UNITED
STATES




SECURITIES
AND EXCHANGE COMMISSION




Washington,
D.C. 20549




FORM 10-Q




(Mark
      One)




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




For
the quarterly period ended March 31, 2009




OR




o
            TRANSITION 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.
      Employerincorporation
      or organization)
            
            Identification
      No.)


5611
Baird Court


Houston,
Texas 77041


(Address
of principal executive offices)


(Zip
Code)


713-223-3031




(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 x  No o




Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such
files).   Yes   ̈    No   ̈







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 Smaller reporting
company 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 May 1, 2009 was 36,596,234.










PARTICLE DRILLING
TECHNOLOGIES, INC.




(a
development stage enterprise)




FORM 10-Q
FOR THE QUARTER ENDED MARCH 31, 2009




INDEX





Part
      I - Financial Information







Item
      1.
            
            Financial
      StatementsConsolidated
      Balance Sheets (Unaudited) at March 31, 2009 and September 30,
      2008
            
            3Consolidated
      Statements of Operations (Unaudited) – Three and Six Months Ended March
      31, 2009 and 2008, and from June 9, 2003 (date of inception) to March 31,
      2009
            
            4Consolidated
      Statements of Cash Flows (Unaudited) - Six Months Ended March 31, 2009 and
      2008, and from June 9, 2003 (date of inception) to March 31,
      2009
            
            5Notes
      to Consolidated Financial Statements (Unaudited)
            
            6Item
      2.
            
            Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
            
            13Item
      3.
            
            Quantitative
      and Qualitative Disclosures about Market Risk
            
            16Item
      4.
            
            Controls
      and Procedures
            
            16Part
      II - Other Information
            
            17Item
      1A.
            
            Risk
      Factors
            
            17Item
      2.
            
            Unregistered
      Sales of Equity Securities and Use of Proceeds
            
            18Item
      5.
            
            Other
      Information
            
            18Item
      6.
            
            Exhibits
            
            19Signatures
            
            19







2


PARTICLE
DRILLING TECHNOLOGIES, INC.


(a
development stage enterprise)


CONSOLIDATED
BALANCE SHEETS


(Unaudited)




March
      31,
                  2009
                
                
                September 30,
                  2008ASSETSCurrent
      assets:Cash
      and cash equivalents
                
                $
                503,925
                
                
                $
                2,296,143Accounts
      receivable
                
                
                10,000
                
                
                
                —Deferred
      financing costs, net
                
                
                71,296
                
                
                
                —Prepaid
      expenses
                
                
                142,131
                
                
                
                260,686Total
      current assets
                
                
                727,352
                
                
                
                2,556,829Property,
      plant & equipment, net
                
                
                410,330
                
                
                
                1,213,918Intangibles,
      net
                
                
                1,705,780
                
                
                
                1,552,266Other
      assets
                
                
                41,144
                
                
                
                41,144Total
      assets
                
                $
                2,884,606
                
                
                $
                5,364,157LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      liabilities:Accounts
      payable
                
                $
                900,435
                
                
                $
                850,944PIK
      Note payable, net of discount of $304,623
                
                
                170,377
                
                
                
                —Short-term
      notes payable
                
                
                8,253
                
                
                
                84,277Current
      portion of long-term debt
                
                
                4,229
                
                
                
                8,651Accrued
      liabilities
                
                
                172,323
                
                
                
                353,881Total
      current liabilities
                
                
                1,255,617
                
                
                
                1,297,753Long-term
      debt
                
                
                13,203
                
                
                
                15,381Deferred
      rent
                
                
                139,694
                
                
                
                135,531Commitments
      and contingencies - Note 11Stockholders’
      equity:Common
      stock, $.001 par value, 100,000,000 shares authorized, 38,743,435 shares
      issued and 35,740,349 shares outstanding at March 31, 2009, and 38,767,018
      shares issued and 35,763,932 shares outstanding at September 30,
      2008
                
                
                38,743
                
                
                
                38,768Additional
      paid-in capital
                
                
                47,369,458
                
                
                
                46,217,538Treasury
      stock at cost, 3,003,086 shares
                
                
                (1,511,817
                )
                
                
                (1,511,817
                )Deficit
      accumulated during the development stage
                
                
                (44,420,292
                )
                
                
                (40,828,997
                )Total
      stockholders’ equity
                
                
                1,476,092
                
                
                
                3,915,492Total
      liabilities and stockholders’ equity
                
                $
                2,884,606
                
                
                $
                5,364,157




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




3


PARTICLE
DRILLING TECHNOLOGIES, INC.


(a
development stage enterprise)


CONSOLIDATED
STATEMENTS OF OPERATIONS


(Unaudited)







Period
      fromJune
      9, 2003(date
      ofinception)
      toThree
      Months Ended March 31,
                  
                  
                  Six
      Months Ended March 31,
                  
                  
                  March
      31,2009
                  
                  
                  2008
                  
                  
                  2009
                  
                  
                  2008
                  
                  
                  2009Revenues
                  
                  $
                  —
                  
                  
                  $
                  —
                  
                  
                  $
                  —
                  
                  
                  $
                  —
                  
                  
                  $
                  —Operating
      expenses:Research
      and development
                  
                  
                  813,521
                  
                  
                  
                  1,546,200
                  
                  
                  
                  1,779,183
                  
                  
                  
                  3,327,012
                  
                  
                  
                  23,175,428General
      and administrative
                  
                  
                  756,939
                  
                  
                  
                  1,434,859
                  
                  
                  
                  1,903,064
                  
                  
                  
                  2,913,964
                  
                  
                  
                  22,846,292Impairment
      of asset
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  295,260(Gain)/loss
      on sale of assets
                  
                  
                  747
                  
                  
                  
                  (641,721
                  )
                  
                  
                  (86,224
                  )
                  
                  
                  (641,721
                  )
                  
                  
                  (842,693
                  )Total
      operating expenses
                  
                  
                  1,571,207
                  
                  
                  
                  2,339,338
                  
                  
                  
                  3,596,023
                  
                  
                  
                  5,599,255
                  
                  
                  
                  45,474,287Loss
      from operations
                  
                  
                  (1,571,207
                  )
                  
                  
                  (2,339,338
                  )
                  
                  
                  (3,596,023
                  )
                  
                  
                  (5,599,255
                  )
                  
                  
                  (45,474,287
                  )Other
      income (expenses)Interest
      income
                  
                  
                  863
                  
                  
                  
                  11,803
                  
                  
                  
                  7,729
                  
                  
                  
                  47,507
                  
                  
                  
                  950,320Rental
      income - related party
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  73,727Gain
      on debt extinguishment
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  35,283Gain
      on assignment of lease - related party
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  55,614Interest
      expense
                  
                  
                  (1,169
                  )
                  
                  
                  (1,539
                  )
                  
                  
                  (3,001
                  )
                  
                  
                  (3,862
                  )
                  
                  
                  (60,949
                  )Total
      other income (expense)
                  
                  
                  (306
                  )
                  
                  
                  10,264
                  
                  
                  
                  4,728
                  
                  
                  
                  43,645
                  
                  
                  
                  1,053,995Net
      loss
                  
                  $
                  (1,571,513
                  )
                  
                  $
                  (2,329,074
                  )
                  
                  $
                  (3,591,295
                  )
                  
                  $
                  (5,555,610
                  )
                  
                  $
                  (44,420,292
                  )Net
      loss per common share, basic and diluted
                  
                  $
                  (0.05
                  )
                  
                  $
                  (0.08
                  )
                  
                  $
                  (0.10
                  )
                  
                  $
                  (0.18
                  )
                  
                  $
                  (1.82
                  )Weighted
      average number of common shares outstanding - basic and
      diluted
                  
                  
                  34,651,201
                  
                  
                  
                  30,851,502
                  
                  
                  
                  34,595,330
                  
                  
                  
                  30,819,479
                  
                  
                  
                  24,422,879





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




4


PARTICLE
DRILLING TECHNOLOGIES, INC.


(a
development stage enterprise)


CONSOLIDATED
STATEMENTS OF CASH FLOWS


(Unaudited)


Period fromJune 9, 2003(date ofSix Months Ended
                              March
      31,
                            
                            
                            inception
      ) to March 31,2009
                            
                            
                            2008
                            
                            
                            2009Cash
      flows from operating activities:Net
      loss
                            
                            $
                            (3,591,295
                            )
                            
                            $
                            (5,555,610
                            )
                            
                            $
                            (44,420,292
                            )Adjustments
      to reconcile net loss to net cash used in operating
      activities:Gain
      on debt extinguishment
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            (35,283
                            )Impairment
      of asset
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            295,260Gain
      on assignment of lease - related party
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            (55,614
                            )Gain
      on sale of assets
                            
                            
                            (86,224
                            )
                            
                            
                            (641,721
                            )
                            
                            
                            (842,693
                            )Depreciation
      and amortization expense
                            
                            
                            156,468
                            
                            
                            
                            301,824
                            
                            
                            
                            2,743,766Amortization
      of deferred financing costs
                            
                            
                            6,482
                            
                            
                            
                            —
                            
                            
                            
                            6,482Amortization
      of discount on notes payable
                            
                            
                            13,756
                            
                            
                            
                            —
                            
                            
                            
                            13,756Short-term
      note issued for services
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            44,000Common
      stock issued for services
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            931,500Warrants
      issued for services
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            63,829Stock-based
      employee compensation
                            
                            
                            908,513
                            
                            
                            
                            1,418,797
                            
                            
                            
                            8,720,056Changes
      in operating assets and liabilities:Decrease
      in note receivable
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            385,839(Increase)
      in accounts receivable - related party
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            (40,819
                            )(Increase)
      in accounts receivable
                            
                            
                            (10,000
                            )
                            
                            
                            —
                            
                            
                            
                            (10,000
                            )(Increase)
      Decrease in prepaid expenses
                            
                            
                            118,556
                            
                            
                            
                            51,046
                            
                            
                            
                            223,845Increase
      (Decrease) in accounts payable
                            
                            
                            49,491
                            
                            
                            
                            (259,297
                            )
                            
                            
                            560,497Increase
      (Decrease) in accrued liabilities
                            
                            
                            (259,335
                            )
                            
                            
                            397,457
                            
                            
                            
                            191,343(Increase)
      Decrease in other assets
                            
                            
                            —
                            
                            
                            
                            11,418
                            
                            
                            
                            (26,494
                            )Increase
      in other liabilities
                            
                            
                            4,163
                            
                            
                            
                            60,996
                            
                            
                            
                            139,694Net
      cash used in operating activities
                            
                            
                            (2,689,425
                            )
                            
                            
                            (4,215,090
                            )
                            
                            
                            (31,111,328
                            )Cash
      flows from investing activities:Payments
      to purchase property and equipment
                            
                            
                            (85,492
                            )
                            
                            
                            (37,332
                            )
                            
                            
                            (3,442,994
                            )Proceeds
      from sale of property and equipment
                            
                            
                            850,050
                            
                            
                            
                            686,620
                            
                            
                            
                            1,722,624Payments
      to purchase intangibles
                            
                            
                            (184,727
                            )
                            
                            
                            (83,989
                            )
                            
                            
                            (1,216,489
                            )Payments
      to purchase other assets
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            (419,504
                            )Payments
      issued for note receivable
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            (300,783
                            )Payments
      issued for note receivable - related party
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            (56,784
                            )Net
      cash provided by (used in) investing activities
                            
                            
                            579,831
                            
                            
                            
                            565,299
                            
                            
                            
                            (3,713,930
                            )Cash
      flows from financing activities:Proceeds
      from issuance of common stock
                            
                            
                            —
                            
                            
                            
                            13,200
                            
                            
                            
                            36,839,575Repurchase
      of common stock
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            (1,511,817
                            )Proceeds
      from issuance of convertible notes
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            553,500Repayments
      of notes payable
                            
                            
                            (82,624
                            )
                            
                            
                            (82,242
                            )
                            
                            
                            (952,075
                            )Proceeds
      from borrowings under loan agreements, net of financing
    costs
                            
                            
                            400,000
                            
                            
                            
                            —
                            
                            
                            
                            400,000Proceeds
      from borrowings under loan agreements - related parties
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            23,195Repayment
      of borrowings under loan agreements - related parties
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            (23,195
                            )Net
      cash (used in) provided by financing activities
                            
                            
                            317,376
                            
                            
                            
                            (69,042
                            )
                            
                            
                            35,329,183Net
      increase (decrease) in cash and cash equivalents
                            
                            
                            (1,792,218
                            )
                            
                            
                            (3,718,833
                            )
                            
                            
                            503,925Cash
      and cash equivalents - beginning of period
                            
                            
                            2,296,143
                            
                            
                            
                            4,461,929
                            
                            
                            
                            —Cash
      and cash equivalents - end of period
                            
                            $
                            503,925
                            
                            
                            $
                            743,096
                            
                            
                            $
                            503,925Supplemental
      disclosures of cash flow information:Cash
      paid for interest
                            
                            $
                            1,832
                            
                            
                            $
                            3,862
                            
                            
                            $
                            60,949Non-cash
      investing and financing activities:Prepaid
      insurance acquired with note payable
                            
                            $
                            —
                            
                            
                            $
                            —
                            
                            
                            $
                            586,629Common
      stock issued as consideration for account payable
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            6,000Common
      stock issued as consideration for note payable
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            50,000Related
      party note receivable issued for property and equipment
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            56,783Note
      payable converted into common stock
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            553,500Property
      and equipment acquired with assumed liabilities
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            479,610Intangibles
      acquired with assumed liabilities
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            757,792Property
      and equipment acquired with note payable
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            30,487Short-term
      investments reclassified from other assets
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            385,839Property
      and equipment reclassified from other assets
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            19,015Deferred
      financing costs on notes payable
                            
                            
                            77,778
                            
                            
                            
                            —
                            
                            
                            
                            77,778Discount
      on note payable warrant recorded in APIC
                            
                            
                            243,379
                            
                            
                            
                            —
                            
                            
                            
                            243,379




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


5


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,
Particle Drilling Technologies, Inc., a Delaware corporation, 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, 2008 audited
consolidated financial statements and notes thereto in its Annual Report on
Form 10-K. Operating results for the three and six months ended March 31,
2009 are not necessarily indicative of the results that may be expected for the
year ending September 30, 2009.




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.
            GOING
    CONCERN




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 six months ended March 31, 2009, the Company
reported net losses of approximately $1.6 million and $3.6 million,
respectively, as compared to net losses of approximately $2.3 million and $5.6
million for the three and six months ended March 31, 2008,
respectively.  The consolidated financial statements also show an
accumulated deficit of approximately $44.4 million from inception (June 9, 2003)
through the period ended March 31, 2009.




The
Company is currently a development stage company and its continued existence is
dependent upon the Company’s successful development of the Particle Impact Drilling (“PID”) technology and its ability to
successfully commercialize this technology.  The Company has yet to
generate cash flow from operations, and until revenues commence, the Company is
highly dependent upon debt and equity funding.  Based on the Company’s
current liquidity position, the Company will need to raise additional capital
through debt or equity funding within the next twelve
months.  Management cannot provide any assurance that any such
financing will be available on acceptable terms or at all.  Should
continuing funding requirements not be met, the Company’s operations may cease
to exist.




These
matters raise substantial doubt about the Company’s ability to continue as a
going concern. 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.




6


3.  
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. 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 September 2006, the FASB issued Statement of Financial Accounting
Standards, “SFAS” No. 157, Fair Value Measurements
(“SFAS No. 157”).  SFAS No. 157 clarifies the principle that fair
value should be based on the assumptions market participants would use when
pricing an asset or liability and establishes a fair value hierarchy that
prioritizes the information used to develop those assumptions.  Under the
standard, fair value measurements would be separately disclosed by level within
the fair value hierarchy.  SFAS No. 157 is effective for financial
statements issued for fiscal years beginning after November 15, 2007, and
interim periods within those fiscal years, with early adoption permitted. 
The Company has adopted SFAS No. 157 and it has not had a material impact on its
financial position, results of operations or cash flows.




In
February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial
Assets and Financial Liabilities (“SFAS No. 159”). SFAS No. 159
permits entities to choose to measure many financial assets and financial
liabilities at fair value. Unrealized gains and losses on items for which the
fair value option has been elected are reported in earnings. SFAS No. 159
is effective for fiscal years beginning after November 15, 2007. The
Company adopted SFAS No. 159 on October 1, 2008 and it has not had a
material impact on its consolidated financial statements.




In
December 2007, the FASB issued SFAS No. 141R, Business Combinations (SFAS
141R), which replaces SFAS 141, Business Combinations. SFAS
141R establishes principles and requirements for determining how an enterprise
recognizes and measures the fair value of certain assets and liabilities
acquired in a business combination, including noncontrolling interests,
contingent consideration, and certain acquired contingencies. SFAS 141R also
requires acquisition-related transaction expenses and restructuring costs be
expensed as incurred rather than capitalized as a component of the business
combination. SFAS 141R will be applicable prospectively to business combinations
beginning in the Company’s 2010 fiscal year.





In
December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in
Consolidated Financial Statements – An Amendment of ARB No. 51 (SFAS160).SFAS160 establishes accounting and reporting standards for
the noncontrolling interest in a subsidiary.SFAS160 also requires that a retained noncontrolling interest upon
the deconsolidation of a subsidiary be initially measured at its fair value.SFAS160 is effective for the
Company’s 2010 fiscal year. Upon adoption ofSFAS160, the Company will be required to report its noncontrolling
interests, if any, as a separate component of shareholders’ equity. The Company
will also be required to present net income allocable to the noncontrolling
interests, if any, and net income attributable to the shareholders of the
Company separately in its consolidated statements of income. Currently,
noncontrolling interests (minority interests) are reported as a liability in a
Company’s statement of financial position and the related income attributable to
minority interests is reflected as an expense in arriving at net income.SFAS160 requires retroactive adoption
of the presentation and disclosure requirements for existing minority interests.
All other requirements ofSFAS160 shall be applied prospectively.  The Company does
not expect the adoption of SFAS No. 160 to significantly impact its
financial position, results of operations or cash flows.





In March
2008, the FASB issued SFAS No. 161, Disclosures about Derivative
Instruments and Hedging Activities-an amendment of FASB Statement
No. 133 (“SFAS No. 161”). SFAS No. 161 requires enhanced
disclosure related to derivatives and hedging activities and thereby seeks to
improve the transparency of financial reporting. Under SFAS No. 161,
entities are required to provide enhanced disclosures relating to: (a) how and
why an entity uses derivative instruments; (b) how derivative instruments
and related hedge items are accounted for under SFAS No. 133, “Accounting
for Derivative Instruments and Hedging Activities” (“SFAS No. 133”), and
its related interpretations; and (c) how derivative instruments and related
hedged items affect an entity’s financial position, financial performance, and
cash flows. SFAS No. 161 must be applied prospectively to all derivative
instruments and non-derivative instruments that are designated and qualify as
hedging instruments and related hedged items accounted for under SFAS
No. 133 for all financial statements issued for fiscal years and interim
periods beginning after November 15, 2008, with early application
permitted. The Company adopted SFAS No. 161 on January 1, 2009 and it has
not had a material impact on its consolidated financial statements.





In
May 2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted
Accounting Principles. This Statement identifies the sources of
accounting principles and the framework for selecting the principles used in the
preparation of financial statements. This Statement is effective 60 days
following the SEC’s approval of the Public Company Accounting Oversight Board
amendments to AU Section 411, “The Meaning of Present Fairly in Conformity
with Generally Accepted Accounting Principles.” The Company is currently
evaluating the potential impact the new pronouncement will have on its
consolidated financial statements.




In
April 2008, the FASB issued FASB Staff Position (“FSP”) FAS 142-3,
“Determination of the Useful Life of Intangible Assets.” This FSP 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 FASB
Statement No. 142, “Goodwill and Other Intangible Assets” (“SFAS 142”). The
intent of this FSP is to improve the consistency between the useful life of a
recognized intangible asset under SFAS 142 and the period of expected cash
flows used to measure the fair value of the asset under SFAS 141R, and other
GAAP. This FSP 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. The Company is currently evaluating the
potential impact the new pronouncement will have on its consolidated financial
statements.





7




4.
            PROPERTY AND
      EQUIPMENT




The
following is a summary of property and equipment, at cost less accumulated
depreciation, at March 31, 2009 and September 30, 2008:





March
      31, 2009
                
                
                September
      30, 2008Office
      furniture and equipment
                
                $
                269,735
                
                
                $
                278,350Machines
      and equipment
                
                
                941,779
                
                
                
                1,813,816Leasehold
      improvements
                
                
                243,164
                
                
                
                243,164Total
      cost of property and equipment
                
                
                1,454,678
                
                
                
                2,335,330Less:
      accumulated depreciation
                
                
                (1,044,348
                )
                
                
                (1,121,412
                )Total
      property and equipment, net
                
                $
                410,330
                
                
                $
                1,213,918





In
November 2008, the Company sold its remaining frac pump for net proceeds of
$850,050 and recognized a gain of $86,224.





5. INTANGIBLE ASSETS





The
following is a summary of intangibles, at cost less accumulated amortization, at
March 31, 2009 and September 30, 2008:





March
      31, 2009
                  
                  
                  September
      30, 2008Patents
      granted, at cost
                  
                  $
                  177,018
                  
                  
                  $
                  —Patents
      filed and related costs
                  
                  
                  1,797,256
                  
                  
                  
                  1,789,548Less:
      accumulated amortization
                  
                  
                  (268,494
                  )
                  
                  
                  (237,282
                  )Total
      intangibles, net
                  
                  $
                  1,705,780
                  
                  
                  $
                  1,552,266





During
the three and six months ended March 31, 2009, the Company incurred direct costs
of $68,691 and $184,726, respectively, for patents filed but not
issued.







As of
March 31, 2009, the estimated annual amortization expense for patents, licenses
and trademarks for each of the succeeding five years total $296,670 as
follows:




Year
ending September 30,


2010              $59,334


2011                59,334


2012                59,334


2013                59,334


2014    59,334








8


6.  
      SHORT TERM NOTES PAYABLE




A summary
of the Company’s notes payable outstanding as of March 31, 2009 is as
follows:








March
      31, 2009
                                                  
                                                  September
      30, 200810%
      Senior Secured PIK Notes due 2010
                                                  
                                                  
                                                  475,000Unamortized
      discount on 10% Secured PIK Notes
                                                  
                                                  
                                                  (304,623
                                                  )Short-term
      note at 6.40% interest, unsecured with monthly principal and interest
      payments of $12,298
                                                  
                                                  
                                                  8,253
                                                  
                                                  
                                                  84,277Total
      short-term notes payable
                                                  
                                                  $
                                                  178,630
                                                  
                                                  $
                                                  84,277





On March
3, 2009, the Company issued $475,000 aggregate principal amount of its 10%
Senior Secured PIK Notes due 2010 (the “Notes”) to LC Capital Master Fund, Ltd.,
a Cayman Islands exempted company (“LC”), Edward F. Heil and Don A. Sanders, as
purchasers (each, a “Purchaser” and collectively, the “Purchasers”), pursuant to
the terms of the purchase agreement (the “Purchase Agreement”), dated February
11, 2009, among the Company as Issuer, the Purchasers and LC, as agent and
collateral agent for the holders of the securities issued (the
“Agent”).  The Purchase Agreement provides for the issuance of notes
of up to $1,200,000 aggregate principal amount in three incremental draws of
$400,000 each.  On March 3, 2009, the Company, the Purchasers and the
Agent entered into a letter agreement whereby the Company agreed to issue an
additional note (the “Additional Note”) to LC in the aggregate principal amount
of $75,000 (such amount being included in the $475,000 aggregate principal
amount referred to above) which reduces the Company’s obligation to issue, and
LC’s obligation to purchase, notes on the second draw down by
$75,000.  Proceeds from the issuance of the Additional Note were used
to pay certain transaction fees of the lender.  The Company incurred
an additional $77,778 of transaction costs related to the
financing.




The Notes
bear a stated interest rate of 10.0% per annum, with interest payable quarterly
in arrears on each quarterly payment date with no amortization.  Each
quarterly interest payment will be made by the Company by issuing additional
Notes in the amount of the applicable interest payment.  The Notes
mature on March 3, 2010.  The Notes are secured by substantially all
of the assets of the Company and its subsidiary pursuant to the terms of a
Security Agreement among the Company, its sole subsidiary and the
Purchasers.  The proceeds of the notes are required to be used for
working


capital
and to complete the Company’s obligations under its contract with Shell
Exporation and Production Company (Shell).  Payment of the Notes is
subject to acceleration in the event of default by the Company under the terms
of the Purchase Agreement, including failure of the Company to perform its
obligations under its contract with Shell.





The
Company granted warrants to the Purchasers which provide the right to purchase
7,130,200 shares of Common Stock of the Company at an exercise price of $0.105
per share.  The warrants are immediately exercisable.  The
warrants expire on February 12, 2012.  The warrants have a fair value
of $499,114 calculated using the Black-Scholes option pricing model with the
following assumptions:





Expected
      life (in years)
              
              
              1.5Expected
      volatility
              
              
              130.18
              %Risk-free
      interest rate
              
              
              0.96
              %Expected
      dividend
              
              
              —





A
$243,379 discount was recorded on the notes based on the the relative fair
values of the warrants issued and the $475,000 principal amount of the
Notes.  The total discount of $318,379 includes the $75,000 of
transaction fees paid directly to the Purchasers.  The Company’s
transaction costs of $77,778 were recorded as deferred financing
costs.  Both the discount on the note and the deferred financing costs
are being amortized using the effective interest method over the term of the
notes.  The effective interest rate of the Notes is
135.7%.





9




7.
            COST
      REIMBURSEMENT




On December 4, 2008, the Company entered into an agreement with
Shell and certain of its affiliates for the development of new drill bits for
use with the Company’s PID System and for the PID bits to be tested in a field
trial at a drilling site designated by Shell.  The initial term of the
Agreement runs from December 1, 2008 through November 30, 2010, but may be
terminated by Shell at any time.





Under the
Agreement, the Company will design, test and manufacture four PID bits, ranging
in size from 6 inches to 6.5 inches, as determined by Shell.  Shell
has agreed to pay the Company $200,000 upon completion of technical review,
$150,000 for the design and development work prior to the first field trial and
up to an additional $50,000 within 30 business days following the completion of
the first field trial based on certain agreed performance indicators. The
amounts are not refundable to Shell in the event the additional milestones have
not been met.   As of March 31, 2009, the Company had completed
the technical review and was paid $200,000 for this milestone.  The
Company has accounted for the $200,000 milestone payment received as a
reimbursement of research and development costs for the three and six month
periods ended March 31, 2009.  Future milestone payments received
pursuant to the first field trial will be accounted for in the same
manner.




Any time
within the first two years following the completion and evaluation of the
results of the first field trial, Shell and the Company will determine if
further field trials are necessary.  At Shell’s discretion, up to two
additional field trials may be undertaken and Shell estimates that each trial
would result in payments to the Company for costs as
follows;  $159,000 prior to mobilization to the respective field
trial; and  up to $50,000 within 30 business days following completion
of the field trial based on the performance of the PID System and the PID bits
with respect to certain key performance indicators.  The Company will
perform the second and third field trials at cost.





In addition, any time within the first
two years following completion of the first field trial, Shell shall have the
exclusive right to use the first two commercial PID systems built for a period
of two years at cost plus ten percent (10%).  In the event Shell does
not utilize or plan to utilize the systems for 50% or more the time during any
two months during the two year exclusive period, the company may offer the PID
systems to other clients.  Shell also retains the right to cancel the
contract within the first two years following completion of the first field
trial,




8.
            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. Diluted net loss per share would
give effect 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 antidilutive were none and 131,275 shares for the three
months ended March 31, 2009 and 2008, respectively and none and 988,584 for the
six months ended March 31, 2009 and 2008, respectively.




9.
            COMMON
      STOCK




At March
31, 2009, the Company had 35,740,349 shares of common stock outstanding and had
outstanding options and warrants to purchase up to 12,848,541 additional shares
of the Company’s common stock in the aggregate.  During the six months
ended March 31, 2009, there were a total of 23,583 restricted shares
cancelled.





10


10.
            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 to
directors, employees and consultants of PDTI. Provisions under the 2004 Plan
allow for the issuance of up to 3,500,000 shares of common stock pursuant to
awards under this plan.  As of  March 31, 2009, the Company
had 3,250 awards available for grant under the 2004 Plan. Under the 2004 Plan,
the exercise price of each option is equal to the market value of the Company’s
common stock on the date of grant and the maximum term for the options is ten
years.




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 PDTI.  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 March 31, 2009, the
Company had 52,458 shares of common stock available for issuance pursuant to
awards under the 2005 Plan.  Under the 2005 Plan, the exercise price
of each option is equal to the market value of the Company’s common stock on the
date of grant and the maximum term for the options is ten years.




In March
2007, the shareholders adopted the 2007 Stock Incentive Plan (the “2007
Plan”).  The 2007 Plan provides for the issuance of incentive stock
options, non-statutory stock options and restricted stock to directors,
employees and consultants of PDTI. Provisions under the 2007 Plan allow for the
issuance of up to 1,500,000 shares of common stock pursuant to awards under this
plan.  As of March 31, 2009, the Company had 662,250 share awards
available for grant under the 2007 Plan. Under the 2007 Plan, the exercise price
of each option is equal to the market value of the Company’s common stock on the
date of grant and the maximum term for the options is ten years.




Stock-based
employee compensation expense recorded for awards issued under the 2004 Plan,
the 2005 Plan, and the 2007 Plan for the three months ended March 31, 2009 and
2008 was $493,611 and $704,839, respectively.  Stock-based employee
compensation expense recorded for awards issued under the 2004 Plan, the 2005
Plan, and the 2007 Plan for the six months ended March 31, 2009 and 2008 was
$908,513 and $1,418,797, respectively.  Stock-based employee
compensation expense recorded for awards issued under the 2004 Plan, the 2005
Plan, and the 2007 Plan since inception (June 9, 2003) to March 31, 2009
was $8,720,056.  The remaining stock-based compensation expense to be
amortized as of March 31, 2009 is $1,359,879.





The
following table summarizes information about stock options outstanding and
exercisable at March 31, 2009:





Options Outstanding
              
              Options ExercisableRange of Exercise Price
              
              Number of
                Shares
                Underlying
                Options
              
              Weighted
                Average
                Remaining
                Contractual
                Life
              
              Weighted
                Average
                Exercise
                Price
              
              Number of
                Shares
                Underlying
                Options
              
              Weighted
                Average
                Exercise
                Price$0.12
      to $1.75
              
              2,547,700
              
              5.2
      years
              
              $
              0.47
              
              2,547,700
              
              $
              0.47$1.76
      to $6.73
              
              1,410,500
              
              6.9
      years
              
              $
              4.44
              
              1,190,833
              
              4.813,958,200
              
              5.8
      years
              
              $
              1.89
              
              3,738,533
              
              $
              1.85





The
following table summarizes information about warrants outstanding and
exercisable at March 31, 2009:





Warrants Outstanding
              
              Warrants ExercisableRange of Exercise Price
              
              Number of
                Shares
                Underlying
                Warrants
              
              Weighted
                Average
                Remaining
                Contractual
                Life
              
              Weighted
                Average
                Exercise
                Price
              
              Number of
                Shares
                Underlying
                Warrants
              
              Weighted
                Average
                Exercise
                Price$0.105
      to $3.00
              
              8,890,341
              
              4.5 years
              
              $
              0.39
              
              8,890,341
              
              $
              0.39





No
options or warrants were granted or exercised during the six months ended March
31, 2009.  At March 31, 2009, the intrinsic value of all outstanding
and exercisable options and warrants was zero.




11


11.
            COMMITMENTS AND
      CONTINGENCIES




In
April 2007, we entered into a 60-month lease agreement that commenced in
September 2007 for a new corporate office and operating facility and delivered
to the lessor a security deposit of $41,144.  The new facility combines the
corporate office personnel and the operations personnel into one location at
5611 Baird Court, Houston, Texas 77041.  The total future minimum lease
payments under this lease were $1,633,754 at March 31, 2009.   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 March 31, 2009, we had no revenues
or EBITDA; therefore no royalties have been paid or accrued.<?xml:namespace
        prefix = o ns = "urn:schemas-microsoft-com:office:office"
        />




12.        
INCOME TAXES




The Company follows
Statements of Financial Accounting Standards (“SFAS”) No. 109 Accounting for
Income Taxes. This statement requires an asset and liability approach for
financial accounting and reporting for income tax purposes.  This statement recognizes the amount of
taxes payable or refundable for the current year and deferred tax liabilities
and assets for future tax consequences of events that have been recognized in
the consolidated financial statements or tax returns.  Provisions (benefits) for income taxes
result from permanent and temporary differences in the recognition of accounting
transactions for tax and financial reporting purposes.  Valuation allowances are established
when necessary to reduce deferred tax assets to the amount expected to be
realized.
  The Company adopted
FIN 48 in fiscal year 2008 and there was no effect on the financial
statements.  FIN 48 prescribes a
minimum recognition threshold and measurement methodology that a tax position
taken or expected to be taken in a tax return is required to meet before being
recognized in the financial statements. It also provides guidance for
de-recognition, classification, interest and penalties, accounting in interim
periods, disclosure, and transition.  The Company recognizes interest and
penalties related to unrecognized tax benefits within the provision for income
taxes on continuing operations in the consolidated statements of income. There
are no unrecognized tax benefits as of the date of adoption.  There are no
unrecognized tax benefits that if recognized would affect the tax rate. There is
no interest or penalties recognized as of the date of adoption or for the three
and six months ended March 31, 2009.
  
  The Company has
filed its income tax return for the tax year ended September 30, 2008.  The tax years ended September 30, 2007,
September 30, 2006 and September 30, 2005 are open for examination by the
<?xml:namespace
          prefix = st1 ns = "urn:schemas-microsoft-com:office:smarttags"
          />U.S. and State taxing
authorities.
  
  The Company
anticipates recording no tax benefit for the year, based upon management’s
assessment that the realization of the anticipated financial loss for the year
is not, at this point, reasonably assured; accordingly no benefit has been
recorded for the period ended March 31, 2009.
  
  For the period ended March 31, 2009, there
were permanent and temporary differences of approximately $6,000 and
  At March 31, 2009,
the Company has cumulative net operating loss carryforwards of approximately
$37,386,000 which expire in years 2010 through 2028. No effect has been shown in
the 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 current tax rates at
March 31, 2009, have been offset by valuation reserves of the same amount.  The valuation allowance increasedapproximately $1.2 million from
September 30, 2008 to March 31,
2009.


13.
            SUBSEQUENT
      EVENTS




On April
2, 2009, the Company exchanged with a holder of options of the Company all of
such holder’s outstanding options to purchase 760,000 shares of common stock in
the aggregate at a purchase price of $0.12 per share for the issuance by the
Company of 250,000 shares of common stock.  On April 14, 2009, the
Company exchanged with a different holder of options of the Company all of such
holder’s outstanding options to purchase 600,000 shares of common stock in the
aggregate at a purchase price of $0.12 per share for the issuance by the Company
of 200,000 shares of common stock.





12


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.   Please see
“Forward-Looking Statements” below.  References to “us,” “we”, and the
“Company”, refer to Particle Drilling Technologies, Inc. and its subsidiary,
Particle Drilling Technologies, Inc., a Delaware corporation.




Liquidity
and Capital Resources




Our principal sources of liquidity
are cash and cash equivalents. We are devoting substantially all of our efforts
to product development and commercializing the Particle Impact Drilling (“PID”)
technology.   In the course of our development activities, we have
sustained operating losses and expect that such losses will continue through
fiscal 2009. We intend to finance our operations primarily through cash and cash
equivalents on hand, through cashflow from operations if we are able to
successfully engage in commercial operations that generate revenue, and other
potential capital raising transactions. However, we have yet to generate any
revenues, and can provide no assurance of future revenues. To management’s
knowledge, no company has yet marketed a salable product using the technology we
are developing. Even if marketing efforts are successful, substantial time may
pass before revenues are realized.





In
management’s opinion, based on available cash and cash equivalents on hand as of
March 31, 2009, we do not have the ability to maintain sufficient liquidity to
meet our working capital and capital expenditure requirements for the next 12
months.  Management must raise additional outside capital in order to
improve our liquidity position. The equity and debt capital markets have
recently experienced adverse conditions and extreme volatility which may, if
such conditions persist, impair our ability to raise capital on satisfactory
terms, or at all.  Our continued existence depends on our ability to
raise additional outside capital and the successful development of the PID
technology and our ability to successfully commercialize this
technology.  These factors raise substantial doubt regarding our
ability to continue as a going concern.





Since
inception on June 9, 2003 through March 31, 2009, we have financed our
operations through private sales of our equity, a subscription  rights
offering, the issuance of convertible notes payable, and the issuance of a PIK
note payable totaling net proceeds of $37,793,075.  As of March 31,
2009, we had $503,925 in cash and cash equivalents.





Cash Flows from Operating
Activities.Cash flow used for operations is primarily affected by
our research and development progress and business development.  Net
cash flows used in operating activities during the six months ended March 31,
2009 were $2,689,425 compared to $4,215,090 for the six months ended March 31,
2008.  The decrease from fiscal 2008 to fiscal 2009 was primarily the
result of our decreased level of research and development costs associated with
the construction of the PID System.





Cash Flows from Investing
Activities.Cash flows provided by investing activities for the six
months ended March 31, 2009 were $579,831 compared to $565,299 for the six
months ended March 31, 2008.  The cash flows used in investing
activities during the six months ended March 31, 2009 consisted of $85,492 for
the purchase of property, plant and equipment and $184,727 for costs associated
with filing new and protecting existing patents.  In addition, we sold
our frac pump and various other non-core assets for net proceeds of $850,050
during the three months ended December 31, 2008.








Cash Flow from Financing Activities.Net cash provided by financing activities for the six months ended
March 31, 2009 was $317,376 compared to $69,042 of net cash used in financing
activities for the six months ended March 31, 2008.  During the six
months ended March 31, 2009, cash flows consisted of $82,624 for repayments of
notes payable, and $400,000 proceeds, net of issuance costs, from an issuance of
$475,000 principal amount of our 10% Senior Secured PIK notes due 2010
(described in greater detail below).




Contractual
Obligations.  In April 2007, we entered into a 60-month
lease agreement that commenced in September 2007 for a new corporate office and
operating facility and delivered to the lessor a security deposit of
$41,144.  The new facility combines the corporate office personnel and the
operations personnel into one location at 5611 Baird Court, Houston, Texas
77041.  The total future minimum lease payments under this lease are
$1,633,754 at March 31, 2009.




We also have
long-term debt and purchase obligations as described
below:


Payments
      Due by PeriodContractual
      Obligations
                
                Total
                
                
                Less
      than 1
                  year
                
                
                1
      - 3 years
                
                
                3
      - 5 years
                
                
                More
      than 5
                  yearsLong-Term
      Debt Obligation and Short Term Notes Payable
                  (including
      current portion)
                
                $
                196,063
                
                
                $
                182,860
                
                
                $
                13,203
                
                
                $
                —
                
                
                $
                —Purchase
      Obligations
                
                
                3,150
                
                
                
                3,150
                
                
                
                —
                
                
                
                —
                
                
                
                —Operating
      Lease Obligations
                
                
                1,633,754
                
                
                
                441,257
                
                
                
                1,192,497
                
                
                
                —
                
                
                
                —Total
                
                $
                1,832,967
                
                
                $
                627,267
                
                
                $
                1,205,700
                
                
                $
                —
                
                
                $
                —








On March
3, 2009, the Company issued $475,000 aggregate principal amount of its 10%
Senior Secured PIK Notes due 2010 (the “Notes”) to LC Capital Master Fund, Ltd.,
a Cayman Islands exempted company (“LC”), Edward F. Heil and Don A. Sanders, as
purchasers (each a “Purchaser” and collectively, the “Purchasers”), pursuant to
the terms of the purchase agreement (the “Purchase Agreement”), dated February
11, 2009, among the Company as Issuer, the Purchasers and LC, as agent and
collateral agent for the holders of the securities issued hereunder (the
“Agent”).   On March 3, 2009, the Company, the Purchasers and the
Agent entered into a letter agreement whereby the Company agreed to issue an
additional note (the “Additional Note”) to LC in the aggregate principal amount
of $75,000 (such amount being included in the $475,000 aggregate principal
amount referred to above) which reduces the Company’s obligation to issue, and
LC’s obligation to purchase, notes on the second draw down by
$75,000.  Proceeds from the issuance of the Additional Note were used
to pay certain transaction fees.





The Purchase Agreement provides for the
issuance of notes of up to $1,200,000 aggregate principal amount in three
incremental draws of $400,000 each with each incremental draw being subject to
the satisfaction of certain conditions precedent, including the performance by
the Company of certain obligations under the terms of its contract with its
existing customer.  Each note will bear interest at a stated rate of
10.0% per annum, with interest being payable quarterly in arrears on each
quarterly payment date with no amortization.  Each quarterly interest
payment will be made by the Company by issuing additional Notes in the amount of
the applicable interest payment.  All of the Notes will mature on the
first anniversary of the first incremental draw down under the Purchase
Agreement.  The Notes are secured by substantially all of the assets
of the Company and its subsidiary pursuant to the terms of a Security Agreement
among the Company, its sole subsidiary and the
Purchasers.





13


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 System” or “PID technology”). We are still developing this technology, and
to date, we have not generated any revenues from our
operations.  Currently, we have limited liquidity and therefore our
business activities have been curtailed.  We are currently reviewing
strategic alternatives and hope that any such transaction would assist us in
accelerating the commercialization of our technology.  Our Board of
Directors has determined it would be in the best interest of our company and its
shareholders to evaluate all available strategic alternatives, including a
strategic industry joint venture, technology licensing arrangement, sale of the
company, and other available alternatives.  If we are able to identify
a strategic partner that can provide additional capital, resources, test
facilities and drilling opportunities, we will continue to execute our
operations plan which will likely result in increases to our development and
operating expenses.




In
management’s opinion, based on available cash and cash equivalents on hand as of
March 31, 2009, we do not have the ability to maintain sufficient liquidity to
meet our working capital and capital expenditure requirements for the next 12
months.  Management must raise additional outside capital in order to
improve our liquidity position. The equity and debt capital markets have
recently experienced adverse conditions and extreme volatility which may, if
such conditions persist, impair our ability to raise capital on satisfactory
terms, or at all.  Our continued existence depends on our ability to
raise additional outside capital and the successful development of the PID
technology and our ability to successfully commercialize this
technology.




The PID
System is expected to result in higher rates of penetration than current
conventional drilling methods, thereby reducing drilling costs and lowering
finding and development costs to improve the overall economics to the oil and
gas industry in certain geologic intervals.




On
December 8, 2008, we announced that we have entered into an agreement with a
fully integrated, multi-national energy company (the “Operator”). The contract
has a total potential value to us of up to $818,000 in connection with the
performance of up to three field trials.  Pursuant to this contract,
the Operator will provide us funding to develop and manufacture one or more
smaller bit designs apart from those bits we normally use, and for us to provide
those bits along with our patented PID System in connection with as many as
three trials at one of the Operator’s drilling areas in the onshore United
States. The contract specifies that an initial $350,000 will be paid in
increments at specific milestones for the first field trial.  The initial
term of the agreement runs from December 1, 2008 through November 30, 2010, but
can be terminated by the Operator at any time.  At any time within two
years following the completion of the initial field trial, the Operator has
preferred access to the initial two PID Systems for a 2-year period, subject to
the satisfaction of certain minimum utilization
requirements.  Currently, we only have one prototype PID
System.





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.





Our primary
products still need to demonstrate commercial reliability in order to fully
realize the potential of the PID technology. Further, we believe we need to
obtain a better understanding of the drill bit cutting pattern in order to
further improve the drilling performance.   We have constructed a
small drill bit test facility to allow us to better evaluate the bottom hole
pattern, the development of a new smaller PID bit, testing of that bit and a
field trial using the preferred bit design.  Poor performance of our
new particle injection system or other unexpected events while conducting future
commercial trials could further extend the shop and laboratory testing phase,
which would delay the full commercialization of the PID System and increase the
funds needed to complete our research and development. This would have the
effect of slowing our advancement as funds otherwise intended to build new PID
Systems and expand our operations. may be needed to conduct additional research
and development.





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) reporting and compliance obligations applicable to publicly-held
companies; (2) our continuing efforts to develop, test and prepare the PID
technology for commercialization; and (3) the hiring of additional
personnel.




14


Results
      of Operations




Three
      Months Ended March 31, 2009 Compared to Three Months Ended March 31,
      2008




Research and
development.Research and development expenses were $813,521
and $1,546,200 for the three months ended March 31, 2009 and 2008, respectively,
representing a decrease of $732,679. The decrease in research and development
expenses for the three months ended March 31, 2009 as compared to the three
months ended March 31, 2008 is attributable to much higher costs associated with
the construction of the PID unit incurred in the prior year and the receipt
during the 2009 period of $200,000 in connection with the field trial contract
discussed above, which has been accounted for as a reimbursement of research and
development expense.




General and
administrative.General and administrative expenses were
$756,939 and $1,434,859 for the three months ended March 31, 2009 and 2008,
respectively, representing a decrease of $677,920. This decrease was primarily
the result of decreased costs related to stock-based compensation expense and
bonus expense for the three months ended March 31, 2009, compared to the three
months ended March 31, 2008.




Gain on sale of
assets.Loss on sale of assets was $747 for the three months
ended March 31, 2009, compared to a gain on sale of assets
of  $641,721 for the three months ended March 31, 2008, representing a
difference of $642,468. The majority of the gain during the three months ended
March 31, 2008, was from the one-time sale of our frac pump in February
2008.




Other income (expenses).Other expenses was $306 for the three months ended March 31, 2009,
compared to other income of $10,264 for the three months ended March 31, 2008,
representing a decrease in other income of $10,570 from the prior period. The
decrease was primarily attributable to less interest income collected on a
declining cash and cash equivalents balance for the three months ended March 31,
2009, compared to the prior period.




Six
Months Ended March 31, 2009 Compared to Six Months Ended March 31,
2008





Research and development.Research and development expenses were $1,779,183 and $3,327,012 for the
six months ended March 31, 2009 and 2008, respectively, representing a
decrease of $1,547,829. This decrease was primarily related to higher expenses
in the six months ended March 31, 2008 from the development of the new particle
injection system, construction of the new PID Unit (which expenses have not been
capitalized since we have yet to achieve commercial revenues), higher PID bit
expenses.  During the six months ended March 31, 2009, these expenses
were less due to the substantial completion of the new PID Unit and new injector
system and the receipt during the 2009 period of $200,000 in connection with the
field trial contract discussed above, which has been accounted for as a
reimbursement of research and development expense.




General and administrative.General and administrative expenses were $1,903,064 and $2,913,964 for
the six months ended March 31, 2009 and 2008, respectively, representing a
decrease of $1,010,900.   This decrease was primarily the result of
decreased costs related to stock-based compensation expense and bonus expense
for the six months ended March 31, 2009, compared to the prior
period.




Gain on Sale of
Assets.The gain on sale of assets for the six months ended
March 31, 2009 relates to the sale of our frac pump in November
2008.  The gain from the one-time sale of the frac pump was $90,000
and this amount was offset by several small losses from the sale of several
non-core assets.   The gain on sale of assets for the six months
ended March 31, 2008 relates to the disposal on our older frac pump, a tractor
trailor and a machine shop lathe that were sold for net proceeds of
$686,620.




Other Income.Other
income was $4,728 and $43,645 for the six months ended March 31, 2009 and
2008, respectively, representing a decrease of $38,917.  The decrease was
primarily attributable to less interest income collected on a declining cash and
cash equivalents balance.




15


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 March 31, 2009, we had no revenues or EBITDA;
therefore no royalties have been paid or accrued.





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.




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.  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 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.We follow SFAS No. 109, Accounting for Income Taxes.
This statement requires an asset and liability approach for financial accounting
and reporting for income tax purposes.  This statement recognizes the
amount of taxes payable or refundable for the current year and deferred tax
liabilities and assets for future tax consequences of events that have been
recognized in the consolidated financial statements or tax
returns.  Provisions (benefits) for income taxes result from permanent
and temporary differences in the recognition of accounting transactions for tax
and financial reporting purposes.  Valuation allowances are
established when necessary to reduce deferred tax assets to the amount expected
to be realized.




We
adopted FIN 48 in fiscal year 2008 and there was no effect on our financial
statements.  FIN 48 prescribes a minimum recognition threshold and
measurement methodology that a tax position taken or expected to be taken in a
tax return is required to meet before being recognized in the financial
statements. It also provides guidance for derecognition, classification,
interest and penalties, accounting in interim periods, disclosure, and
transition.  The Company recognizes interest and penalties related to
unrecognized tax benefits within the provision for income taxes on continuing
operations in the consolidated statements of income. There are no unrecognized
tax benefits as of the date of adoption.  There are no unrecognized tax
benefits that if recognized would affect the tax rate. There are no interest or
penalties recognized as of the date of adoption or for the three and six months
ended March 31, 2009.





We filed our income tax return for the tax year ended September 30,
2008.  The tax years ended September 30, 2007, 2006 and 2005 are open
for examination by the U.S. and State taxing authorities.





We
anticipate recording no tax benefit for the year, based upon management’s
assessment that the realization of the anticipated financial loss for the year
is not at this point reasonably assured; accordingly no benefit has been
recorded for the three months ended March 31, 2009.





Net Loss per Share.We have 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 effect 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 antidilutive were none and 131,275 shares for the three
months ended March 31, 2009 and 2008, respectively and none and 988,584 for the
six months ended March 31, 2009 and 2008, 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, as amended. 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 our annual report on Form 10-K for
the year ended September 30, 2008 filed with the SEC on December 15, 2008 and in
this quarterly report on Form 10-Q.  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 March 31,
2009.




There was
no change in our internal control over financial reporting during our first
quarter of fiscal 2009 that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.




16


Part II—Other
      Information




Item 1A.
            Risk
      Factors




The “Risk
Factors” below should be read in connection with the “Risk Factors” disclosed in
the Company’s Form 10-K filing, filed in our annual report on Form 10-K for the
year ended September 30, 2008 filed with the SEC on December 15,
2008.




We
are in the process of being delisted from The NASDAQ Capital Market for failure
to satisfy the continued listing requirements.





Our
common stock currently trades on The NASDAQ Capital Market; however, the closing
price of our common stock on February 2, 2009 was $0.11 per share.  As
a result, we failed to satisfy the continuing listing standards for NASDAQ,
which require a $1.00 minimum closing bid price.  NASDAQ granted
temporary relief from this requirement and the market value of publicly held
shares requirement until January 19, 2009 in a release dated October 16,
2008.  In a release dated December 19, 2009, NASDAQ extended this
temporary relief until April 20, 2009.  Additionally, as of March 31,
2009, our stockholders’ equity fell below the minimum continued listing standard
of $2.5 million.  Prior to that date, the market value of our publicly
held shares of common stock had fallen below $35 million and we have not
recognized any net income in the preceding three fiscal years.  As a
result, we were not in compliance with the continued listing standards of the
NASDAQ Capital Market.




In a
letter dated March 31, 2009 from NASDAQ, we were informed that the Company did
not comply with Marketplace Rule 4350(i)(1)(B). On February 11, 2009, the
Company entered into an agreement to sell up to $1.2 million aggregate principal
amount of its 10% Senior Secured PIK Notes due 2010.  In connection
with the note issuance, the Company agreed to grant warrants to purchase an
aggregate of up to 7,130,200 shares of common stock with an exercise price of
$0.105 per share.  LC Capital Master Fund, Ltd., a Cayman Islands
exempted company (“LC”), an investor in the transaction and the Company’s
largest shareholder and beneficial owner of approximately 17.5% of the total
shares outstanding, received warrants to purchase 6,060,670 shares of the
Company’s common stock in the offering.  The Company structured the
warrant agreement with LC to restrict its voting power by requiring the shares
of common stock issued upon exercise of the warrants to be voted in the same
proportion as all other votes cast for all matters put before
shareholders.  The warrant agreement did not, however, limit the
ability of LC to acquire beneficial ownership of the shares of common stock
subject to the warrant.  As a result, because LC has the ability to
exercise the warrants and beneficially own approximately 29% of the Company’s
common stock, the Nasdaq staff has taken the position upon review that the
transaction resulted in a change of control and, therefore, required shareholder
approval under Marketplace Rule 4350(i)(1)(B).





In
a letter dated April 16, 2009 from NASDAQ, we were informed that the Company did
not comply with Listing Rule 5210(d). NASDAQ has informed the Company that it
would be subject to delisting proceedings if it did not pay its outstanding fees
in full.  Accordingly, the NASDAQ staff notified the Company that this
matter serves as an additional basis for delisting the Company’s securities from
The NASDAQ Stock Market.





NASDAQ
recently provided notice to the Company that it would be delisted from NASDAQ on
May 12, 2009 due to its failure to meet the listing requirements as provided
above.  As a result of this, trading of our common stock most likely
will be conducted in the over-the-counter market on an electronic bulletin board
established for unlisted securities such as the “pink sheets” or the OTC
Bulletin Board.  Such trading will reduce the market liquidity of our
common stock.  As a result, an investor will likley find it more
difficult to dispose of, or obtain accurate quotations for the price of, our
common stock.  In addition, if our common stock is delisted, we will
find it more difficult to obtain additional financing in the
future.




Additionally,
if the trading price remains below $5.00 per share, trading in our common stock
might also become subject to the requirements of certain rules promulgated under
the Securities Exchange Act of 1934, which require additional disclosure by
broker-dealers in connection with any trade involving a stock defined as a
“penny stock” (generally, any equity security not listed on a national
securities exchange or quoted on NASDAQ that has a market price of less than
$5.00 per share, subject to certain exceptions).  Many brokerage firms
are reluctant to recommend low-priced stocks to their
clients.  Moreover, various regulations and policies restrict the
ability of shareholders to borrow against or “margin” low-priced stocks, and
declines in the stock price below certain levels may trigger unexpected margin
calls.  Additionally, because brokers’ commissions on low-priced
stocks generally represent a higher percentage of the stock price than
commissions on higher priced stocks, the current price of the common stock can
result in an individual shareholder paying transaction costs that represent a
higher percentage of total share value than would be the case if our share price
were higher.  This factor may also limit the willingness of investors
to purchase our common stock.  Finally, the additional burdens imposed
upon broker-dealers by these requirements could discourage broker-dealers from
facilitating trades in our common stock, which could severely limit the market
liquidity of the stock and the ability of investors to trade our common
stock.  As a result, due to the fact that we will be delisted from the
NASDAQ, the value of our securities could decline in value or become
worthless.




17


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




On April
2, 2009, we exchanged with a holder of options of the Company all of such
holder’s outstanding options to purchase 760,000 shares of common stock in the
aggregate at a purchase price of $0.12 per share for the issuance by the Company
of 250,000 shares of common stock.  On April 14, 2009, we exchanged
with a different holder of options of the Company all of such holder’s
outstanding options to purchase 600,000 shares of common stock in the aggregate
at a purchase price of $0.12 per share for the issuance by the Company of
200,000 shares of common stock.





The
issuances of the shares of common stock described above were exempt from
registration pursuant to Section 3(a)(9) under the Securities Act of 1933 as
well as the exemption from registration afforded by Rule 506 under the
Securities Act and/or Section 4(2) of the Securities Act of 1933.





Item
5.      Other Information





In a
letter dated March 31, 2009 from NASDAQ, we were informed that the Company did
not comply with Marketplace Rule 4350(i)(1)(B). On February 11, 2009, the
Company entered into an agreement to sell up to $1.2 million aggregate principal
amount of its 10% Senior Secured PIK Notes due 2010.  In connection
with the note issuance, the Company agreed to grant warrants to purchase an
aggregate of up to 7,130,200 shares of common stock with an exercise price of
$0.105 per share.  LC Capital Master Fund, Ltd., a Cayman Islands
exempted company (“LC”), an investor in the transaction and the Company’s
largest shareholder and beneficial owner of approximately 17.5% of the total
shares outstanding, received warrants to purchase 6,060,670 shares of the
Company’s common stock in the offering.  The Company structured the
warrant agreement with LC to restrict its voting power by requiring the shares
of common stock issued upon exercise of the warrants to be voted in the same
proportion as all other votes cast for all matters put before
shareholders.  The warrant agreement did not, however, limit the
ability of LC to acquire beneficial ownership of the shares of common stock
subject to the warrant.  As a result, because LC has the ability to
exercise the warrants and beneficially owns approximately 29% of the Company’s
common stock, the Nasdaq staff has taken the position upon review that the
transaction resulted in a change of control and, therefore, required shareholder
approval under Marketplace Rule 4350(i)(1)(B).





In
a letter dated April 16, 2009 from NASDAQ, we were informed that the Company did
not comply with Listing Rule 5210(d). NASDAQ has informed the Company that it
would be subject to delisting proceedings if it did not pay its outstanding fees
in full.  Accordingly, the NASDAQ staff notified the Company that this
matter serves as an additional basis for delisting the Company’s securities from
The NASDAQ Stock Market.





NASDAQ
recently provided notice to the Company that it would be delisted from NASDAQ on
May 12, 2009 due to its failure to meet the listing requirements as provided
above.  As a result of this, trading of our common stock most likely
will be conducted in the over-the-counter market on an electronic bulletin board
established for unlisted securities such as the “pink sheets” or the OTC
Bulletin Board.  Such trading will reduce the market liquidity of our
common stock.  As a result, an investor will likley find it more
difficult to dispose of, or obtain accurate quotations for the price of, our
common stock.  In addition, if our common stock is delisted, we will
find it more difficult to obtain additional financing in the
future.  As a result, due to the fact that we will be delisted from
the NASDAQ, the value of our securities could decline in value or become
worthless.




18





Item 6.
            Exhibits




Exhibits:




Exhibit
              No.
            
            Description4.1(1)
            
            Amendment
      No. 1 to Rights Agreement dated February 11, 200910.1
            
            Development
      Agreement, dated December 4, 2008, by and between the Company
      and  Shell Exploration and Production Company and certain of its
      affiliates.*10.2(1)
            
            Purchase
      Agreement, dated as of February 11, 2009, among Particle Drilling
      Technologies, Inc., as Issuer, LC Capital Master Fund, Ltd., a Cayman
      Islands exempted company, Edward F. Heil and Don A. Sanders, as
      purchasers, and LC Capital Master Fund, Ltd., a Cayman Islands exempted
      company, as agent and collateral agent for the holders of the securities
      issued hereunder.10.3(1)
            
            Common
      Stock Purchase Warrant dated February 11, 2009 issued to LC Capital Master
      Fund, Ltd., a Cayman Islands exempted company.10.4(1)
            
            Common
      Stock Purchase Warrant dated February 11, 2009 issued to Edward F.
      Heil.10.5(1)
            
            Common
      Stock Purchase Warrant dated February 11, 2009 issued to Don A.
      Sanders.10.6(2)
            
            Delayed
      Draw Note in the principal amount of $340,000 issued to LC Capital Master
      Fund, Ltd.10.7(2)
            
            Delayed
      Draw Note in the principal amount of $30,000 issued to Don A.
      Sanders.10.8(2)
            
            Delayed
      Draw Note in the principal amount of $30,000 issued to Edward F.
      Heil10.9(2)
            
            Delayed
      Draw Note in the principal amount of $75,000 issued to LC Capital Master
      Fund, Ltd.10.10(2)
            
            Letter
      Agreement, dated March 3, 2009, among Particle Drilling Technologies,
      Inc., LC Capital Master Fund, Ltd., Edward F. Heil, and Don A.
      Sanders31.1
            
            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 Interim 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.




(1) Filed
as exhibits to the Company’s Form 8-K, filed with the Commission on February 12,
2009, and incorporated herein by reference.





(2) Filed
as exhibits to the Company’s Form 8-K, filed with the Commission on March 9,
2009, and incorporated herein by reference.





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:
       May 11, 2009
            /s/
      JASON D. DAVISJason
      D. DavisVice
      President and Interim Chief Financial Officer
              (authorized
      officer, principal financial officer and
              principal
      accounting officer)





19


EXHIBIT INDEX




Exhibit
              No.
            
            Description4.1(1)
            
            Amendment
      No. 1 to Rights Agreement dated February 11, 200910.1
            
            Development
      Agreement, dated December 4, 2008, by and between the Company
      and  Shell Exploration and Production Company and certain of its
      affiliates.*10.2(1)
            
            Purchase
      Agreement, dated as of February 11, 2009, among Particle Drilling
      Technologies, Inc., as Issuer, LC Capital Master Fund, Ltd., a Cayman
      Islands exempted company, Edward F. Heil and Don A. Sanders, as
      purchasers, and LC Capital Master Fund, Ltd., a Cayman Islands exempted
      company, as agent and collateral agent for the holders of the securities
      issued hereunder.10.3(1)
            
            Common
      Stock Purchase Warrant dated February 11, 2009 issued to LC Capital Master
      Fund, Ltd., a Cayman Islands exempted company.10.4(1)
            
            Common
      Stock Purchase Warrant dated February 11, 2009 issued to Edward F.
      Heil.10.5(1)
            
            Common
      Stock Purchase Warrant dated February 11, 2009 issued to Don A.
      Sanders.10.6(2)
            
            Delayed
      Draw Note in the principal amount of $340,000 issued to LC Capital Master
      Fund, Ltd.10.7(2)
            
            Delayed
      Draw Note in the principal amount of $30,000 issued to Don A.
      Sanders.10.8(2)
            
            Delayed
      Draw Note in the principal amount of $30,000 issued to Edward F.
      Heil10.9(2)
            
            Delayed
      Draw Note in the principal amount of $75,000 issued to LC Capital Master
      Fund, Ltd.10.10(2)
            
            Letter
      Agreement, dated March 3, 2009, among Particle Drilling Technologies,
      Inc., LC Capital Master Fund, Ltd., Edward F. Heil, and Don A.
      Sanders10.1
            
            Development
      Agreement, dated December 4, 2008, by and between the Company
      and  Shell Exploration and Production Company and certain of its
      affiliates.*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 Interim 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.




(1) Filed
as exhibits to the Company’s Form 8-K, filed with the Commission on February 12,
2009, and incorporated herein by reference.





(2) Filed
as exhibits to the Company’s Form 8-K, filed with the Commission on March 9,
2009, and incorporated herein by reference.