Cash flows from investing activities:
Payments to purchase property and equipment	(285,022		)	(999,651		)	(1,468,711		)
Proceeds from sale of property and equipment	—			—			20,957
Payments to purchase intangibles	(143,973		)	(35,690		)	(574,417		)
Payments to purchase other assets	(28,416		)	(385,839		)	(419,505		)
Payments issued for note receivable	—			—			(300,783		)
Payments issued for note receivable - related party	—			—			(56,783		)
Net cash used in investing activities	(457,411		)	(1,421,180		)	(2,799,242		)
Cash flows from financing activities:
Proceeds from issuance of common stock	6,090			18,647,666			20,981,856
Repurchase of common stock	(11,817		)	(1,500,000		)	(1,511,817		)
Proceeds from issuance of convertible notes	—			—			553,500
Repayments of notes payable	(91,771		)	(302,132		)	(684,119		)
Proceeds from borrowings under loan agreements - related parties	—			—			23,195
Repayment of borrowings under loan agreements - related parties	—			—			(23,195		)
Net cash provided by (used in) financing activities	(97,498		)	16,845,534			19,339,420
Net increase (decrease) in cash and cash equivalents	(5,792,836		)	11,795,683			4,711,810
Cash and cash equivalents - beginning of period	10,504,646			20,363			—
Cash and cash equivalents - end of period	$	4,711,810		$	11,786,046		$	4,711,810
Supplemental disclosures of cash flow information:
Cash paid for interest	$	2,530		$	12,339		$	41,231
Non-cash investing and financing activities:
Prepaid insurance acquired with note payable	$	—		$	—		$	111,990
Common stock issued as consideration for account payable	—			—			6,000
Common stock issued as consideration for note payable	—			—			50,000
Related party note receivable exchanged for property and equipment	—			—			56,783
Note payable converted into common stock	—			—			553,500
Property and equipment acquired with assumed liabilities	—			—			479,610
Intangibles acquired with assumed liabilities	—			—			757,792
Property and equipment acquired with note payable	30,487			—			30,487
Short-term investments reclassified from other assets	385,839			—			385,839

The accompanying notes are an integral part of these statements.

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PARTICLE DRILLING TECHNOLOGIES, INC.
(a development stage enterprise)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1.   BASIS OF PRESENTATION

The accompanying unaudited interim consolidated financial statements, which include the accounts of Particle Drilling Technologies, Inc. (which is referred to herein as “we,” “us,” “our” or the “Company”) and its subsidiary, have been prepared in accordance with generally accepted accounting principles in the United States of America (“US GAAP”) and pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with US GAAP have been condensed or omitted in accordance with such rules and regulations. The information furnished in the unaudited interim consolidated financial statements includes normal recurring adjustments and reflects all adjustments, which in the opinion of management are necessary for a fair presentation of such financial statements. Although management believes the disclosures and information presented are adequate to make the information not misleading, these unaudited interim consolidated financial statements should be read in conjunction with the Company’s September 30, 2005 audited consolidated financial statements and notes thereto on Form 10-K/A. Operating results for the three months and nine months ended June 30, 2006 are not necessarily indicative of the results that may be expected for the year ending September 30, 2006.

The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from these estimates.

Certain reclassifications have been made to conform prior period amounts to the current period presentation. These reclassifications had no effect on net loss, net loss per share, or stockholders’ equity.

2.  FINANCIAL CONDITION AND MANAGEMENT PLANS

The financial statements of the Company have been prepared on the basis of accounting principles applicable to a going concern, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business.  As shown in the condensed consolidated financial statements, for the three and nine months ended June 30, 2006, the Company reported net losses of approximately $2.8 million and $7.7 million, respectively as compared to net losses of approximately $1.6 and $3.7 million for the three and nine months ended June 30, 2005.  The condensed consolidated financial statements also show an accumulated deficit of approximately $17.3 million from inception (June 9, 2003) through the period ended June 30, 2006.  The financial statements do not include any adjustments relating to the recoverability and classification of asset carrying amounts or the amount and classification of liabilities that might result should the Company be unable to continue as a going concern.

The Company is currently a development stage company and its continued existence is dependent upon the Company’s successful development of the PID technology and our ability to successfully commercialize this technology.  The Company has yet to generate cashflow from operations, and until revenues commence, the Company is highly dependent upon debt and equity funding.  Should continuing funding requirements not be met, the Company’s operations may cease to exist.  Management cannot provide any assurance that any such financing will be available on acceptable terms or at all.

3.   RESTATEMENT OF FINANCIAL STATEMENTS

The historical information in this quarterly report on Form 10-Q for the Consolidated Balance Sheet as of September 30, 2005 has been restated. In addition, certain historical information included in the three and nine months ended June 30, 2005 and the period from June 9, 2003 (date of inception) to June 30, 2006 for the Consolidated Statement of Operations and Consolidated Statement of Cash Flows has been restated. These financial statements have been restated after determining that the Company’s policy of recording stock-based employee compensation upon vesting of the underlying equity award was inconsistent with the guidelines set forth under Statements of Financial Accounting Standards (“SFAS”) No. 123(R), Share-Based Payment.

On February 7, 2006, the Company received comments from the Staff of the Securities and Exchange Commission (“SEC”) to its annual report on Form 10-K for the year ended September 30, 2005 that was originally filed on December 14, 2005. As a result of one of these comments, the Company undertook a detailed analysis of its policies in connection with the recording of stock-based employee compensation related to equity incentive awards under SFAS No. 123(R). Following the completion of that analysis and further consultation with the Company’s independent registered public accountants, the Company determined that its policy for recording equity compensation was inconsistent with the guidance set forth under SFAS No. 123(R). Historically, the Company had calculated the compensation expense associated with equity awards using the Black-Scholes model and amortized that expense over the service period as the equity awards vested, commencing with the first vesting dates of the awards. To fully comply with the guidance set forth in SFAS No. 123(R), the Company is now recording such expense on a straight line basis over the relevant service periods, commencing with the dates of grant of the awards. On February 9, 2006, following an analysis of the impact of this error on the Company’s previously released financial statements, the Audit Committee of the Company’s Board of Directors determined that it was necessary to restate the financial statements contained in the Company’s original annual report on Form 10-K for the period ended September 30, 2005 originally filed with the SEC on December 14, 2005.

As a result of the restatement, net loss for the year ended September 30, 2005 was increased by $437,350 resulting in an increase to the deficit accumulated during the development stage and additional paid-in-capital of $437,350 as of September 30, 2005. The Consolidated Statements of Operations presented in this quarterly report on Form 10-Q compares the three months and nine months ended June 30, 2006 and 2005. The Consolidated Statements of Cash flows presented in this quarterly report on Form 10-Q compares the nine months ended June 30, 2006 and 2005.  The historical information for the three months and nine months ended June 30, 2006 was not affected by the accounting error described above, and therefore, not restated.

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4.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Impairment of Long-Lived Assets.   We evaluate our long-lived assets for indicators of possible impairment by comparison of the carrying amounts to future net undiscounted cash flows expected to be generated by such assets when events or changes in circumstances indicate the carrying amount of an asset may not be recoverable.  Should an impairment exist, the impairment loss would be measured based on the excess carrying value of the asset over the asset’s fair value or discounted estimates of future cash flows.  We also evaluate the capitalized costs for patents and patent applications filed but not issued for possible impairments. We have not identified any such impairment losses to date. The evaluation of capitalized costs for patents and patent applications is based on a subjective cash flow forecast which is subject to change. We will reassess our cash flow forecast each time there are fundamental changes in the underlying potential use of the patents or patent applications in terms of performance, customer acceptance or other factors that may affect such cash flow forecasts.

New Accounting Pronouncements.  In July 2006, the FASB issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes - An Interpretation of FASB Statement No. 109 (“FIN 48”).  FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with SFAS No. 109, Accounting for Income Taxes.  It prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return.  This new standard also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition.  The provisions of FIN 48 are to be applied to all tax positions upon initial adoption of this standard.  Only tax positions that meet the more-likely-than-not recognition threshold at the effective date may be recognized or continue to be recognized upon adoption of FIN 48.  The cumulative effect of applying the provisions of FIN 48 should be reported as an adjustment to the opening balance of retained earnings (or other appropriate components of equity or net assets in the statement of financial position) for that fiscal year.  The provisions of FIN 48 are effective for fiscal years beginning after December 15, 2006.  Earlier application is permitted as long as the enterprise has not yet issued financial statements, including interim financial statements, in the period of adoption.  We believe that the adoption of FIN 48 will not have a material impact on our financial position, results of operations or cash flows.

5.   REVERSE ACQUISITION WITH MEDXLINK, CORP

On July 14, 2004, MedXLink, Corp. (“MXLK”, or the “Parent”), a Nevada corporation and an inactive publicly-traded company, entered into an Agreement and Plan of Reorganization with Particle Drilling Technologies, Inc., a Delaware corporation (“PDTI-DE”), whereby MXLK agreed to acquire PDTI-DE by merging PDTI Acquisition Corp. (“Merger Sub”), a newly formed Delaware corporation and wholly owned subsidiary of MXLK, with and into PDTI-DE and issued common stock of MXLK in exchange for all the outstanding shares of PDTI-DE. On January 14, 2005, MXLK closed its acquisition of PDTI-DE and issued 16,698,094 shares of common stock (including 3,381,538 shares of common stock issued upon conversion of the same number of shares of Series A Convertible Preferred Stock of PDTI-DE) to holders of common stock of PDTI-DE and reserved for issuance (1) 228,000 shares of common stock pursuant to outstanding warrants to purchase common stock of PDTI-DE, and (2) 3,205,000 shares of common stock pursuant to outstanding options to purchase common stock of PDTI-DE. In addition, 1,342,404 issued and outstanding shares of common stock of the Parent were cancelled for no additional cash consideration in connection with the Merger. Following the merger, the Parent had 18,248,094 shares of common stock issued and outstanding (which included 3,381,538 shares of common stock issued upon conversion of the same number of shares of Series A Convertible Preferred Stock of PDTI-DE) and an additional 3,433,000 shares of common stock reserved for issuance upon exercise of warrants and options as described above. Following the merger, PDTI-DE continued as the surviving corporation under the name of Particle Drilling Technologies, Inc. as a subsidiary of Parent, the Parent changed its name to Particle Drilling Technologies, Inc., and its stock trading symbol changed from MXLK.OB to PDRT.OB. On June 28, 2005, the Company’s shares of common stock began trading on The NASDAQ Capital Market® under the symbol PDRT.

6.   NET LOSS PER COMMON SHARE

The Company has presented basic and diluted net loss per share pursuant to SFAS No. 128, Earnings Per Share. In accordance with SFAS No. 128, basic and diluted net loss per share has been computed using the weighted-average number of shares of common stock outstanding during the period. Dilutive net loss per share would give affect to the dilutive effect of common stock equivalents consisting of options and warrants. Potentially dilutive securities have been excluded from the net loss per common share calculation as the effects would be antidilutive. Potentially dilutive securities not included in the computation of weighted average diluted shares of common stock were 2,349,650 and 2,004,223 shares for the three months ended June 30, 2006 and 2005, respectively, and 2,303,555 and 1,903,001 shares for the nine months ended June 30, 2006 and 2005, respectively.

7.   COMMON STOCK

In January 2006, the Company issued 53,750 shares of its common stock for cash upon exercise of options at $0.12 per share.

In January 2006, the Company issued 9,721 shares of its common stock upon a net cashless exercise of warrants at $2.00 per share.

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In January 2006, the Company issued 150,000 shares of its restricted stock to its Chief Executive Officer.

In February 2006, the Company issued 176,458 shares of its common stock upon a net cashless exercise of warrants at $2.00 per share.

In February 2006, the Company issued 20,000 shares of its restricted stock to one of its employees.

In March 2006, the Company issued 66,000 shares of its common stock upon a net cashless exercise of warrants at $2.00 per share.

In April 2006, the Company issued 12,500 shares of its restricted stock to one of its employees.

In April 2006, the Company issued 29,390 shares of its common stock upon a net cashless exercise of warrants at $.12 per share.

In June 2006, the Company issued 30,000 shares of its restricted stock to its Board of Directors.

In June 2006, the Company repurchased 3,086 shares of its common stock from one of its employees.

At June 30, 2006, the Company had 24,986,205 shares of common stock outstanding and has outstanding options and warrants to purchase up to 5,641,641 additional shares of the Company’s common stock in the aggregate.

8.   STOCK-BASED EMPLOYEE COMPENSATION

In April 2004, the Board of Directors adopted the 2004 Stock Incentive Plan (the “2004 Plan”). The 2004 Plan provides for the issuance of incentive stock options, non-statutory stock options and restricted stock grants to directors, employees and consultants of the Company. Provisions under the 2004 Plan allowed for the issuance of up to 3,500,000 shares of common stock pursuant to awards under the 2004 Plan. As of June 30, 2006, the Company had 66,250 shares of common stock available for issuance pursuant to awards under the 2004 Plan.

In March 2005, the Board of Directors adopted the 2005 Stock Incentive Plan (the “2005 Plan”). The 2005 Plan provides for the issuance of incentive stock options, non-statutory stock options and restricted stock grants to directors, employees and consultants of the Company. Provisions under the 2005 Plan allow for the issuance of options and restricted stock awards to purchase or issue up to 2,000,000 shares of common stock. As of June 30, 2006, the Company had 448,000 shares of common stock available for issuance pursuant to awards under the 2005 Plan.

Stock-based employee compensation expense recorded for awards issued under the 2004 Plan and the 2005 Plan for the three months ended June 30, 2006 and 2005 was $544,178 and $140,783, respectively. Stock-based employee compensation expense recorded for awards issued under the 2004 Plan and the 2005 Plan for the nine months ended June 30, 2006 and 2005 was $1,431,342 and $302,583, respectively. Stock-based employee compensation expense recorded for awards issued under the 2004 Plan and the 2005 Plan since inception (June 9, 2003) to June 30, 2006 was $2,097,056.

9.   COMMITMENTS AND CONTINGENCIES

In March 2006, we assigned our commitments under the previous lease for our corporate offices that were located at 1021 Main Street, Suite 2650, Houston, Texas 77002 to Energy XXI Services, LLC, an affiliate of John D. Schiller, our former interim President and Chief Executive Officer and currently one of our directors, and of Steve Weyel, who is also currently one of our directors. The Exploitation Company, LLP, also an affiliate of Messrs. Schiller and Weyel, had previously subleased a portion of that corporate office space pursuant to a Sublease Agreement, which agreement was cancelled in connection with the assignment of the office lease to Energy XXI Services, LLC.

In June 2006, we extended the lease for our commercial operating facility that expired June 30, 2006 for one additional year. The lease for our commercial operating facility will expire June 30, 2007. The future minimum lease payments under this lease are $60,000.

In April 2006, the Company entered into a thirteen (13) month lease agreement for new corporate offices that commenced in May 2006. We moved our previous corporate offices that were located at 1021 Main Street, Suite 2650, Houston, Texas 77002, to 11757 Katy Freeway, Suite 1300, Houston, Texas 77079. In April 2006, we delivered to the lessor a security deposit of $9,400. Our future annual minimum lease payments as of June 30, 2006 are $123,140.

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10.   RELATED PARTY TRANSACTIONS

In March 2005, we entered into a five year sublease agreement with The Exploitation Company, LLP, an affiliate of John D. Schiller, our former interim President and Chief Executive Officer until November 15, 2005 and currently one of our directors, pursuant to which The Exploitation Company, LLP subleased from us approximately 5,200 square feet of our corporate office space, beginning in June 2005. In July 2005, Mr. Steve Weyel, one of our directors, became an executive officer of The Exploitation Company, LLP.

In March 2006, we assigned our commitments under the previous lease for our corporate offices that were located at 1021 Main Street, Suite 2650, Houston, Texas 77002 to Energy XXI Services, LLC. We agreed with The Exploitation Company, LLP to terminate the sublease agreement in connection with the assignment of the corporate office lease to Energy XXI Services, LLC.

11.  INCOME TAXES

The Company reports its income taxes in accordance with SFAS No. 109, Accounting for Income Taxes, which calls for the utilization of the asset and liability method of accounting for income taxes. Under this method, deferred taxes are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted marginal tax rates and laws that will be in effect when the differences reverse. Temporary differences have been created for all stock option plans and are included in our SFAS No. 109 computation. For the quarter ended June 30, 2006, there were permanent and temporary differences of approximately $85,000 and $462,000, respectively. At June 30, 2006, we had cumulative net operating loss carryforwards of approximately $14,129,000, which expire in years 2007 through 2025. No effect has been shown in the consolidated financial statements for the net operating loss carryforwards as the likelihood of future tax benefit from such net operating loss carryforwards is not determinable at this time. Accordingly, the potential tax benefits of the net operating loss carryforwards, estimated based upon tax rates at June 30, 2006, have been offset by valuation reserves of the same amount.

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

The following discussion of our financial condition and results of operations should be read together with the unaudited consolidated financial statements and related notes that are included elsewhere in this report. This discussion may contain forward-looking statements based upon current expectations that involve risks and uncertainties that could cause actual results to differ materially from the forward-looking statements. We undertake no obligation to update any forward-looking statements except as required by law.

Overview

On January 14, 2005, we acquired Particle Drilling Technologies, Inc., a privately-held Delaware corporation (“PDTI”). As a result of this acquisition, our company, which previously had no material operations, acquired the business of PDTI and we are now engaged in the development of the Particle Impact Drilling System, a patented system utilizing a specially designed “fit for purpose” drill bit fitted with jetting nozzles and polycrystalline diamond compact cutting structures for use in the oil and gas drilling industry.

We are a development-stage company and have a limited operating history. Our predecessor company for financial reporting purposes was formed on June 9, 2003 to acquire the technology related to the Particle Impact Drilling System (the “PID technology”). We are still developing this technology, and to date, we have not generated any revenues from our operations. As we continue to execute our operations plan, we expect our development and operating expenses to increase.

Research and development.   We have made and expect to continue to make substantial investments in research and development activities in order to develop and market the PID technology. Research and development costs consist primarily of general and administrative and operating expenses related to research and development activities. We expense research and development costs as incurred except for property, plant and equipment related to research and development activity that have an alternative future use. Property, plant and equipment for research and development activity that have an alternative future use are capitalized and the related depreciation is expensed as research and development costs.

General and administrative.   General and administrative expenses consist primarily of salaries and benefits, office expense, professional services, and other corporate overhead costs. We have experienced and expect to continue to experience increases in general and administrative expenses as a result of: (1) becoming subject to reporting and compliance obligations applicable to publicly-held companies in January 2005; (2) our continuing efforts to develop, test and prepare the PID technology for commercialization; and (3) the hiring of additional personnel.

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Results of Operations

Three Months Ended June 30, 2006 Compared to Three Months Ended June 30, 2005

Research and development.   Research and development expenses were $1,735,857 and $731,054 for the three months ended June 30, 2006 and 2005, respectively, representing an increase of $1,004,803. This increase was primarily the result of the development of a new particle injector system, increased compensation due to the hiring of additional personnel, bonus accruals and stock-based compensation for research and development personnel during the three months ended June 30, 2006.  In addition, we incurred approximately $315,124 for supplies, transportation and other operational costs in connection with our first commercial trial, which includes a $135,469 payment to the operator as a result of downtime.

General and administrative.   General and administrative expenses were $1,157,885 and $984,863 for the three months ended June 30, 2006 and 2005, respectively, representing an increase of $173,022. This increase was primarily the result of increased costs related to bonus accruals and stock-based compensation during the three months ended June 30, 2006.  In addition, there was a decrease in SEC and stock market fees in the three months ended June 30, 2006 compared to the same period in 2005 as a result of our filing of a registration statement with the SEC and the initial listing for trading of our common stock on The NASDAQ Capital Market® during the three months ended June 30, 2005.

Other income (expenses).   Other income was $63,197 and $84,244 for the three months ended June 30, 2006 and 2005, respectively, representing a decrease in other income of $21,047. The decrease during the three months ended June 30, 2006 was primarily attributable to: (1) rental income from our sublease agreement with The Exploitation Company, LLP that commenced in June 2005 and was terminated in March 2006; and (2) the decrease in earnings on investments because our cash and cash equivalents have decreased due to funding of operations.

Nine Months Ended June 30, 2006 Compared to Nine Months Ended June 30, 2005

Research and development.  Research and development expenses were $4,469,449 and $1,721,457 for the nine months ended June 30, 2006 and 2005, respectively, representing an increase of $2,747,992. This increase was primarily the result of the development of a new particle injector system, increased compensation due to the hiring of additional personnel, bonus accruals and stock-based compensation for research and development personnel during the nine months ended June 30, 2006.  During the nine months ended June 30, 2006, we also incurred $371,736 in connection with our field test at Catoosa which occurred during the first quarter of fiscal 2006.  In addition, we incurred approximately $315,124 for supplies, transportation and other operational costs in connection with our first commercial trial, which includes a $135,469 payment to the operator as a result of downtime.

General and administrative.  General and administrative expenses were $3,530,056 and $2,098,850 for the nine months ended June 30, 2006 and 2005, respectively, representing an increase of $1,431,206.   This increase was primarily the result of increased costs related to bonus accruals and stock-based compensation during the nine months ended June 30, 2006.  In addition, our general and administrative expenses increased during the nine months ended June 30, 2006 as a result of our reporting and compliance obligations applicable to publicly-held companies, which commenced for us (for financial reporting purposes) during the second quarter of fiscal 2005. Lastly, we incurred substantial legal cost during the three months ended March 31, 2006 in connection with our settlement agreement and the related litigation which was settled in March 2006.

Other Income.  Other income was $324,070 and $146,159 for the nine months ended June 30, 2006 and 2005, respectively, representing an increase of $177,911.  This increase was primarily the result of an increase in interest income, rental income, and a gain on assignment of lease during the nine months ended June 30, 2006. The increase in interest income for the nine months ended June 30, 2006 relates to the investment of the proceeds received from the private placement of our common stock during February 2005. The increase in rental income during the nine months ended June 30, 2006 is attributable from our sublease agreement with The Exploitation Company, LLP that commenced in June 2005 and was terminated in March 2006. During the nine months ended June 30, 2006, we recorded a gain on assignment of lease related to the assignment of our corporate offices located at 1021 Main Street, Suite 2650, Houston, Texas 77002 to Energy XXI Service, LLC in March 2006.

Liquidity and Capital Resources

Our principal sources of liquidity are cash and cash equivalents. Cash requirements through the end of the fiscal year 2006 are primarily to fund research and development activities, to continue to improve service capabilities, to expand operations, general and administrative costs and capital expenditures. Our continued existence depends on the successful development of the PID technology and our ability to successfully commercialize this technology.  Depending on the timing of these two events, we will need to seek additional funding through the sale or licensing of assets or through issuances of debt or equity securities.  We anticipate that we will need additional funding during the next 12 months and would seek to raise such funds through public or private equity financing, bank debt financing, or from other sources. Adequate funds may not be available when needed, and if we raise additional funds by issuing equity securities, existing stockholders may be diluted.

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Since inception on June 9, 2003 through June 30, 2006, we have financed our operations through private sales of our equity and the issuance of convertible notes payable, totaling net proceeds of $21,558,551. As of June 30, 2006, we had $5,097,649 in cash and short term investments.

There are no assurances that the Company will be successful in achieving profitable operations, additional financing, or continue as a going concern.

Cash Flows from Operations.   Cash flows used for operations are primarily affected by our research and development progress and business development. Net cash flows used for operations during the nine months ended June 30, 2006 were $5,237,927, compared to $3,658,671 for the nine months ended June 30, 2005. The increase from the nine months ended June 30, 2005 to the nine months ended June 30, 2006 was the result of increased cash due to the hiring of additional personnel and professional fees relating to being a publicly traded company.  During the nine months ended June 30, 2006, we also incurred costs in the amount of $371,736 in connection with our field test at Catoosa which occurred during the first quarter of fiscal 2006.  No such costs were incurred during the nine months ended June 30, 2005. In addition, we incurred approximately $315,124 for supplies, transportation and other operational costs in connection with our first commercial trial, which includes a $135,469 payment to the operator as a result of downtime. Our working capital since inception (June 9, 2003) has been fully funded from cash flows from financing activities.

Cash Flows from Investing Activities.   Our capital spending for the nine months ended June 30, 2006 was $285,022 compared to $999,651 for the nine months ended June 30, 2005. During the nine months ended June 30, 2006, we used capital expenditures for our research and development activities in accordance with our 2006 capital budget.  During the nine months ended June 30, 2005, in addition to capital expenditures for our research and development activities in accordance with our 2005 capital budget, we used $389,983 to purchase other assets.  This was primarily related to a $350,000 deposit supporting a letter of credit we established in connection with our former corporate office lease. Our capital spending since inception (June 9, 2003) has been fully funded from cash flows from financing activities. We anticipate that our capital expenditures for the next several months will continue to be fully funded from our available cash and cash equivalents, and short term investments.

Cash Flows from Financing Activities.   Net cash provided by (used in) financing activities for the nine months ended June 30, 2006 and 2005 was ($97,498) and $16,845,534, respectively. During the nine months ended June 30, 2005, we received net proceeds of $18,647,666 from the issuance of common stock and used $1,500,000 to repurchase 3,000,000 shares from a shareholder, and $302,132 to repay notes payable.  During the nine months ended June 30, 2006, we used $91,771 to repay note payables.

Contractual Obligations. In March 2005, we delivered to the lessor of our corporate offices at 1021 Main Street, Suite 2650, Houston, Texas 77002, a security deposit of $350,000 in the form of an irrevocable letter of credit. Our future annual minimum lease payments were $186,256. In August 2005, we expanded the corporate office facility an additional 1,086 square feet for a total of 11,396 square feet. The future annual minimum lease payments for the additional space were $18,758. In March 2006, we assigned our commitments under this office lease to Energy XXI Services, LLC, an affiliate of John D. Schiller, our former interim President and Chief Executive Officer and currently one of our directors, and of Steve Weyel, currently one of our directors. The Exploitation Company, LLP had previously subleased a portion of that corporate office space pursuant to a Sublease Agreement, which agreement was cancelled in connection with the assignment of the office lease to Energy XXI Services, LLC. Furthermore, Energy XXI Services, LLC assumed the obligation under the lease to provide a security deposit of $350,000 and we were released from the irrevocable letter of credit we had previously provided. We will not incur any future obligations for lease payments under this office lease.

In April 2006, we entered into a thirteen month lease agreement for our new corporate offices at 11757 Katy Freeway, Suite 1300, Houston, Texas 77079, that commenced in May 2006. In connection with the execution of this new lease agreement, we delivered to the lessor a security deposit of $9,400. Our future annual minimum lease payments are $123,140.

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In June 2006, we extended the lease for our commercial operating facility that expired June 30, 2006 for one additional year. The lease for our commercial operating facility will expire June 30, 2007. The future minimum lease payments under this lease are $60,000.

Off-Balance Sheet Arrangements

In connection with the acquisition of the PID technology in January 2004, PDTI entered into a Royalty Agreement with ProDril Services, Incorporated (“PSI”) pursuant to which we are obligated to pay PSI a royalty on a quarterly basis equal to 18% of our earnings before interest, income taxes, depreciation and amortization (“EBITDA”) derived from the use of the PID technology, until an aggregate of $67,500,000 has been paid. PDTI also entered into a Royalty Agreement in January 2004 with ProDril Services, International, Ltd. (“PSIL”) pursuant to which we are obligated to pay PSIL a royalty on a quarterly basis equal to 2% of our EBITDA derived from the use of the PID technology, until an aggregate of $7,500,000 has been paid. In addition, we are obligated to pay CCORE Technology and Licensing, Ltd. (“CTL”), PSI and PSIL a royalty equal to 1.6%, 1.2% and 1.2%, respectively, of our quarterly gross revenue, derived from the use of the PID technology. As of June 30, 2006, we had no revenues or EBITDA; therefore no royalties have been paid or accrued.

Related Party Transactions

In March 2005, we entered into a five year sublease agreement with The Exploitation Company, LLP, an affiliate of John D. Schiller, our former interim President and Chief Executive Officer and currently one of our directors, pursuant to which The Exploitation Company, LLP subleased from us approximately 5,200 square feet of our corporate office space, beginning in June 2005. In July 2005, Mr. Steve Weyel, one of our directors, became an executive officer of The Exploitation Company, LLP.

In March 2006, we assigned our commitments under the previous lease for our corporate offices that were located at 1021 Main Street, Suite 2650, Houston, Texas 77002 to Energy XXI Services, LLC. We agreed with The Exploitation Company, LLP to terminate the sublease agreement in connection with the assignment of the corporate office lease to Energy XXI Services, LLC.

We believe that the transaction described above was negotiated on an arm’s length basis and that the terms of the transaction was at least as favorable to us as those that could have been obtained from an unaffiliated third party.

Critical Accounting Policies

The discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities and expenses. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We believe the following critical accounting policies affect our most significant judgments and estimates used in the preparation of our consolidated financial statements.

Reverse Acquisition.   The acquisition of PDTI in January 2005 was accounted for as a reverse acquisition. Pursuant to the guidance in Appendix B of SEC Accounting Disclosure Rules and Practices Official Text, we believe the acquisition of PDTI was a merger of a private operating company into a non-operating public shell corporation with nominal net assets which typically results in the owners and management of the private company having actual or effective operating control of the combined company after the transaction, with the shareholders of the former public shell continuing only as passive investors. These transactions are considered by the staff of the Securities and Exchange Commission to be capital transactions in substance, rather than business combinations. That is, the transaction is equivalent to the issuance of stock by the private company for the net monetary assets of the shell corporation, accompanied by a recapitalization. Accordingly, the reverse acquisition has been accounted for as a recapitalization. For accounting purposes, PDTI is considered the acquirer in the reverse acquisition. The historical financial statements are those of PDTI. Net loss per share for periods prior to the merger in January 2005 is restated to reflect the number of equivalent shares received by the acquiring company.

Impairment of Long-Lived Assets.   We evaluate our long-lived assets for indicators of possible impairment by comparison of the carrying amounts to future net undiscounted cash flows expected to be generated by such assets when events or changes in circumstances indicate the carrying amount of an asset may not be recoverable.  Should an impairment exist, the impairment loss would be measured based on the excess carrying value of the asset over the asset’s fair value or discounted estimates of future cash flows.  We also evaluate the capitalized costs for patents and patent applications filed but

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not issued for possible impairments. We have not identified any such impairment losses to date.  The evaluation of capitalized costs for patents and patent applications is based on a subjective cash flow forecast which is subject to change.  We will reassess our cash flow forecast each time there are fundamental changes in the underlying potential use of the patents or patent applications in terms of performance, customer acceptance or other factors that may affect such cash flow forecasts.

Stock-Based Compensation.   In December 2004, the Financial Accounting Standards Board (“FASB”) issued a revision to SFAS No. 123, Share-Based Payment. This statement establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. It also addresses transactions in which an entity incurs liabilities in exchange for goods or services that are based on the fair value of the entity’s equity instruments or that may be settled by the issuance of those equity instruments. This statement focuses primarily on accounting for transactions in which an entity obtains employee services in share-based payment transactions. This statement does not change the accounting guidance for share-based payment transactions with parties other than employees provided in SFAS No. 123 as originally issued. This statement is effective for new awards and those modified, repurchased or cancelled in interim or annual reporting periods beginning after June 15, 2005. We early adopted this standard upon inception.

Research and Development.   The costs of materials and equipment or facilities that are acquired or constructed for research and development activities and that have alternative future uses are capitalized as tangible assets when acquired or constructed. The cost of such materials consumed in research and development activities and the depreciation of such equipment or facilities used in those activities are research and development costs. However, the costs of materials, equipment, or facilities acquired or constructed for research and development activities that have no alternative future uses are considered research and development costs and are expensed at the time the costs are incurred.

Income Taxes.   The Company reports its income taxes in accordance with SFAS No. 109, Accounting for Income Taxes, which calls for the utilization of the asset and liability method of accounting for income taxes. Under this method, deferred taxes are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted marginal tax rates and laws that will be in effect when the differences reverse. Temporary differences have been created for all stock option plans and are included in our SFAS No. 109 computation. For the quarter ended June 30, 2006, there were permanent and temporary differences of approximately $85,000 and $462,000, respectively. At June 30, 2006, we had cumulative net operating loss carryforwards of approximately $14,129,000, which expire in years 2007 through 2025. No effect has been shown in the consolidated financial statements for the net operating loss carryforwards as the likelihood of future tax benefit from such net operating loss carryforwards is not determinable at this time. Accordingly, the potential tax benefits of the net operating loss carryforwards, estimated based upon tax rates at June 30, 2006, have been offset by valuation reserves of the same amount.

Net Loss per Share.   The Company has presented basic and diluted net loss per share pursuant to SFAS No. 128, Earnings Per Share. In accordance with SFAS No. 128, basic and diluted net loss per share has been computed using the weighted-average number of shares of common stock outstanding during the period. Dilutive net loss per share would give affect to the dilutive effect of common stock equivalents consisting of options and warrants. Potentially dilutive securities have been excluded from the net loss per common share calculation as the effects would be antidilutive. Potentially dilutive securities not included in the computation of weighted average diluted shares of common stock because the impact of these potentially dilutive securities were anti-dilutive were 2,349,650 and 1,858,347 shares for the three months ended June 30, 2006 and 2005, respectively, and 2,303,555 and 1,903,001 shares for the nine months ended June 30, 2006 and 2005, respectively.

Forward-Looking Statements

Statements in this quarterly report on Form 10-Q that are not historical facts (including any statements concerning plans and objectives of management for future operations or economic performance, or assumptions or forecasts related thereto) are forward-looking statements subject to Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements can be identified by the use of forward-looking terminology including “forecast,” “may,” “believe,” “expect,” “anticipate,” “estimate,” “continue” or other similar words. These statements discuss future expectations, contain projections of results of operations or of financial condition or state other “forward-looking” information. We and our representatives may from time to time make other oral or written statements that are also forward-looking statements.

These forward-looking statements are made based upon our management’s current plans, expectations, estimates, assumptions and beliefs concerning future events impacting us and therefore involve a number of risks and uncertainties. We caution that forward-looking statements are not guarantees and that actual results could differ materially from those expressed or implied in the forward-looking statements as a result of certain factors, including but not limited to dependence upon energy industry spending, the volatility of oil and gas prices, weather interruptions, the results of testing of our products, the availability of capital resources and the other factors described under “Item 1A. Risk Factors” in Amendment No. 1 to our annual report on Form 10-K/A for the year ended September 30, 2005 and filed with the SEC on February 15,

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2006. We undertake no obligation to update any forward-looking statements except as required by law.

Item 3.Quantitative and Qualitative Disclosures about Market Risk

We believe that we do not have any material exposure to financial market risk and we do not enter into foreign currency or interest rate transactions.

Item 4.Controls and Procedures

As required by Rule 13a-15(b) of the Securities Exchange Act of 1934, an evaluation was performed under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer of the effectiveness of the design and operation of our “disclosure controls and procedures” (as defined under Rule 13a-15(e) and Rule 15d-15(e)) as of the end of the period covered by this Quarterly Report on Form 10-Q filed with the SEC. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of June 30, 2006.

There was no change in our internal control over financial reporting during our third quarter of fiscal 2006 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

Part II—Other Information

Item 1.Legal Proceedings

On February 17, 2006, PDTI closed a settlement agreement, entered into on February 8, 2006, related to certain litigation styled Cause No. 2004-63506, Particle Drilling Technologies, Inc. vs. Harry B. Curlett, Curlett Family Limited Partnership, Ltd., CCore Technology and Licensing, Ltd., and Deep Heat Energy Corporation, in the 333rd Judicial District Court of Harris County, Texas.  As part of the settlement agreement, all parties released all claims against each other, and, on February 21, 2006, the Court dismissed all claims among the parties with prejudice.  The Court’s dismissal became final on March 24, 2006, thereby concluding the litigation.

Also as part of the settlement agreement, PDTI and Curlett Family Limited Partnership, Ltd. (“CFLP”) amended the Exclusive License Agreement between PDTI’s predecessor, ProDril Acquisition Company, and CFLP, dated June 1, 2003, to limit the parties’ respective obligations to share information with each other and to terminate as of February 18, 2006, the parties’ respective rights to the other party’s improvements to the PID Technology.  The settlement agreement provided that the parties would integrate these amendments into an Amended Exclusive License Agreement by March 10, 2006.

During efforts to draft an Amended Exclusive License Agreement reflecting the amendments made in the settlement agreement, CFLP took the position that PDTI has a greater obligation to share information with it than provided in the amendments and that CFLP has greater rights in PDTI’s improvements than provided in the amendments.  On March 20, 2006, PDTI and CFLP unsuccessfully mediated their dispute over these issues but nonetheless put in place a process through which they believed that they could resolve that dispute.  Prior to the conclusion of that process, however, CFLP filed the lawsuit described hereafter.

On March 24, 2006, CFLP filed Civil Action No. 4:06-CV-01012, Curlett Family Limited Partnership, Ltd. v. Particle Drilling Technologies, Inc., a Delaware Corporation, and Particle Drilling Technologies, Inc., a Nevada Corporation, in the United States District Court for the Southern District of Texas, Houston Division.  In that lawsuit, CFLP requested the Court to construe the Exclusive License Agreement, as amended by the settlement agreement, as imposing a greater obligation on PDTI to share information with CFLP than PDTI believes exists and as giving CFLP greater rights in PDTI’s improvements than PDTI believes exists.  In addition, CFLP claimed that PDTI breached the settlement agreement and exclusive license agreement and sought specific performance of those agreements and lost profits damages of $26,000,000 per month.

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On June 15, 2006, the Court granted a summary judgment in favor PDTI and against CFLP thereby disposing of all of CFLP’s claims against PDTI and granting PDTI declaratory relief as to the Exclusive License Agreement, as amended by the settlement agreement.  Thereafter, PDTI requested that the Court make an award against CFLP for a part of PDTI’s attorneys’ fees and expenses incurred in the lawsuit.  On July 26, 2006, the Court ordered that PDTI recover $26,525 in attorneys’ fees and $2,750 in expenses from CFLP.

On July 26, 2006, the Court signed a Judgment incorporating its orders on the summary judgment and attorneys’ fee issues.  Under the Judgment, (1) CFLP takes nothing by its claims against PDTI, and PDTI recovers all taxable costs from CFLP; (2) after February 17, 2006, CFLP has no license rights to any of PDTI’s improvements to the Licensed Patents under the Exclusive License Agreement, as amended by the settlement agreement, without qualification as to when PDTI made or acquired those improvements; (3) PDTI has no obligation to share any information with CFLP or disclose any information to CFLP except for information in the public domain that it is otherwise obligated to provide under the Exclusive License Agreement as amended by the settlement agreement; and (4) PDTI recovers from CFLP attorneys’ fees in the amount of $26,525 and expenses in the amount of $2,750 with interest thereon as provided by law and its taxable costs.  CFLP has filed notice of its intention to appeal the Court’s summary judgment against it to the United States Court of Appeals for the Fifth Circuit.

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

On April 4, 2006, a holder of an outstanding warrant exercised its right to purchase 30,000 shares of our common stock at $0.12 per share on a cashless exercise basis.  The fair market value of our common stock on the date of exercise was $5.90.  As a result of this cashless exercise, we issued 29,390 shares of our common stock to the holder of this warrant and withheld issuing 610 shares of our common stock in satisfaction of the exercise price under the warrant.

The shares of our common stock issued upon exercise of the warrant described above were issued in an exchange between us and our existing security holders in which no commission or other remuneration was paid or given directly or indirectly for soliciting such exchange.  As a result, the issuance of such shares of common stock was exempt from registration pursuant to Section 3(a)(9) under the Securities Act of 1933.

During the three months ended June 30, 2006, we made the following repurchases of shares of our common stock:

Period	Total  Number of  Shares  Purchased	Average  Price  Paid per  Share		Total Number of  Shares Purchased as Part of Publicly  Announced Plans or Programs	Maximum Number  (or Approximate  Dollar Value) of  Shares that May  Yet Be Purchased  Under the Plans or Programs
April 1 to April 30, 2006	—	—		—	—
May 1 to May 31, 2006	—	—		—	—
June 1 to June 30, 2006(1)	3,086	$	3.83	—	—
Total	3,086			—	—

(1)Shares were purchased from an officer of the Company to pay for taxes that arose as a result of the partial vesting of previously issued shares of restricted stock.

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Item 6.Exhibits

Exhibits:

Exhibit No.	Description
31.1	Certification of the Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934.*
31.2	Certification of the Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934.*
32.1	Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.**
32.2	Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.**

*Filed herewith

**Furnished herewith

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SIGNATURES

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

	PARTICLE DRILLING TECHNOLOGIES, INC.
	(Registrant)
Date:  August 9, 2006	/s/ J. CHRIS BOSWELL
	J. Chris Boswell
	Senior Vice President and Chief Financial Officer (authorized officer, principal financial officer and principal accounting officer)

EXHIBIT INDEX

Exhibit No.	Description
31.1	Certification of the Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934.*
31.2	Certification of the Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934.*
32.1	Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.**
32.2	Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.**

*Filed herewith

**Furnished herewith

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